Table of Contents

 

 

 

**UNITED STATES**

**SECURITIES AND EXCHANGECOMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-Q**

 
| **x** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934.** |
|-------|----------------------------------------------------------------------------------------------------------|

 

**For the quarterly period ended June 30, 2009.**

 

**OR**

 
| **o** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934.** |
|-------|-----------------------------------------------------------------------------------------------------------|

 

**For the transition period from             to             **

 

**Commission File Number: 1-11388**

 

**PLCSYSTEMS INC.**

(Exact Name ofRegistrant as Specified in Its Charter)

 

| **Yukon Territory, Canada**                | ** ** | **04-3153858**                        |
|--------------------------------------------|------------|---------------------------------------|
| (State or Other  Jurisdiction of           |       | (I.R.S. Employer  Identification No.) |
| Incorporation or  Organization)            |       |                                  |
|                                       |       |                                  |
| **10 Forge Park, Franklin, Massachusetts** | ** ** | **02038**                             |
| (Address of  Principal Executive Offices)  |       | (Zip Code)                            |

 

Registrant’s telephone number, including area code: **(508) 541-8800**

 

Indicate by check mark whether the registrant: (1) hasfiled all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the registrant was required to file such reports), and (2) hasbeen subject to such filing requirements for the past 90 days.  Yes  x   No  o

 

Indicateby check mark whether the registrant has submitted electronically and posted onits corporate Web site, if any, every Interactive Data File required to besubmitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 ofthis chapter) during the preceding 12 months (or for such shorter period thatthe registrant was required to submit and post such files).  Yes  o   No  o

 

Indicate by check mark whether the registrant is a large acceleratedfiler, an accelerated filer, a non-accelerated filer, or a smaller reportingcompany.  See the definitions of “largeaccelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2of the Exchange Act.

 

| Large accelerated filer o                 |   | Accelerated filer o         |
|------------------------------------------------|--------|----------------------------------|
|                                           |   |                             |
| Non-accelerated filer o                   |   | Smaller reporting company x |
| (Do not check if a smaller  reporting company) |   |                             |

 

Indicate by check mark whether the registrant is a shellcompany (as defined in Rule 12b-2 of the Exchange Act)  Yes  o   No  x

 

Indicate the number of shares outstanding of each of the issuer’s classesof common stock, as of the latest practicable date.

 
| **Class**                  | ** ** | **Outstanding  at August 10, 2009** |
|----------------------------|------------|------------------------------------------|
| Common Stock, no par value |       | 30,351,092                               |

 

 

 

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** **

**PLCSYSTEMS INC.**

 

**Index**

 
| Part I.  | Financial  Information: |                                                                                        |
|---------------|-------------------------|---------------------------------------------------------------------------------------------|
|          |                    |                                                                                        |   |
|          | Item 1.                 | Financial  Statements                                                                       |   |
|          |                    |                                                                                        |   |
|          |                    | Condensed  Consolidated Balance Sheets (unaudited)                                          | 3 |
|          |                    |                                                                                        |   |
|          |                    | Condensed  Consolidated Statements of Operations (unaudited)                                | 4 |
|          |                    |                                                                                        |   |
|          |                    | Condensed  Consolidated Statements of Cash Flows (unaudited)                                | 5 |
|          |                    |                                                                                        |   |
|          |                    | Notes to  Condensed Consolidated Financial Statements (unaudited)                           | 6 |
|          |                    |                                                                                        |   |
|          | Item 2.                 | Management’s  Discussion and Analysis of Financial Condition and Results of Operations | 13 |
|          |                    |                                                                                        |   |
|          | Item 3.                 | Quantitative  and Qualitative Disclosures about Market Risk                                 | 21 |
|          |                    |                                                                                        |   |
|          | Item 4T.                | Controls and  Procedures                                                                    | 22 |
|          |                    |                                                                                        |   |
| Part II. | Other Information:      |                                                                                        |
|          |                    |                                                                                        |   |
|          | Item 1A.                | Risk Factors                                                                                | 22 |
|          |                    |                                                                                        |   |
|          | Item 4.                 | Submission  of Matters to a Vote of Security Holders                                        | 22 |
|          |                    |                                                                                        |   |
|          | Item 6.                 | Exhibits                                                                                    | 23 |
|               |                         |                                                                                             |  |  |

 

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**Part I.     FinancialInformation**

 

**Item 1.**        **Financial Statements**

 

**PLCSYSTEMS INC.**

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands)

(Unaudited)

 
| ** **                                                                                                                                               | ** ** | **June 30,  2009** | ** ** | **December 31,  2008** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| **ASSETS**                                                                                                                                               |       |                    |       |                        |       |
| Current assets:                                                                                                                                          |       |                    |       |                        |       |
| Cash and cash equivalents                                                                                                                                |       | $                       | 3,550      |                        | $          | 5,026 |   |
| Accounts receivable, net of allowance of $27 and $20  at June 30, 2009 and December 31, 2008, respectively                                     |       | 939                     |       | 802                         |       |
| Inventories, net                                                                                                                                         |       | 978                     |       | 1,136                       |       |
| Prepaid expenses and other current assets                                                                                                                |       | 532                     |       | 598                         |       |
| Total current assets                                                                                                                                     |       | 5,999                   |       | 7,562                       |       |
| Equipment, furniture and leasehold improvements, net                                                                                                     |       | 110                     |       | 160                         |       |
| Other assets                                                                                                                                             |       | 189                     |       | 191                         |       |
| Total assets                                                                                                                                             |       | $                       | 6,298      |                        | $          | 7,913 |   |
|                                                                                                                                                     |       |                    |       |                        |       |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                                            |       |                    |       |                        |       |
| Current liabilities:                                                                                                                                     |       |                    |       |                        |       |
| Accounts payable                                                                                                                                         |       | $                       | 222        |                        | $          | 296 |   |
| Accrued compensation                                                                                                                                     |       | 372                     |       | 525                         |       |
| Accrued other                                                                                                                                            |       | 161                     |       | 138                         |       |
| Deferred revenue                                                                                                                                         |       | 2,035                   |       | 2,405                       |       |
| Total current liabilities                                                                                                                                |       | 2,790                   |       | 3,364                       |       |
| Deferred revenue                                                                                                                                         |       | 907                     |       | 1,358                       |       |
| Stockholders’ equity:                                                                                                                               |       |                    |       |                        |       |
| Preferred  stock, no par value, unlimited shares authorized, none issued and outstanding                                                                 |       | —                  |       | —                      |       |
| Common  stock, no par value, unlimited shares authorized, 30,351 shares issued and  outstanding as of both June 30, 2009 and December 31, 2008 |       | 93,893                  |       | 93,893                      |       |
| Additional paid in capital                                                                                                                               |       | 541                     |       | 474                         |       |
| Accumulated deficit                                                                                                                                      |       | (91,503                 | )          | (90,838                     | )          |
| Accumulated other comprehensive loss                                                                                                                     |       | (330                    | )          | (338                        | )          |
| Total stockholders’ equity                                                                                                                          |       | 2,601                   |       | 3,191                       |       |
| Total liabilities and stockholders’ equity                                                                                                          |       | $                       | 6,298      |                        | $          | 7,913 |   |

 

The accompanyingnotes are an integral part of the condensed consolidated financial statements.

 

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**PLCSYSTEMS INC.**

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands,except per share data)

(Unaudited)

 
| ** **                            | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|---------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                            | ** ** | **2009**                              | ** ** | **2008**                            | ** ** | **2009** | ** ** | **2008** | ** ** |
| Revenues:                             |       |                                  |       |                                |       |   |   |   |   |
| Product sales                         |       | $                                     | 864        |                                | $          | 1,032 |   | $ | 2,123 |   | $ | 1,838 |   |
| Service fees                          |       | 356                                   |       | 278                                 |       | 664 |   | 640 |   |
| Total revenues                        |       | 1,220                                 |       | 1,310                               |       | 2,787 |   | 2,478 |   |
|                                  |       |                                  |       |                                |       |   |   |   |   |
| Cost of revenues:                     |       |                                  |       |                                |       |   |   |   |   |
| Product sales                         |       | 337                                   |       | 423                                 |       | 748 |   | 643 |   |
| Service fees                          |       | 126                                   |       | 150                                 |       | 327 |   | 335 |   |
| Total cost of revenues                |       | 463                                   |       | 573                                 |       | 1,075 |   | 978 |   |
| Gross profit                          |       | 757                                   |       | 737                                 |       | 1,712 |   | 1,500 |   |
|                                  |       |                                  |       |                                |       |   |   |   |   |
| Operating expenses:                   |       |                                  |       |                                |       |   |   |   |   |
| Selling, general and  administrative  |       | 880                                   |       | 831                                 |       | 1,965 |   | 1,801 |   |
| Research and development              |       | 185                                   |       | 602                                 |       | 414 |   | 1,210 |   |
| Total operating expenses              |       | 1,065                                 |       | 1,433                               |       | 2,379 |   | 3,011 |   |
| Loss from operations                  |       | (308                                  | )          | (696                                | )          | (667 | ) | (1,511 | ) |
| Other income, net                     |       | 1                                     |       | 25                                  |       | 2 |   | 78 |   |
| Net loss                              |       | $                                     | (307       | )                                   | $          | (671 | ) | $ | (665 | ) | $ | (1,433 | ) |
| Basic and diluted loss per  share     |       | $                                     | (0.01      | )                                   | $          | (0.02 | ) | $ | (0.02 | ) | $ | (0.05 | ) |
| Weighted average shares  outstanding: |       |                                  |       |                                |       |   |   |   |   |
| Basic and diluted                     |       | 30,351                                |       | 30,330                              |       | 30,351 |   | 30,330 |   |

 

The accompanyingnotes are an integral part of the condensed consolidated financial statements.

 

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**PLC SYSTEMS INC.**

CONDENSED CONSOLIDATEDSTATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)

 
| ** **                                                                    | ** ** | **Six Months Ended  June 30** | ** ** |
|-------------------------------------------------------------------------------|------------|------------------------------------|------------|
| ** **                                                                    | ** ** | **2009**                           | ** ** | **2008** | ** ** |
| Operating activities:                                                         |       |                               |       |   |   |
| Net loss                                                                      |       | $                                  | (665       | ) | $ | (1,433 | ) |
|                                                                          |       |                               |       |   |   |
| Adjustments to reconcile net loss to net cash used  for operating activities: |       |                               |       |   |   |
| Depreciation and amortization                                                 |       | 52                                 |       | 50 |   |
| Compensation expense from stock options                                       |       | 67                                 |       | 97 |   |
| Loss on retirement of equipment                                               |       | —                             |       | 35 |   |
| Change in assets and liabilities:                                             |       |                               |       |   |   |
| Accounts receivable                                                           |       | (147                               | )          | 217 |   |
| Inventory                                                                     |       | 158                                |       | (566 | ) |
| Prepaid expenses and other assets                                             |       | 66                                 |       | 152 |   |
| Accounts payable                                                              |       | (74                                | )          | (319 | ) |
| Deferred revenue                                                              |       | (821                               | )          | (515 | ) |
| Accrued liabilities                                                           |       | (130                               | )          | (253 | ) |
| Net cash used for operating activities                                        |       | (1,494                             | )          | (2,535 | ) |
|                                                                          |       |                               |       |   |   |
| Investing activities:                                                         |       |                               |       |   |   |
| Purchase of equipment                                                         |       | —                             |       | (27 | ) |
| Net cash used for investing activities                                        |       | —                             |       | (27 | ) |
|                                                                          |       |                               |       |   |   |
| Financing Activities:                                                         |       |                               |       |   |   |
| Net proceeds from issuance of common stock                                    |       | —                             |       | 1 |   |
|                                                                          |       |                               |       |   |   |
| Effect of exchange rate changes on cash and cash  equivalents                 |       | 18                                 |       | 7 |   |
| Net decrease in cash and cash equivalents                                     |       | (1,476                             | )          | (2,554 | ) |
| Cash and cash equivalents at beginning of period                              |       | 5,026                              |       | 8,060 |   |
| Cash and cash equivalents at end of period                                    |       | $                                  | 3,550      |   | $ | 5,506 |   |

 

The accompanyingnotes are an integral part of the condensed consolidated financial statements.

 

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**PLCSYSTEMS INC.**

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

June 30, 2009

 

***1.***             ***Business***

 

PLC Systems Inc. (“PLC” or the “Company”)is a medical device company specializing in innovative technologies for thecardiac and vascular markets.  TheCompany pioneered and manufactures the *CO**2** Heart Laser System* (the “Heart Laser System”) that cardiacsurgeons use to perform carbon dioxide (CO2) transmyocardial revascularization, orTMR, to alleviate symptoms of severe angina. The Company also manufactures CO2 surgical laser tubes and provides contractassembly services on general purpose CO2**lasers,which it sells to a single customer on an original equipment manufacturer (“OEM”)basis.

 

On March 20, 2007, the Companyentered into a distribution agreement with Novadaq Corp. (“Novadaq”), asubsidiary of Novadaq Technologies Inc., pursuant to which the Companyappointed Novadaq as its exclusive distributor in the United States for its TMRbusiness.  The agreement amended andrestated the exclusive distribution agreement between the Company and EdwardsLifesciences LLC (“Edwards”), which had been assigned by Edwards to Novadaq onthe same date.  The agreement with Novadaqreflects substantially the same roles, responsibilities and financial terms asthe previous agreement with Edwards.

 

In addition, the Company has beguninitial commercialization, primarily in the European Union (“EU”), of itsnewest product, RenalGuard®. RenalGuard is designed to reduce thepotentially toxic effects that contrast media can have on the kidneys when itis administered to patients during certain medical imaging procedures. It isbelieved that allowing contrast media to dwell in the kidneys can lead tocontrast-induced nephropathy (“CIN”), a potentially deadly form of acute kidneyinjury. By inducing and maintaining a high urine flow rate before, during andafter these medical imaging procedures, the Company believes the incidencerates of CIN in at-risk patients can be reduced. RenalGuard facilitates thisincreased urine clearance, enabling the body to more rapidly void the contrastmedia, thereby reducing its overall resident time and toxic effects in thekidney.

 

The Company has received full U.S. Foodand Drug Administration (“FDA”) approval to conduct a pivotal human clinicaltrial of RenalGuard evaluating its safety and effectiveness in preventingCIN.  This trial is required to support apre-market approval application which must be approved by the FDA before theCompany can market RenalGuard in the U.S. The Company does not intend tocommence this pivotal study until it is able to secure sufficient additionalcapital to complete the study.

 

The Company is also supporting aninvestigator-sponsored randomized controlled trial utilizing RenalGuard that isbeing conducted at the Centro Cardiologico Monzino-University of Milan (“CCM”)in Milan, Italy. The CCM trial is designed to determine the effectiveness ofRenalGuard in preventing CIN in at-risk patients.  The Company hopes that the data from the CCMclinical trial will enable it to raise the additional capital necessary to bothstart and complete the U.S. pivotal study. The Company has recently been advised that another investigator-sponsoredclinical trial of RenalGuard is ongoing at the Clinica Medeterranea in Naples,Italy.

 

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RenalGuard is currently approved for salein the EU as a general fluid balancing device. The RenalGuard SystemTM consists of a proprietary, closed loop,software-controlled console and accompanying single-use sets that can be usedby physicians and nurses to manage patient fluid levels.  RenalGuard operates by first collecting andmeasuring patient urine outputs and then, in real-time, precisely matchingthose urine outputs with a prescribed replacement fluid by means of intravenousinfusion. With its automated matched fluid replacement capability, RenalGuardis intended to minimize the risk to patients of over- or under-hydration whilealso eliminating to a large degree what can otherwise be an intensive and timeconsuming manual fluid balancing task for physicians and nurses.

 

The Company is establishing adistribution network with the intent to market RenalGuard for general fluidbalancing applications.

 

***2.***             ***Basis of Presentation***

 

The accompanyingunaudited condensed consolidated financial statements of the Company have beenprepared in accordance with generally accepted accounting principles (“GAAP”)for interim financial information and with the instructions to Form 10-Qand Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotesrequired by generally accepted accounting principles for complete financialstatements.  In the opinion ofmanagement, all adjustments (consisting of normal recurring adjustments)considered necessary for a fair presentation have been included.  Operating results for the three and sixmonths ended June 30, 2009 are not necessarily indicative of the resultsthat may be expected for the year ending December 31, 2009.  These financial statements should be read inconjunction with the consolidated financial statements and footnotes theretoincluded in the Company’s Annual Report on Form 10-K for the year ended December 31,2008.

 

Thepreparation of financial statements in accordance with generally acceptedaccounting principles requires the Company to make estimates and assumptionsthat affect the reported amounts of assets and liabilities and disclosure ofcontingent assets and liabilities at the date of the financial statements, andthe reported amounts of revenues and expenses during the reporting period. Actualresults could differ from those estimates.

 

***3.***             ***Inventories***

 

Inventories are stated at the lower of cost (computed on a first-in,first-out method) or market value and include allocations of labor andoverhead.  As of June 30, 2009 and December 31,2008, inventories consisted of the following (in thousands):

 
| ** **        | ** ** | **June 30,********2009** | ** ** | **December 31,********2008** | ** ** |
|-------------------|------------|-------------------------------|------------|-----------------------------------|------------|
| Raw  materials    |       | $                             | 397        |                              | $          | 573 |   |
| Work  in progress |       | 4                             |       | 154                               |       |
| Finished  goods   |       | 577                           |       | 409                               |       |
|              |       | $                             | 978        |                              | $          | 1,136 |   |

 

At June 30, 2009 and December 31, 2008, inventories are statednet of a specific obsolescence allowance of $800,000 and $808,000,respectively.

 

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***4.***             ***Stock-BasedCompensation***

 

In May 2005, the Company’sshareholders approved the 2005 Stock Incentive Plan (the “2005 Plan”).  Incentive stock options are issuable only toemployees of the Company, while non-qualified stock options may be issued tonon-employee directors, consultants and others, as well as to employees.  Under the 2005 Plan, the per share exerciseprice of incentive stock options may not be less than the fair market value ofthe common stock on the date the option is granted.  The 2005 Plan provides that the Company maynot grant non-qualified stock options at an exercise price less than 85% of thefair market value of the Company’s common stock.

 

The Company grants stock options to itsnon-employee directors.  New non-employeedirectors receive an initial grant of an option to purchase 45,000 shares ofthe Company’s common stock that generally vests in quarterly installments overthree years.  Once the initial grant hasfully vested, non-employee directors (other than the Chairman of the Board)receive an annual grant of an option to purchase 15,000 shares of the Company’scommon stock that generally vests in four equal quarterly installments. TheChairman of the Board receives an annual grant of an option to purchase 30,000shares of the Company’s common stock that generally vests in four equalquarterly installments. All such options have an exercise price equal to thefair market value of the Company’s common stock on the date of grant.

 

On April 21, 2009, the Board ofDirectors approved an option exchange program pursuant to which currentemployees and directors were offered the opportunity to exchange outstandingoptions to purchase shares of common stock of the Company that had an exerciseprice of $0.30 or greater per share for new options to purchase shares ofcommon stock. The exchange offer commenced on April 22, 2009 and expiredon May 19, 2009.

 

Pursuant to the exchange offer, optionsto purchase a total of 5,175,000 shares of common stock with exercise pricesranging from $0.37 to $2.78 per share were canceled in exchange for options topurchase 5,175,000 shares of common stock at an exercise price of $0.24 pershare. The exchange offer resulted in an incremental compensation of $170,000to be recognized over the vesting period of the new option grants. All optionstendered under the exchange program, which were previously granted to employeesand directors under the Company’s 1993 Stock Option Plan, 1995 Stock OptionPlan, 1997 Executive Stock Option Plan, 2000 Equity Incentive Plan, 2000Non-Statutory Stock Option Plan, 2000 Non-Qualified Performance and RetentionEquity Plan and the 2005 Plan, were replaced with new options granted under the2005 Plan.  Options granted to employeespursuant to the option exchange program vest one-third on the one-year anniversaryof the new option grant and an additional one-twelfth for each successive threemonth period following the one-year anniversary of the new option grant andexpire five years from the date of grant. Options granted to non-employee directors pursuant to the optionexchange program vest ratably quarterly over a one year period and expire fiveyears from the date of grant. In addition, other options to purchase a total of75,000 shares were granted to certain directors in 2009. These options vest ratablyquarterly over a one year period and expire five years from the date of grantor they vest ratably quarterly over a three year period and expire ten yearsfrom the date of grant.  As of June 30,2009, there were 999,000 shares of common stock available to be granted underthe 2005 Plan.

 

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The following is a summary of option activity underall plans (in thousands, except per option data):

 
| ** **                          | ** ** | **Number  of  Options** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Average  Remaining  Contractual  Life (Years)** | ** ** | **Aggregate  Intrinsic  Value** | ** ** |
|-------------------------------------|------------|-------------------------|------------|----------------------------------------|------------|---------------------------------------------------|------------|---------------------------------|------------|
| Outstanding, December 31, 2008 |       | 5,499                   |       | $                                      | 0.69       |                                              | 5.43       |                            |       |   |
| Granted                             |       | 5,250                   |       | 0.24                                   |       |                                              |       |                            |       |
| Exercised                           |       | —                  |       | —                                 |       |                                              |       |                            |       |
| Forfeited                           |       | (183                    | )          | 0.86                                   |       |                                              |       |                            |       |
| Expired                             |       | (81                     | )          | 2.38                                   |       |                                              |       |                            |       |
| Canceled                            |       | (5,175                  | )          | 0.65                                   |       |                                              |       |                            |       |
| Outstanding, June 30, 2009     |       | 5,310                   |       | $                                      | 0.25       |                                              | 4.95       |                            | $          | 259 |   |
| Exercisable, June 30, 2009     |       | 43                      |       | $                                      | 1.17       |                                              | 1.72       |                            | —     |   |
|                                     |            |                         |            |                                        |            |                                                   |            |                                 |            |  |  |

 

The fair value of shares vested during the sixmonths ended June 30, 2009 was $76,000.

 

The following table summarizes unvested optionactivity during the six months ended June 30, 2009:

 
| ** **                       | ** ** | **Number  of  Options**                          | ** ** | **Weighted  Average  Grant Date  Fair Value** | ** ** |
|----------------------------------|------------|--------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                       | ** ** | **(In thousands, except weighted average data)** | ** ** |
| ** **                       | ** ** | ** **                                       | ** ** |
| Unvested, December 31, 2008 |       | 968                                              |       | $                                             | 0.35       |   |
| Granted                          |       | 5,250                                            |       | 0.18                                          |       |
| Vested                           |       | (169                                             | )          | 0.45                                          |       |
| Forfeited/Expired/Canceled       |       | (782                                             | )          | 0.34                                          |       |
| Unvested, June 30, 2009     |       | 5,267                                            |       | 0.18                                          |       |
|                                  |            |                                                  |            |                                               |            |  |

 

*SFAS No. 123(R)*

 

TheCompany records stock-based compensation pursuant to Statement of Financial AccountingStandards (“SFAS”) No. 123 (revised 2004), “Share-based Payment”.  The Company recorded compensation expense of$13,000 and $67,000 in the three and six months ended June 30, 2009,respectively, as compared to $48,000 and $97,000 in the three and six monthsended June 30, 2008, respectively. As of June 30, 2009, the Company had $327,000 of total unrecognizedcompensation cost related to its unvested options, which is expected to berecognized over a weighted average period of 2.6 years.

 

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Theweighted average fair value of options issued during the three and six monthsended June 30, 2009 was estimated using the Black-Scholes model.

 
| ** **              | ** ** | **Three and Six Months Ended  June 30, 2009** | ** ** |
|-------------------------|------------|----------------------------------------------------|------------|
| Expected life (years)   |       | 1.00-5.50                                          |       |   |
| Interest rate           |       | 0.47%-2.75%                                        |       |   |
| Volatility              |       | 1.03%-205.2%                                       |       |   |
| Expected dividend yield |       | None                                               |       |   |
| Value of option granted |       | $0.13-$0.23                                        |       |   |

 

The expected life wascalculated in 2009 and 2008 using the simplified method. The risk-free interestrate is based on the U.S. Treasury yield curve in effect at the time of thegrant for the expected term period. Expected volatility is based exclusively on historical volatility dataof the Company’s common stock.  TheCompany estimates an expected forfeiture rate based on its historicalforfeiture activity.  Actual results, andfuture changes in estimates, may differ substantially from the Company’scurrent estimates.

 

*Stock Purchase Plan*

 

TheCompany has a 2000 Employee Stock Purchase Plan (the “Purchase Plan”) for alleligible employees whereby shares of the Company’s common stock may bepurchased at six-month intervals at 95% of the closing stock price on the lastbusiness day of the relevant plan period. The Company’s stock trades in the over-the-counter market and, as such,the last sale price of the Company’s stock is deemed to be the closing stockprice for purposes of determining the purchase price for the current six-monthperiod.  Employees may purchase shareshaving a value not exceeding 10% of their gross compensation during an offeringperiod, subject to certain additional limitations.  Under the Purchase Plan, employees of theCompany purchased 21,612 shares of common stock in 2008 at an average price of$0.08 per share.  There was no purchaseactivity in the six months ended June 30, 2009.  At June 30, 2009, 294,461 shares werereserved for future issuance under the Purchase Plan.

 

***5.            Revenue Recognition***

 

TheCompany records revenue from the sale of TMR kits at the time of shipment toNovadaq.  TMR kit revenues include theamount invoiced to Novadaq for kits shipped pursuant to purchase ordersreceived, as well as an amortized portion of deferred revenue related to apayment of $4,533,333 from Edwards, the Company’s previous exclusive U.S. TMRdistributor, received in February 2004. This payment was made in exchange for a reduction in the prospectivepurchase price the Company receives upon a sale of the kits.  The Company is amortizing this payment intoits Consolidated Statements of Operations as revenue over a seven year period(culminating in 2010) under the units-of-revenue method as prescribed byEmerging Issues Task Force 88-18, “Sales of Future Revenue”.  The Company determined that a seven yeartimeframe was the most appropriate amortization period based on a valuationmodel it used to assess the economic fairness of the payment. Factors theCompany considered in developing this valuation model included the estimatedforegone revenues over a seven year period resulting from the reduction in theprospective purchase price payable to the Company, a discount rate deemedappropriate to this transaction and an estimate of the remaining economicuseful life of

 

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thecurrent TMR kit design, without any benefit being given to potential futureproduct improvements the Company may make. The Company reviews annually, and adjusts if necessary, the prospectiverevenue amortization rate for kits based on its best estimate of the totalnumber of kits likely remaining to be shipped to hospital customers by Novadaqthrough 2010. The Company recorded amortization of $176,000 and $445,000 in thethree and six months ended June 30, 2009, respectively, as compared to$167,000 and $347,000 in the three and six months ended June 30, 2008,respectively, which is included in revenues in the Consolidated Statements ofOperations.

 

TMRlasers are billed to Novadaq in accordance with purchase orders that theCompany receives.  Invoiced TMR lasersare recorded as other current assets and deferred revenue on the Company’sConsolidated Balance Sheet until such time as the laser is shipped to ahospital, at which time the Company records revenue and cost of revenue.

 

Underthe terms of the Novadaq TMR distribution agreement, once Novadaq has recovereda prescribed amount of revenue from a hospital for the use or purchase of a TMRlaser, any additional revenues earned by Novadaq are shared with the Companypursuant to a formula established in the distribution agreement. The Companyonly records its share of such additional revenue, if any, at the time therevenue is earned.

 

The Company records allother product revenue, including sales of TMR lasers and kits to internationalcustomers, sales of RenalGuard consoles and single-use sets and OEM sales ofsurgical tubes and general purpose CO2 lasers, at the time of shipment.

 

Revenuesfrom service and maintenance contracts are recognized ratably over the life ofthe contract.

 

Installationrevenues related to a TMR laser transaction are recorded as a component ofservice fees when the laser is installed.

 

***6.            Loss per Share***

 

Inthe three and six months ended June 30, 2009 and 2008, basic and dilutedloss per share have been computed using only the weighted average number ofcommon shares outstanding during the period without giving effect to anypotential future issuances of common stock related to stock option programs,since their inclusion would be antidilutive.

 

Forthe three months ended June 30, 2009 and 2008, 5,310,000 and 5,759,000shares, respectively, and for the six months ended June 30, 2009 and 2008,5,310,000 and 5,759,000 shares, respectively, attributable to outstanding stockoptions were excluded from the calculation of diluted earnings per sharebecause the effect would have been antidilutive.  The following table sets forth the computationof basic and diluted loss per share:

 

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| ** **                           | ** ** | **Three Months Ended  June 30,**      | ** ** | **Six Months Ended  June 30,** | ** ** |
|--------------------------------------|------------|--------------------------------------------|------------|-------------------------------------|------------|
| ** **                           | ** ** | **2009**                                   | ** ** | **2008**                            | ** ** | **2009** | ** ** | **2008** | ** ** |
| ** **                           | ** ** | **(In thousands, except per share  data)** | ** ** |
| Basic:                               |       |                                       |       |                                |       |   |   |   |   |
| Net loss                             |       | $                                          | (307       | )                                   | $          | (671 | ) | $ | (665 | ) | $ | (1,433 | ) |
| Weighted average shares  outstanding |       | 30,351                                     |       | 30,330                              |       | 30,351 |   | 30,330 |   |
| Basic and diluted loss per  share    |       | $                                          | (0.01      | )                                   | $          | (0.02 | ) | $ | (0.02 | ) | $ | (0.05 | ) |

 

***7.            Comprehensive Loss***

 

Total comprehensive lossfor the three and six months ended June 30, 2009 amounted to $289,000 and$657,000, respectively, as compared to $673,000 and $1,431,000 in the three andsix months ended June 30, 2008, respectively.  Comprehensive loss is comprised of net lossplus the increase/decrease in currency translation adjustment.

 

# ***8.            Warrantyand Preventative Maintenance Costs***

# ** **

TheCompany warranties its products against manufacturing defects under normal useand service during the warranty period. The Company obtains similar warranties from a majority of its suppliers,including those who supply critical Heart Laser System components.  In addition, under the terms of its TMRdistribution agreement with Novadaq, the Company is able to bill Novadaq foractual warranty costs, including preventative maintenance services, up to aspecified amount during the warranty period.

 

The Company evaluates theestimated future unrecoverable costs of warranty and preventative maintenanceservices for its installed base of lasers and RenalGuard consoles andsingle-use sets on a quarterly basis and adjusts its warranty reserveaccordingly.  The Company considers allavailable evidence, including historical experience and information obtainedfrom supplier audits.

 

Changes in the warrantyaccrual were as follows (in thousands):

 
| ** **                          | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|-------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                          | ** ** | **2009**                              | ** ** | **2008**                            | ** ** | **2009** | ** ** | **2008** | ** ** |
| Balance, beginning of  period       |       | $                                     | 30         |                                | $          | 60 |   | $ | 10 |   | $ | 60 |   |
| Change in liability for  warranties |       | (10                                   | )          | (50                                 | )          | 10 |   | (50 | ) |
| Balance, end of period              |       | $                                     | 20         |                                | $          | 10 |   | $ | 20 |   | $ | 10 |   |

 

***9.             New Accounting Pronouncements***

 

In June 2009,the Financial Accounting Standards Board (“FASB”) issued SFAS No. 168, “The*FASB Accounting Standards Codification*TM and the Hierarchy of Generally Accepted AccountingPrinciples - a replacement of FASB Statement No. 162” (“SFAS No. 168”).  SFASNo. 168 nullifies SFAS No. 162, “The Hierarchy of Generally AcceptedAccounting Principles,”

 

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and definesauthoritative GAAP for nongovernmental entities to be only comprised of the *FASB**AccountingStandards Codification*TM (the “Codification”) and, for Securities and ExchangeCommission (“SEC”) registrants, guidance issued by the SEC.  TheCodification is a reorganization and compilation of all then-existingauthoritative GAAP for nongovernmental entities, except for guidance issued bythe SEC.  The adoption of SFAS No. 168 will only change thereferencing convention of GAAP in the Company’s Notes to the ConsolidatedFinancial Statements.  SFAS No. 168 is effective prospectivelybeginning on July 1, 2009.

 

In May 2009, theFASB issued SFAS No. 165, “Subsequent Events” (“SFAS No. 165”), which iseffective for interim or annual periods ending after June 15, 2009. SFAS No.165 establishes general standards of accounting for and disclosure of eventsthat occur after the balance sheet date but before financial statements areissued or are available to be issued. Although there is new terminology, thestandards are based on the same principles as those that currently exist inpractice. SFAS No. 165 requires companies to disclose the date through whichthe entity has evaluated subsequent events. The Company has evaluatedsubsequent events through the date of filing this quarterly report on August 14,2009.

 

**Item 2.****                      ****Management’s Discussion andAnalysis of Financial Condition and Results of Operations**

 

# **Overview**

# ** **

We are a medical device company specializingin innovative technologies for the cardiac and vascular markets.  We pioneered and manufacture the Heart LaserSystem that cardiac surgeons use to perform TMR to alleviate symptoms of severeangina. We also manufacture CO2 surgicallaser tubes and provide contract assembly services on general purpose CO2**lasers.

 

In addition, we have begun initialcommercialization, primarily in the EU, of our newest product, RenalGuard.RenalGuard is designed to reduce the potentially toxic effects that contrastmedia can have on the kidneys when it is administered to patients duringcertain medical imaging procedures. It is believed that allowing contrast mediato dwell in the kidneys can lead to CIN, a potentially deadly form of acutekidney injury. By inducing and maintaining a high urine flow rate before,during and after these medical imaging procedures, we believe the incidencerates of CIN in at-risk patients can be reduced. RenalGuard facilitates thisincreased urine clearance, enabling the body to more rapidly void the contrastmedia, thereby reducing its overall resident time and toxic effects in thekidney.

 

In the U.S., we received full FDAapproval to conduct our first human clinical trial utilizing RenalGuard underan investigational device exemption (“IDE”). This pilot clinical trial wasdesigned to evaluate the safety of RenalGuard and its ability to accuratelymeasure and balance fluid inputs and outputs on patients undergoing acatheterization imaging procedure where contrast media would be administered.  In February 2008, we submitted an IDEsupplement to the FDA seeking approval to move from our pilot study to apivotal clinical trial to study the safety and effectiveness of RenalGuard inthe prevention of CIN. In March 2008, the FDA granted us conditionalapproval to begin this pivotal study; however, in July 2008, we announcedwe were deferring commencement of this study until such time as we couldsuccessfully raise additional capital necessary to complete the study. Wesubsequently received full approval from the FDA to commence our pivotal studyunder a trial design that would enroll

 

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406 patients at up to 30 sites in the U.S.  The Company does not intend to commence thispivotal study until it is able to secure sufficient additional capital tocomplete the study.

 

We are currently supporting aninvestigator-sponsored randomized controlled trial utilizing RenalGuard that isbeing conducted at the CCM in Milan, Italy; it is designed to determine theeffectiveness of RenalGuard in preventing CIN in at-risk patients. We hope thatthe data from the clinical trial in Italy will enable us to raise the additionalcapital necessary to both start and complete the U.S. pivotal study.  In addition, we recently learned of anotherinvestigator-sponsored clinical trial of RenalGuard in Naples, Italy.

 

RenalGuard is currently approved for salein the EU as a general fluid balancing device. The RenalGuard System consistsof a proprietary, closed loop, software-controlled console and accompanyingsingle-use sets that can be used by physicians and nurses to manage patientfluid levels. RenalGuard operates by first collecting and measuring patienturine outputs and then, in real-time, precisely matching those urine outputswith a prescribed replacement fluid by means of intravenous infusion. With itsautomated matched fluid replacement capability, RenalGuard is intended to minimizethe risk to patients of over- or under-hydration while also eliminating to alarge degree what can otherwise be an intensive and time consuming manual fluidbalancing task for physicians and nurses. We are establishing a distribution network with the intent to marketRenalGuard for general fluid balancing applications.

 

Novadaq,our U.S. distributor for the Heart Laser System, is our largest customer,accounting for 69% and 62% of our total revenues in the three and six monthsended June 30, 2009, respectively. We expect a high level of sales concentration to continue in the nearfuture with Novadaq as our largest customer because it holds the exclusive U.S.distribution rights for our TMR products.

 

Approximately76% and 75% of our revenues in the three and six months ended June 30,2009, respectively, came from the sale and service of TMR lasers and relateddisposable kits. We believe that the number of opportunities for new TMR lasersales to U.S. hospital customers, and specifically sales opportunities for ourHL2 laser, will continue to be limited in future quarters as a result of (1) adiminishing number of available hospitals that have not already implemented aTMR program that are still likely to do so in the future, and (2) continuingfinancial pressures that hospitals face, in particular for the funding of newcapital equipment purchases, in light of both the current tight global creditmarkets and the ongoing trend of cutbacks in both Medicare and privateinsurance reimbursement rates for a majority of medical procedures. Inaddition, we have seen a recent downward trend in the price at which new TMRlasers are being sold in the U.S. market as competition for the remainingavailable customers increases. As such, we expect that our U.S. TMR revenues infuture quarters will continue to be mostly dependent upon the sale of TMR kitsand service revenues.

 

Ourmanagement reviews a number of key performance indicators to assist indetermining how to allocate resources and run our day-to-day operations.Theseindicators include (1) actual prior quarterly sales trends, (2) projectedU.S. TMR laser and kit sales for the next four quarters, as provided by Novadaqin a rolling 12 month sales forecast, (3) projected future sales of OEMsurgical tubes and laser assembly services, (4) projected future sales ofRenalGuard consoles and single-use sets, (5) research and developmentprogress as measured against internal project plan objectives, (6) budgetto actual financial expenditure results, (7) inventory levels (both ourown and our distributors’), and (8) short term and long term projectedcash flows of the business.

 

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# **Critical Accounting Policies and Estimates**

# ** **

Our financial statements are based upon theapplication of significant accounting policies, many of which require us tomake significant estimates and assumptions (see Note 2 to the ConsolidatedFinancial Statements).  We believe thatthe following are some of the more material judgment areas in the applicationof our accounting policies that currently affect our financial condition andresults of operations.

 

# ***Inventories***

# ** **

Inventoriesare stated at the lower of cost (computed on a first-in, first-out method) ormarket value and include allocations of labor and overhead.  A specific obsolescence allowance is providedfor slow moving, excess and obsolete inventory based on our best estimate ofthe net realizable value of inventory on hand, taking into considerationfactors such as (1) actual trailing 12 month sales, (2) expectedfuture product line demand, based in part upon sales forecast input receivedfrom Novadaq and our other customers, and (3) service part stocking levelswhich, in management’s best judgment, are advisable to maintain in order tomeet warranty, service contract and time and material spare part demands.  Historically, we have found our reserves tobe adequate.

 

# ***AccountsReceivable***

# ** **

Accountsreceivable are stated at the amount we expect to collect from the outstandingbalances.  We continuously monitorcollections from customers, and we maintain a provision for estimated creditlosses based upon historical experience and any specific customer collectionissues that we have identified. Historically, we have not experienced significant losses related to ouraccounts receivable. Collateral is not generally required. If the financialcondition of our customers were to deteriorate, resulting in an impairment oftheir ability to make payments, additional allowances might be required.

 

***Research and Development***

 

Researchand development costs are expensed as incurred.

 

# ***Warrantyand Preventative Maintenance Costs***

# ** **

Wewarranty our products against manufacturing defects under normal use andservice during the warranty period.  Weobtain similar warranties from a majority of our suppliers, including those whosupply critical Heart Laser System components. In addition, under the terms of our TMR distribution agreement withNovadaq, we are able to bill Novadaq for actual warranty costs, includingpreventative maintenance services, up to a specified amount during the warrantyperiod.

 

Weevaluate the estimated future unrecoverable costs of warranty and preventativemaintenance services for our installed base of lasers and RenalGuard consoles and single-usesets on a quarterly basis and adjust our warranty reserve accordingly.  We consider all available evidence, includinghistorical experience and information obtained from supplier audits.

 

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## ***RevenueRecognition***

## ** **

Werecord revenue from the sale of TMR kits at the time of shipment toNovadaq.  TMR kit revenues include theamount invoiced to Novadaq for kits shipped pursuant to purchase ordersreceived, as well as an amortized portion of deferred revenue related to apayment of $4,533,333 from Edwards, our previous exclusive U.S. TMRdistributor, received in February 2004. This payment was made in exchange for a reduction in the prospectivepurchase price we receive upon a sale of the kits.  We are amortizing this payment into ourConsolidated Statements of Operations as revenue over a seven year period(culminating in 2010) under the units-of-revenue method as prescribed byEmerging Issues Task Force 88-18, “Sales of Future Revenue”. We determined thata seven year timeframe was the most appropriate amortization period based upona valuation model we used to assess the economic fairness of the payment.Factors we considered in developing this valuation model included the estimatedforegone revenues over a seven year period resulting from the reduction in theprospective purchase price payable to us, a discount rate deemed appropriate tothis transaction and an estimate of the remaining economic useful life of thecurrent TMR kit design, without any benefit being given to potential futureproduct improvements we may make. We review annually, and adjust if necessary,the prospective revenue amortization rate for kits based on our best estimateof the total number of kits likely remaining to be shipped to hospitalcustomers by Novadaq through 2010. We recorded amortization of $176,000 and$445,000 in the three and six months ended June 30, 2009, respectively, ascompared to $167,000 and $347,000 in the three and six months ended June 30,2008, respectively, which is included in revenues in our ConsolidatedStatements of Operations.

 

TMRlasers are billed to Novadaq in accordance with purchase orders that wereceive.  Invoiced TMR lasers arerecorded as other current assets and deferred revenue on our ConsolidatedBalance Sheet until such time as the laser is shipped to a hospital, at whichtime we record revenue and cost of revenue.

 

Underthe terms of the TMR distribution agreement, once Novadaq has recovered aprescribed amount of revenue from a hospital for the use or purchase of a TMRlaser, any additional revenues earned by Novadaq are shared with us pursuant toa formula established in the distribution agreement. We only record our shareof such additional revenue, if any, at the time the revenue is earned.

 

We record all otherproduct revenue, including sales of TMR lasers and kits to internationalcustomers, sales of RenalGuard consoles and single-use sets and OEM sales ofsurgical tubes and general purpose CO2 lasers, at the time of shipment.

 

Revenuesfrom service and maintenance contracts are recognized ratably over the life ofthe contract.

 

Installationrevenues related to a TMR laser transaction are recorded as a component ofservice fees when the laser is installed.

 

## **Results of Operations**

## ** **

Results for the three andsix months ended June 30, 2009 and 2008 and the related percent ofrevenues were as follows:

 

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|                                           |       |                                  |       |                                |       |                 |       |                    |       |     |       |          |       |   |       |   |       |   |   |   |   |   |   |
|------------------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|----------------------|------------|-------------------------|------------|----------|------------|---------------|------------|--------|------------|--------|------------|--------|--------|--------|--------|--------|--------|
| ** **                                     | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
| ** **                                     | ** ** | **2009**                              | ** ** | **2008**                            | ** ** | **2009**             | ** ** | **2008**                | ** ** |
| ** **                                     | ** ** | **$**                                 | ** ** | **%**                               | ** ** | **$**                | ** ** | **%**                   | ** ** | **$**    | ** ** | **%**         | ** ** | **$**  | ** ** | **%**  | ** ** |
| ** **                                     | ** ** | **(dollars  in thousands)**           | ** ** |
|                                           |       |                                  |       |                                |       |                 |       |                    |       |     |       |          |       |   |       |   |       |
| Total revenues                                 |       | $                                     | 1,220      |                                | 100        | %                    | $          | 1,310                   |       | 100      | %          | $             | 2,787      |   | 100        | %      | $          | 2,478  |   | 100    | %      |
| Total cost of revenues                         |       | 463                                   |       | 38                                  |       | 573                  |       | 44                      |       | 1,075    |       | 39            |       | 978    |       | 39     |       |
| Gross profit                                   |       | 757                                   |       | 62                                  |       | 737                  |       | 56                      |       | 1,712    |       | 61            |       | 1,500  |       | 61     |       |
| Selling, general & administrative     |       | 880                                   |       | 72                                  |       | 831                  |       | 63                      |       | 1,965    |       | 70            |       | 1,801  |       | 73     |       |
| Research & development                |       | 185                                   |       | 15                                  |       | 602                  |       | 46                      |       | 414      |       | 15            |       | 1,210  |       | 49     |       |
| Total operating expenses                       |       | 1,065                                 |       | 87                                  |       | 1,433                |       | 109                     |       | 2,379    |       | 85            |       | 3,011  |       | 122    |       |
| Loss from operations                           |       | (308                                  | )          | (25                                 | )          | (696                 | )          | (53                     | )          | (667     | )          | (24           | )          | (1,511 | )          | (61    | )          |
| Other income                                   |       | 1                                     |       | —                              |       | 25                   |       | 2                       |       | 2        |       | —        |       | 78     |       | 3      |       |
| Net loss                                       |       | $                                     | (307       | )                                   | (25        | )%                   | $          | (671                    | )          | (51      | )%         | $             | (665       | )      | (24        | )%     | $          | (1,433 | )      | (58    | )%     |
|                                           |       |                                  |       |                                |       |                 |       |                    |       |     |       |          |       |   |       |   |       |   |   |   |   |   |   |
| ** **                                     | ** ** | **Three Months Ended**                | ** ** | ** **                          | ** ** | **Six Months Ended** | ** ** | ** **              | ** ** |
| ** **                                     | ** ** | **June 30,**                     | ** ** | **Increase (decrease)**             | ** ** | **June 30,**    | ** ** | **Increase (decrease)** | ** ** |
| ** **                                     | ** ** | **2009**                              | ** ** | **2008**                            | ** ** | **over 2008**        | ** ** | **2009**                | ** ** | **2008** | ** ** | **over 2008** | ** ** |
| ** **                                     | ** ** | **$**                                 | ** ** | **$**                               | ** ** | **$**                | ** ** | **%**                   | ** ** | **$**    | ** ** | **$**         | ** ** | **$**  | ** ** | **%**  | ** ** |
| ** **                                     | ** ** | **(dollars  in thousands)**           | ** ** |
|                                           |       |                                  |       |                                |       |                 |       |                    |       |     |       |          |       |   |       |   |       |
| Product sales                                  |       | $                                     | 864        |                                | $          | 1,032                |       | $                       | (168       | )        | (16        | )%            | $          | 2,123  |       | $      | 1,838      |   | $      | 285    |   | 16     | %      |
| Service fees                                   |       | 356                                   |       | 278                                 |       | 78                   |       | 28                      |       | 664      |       | 640           |       | 24     |       | 4      |       |
| Total revenues                                 |       | 1,220                                 |       | 1,310                               |       | (90                  | )          | (7                      | )          | 2,787    |       | 2,478         |       | 309    |       | 12     |       |
| Product cost of sales                          |       | 337                                   |       | 423                                 |       | (86                  | )          | (20                     | )          | 748      |       | 643           |       | 105    |       | 16     |       |
| Service fees cost of sales                     |       | 126                                   |       | 150                                 |       | (24                  | )          | (16                     | )          | 327      |       | 335           |       | (8     | )          | (2     | )          |
| Total cost of revenues                         |       | 463                                   |       | 573                                 |       | (110                 | )          | (19                     | )          | 1,075    |       | 978           |       | 97     |       | 10     |       |
| Gross profit                                   |       | 757                                   |       | 737                                 |       | 20                   |       | 3                       |       | 1,712    |       | 1,500         |       | 212    |       | 14     |       |
| Selling, general & administrative expenses |       | 880                                   |       | 831                                 |       | 49                   |       | 6                       |       | 1,965    |       | 1,801         |       | 164    |       | 9      |       |
| Research & development expenses            |       | 185                                   |       | 602                                 |       | (417                 | )          | (69                     | )          | 414      |       | 1,210         |       | (796   | )          | (66    | )          |
| Total operating expenses                       |       | 1,065                                 |       | 1,433                               |       | (368                 | )          | (26                     | )          | 2,379    |       | 3,011         |       | (632   | )          | (21    | )          |
| Loss from operations                           |       | (308                                  | )          | (696                                | )          | (388                 | )          | (56                     | )          | (667     | )          | (1,511        | )          | 884    |       | (56    | )          |
| Other income                                   |       | 1                                     |       | 25                                  |       | (24                  | )          | (96                     | )          | 2        |       | 78            |       | (76    | )          | (97    | )          |
| Net loss                                       |       | $                                     | (307       | )                                   | $          | (671                 | )          | $                       | 364        |     | 54         | %             | $          | (665   | )          | $      | (1,433     | )      | $      | 768    |   | 54     | %      |

 

***Product Sales***

 

DisposableTMR kit revenues, the largest component of product sales in the three and sixmonths ended June 30 2009, decreased by $120,000, or 17%, and $53,000, or4%, respectively, as compared to the three and six months ended June 30,2008.  Domestic TMR kit revenuesdecreased $86,000 and $14,000, respectively, as a result of a lower volume ofTMR kits sold offset in part by increased disposable revenue amortization.  International kit revenues decreased 

 

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by$34,000 and $39,000, respectively, primarily due to a lower volume of kitshipments to international customers as compared to the three and six monthsended June 30, 2008.

 

TMRlaser revenues decreased $200,000, or 100%, in the three months endedJune 30, 2009 as compared to the three months ended June 30, 2008 dueto the absence of any domestic Heart Laser Systems shipments in the 2009quarter.

 

TMRlaser revenues decreased $80,000, or 25%, in the six months ended June 30,2009 as compared to the six months ended June 30, 2008.  Domestic TMR laser revenues decreased by$300,000 due to the absence of any domestic Heart Laser Systems shipments duringthe 2009 period.  International TMR laserrevenues increased $220,000 in the six months ended June 30, 2009 due tothe sale of one new Heart Laser System for $246,000, offset in part by adecrease in other international TMR laser revenues of $26,000.

 

Otherproduct sales increased $152,000, or 104%, in the three months endedJune 30, 2009 as compared to the three months ended June 30,2008.  International RenalGuard revenues increased by $265,000, as therewere no shipments of RenalGuard consoles or single-use sets in the 2008quarter.  This increase was partiallyoffset by a decrease in OEM manufacturing contract assembly product revenues of$113,000, or 78%, as new general purpose laser orders and shipments declinedsignificantly during the three months ended June 30, 2009, and we believethis trend is likely to continue through the remainder of 2009.

 

Otherproduct sales increased $418,000, or 156%, in the six months endedJune 30, 2009 as compared to the six months ended June 30,2008.  International other product sales increased $302,000 as a result ofthe sale of certain third party equipment we were required to supply along withthe international Heart Laser System that we recorded as revenue in the firstquarter of 2009. International RenalGuard revenues increased by $194,000 as aresult of a greater volume of RenalGuard consoles and single-use sets beingshipped in the 2009 period. OEM manufacturing contract assembly productrevenues decreased $78,000 as a result of a decline in new general purpose laserorders and shipments.

 

***Service Fee Revenues***

 

Servicefees increased $78,000, or 28%, in the three months ended June 30, 2009 ascompared to the three months ended June 30, 2008. Domestic service feesincreased $36,000 as a result of increased spare part sales and higher extendedservice contract revenues, offset in part by lower billable service calls.International service fees increased $42,000 primarily related to a servicebilling to one customer.

 

Servicefees increased $24,000, or 4%, in the six months ended June 30, 2009 ascompared to the six months ended June 30, 2008. International service feesincreased $41,000 primarily related to a service billing to one customer.Domestic service fees decreased $17,000 as a result of lower billable servicecalls, offset in part by higher extended service contract revenues andincreased spare part sales.

 

***Gross Profit***

 

Grossprofit was $757,000, or 62% of total revenues, in the three months endedJune 30, 2009 as compared with gross profit of $737,000, or 56% of totalrevenues, in the three

 

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months ended June 30,2008. The increase in gross profit dollars is due to (1) an increase inservice fees and (2) an increase in international RenalGuard sales. Theseincreases were offset in part by (1) lower TMR revenues and (2) lowerOEM manufacturing contract assembly revenues.

 

Gross profit was $1,712,000,or 61% of total revenues, in the six months ended June 30, 2009 ascompared with gross profit of $1,500,000, or 61% of total revenues, in the sixmonths ended June 30, 2008. The increase in gross profit dollars is due to(1) the international sale of a Heart Laser System and other third partyequipment in the first quarter and (2) an increase in internationalRenalGuard sales. These increases were offset in part by (1) lower OEMmanufacturing contract assembly revenues and (2) a lower volume of TMRkits sold.

 

***Selling, General and Administrative Expenses***

 

Selling, general andadministrative expenditures increased 6% and 9%, respectively, in the three andsix months ended June 30, 2009 as compared to the three and six monthsended June 30, 2008.

 

The increase in the threemonths ended June 30, 2009 resulted primarily from a reversal of certainincentive compensation related expense in the three months ended June 30,2008 that did not recur in the three months ended June 30, 2009.

 

The increase in the sixmonths ended June 30, 2009 was due to higher sales expenses associatedwith the sale of the Heart Laser System and third party equipment we suppliedduring the first quarter of 2009, which together totaled $269,000.  This increase was offset in partby lower compensation related costs due to workforce reductions and lowerincentive compensation expense.

 

***Research and Development Expenses***

 

Research and developmentexpenditures decreased 69% and 66%, respectively, in the three and six monthsended June 30, 2009 as compared to the three and six months endedJune 30, 2008. These decreases were due to (1) lower RenalGuardclinical trial costs resulting from the suspension of the U.S. pivotal studyand (2) reduced RenalGuard product development expenditures.

 

***Other Income***

 

Other income decreased$24,000, or 96%, and $76,000, or 97%, respectively, in the three and six monthsended June 30, 2009 as compared to the three and six months endedJune 30, 2008.  This decrease in both periods is a result of lowerinterest income due to lower average investable balances and lower interestrates on those investable balances.

 

***Net Loss***

 

In the three and six monthsended June 30, 2009, our net loss decreased $364,000, or 54%, and$768,000, or 54%, respectively, due to (1) lower operating expenses and(2) higher gross margin dollars, offset in part by lower interest income.

 

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***TMR Kit Shipments***

 

Wegenerally view disposable TMR kit shipments to end users as an important metricin evaluating our TMR business, although we believe that specific short-termfactors not indicative of long-term trends can sometimes affect shipments ofdisposable TMR kits in any given quarter. Domestic TMR kit shipments referenced in the table below relate to salesby Novadaq to hospital end users. International TMR kit shipments relate to sales by us directly to ourinternational distributors or hospital end users.

 

DisposableTMR kit shipments to end users were as follows:

 
| ** **                     | ** ** | **Three Months Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|--------------------------------|------------|--------------------------------------|------------|------------------------------------|------------|
| ** **                     | ** ** | **2009**                             | ** ** | **2008**                           | ** ** | **%  Decrease  Over  2008** | ** ** | **2009** | ** ** | **2008** | ** ** | **%  Decrease  Over  2008** | ** ** |
| Domestic (by U.S. Distributor) |       | 218                                  |       | 347                                |       | (37 | ) | 550 |   | 722 |   | (24 | ) |
| International                  |       | 22                                   |       | 35                                 |       | (37 | ) | 37 |   | 50 |   | (26 | ) |
| Total                          |       | 240                                  |       | 382                                |       | (37 | ) | 587 |   | 772 |   | (24 | ) |

 

**Liquidity and Capital Resources**

 

Cashand cash equivalents totaled $3,550,000 as of June 30, 2009, a decrease of$1,476,000 from $5,026,000 as of December 31, 2008.  We have no debt obligations. We believe thatour existing cash resources will meet our working capital requirements throughat least the next 12 months; however, we expect to try to raise additionalcapital, which will be needed to continue our operations and implement ourRenalGuard business plan, within the next 12 months.

 

Cashused for operating activities in the six months ended June 30, 2009 was$1,494,000 due to our net loss, partially offset by non-cash depreciation andamortization and compensation related to stock options.  The effect of exchange rate changes resultedin an $18,000 use of cash.

 

In the near term, while we do not expect that ourTMR-related revenues will change significantly, we do believe it is more likelythey will decline over time. Therefore we will be largely dependent upon ourability to increase our revenues through the sale of our RenalGuard productinto international markets. Should international sales of RenalGuard notincrease sufficiently, our liquidity and capital resources will be negativelyimpacted.

 

Additionally, unanticipated decreases in operatingrevenues, increases in expenses or changes or delays in third-partyreimbursement to healthcare providers using our TMR products would adverselyimpact our cash position and require further cost reductions or the need toobtain additional capital.

 

There can be no assurancethat the future capital we will need to continue our operations and implementour business plan will be available on terms and conditions acceptable to us,especially considering the current uncertainty in the global creditmarkets.  Should additional financing notbe available on terms and conditions acceptable to us, or if we are unable tosufficiently increase sales of our products, we will need to further curtailour TMR and RenalGuard programs and take

 

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additional actions that will adversely impact ourability to continue to realize assets and satisfy liabilities in the normalcourse of business.  The consolidatedfinancial statements set forth in this report do not include any adjustments toreflect the possible future effects of these uncertainties.

 

**Forward-LookingStatements**

 

This quarterly report on Form 10-Q containsforward-looking statements within the meaning of Section 27A of theSecurities Act of 1933, as amended, and Section 21E of the SecuritiesExchange Act of 1934, as amended (the “Exchange Act”). Statements containingterms such as “believes”, “plans”, “expects”, “anticipates”, “intends”,“estimates” and similar expressions reflect uncertainty and are forward-lookingstatements. Forward-looking statements are based upon current plans andexpectations and involve known and unknown important risks and uncertaintiesthat could cause actual results to differ materially from those described inthe forward-looking statements. Such important factors and uncertaintiesinclude, but are not limited to:

 

·                  We will need to, and we maybe unable to, raise the necessary capital to continue our operations in thefuture, including to implement our RenalGuard business plan, and any suchfinancing may be highly dilutive to existing shareholders given our currentmarket capitalization;

 

·                  We expect to incursignificant net losses in future quarters, at least through 2010;

 

·                  We are currently dependenton one principal product line, the Heart Laser System, and one principalcustomer, Novadaq, to generate revenues for us;

 

·                  We believe it is likely thatour TMR revenues will decline over time, making our future prospects highlydependent upon the successful commercialization of RenalGuard;

 

·                  If we are unable to raiseadditional capital, we will not be able to commence our U.S. pivotal clinicaltrial to study RenalGuard to determine if it is safe and effective in reducingthe incidence rate of CIN. We therefore may never be successful in our goal ofobtaining pre-market approval from the FDA to market RenalGuard in the U.S.;

 

·                  Our ability to effectivelymarket RenalGuard outside the U.S. is largely dependent on obtaining favorableresults from an outside sponsored clinical trial of RenalGuard currentlyunderway at the CCM; however, we have no assurance that the CCM trial will everproduce clinically significant or meaningful results or that it will becompleted in a timely fashion or at all;

 

·                  We may never be successfulin establishing a broad distribution channel for RenalGuard outside the U.S.,and any distribution channel we may establish may never generate sufficientsales for us to attain profitability;

 

·                  Our RenalGuard System hasonly had limited testing in a clinical setting and we may need to modify itsubstantially in the future for it to be commercially acceptable; and

 

·                  Any potential futuremodifications required to make RenalGuard commercially acceptable may result insubstantial additional costs and/or market introduction delays.

 

**Off-BalanceSheet Arrangements**

 

None.

 

**Item 3.****                      ****Quantitativeand Qualitative Disclosures about Market Risk**

 

Pursuantto Item 305(e) of Regulation S-K, we are not required to provide thisinformation because we are a smaller reporting company.

 

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## ***Item4T.  Controls and Procedures***

## *** ***

***Evaluation of Disclosure Controls andProcedures***

 

Ourmanagement, with the participation of our chief executive officer and chieffinancial officer, evaluated the effectiveness of our disclosure controls andprocedures as of June 30, 2009.  Theterm “disclosure controls and procedures”, as defined inRules 13a-15(e) and 15d-15(e) under the Exchange Act, meanscontrols and other procedures of a company that are designed to ensure thatinformation required to be disclosed by a company in the reports that it filesor submits under the Exchange Act is recorded, processed, summarized andreported within the time periods specified in the SEC’s rules andforms.  Disclosure controls andprocedures include, without limitation, controls and procedures designed toensure that information required to be disclosed by a company in the reportsthat it files or submits under the Exchange Act is accumulated and communicatedto the company’s management, including its principal executive and principalfinancial officers, as appropriate to allow timely decisions regarding requireddisclosure.  Management recognizes thatany controls and procedures, no matter how well designed and operated, canprovide only reasonable assurance of achieving their objectives and managementnecessarily applies its judgment in evaluating the cost-benefit relationship ofpossible controls and procedures.  Basedupon the evaluation of our disclosure controls and procedures as ofJune 30, 2009, our chief executive officer and chief financial officerconcluded that, as of such date, our disclosure controls and procedures wereeffective at the reasonable assurance level.

 

***Changes in InternalControl over Financial Reporting***

 

No change in our internal control over financialreporting (as defined in Rules 13a-15(f) and 15d-15(f) under theExchange Act) occurred during the fiscal quarter ended June 30, 2009 thathas materially affected, or is reasonably likely to materially affect, ourinternal control over financial reporting.

 

**Part II.  Other Information**

 

**Item 1A.****                   ****RiskFactors**

 

Pursuantto the instructions to Item 1A. of Form 10-Q, we are not required toprovide this information because we are a smaller reporting company.

 

**Item 4.****                                  ****Submissionof Matters to a Vote of Security Holders**

 

OnJune 4, 2009, the Company held its 2009 Annual Meeting of Shareholders(the “Shareholders Meeting”).  At the Shareholders Meeting, the followingmatters were approved by the vote specified below:

 

1.                                       Edward H.Pendergast and Benjamin L. Holmes were elected as Class II directors andwill hold office until the annual meeting of shareholders in 2012 or untiltheir successors are duly elected and qualified.  Mr. Pendergastreceived 26,233,627 shares of common stock voting in favor of his election and1,512,800 shares of common stock were withheld.  Mr. Holmes received26,252,458 shares of common stock voting in favor of his election and 1,493,969shares of common 

 

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stockwere withheld.  The terms of Kevin J. Dunn, Brent Norton, Mark R. Tauscherand Robert I. Rudko continued after the Shareholders Meeting.  Following the Shareholders Meeting, the boardof directors elected Louis Brenner as a Class I director to serve untilthe Company’s 2010 Annual Meeting of Shareholders.  Mr. Brenner was elected to fill thevacancy created by the departure of Alan Magazine who did not stand forre-election at the Shareholders Meeting.

 

2.                                       The selectionof Caturano and Company, P.C. as the Company’s registered public accountingfirm for the fiscal year ending December 31, 2009 and the authorization ofthe Audit Committee of the Board of Directors to fix the remuneration to bepaid to the auditors were approved.  The votes were cast as follows:27,076,053 shares of common stock were voted for the approval, 413,077 sharesof common stock were voted against the approval and 257,296 shares of commonstock abstained from the vote.

 

**Item 6.****                                  ****Exhibits**

 
| **Exhibit  Number** | ** ** | **Description of Document**                                                                                                                                                                                               |
|---------------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |       |                                                                                                                                                                                                                      |
| 10.1                |       | Form of  Stock Option Grant Letter for Employees of the Registrant under the 2005  Stock Incentive Plan.                                                                                                             |
|                |       |                                                                                                                                                                                                                      |
| 10.2                |       | Form of  Stock Option Grant Letter for Non-Employee Directors of the Registrant under  the 2005 Stock Incentive Plan.                                                                                                |
|                |       |                                                                                                                                                                                                                      |
| 31.1                |       | Certification  of Principal Executive Officer pursuant to Rule 13a-14(a) or  15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002. |
|                |       |                                                                                                                                                                                                                      |
| 31.2                |       | Certification  of Principal Financial Officer pursuant to Rule 13a-14(a) or  15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002. |
|                |       |                                                                                                                                                                                                                      |
| 32.1                |       | Certifications  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                      |

 

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**SIGNATURES**

 

Pursuant to the requirements of the SecuritiesExchange Act of 1934, the registrant has duly caused this report to be signedon its behalf by the undersigned thereunto duly authorized.

 
|                                                     | PLC SYSTEMS INC. |
|----------------------------------------------------------|------------------|
|                                                     |             |
| Date:     August 14,  2009 | By:              | /s/  James G. Thomasch |
|                                                     |             | James  G. Thomasch |
|                                                     |             | Chief  Financial Officer |
|                                                     |             | (Principal  Financial Officer and Chief Accounting Officer) |

 

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**EXHIBIT INDEX**

 
| **Exhibit********Number** | ** ** | **Description of Document**                                                                                                                                                                                               |
|---------------------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** **                |       |                                                                                                                                                                                                                      |
| 10.1                      |       | Form of  Stock Option Grant Letter for Employees of the Registrant under the 2005  Stock Incentive Plan.                                                                                                             |
|                      |       |                                                                                                                                                                                                                      |
| 10.2                      |       | Form of  Stock Option Grant Letter for Non-Employee Directors of the Registrant under  the 2005 Stock Incentive Plan.                                                                                                |
|                      |       |                                                                                                                                                                                                                      |
| 31.1                      |       | Certification  of Principal Executive Officer pursuant to Rule 13a-14(a) or  15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002. |
|                      |       |                                                                                                                                                                                                                      |
| 31.2                      |       | Certification  of Principal Financial Officer pursuant to Rule 13a-14(a) or  15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002. |
|                      |       |                                                                                                                                                                                                                      |
| 32.1                      |       | Certifications  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                      |

 

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