** **

**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON,D.C. 20549**

**FORM 10-Q**
| **ý** |   | **Quarterly Report pursuant to  Section 13 or 15(d) of the Securities Exchange Act of 1934 for the  quarterly period ended June 30, 2002**                                                                                                                       |
|------------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|       |   |                                                                                                                                                                                                                                                                       |
| o          |   | **Transition Report pursuant to  Section 13 or 15(d) of the Securities Exchange Act of 1934 for the  transition period  from           to           .** |

** **

**CommissionFile No. 0–22233**

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**EndocardialSolutions, Inc.**

(Exact name of registrantas specified in its charter)

| **Delaware**                                                   |   | **41-1724963**                                           |
|----------------------------------------------------------------|--------|----------------------------------------------------------|
| (State or other jurisdiction of incorporation or  organization |   | (IRS Employer Identification Number)                     |
|                                                           |   |                                                     |
| **1350 Energy Lane  Suite 110  Saint Paul, Minnesota 55108**   |   | **(651) 523-6900**                                  |
| (Address of principal executive offices and zip  code)         |   | (Registrant’s telephone number including area code) |

 

Indicate by check mark whether the registrant (1) has filed allreports required to be filed by Section 13 or 15(d) Securities Exchange Act of 1934 during the preceding twelve (12) months (or forsuch shorter period that the Registrant was required to file such reports) and(2) has been subject to such filing requirements for the past 90days.  

Yes ý  No  o

Indicate the number ofshares outstanding of each of the issuer’s classes of common stock, as of thelatest practicable date.

| **Common  Stock, $.01 par value** |   | **16,616,473**                                       |
|-----------------------------------|--------|------------------------------------------------------|
| (Class)                           |   | (Number of Shares Outstanding at August 9, 2002 |

 

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** **

**INDEXEndocardial Solutions, Inc.**
| PART I.  | FINANCIAL INFORMATION                                                                            |                                                                                                         |
|----------|--------------------------------------------------------------------------------------------------|--------------------------------------------------------------------------------------------------------------|
|     |                                                                                             |                                                                                                         |   |
|     | Item 1.                                                                                          | Financial Statements  (Unaudited)                                                                            |   |
|     |                                                                                             | Consolidated Balance  Sheets—June 30, 2002 and December 31, 2001                                        |   |
|     |                                                                                             | Consolidated Statements of  Operations–—Three and six months ended June 30, 2002 and June 30, 2001 |   |
|     |                                                                                             | Consolidated Statements of  Cash Flows—Three and six months ended June 30, 2002 and June 30, 2001       |   |
|     |                                                                                             | Notes to Consolidated Financial  Statements                                                                  |   |
|     | Item  2.                                                                                         | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                  |   |
|     | Item  3.                                                                                         | Qualitative  and Quantitative Disclosures about Market Risk                                                  |   |
|     |                                                                                             |                                                                                                         |   |
| PART II. | OTHER INFORMATION                                                                                |                                                                                                         |
|     |                                                                                             |                                                                                                         |   |
|     | Items 1 through 3 and 5 have been omitted since all  items are inapplicable or answers negative. |                                                                                                         |
|     | Item  4.                                                                                         | Submission  of Matters to a Vote of Security Holders                                                         |   |
|     | Item 6.                                                                                          | Exhibits  and Reports on Form 8-K                                                                       |   |

 

 

1

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**PART I — FINANCIALINFORMATION**

 

**Item 1.  Financial Statements**

 

**EndocardialSolutions, Inc.**

 

**ConsolidatedBalance Sheets**

 
| ** **                                                                                                   | ** ** | **June 30,********2002** | ** ** | **December  31,********2001** | ** ** |
|--------------------------------------------------------------------------------------------------------------|------------|--------------------------|------------|-------------------------------|------------|
|                                                                                                         |       | **(Unaudited)**          |       | **(Note)**                    |       |
| **ASSETS**                                                                                                   |       |                     | ** ** |                          | ** ** |
| Current Assets:                                                                                              |       |                     |       |                          |       |
| Cash and cash  equivalents                                                                                   |       | $                        | 6,102,323  |                          | $          | 4,550,059 |   |
| Short-term  investments                                                                                      |       | —                   |       | —                        |       |
| Accounts  Receivable, net of reserve for doubtful accounts (2002 — $60,000; 2001 —  $60,000)       |       | 8,635,845                |       | 5,084,412                     |       |
| Inventories                                                                                                  |       | 3,712,896                |       | 2,733,145                     |       |
| Prepaid expenses  and other current assets                                                                   |       | 621,644                  |       | 554,202                       |       |
| Total current  assets                                                                                        |       | 19,072,708               |       | 12,921,818                    |       |
|                                                                                                         |       |                     |       |                          |       |
| Furniture and  equipment                                                                                     |       | 7,997,606                |       | 7,329,598                     |       |
| Less accumulated  depreciation                                                                               |       | (5,265,970               | )          | (4,721,350                    | )          |
|                                                                                                         |       | 2,731,636                |       | 2,608,248                     |       |
|                                                                                                         |       |                     | ** ** |                          | ** ** |
| Deposits                                                                                                     |       | 49,125                   |       | 49,947                        |       |
| Patents, net of  accumulated amortization  (2002 — $116,210; 2001 — $111,489)                      |       | 15,088                   |       | 19,809                        |       |
| Software  development costs, net of accumulated amortization  (2002 — $1,088,292; 2001 — $891,107) |       | —                   |       | 197,185                       |       |
| Total assets                                                                                                 |       | $                        | 21,868,557 |                          | $          | 15,797,007 |   |
|                                                                                                         |       |                     |       |                          |       |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                               |       |                     | ** ** |                          | ** ** |
| Current  Liabilities:                                                                                        |       |                     |       |                          |       |
| Accounts payable  and accrued expenses                                                                       |       | $                        | 4,224,598  |                          | $          | 4,650,538 |   |
| Bank line of  credit                                                                                         |       | 750,000                  |       | 750,000                       |       |
| Current portion  of capital lease obligations                                                                |       | 673,267                  |       | 594,010                       |       |
| Current portion  of deferred revenue                                                                         |       | 746,324                  |       | 586,104                       |       |
| Total current  liabilities                                                                                   |       | 6,394,189                |       | 6,580,652                     |       |
|                                                                                                         |       |                     |       |                          |       |
| Long-term  Liabilities:                                                                                      |       |                     |       |                          |       |
| Capital lease  obligations                                                                                   |       | 615,606                  |       | 301,187                       |       |
| Deferred revenue                                                                                             |       | 206,627                  |       | 199,368                       |       |
| Total long-term  liabilities                                                                                 |       | 822,233                  |       | 500,555                       |       |
|                                                                                                         |       |                     |       |                          |       |
| Stockholders’  equity:                                                                                  |       |                     |       |                          |       |
| Undesignated  Preferred Stock, par value $.01 per share:                                                     |       |                     |       |                          |       |
| Authorized  shares-10,000,000                                                                                |       |                     |       |                          |       |
| Issued and  outstanding shares-none                                                                          |       | —                   |       | —                        |       |
| Common Stock,  $.01 par value                                                                                |       |                     |       |                          |       |
| Authorized shares-40,000,000                                                                                 |       |                     |       |                          |       |
| Issued and  outstanding shares-June 30, 2002-16,615,640; December 31, 2001-14,934,624                        |       | 166,156                  |       | 149,346                       |       |
| Additional  paid-in capital                                                                                  |       | 89,094,997               |       | 79,707,845                    |       |
| Less notes  receivable from officer                                                                          |       | (371,250                 | )          | (371,250                      | )          |
| Accumulated  deficit                                                                                         |       | (74,211,008              | )          | (70,486,214                   | )          |
| Accumulated  other comprehensive income/(loss)                                                               |       | 217,582                  |       | (9,556                        | )          |
| Deferred  compensation                                                                                       |       | (244,342                 | )          | (274,371                      | )          |
| Total  stockholders’ equity                                                                             |       | 14,652,135               |       | 8,715,800                     |       |
| Total  liabilities and stockholders’ equity                                                             |       | $                        | 21,868,557 |                          | $          | 15,797,007 |   |

 

Note: The balancesheet at December 31, 2001 has been derived from the audited financialstatements at thatdate but does not include all of the information andfootnotes required by generally accepted accountingprinciples for complete financialstatements.

 

*Seeaccompanying notes.*

 

 

2

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**EndocardialSolutions, Inc.**

 

**ConsolidatedStatements of Operations**

(Unaudited)

 
|                                         |       | **For the  Three Months Ended** |       | **For the  Six Months Ended** |       |
|----------------------------------------------|------------|---------------------------------|------------|-------------------------------|------------|
| ** **                                   | ** ** | **June 30,********2002**        | ** ** | **June 30,  2001**            | ** ** | **June 30,  2002** | ** ** | **June 30,  2001** | ** ** |
| Revenue                                      |       | $                               | 7,531,826  |                          | $          | 5,577,704 |   | $ | 14,640,122 |   | $ | 10,179,870 |   |
|                                         |       |                            |       |                          |       |   |   |   |   |
| Cost of goods  sold                          |       | 2,789,072                       |       | 2,223,112                     |       | 5,390,366 |   | 4,301,171 |   |
| Gross margin                                 |       | 4,742,754                       |       | 3,354,592                     |       | 9,249,756 |   | 5,878,699 |   |
|                                         |       |                            |       |                          |       |   |   |   |   |
| Operating  expenses:                         |       |                            |       |                          |       |   |   |   |   |
| Research and  development                    |       | 1,287,046                       |       | 1,456,515                     |       | 2,593,968 |   | 2,469,842 |   |
| General and  administrative                  |       | 677,754                         |       | 602,961                       |       | 1,291,575 |   | 1,193,406 |   |
| Sales and  marketing                         |       | 4,700,282                       |       | 3,826,037                     |       | 9,077,403 |   | 7,239,933 |   |
| Operating loss                               |       | (1,922,328                      | )          | (2,530,921                    | )          | (3,713,190 | ) | (5,024,482 | ) |
|                                         |       |                            |       |                          |       |   |   |   |   |
| Other income  (expense):                     |       |                            |       |                          |       |   |   |   |   |
| Interest income                              |       | 26,262                          |       | 90,970                        |       | 49,361 |   | 175,413 |   |
| Interest expense                             |       | (33,809                         | )          | (22,528                       | )          | (60,965 | ) | (104,521 | ) |
|                                         |       | (7,547                          | )          | 68,442                        |       | (11,604 | ) | 70,892 |   |
|                                         |       |                            |       |                          |       |   |   |   |   |
| Net loss for the  period                     |       | $                               | (1,929,875 | )                             | $          | (2,462,479 | ) | $ | (3,724,794 | ) | $ | (4,953,590 | ) |
|                                         |       |                            |       |                          |       |   |   |   |   |
| Net loss per  share — basic and diluted |       | $                               | (0.12      | )                             | $          | (0.17 | ) | $ | (0.23 | ) | $ | (0.36 | ) |
|                                         |       |                            |       |                          |       |   |   |   |   |
| Weighted average  shares outstanding         |       | 16,610,509                      |       | 14,809,361                    |       | 16,050,720 |   | 13,637,960 |   |

 

*Seeaccompanying notes.*

 

 

3

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**EndocardialSolutions, Inc.**

 

**ConsolidatedStatements of Cash Flows**

(Unaudited)

 
|                                                                         |       | **For the  Three Months Ended** |       | **For the  Six Months Ended** |       |
|------------------------------------------------------------------------------|------------|---------------------------------|------------|-------------------------------|------------|
| ** **                                                                   | ** ** | **June 30,********2002**        | ** ** | **June 30,  2001**            | ** ** | **June 30,  2002** | ** ** | **June 30,  2001** | ** ** |
| **Operating  activities**                                                    |       |                            |       |                          |       |   |   |   |   |
| Net loss                                                                     |       | $                               | (1,929,875 | )                             | $          | (2,462,479 | ) | $ | (3,724,794 | ) | $ | (4,953,590 | ) |
| Adjustments to  reconcile net loss to net cash used in operating activities: |       |                            |       |                          |       |   |   |   |   |
| Depreciation and  amortization                                               |       | 324,788                         |       | 402,762                       |       | 746,526 |   | 846,196 |   |
| Amortization of  deferred compensation                                       |       | 22,515                          |       | 15,357                        |       | 44,429 |   | 17,584 |   |
| Loss on disposal  of equipment                                               |       | —                          |       | 6,344                         |       | — |   | 6,344 |   |
| Changes in  operating assets and liabilities:                                |       |                            |       |                          |       |   |   |   |   |
| Accounts  Receivable                                                         |       | (1,946,849                      | )          | 329,526                       |       | (3,325,377 | ) | 582,002 |   |
| Inventory                                                                    |       | (647,700                        | )          | 125,150                       |       | (979,458 | ) | 619,385 |   |
| Prepaid expenses  and other assets                                           |       | (118,567                        | )          | (84,255                       | )          | (39,409 | ) | (573,277 | ) |
| Accounts payable  and acrrued expenses                                       |       | 177,128                         |       | 1,028,672                     |       | (647,965 | ) | 551,827 |   |
| Deferred revenue                                                             |       | 99,527                          |       | 42,717                        |       | 153,970 |   | 27,508 |   |
| Net cash  provided by (used in) operating activities                         |       | (4,019,033                      | )          | (596,206                      | )          | (7,772,078 | ) | (2,876,021 | ) |
|                                                                         |       |                            |       |                          |       |   |   |   |   |
| **Investing  activities**                                                    |       |                            |       |                          |       |   |   |   |   |
| Purchases of  short-term investments                                         |       | —                          |       | (44,623                       | )          | — |   | (2,938,752 | ) |
| Maturities of  short-term investments                                        |       | —                          |       | 52,258                        |       | — |   | 2,452,258 |   |
| Purchases of  furniture and equipment                                        |       | (94,659                         | )          | 96,224                        |       | (94,659 | ) | (67,363 | ) |
| Patent  expenditures                                                         |       | —                          |       | —                        |       | — |   | (650 | ) |
| Software  development costs                                                  |       | —                          |       | —                        |       | — |   | (295,777 | ) |
| Proceeds from  sale of equipment                                             |       | —                          |       | —                        |       | — |   | — |   |
| Net cash  provided by (used in) investing activities                         |       | (94,659                         | )          | 103,859                       |       | (94,659 | ) | (850,284 | ) |
|                                                                         |       |                            |       |                          |       |   |   |   |   |
| **Financing  activities**                                                    |       |                            |       |                          |       |   |   |   |   |
| Proceeds from  notes payable                                                 |       | —                          |       | —                        |       | — |   | — |   |
| Proceeds from  capital lease obligations                                     |       | —                          |       | —                        |       | 162,617 |   | — |   |
| Principal  payments on notes payable and capital lease obligations           |       | (166,210                        | )          | (159,505                      | )          | (331,154 | ) | (7,315,430 | ) |
| Proceeds from  issuance of common stock                                      |       | 8,404                           |       | (84,546                       | )          | 9,389,562 |   | 7,192,570 |   |
|                                                                         |       |                            |       |                          |       |   |   |   |   |
| Net cash  provided by (used in) financing activities                         |       | (157,806                        | )          | (244,051                      | )          | 9,221,025 |   | (122,860 | ) |
|                                                                         |       |                            |       |                          |       |   |   |   |   |
| Effect of  exchange rate changes on cash                                     |       | 181,121                         |       | —                        |       | 197,976 |   | — |   |
|                                                                         |       |                            |       |                          |       |   |   |   |   |
| Increase  (decrease) in cash and cash equivalents                            |       | (4,090,377                      | )          | (736,398                      | )          | 1,552,264 |   | (3,849,165 | ) |
| Cash and cash  equivalents at beginning of period                            |       | 10,192,700                      |       | 4,658,773                     |       | 4,550,059 |   | 7,771,540 |   |
| Cash and cash  equivalents at end of period                                  |       | $                               | 6,102,323  |                          | $          | 3,922,375 |   | $ | 6,102,323 |   | $ | 3,922,375 |   |
|                                                                         |       |                            |       |                          |       |   |   |   |   |
| **Supplemental  disclosure of non-cash investing and financing activities**  |       |                            |       |                          |       |   |   |   |   |
| Purchase of  equipment and inventory through capital lease obligations       |       | $                               | 221,140    |                          | $          | 273,275 |   | $ | 724,830 |   | $ | 273,275 |   |
| Note receivable  from officer                                                |       | $                               | —     |                          | $          | — |   | $ | — |   | $ | 371,250 |   |
|                                                                              |            |                                 |            |                               |            |  |  |  |  |  |  |  |  |  |

 

 

*Seeaccompanying notes.*

 

 

4

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### **Endocardial Solutions, Inc.**

### ** **

### **Notesto Consolidated Financial Statements**

### ** **

### **(Unaudited)**

 

**1.**                                      Basisof Presentation

The accompanying unaudited financial statements havebeen prepared in accordance with generally accepted accounting principles forinterim financial information and with the instructions to Form 10–Qand Article 10 of Regulation S–X. Accordingly, they do not include all 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, 2002, are not necessarily indicative of the results thatmay be expected for the year ending December 31, 2002.  These financial statements should be read inconjunction with the audited financial statements and accompanying notes forthe fiscal year ended December 31, 2001, contained in the Company’s Form 10–K.

**2.             Inventories**

Inventories are carried at the lower of cost(first-in, first-out basis) or market. The majority of inventory consists of purchased components.  To determine the technological feasibilityof its software efforts, the Company utilizes the working model approachavailable under SFAS No. 86 and believes that the working model wasachieved when the software was available for commercial use in June 1998.

**3.             Reclassifications**

Certain prior year items have been reclassified toconform to current year presentations.

**4.             Stock Offering**

In February 2002, the Company received proceeds of$10,000,000 from a private placement of 1,666,667 shares of its common stock ata price of $6.00 per share, to accredited investors.

**5.             Segment Reporting**

Sales by geographic destination as a percentage oftotal sales were as follows:
|           |   | **For the  Three Months Ended** |   | **For the  Six Months Ended** |   |
|----------------|--------|---------------------------------|--------|-------------------------------|--------|
|           |   | **June 30,**

**2002**          |   | **June 30,**

**2001**        |   | **June 30,**

**2002** |   | **June 30,**

**2001** |   |
| Domestic       |   | 80                              | %      | 85                            | %      | 75 | % | 85 | % |
| International: |   |                            |   |                          |   |   |   |   |   |
| Europe         |   | 12                              | %      | 8                             | %      | 16 | % | 8 | % |
| Asia Pacific   |   | 4                               | %      | 5                             | %      | 5 | % | 4 | % |
| Canada/Mexico  |   | 4                               | %      | 2                             | %      | 4 | % | 3 | % |

## ** **

## **Item2.  Management’s Discussion and Analysisof Financial Condition and Results of Operations.**

**General**

EndocardialSolutions Inc. (the “Company”), was incorporated in May 1992.  The Company develops, manufactures and marketsthe EnSite 3000® clinical workstation and EnSite® catheter (together, the“EnSite System”) for use by electrophysiologists in diagnosing and mappingabnormal heart rhythms known as tachycardias. During the second quarter of 1999, we received approval from the U.S.Food and Drug Administration to market the 

 

5

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EnSite System in the U.S.for use in the right atrium of the heart. The EnSite System is available to electrophysiologists in Europe for usein the right atrium and left ventricle of the heart.

**Results of Operations**

**General**. Net losses decreased to $1,929,875 or $.12 per share, for the threemonths ended June 30, 2002, compared to $2,462,479 or $.17 per share, forthe same period in 2001.  For the sixmonths ended June 30, 2002, net losses were $3,724,794, or $.23 per share, ascompared to $4,953,590, or $.36 per share, for the same period in 2001.  The Company expects losses to continue atleast through first quarter of 2003. The Company is in a period of growth in sales and marketing expensesrelated to market penetration, including increases in personnel costs.  The net loss increase over first quarter of2002 is attributed to slightly lower catheter production during the quarter andto higher travel costs related to our direct selling personnel.

**Revenue and Cost of Goods Sold**. Worldwide revenue for the three months ended June 30, 2002 wasapproximately $7.5 million, a $2 million, or 35%, increase over the same periodin 2001.  For the six months ended June30, 2002, worldwide revenue was approximately $14.6 million, a $4.5 million, or44%, increase over the same period in 2001. In the U.S. revenues increased approximately $1.3 million, or 27%, forthe three months ended June 30, 2002, compared to the same period in 2001.  For the six months ended June 30, 2002, U.S.revenues increased approximately $2.3 million, or 26%, compared to the sameperiod in 2001.  Approximately $1.1million of the $1.3 million and $2.1 million of the $2.3 million revenueincrease in the U.S. for the three and six months ended June 30, 2002,compared to the same period in 2001, came from EnSite catheter sales, whereunit sales increased approximately 49% and 51% over 2001 comparable periods,respectively.

International revenues increased approximately$668,000, or 78%, for the three months ended June 30, 2002, compared to thesame period in 2001.  For the six monthsended June 30, 2002, international revenues increased approximately $2.2million, or 147%, compared to the same period in 2001.  International revenues include sales directto the end-user in Europe and Canada, and to distributors in Europe, AsiaPacific and Mexico.  These revenues werehigher due directly to higher average selling prices on both the EnSitecatheter and EnSite clinical workstation in Europe.   Sales in Europe during the period in 2001 were done exclusivelythrough a distributor versus a majority of the sales in 2002 done direct to theend-user.

Other revenue, which represents 5.6% and 6.3% ofworldwide sales for the three month periods ending June 30, 2002 and 2001,respectively, includes revenue generated from extended service contracts,repairs and accessories sales related to the EnSite System.  For the six months ended June 30, 2002, otherrevenue represented 5.5% of worldwide sales, compared to 6.2% for the sameperiod in 2001.

EnSite clinical workstation revenue was approximately$3.3 million for the second quarter of 2002, compared to $2.8 million for thesame period in 2001.  For the six monthsended June 30, 2002, EnSite clinical workstation revenue was approximately $6.7million, compared to $5.2 million for the same period in 2001.  The increase is due mainly to the highersales of the EnSite clinical workstation internationally compared to lastyear’s six month period, an increase of 183%. Domestic revenues accounted for 78% and 70% of total EnSite clinicalworkstation sales for the three and six months ended June 30, 2002, compared to87% and 88% for the same period in 2001, respectively.  The Company expects EnSite clinicalworkstation revenue will be approximately 35% to 40% of total revenues in 2002.

EnSite catheter revenue was approximately $4 millionfor the quarter ended June 30, 2002, compared to $2.6 million for the same periodin 2001, or an increase of 52%.  For thesix months ended June 30, 2002, EnSite catheter revenue was approximately $7.6million, compared to $4.8 million for the same period in 2001, or an increaseof 60%.  Domestic revenue accounted for82% and 80% of total EnSite catheter sales for the three and six months endedJune 30, 2002, compared to 84% and 84% for the same period in 2001,respectively.  The Company expectsEnSite catheter revenue will be approximately 60% to 65% of total revenues in2002.

Cost of goods sold including over/under absorbedmanufacturing expenses was approximately $2.8 million and $2.2 million for thethree months ended June 30, 2002 and 2001, respectively.  For the six months ended June 30, 2002, costof goods sold was approximately $5.4 million, compared to $4.3 million for thesame period in 2001.

The gross profitmargin was 63.0% for the three months ended June 30, 2002, compared with 60.1%during the same period in 2001.  For thesix months ended June 30, 2002, gross profit margin was 63.2%, compared to57.7% for the same period in 2001.  Theincrease in margins is mainly attributed to the better EnSite catheter 

 

 

6

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absorption ofmanufacturing overhead from the growth in domestic sales during the comparableperiods.  Additionally, the Company’smargins on its domestic and international sales are substantially higher forthe six months ended June 30, 2002, compared to the same period in 2001, due tosales in Europe during the period in 2001 done exclusively through adistributor versus a majority of the sales in 2002 done direct to theend-user.  The Company expects grossprofit margins will be, in aggregate, two to three percentage points higherduring the remaining six months in 2002.

**Research and Development Expenses**. Research and development expenses include compensation and benefit costswithin the clinical, software, hardware, catheter and applied researchdepartments as well as costs associated with regulatory expenses.  Research and development expenses wereapproximately $1.3 million for the three month period ended June 30, 2002,compared to $1.5 million during the same period in 2001, a decrease ofapproximately $169,000.  This decreasein expense is attributed to the Company’s left atrium study startup costs inthe second quarter of 2001.  For the sixmonths ended June 30, 2002, research and development expenses wereapproximately $2.6 million, compared to $2.5 million for the same period in2001, an increase of approximately $130,000. The Company believes research and development expenditures will be inthe range of $1.4 to $1.5 million per quarter for the remaining quarters of2002.

**General and Administrative Expenses**. General and administrative expenses were approximately $678,000 and$603,000 for the three months ended June 30, 2002 and 2001, respectively, anincrease of approximately $75,000.  Theincrease is due primarily to an increase in professional services expense andrecruitment costs.  For the six monthsended June 30, 2002, general and administrative expenses were approximately$1.3 million, compared to $1.2 million for the same period in 2001, an increaseof approximately $98,000.  The Companyexpects general and administrative expenses to be approximately $650,000 to$675,000 per quarter for the remaining quarters of 2002.

**Sales and Marketing Expenses**. Sales and marketing expenses were approximately $4.7 million during thethree months ended March 31, 2002, and $3.8 million during the same periodin 2001, an increase of approximately $874,000.  The increase is primarily attributable to increases in personneland costs associated with building and training of the U.S. and European salesand clinical team.  For the six monthsended June 30, 2002, sales and marketing expenses were approximately $9.1million, compared to $7.2 million for the same period in 2001, an increase ofapproximately $1.8 million.  As theCompany continues to penetrate the U.S. and European markets, sales andmarketing expenses are expected to be in the $4.5 to $4.7 million range perquarter for the remaining quarters of 2002 as additional headcount is added inboth the selling and field clinical engineering areas.

**Interest Income and Expense**. Interest income was approximately $26,000 and $91,000 for the threemonths ended June 30, 2002 and 2001, respectively.  For the six months ended June 30, 2002,interest income was approximately $49,000, compared to $175,000 million for thesame period in 2001.  The decrease forthe three and six months ended June 30, 2002 was due to lower average cashand cash equivalent balances and lower interest rates.  Interest expense was approximately $34,000and $23,000 for the three months ended June 30, 2002 and 2001,respectively.  For the six months endedJune 30, 2002, interest expense was approximately $61,000, compared to $105,000for the same period in 2001.  The sixmonth year-to-year decrease is directly related to the repayment of the loan toMedtronic during February 2001, while the three month year-to-year increase isdue to higher debt balance.

**Liquidity and Capital Resources**.

The Company’s operations since inception have beenfunded by net proceeds from the sales of common and preferred stock totalingapproximately $89.3 million.  As of June30, 2002 and December 31, 2001, the Company had cash, cash equivalents andshort-term investments of approximately $6.1 million and $4.6 million,respectively.

For the three andsix months ended June 30, 2002, the Company used cash of approximately $4million and $7.8 million for operations, compared to approximately $596,000 and$2.9 million for the same period in 2001, respectively.  The Company saw an increase in its accountsreceivable balances of approximately $1.9 million and $3.3 million for thethree and six months ended June 30, 2002. The increase in accounts receivable is attributed to the Company’sdirect selling efforts in Europe and the timing of second quarter 2002 sales inrelation to the payment 

 

 

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terms of thesesales.  Inventories increasedapproximately $648,000 and $980,000 for the three and six months ended June 30,2002.  The Company believes inventorybalances will decrease slightly during the remaining six months of 2002 as of aresult of slightly slower growth in catheter production as 2002 total revenuesare expected to increase 30% to 32% over 2001 total revenues.  Accounts payable and accrued expensesincreased approximately $177,000 for the three months ended June 30, 2002 anddecreased $648,000 for the six months ended June 30, 2002.  The Company expects accounts payable andaccrued expenses to grow during the remaining six months of 2002 as operatingand production expenses increase to support revenue growth and as it continuesto accrue the 2002 annual performance compensation for payment in the firstquarter of 2003.  The Company had noshort-term investment portfolio as of June 30, 2002 and December 31, 2001.  A majority of the Company’s available cashwas in money market funds due to the inability to attain higher rates ofinterest in short-term investments dictated by the Company’s investment policy.

In January 1999, the Company announced a financingagreement with Medtronic, Inc.  Underthe agreement, the Company received $7 million from Medtronic Asset Management,which was repaid in February 2001.

In March 2001, the Company received proceeds of$7,347,000 from a private placement of 2,449,666 shares of its common stock toaccredited investors.  The placement waspriced at $3.00 per share.  In June2001, the Company announced a $3.5 million credit facility agreement withSilicon Valley Bank, consisting of a $1.5 million capital lease line and a $2million revolving line of credit.  InApril 2002 the Company modified the loan agreement with Silicon Valley Bankrelated to the revolving line of credit. The line was increased to $3 million and was renewed for a one yearperiod.  The capital lease line has expiredand the Company expects to be able to renew the facility under similar terms.  As of June 30, 2002 the Company has drawn$1,077,234 on the capital lease line and has $750,000 outstanding on therevolving line of credit.  The agreementspecifies certain restrictive covenants, which the Company was in compliancewith as of June 30, 2002.

In February 2002, the Company received proceeds of$10,000,000 from a private placement of 1,666,667 shares of its common stock toaccredited investors.  The placement waspriced at $6.00 per share.

The Company believes that its existing cash, cash equivalents,short-term investments and bank financing will be sufficient to fund theoperations of the Company through fourth quarter of 2002.  The Company’s future liquidity and capitalrequirements will depend on numerous factors, including the timing ofregulatory actions regarding the Company’s products, the results of clinicaltrials and competition, the extent to which the Company’s EnSite System gainsmarket acceptance, the costs, timing and method of expansion of sales,marketing, research and development and manufacturing activities and theability of the Company to obtain additional bank financing.

**Critical AccountingPolicies**

The consolidatedfinancial statements are prepared in accordance with accounting principlesgenerally accepted in the U.S., which require the Company to make estimates andassumptions in certain circumstances that affect amounts reported in theaccompanying consolidated financial statements and related footnotes.  In preparing these financial statements,management has made its best estimates and judgments of certain amountsincluded in the financial statements, giving due consideration tomaterially.  The Company does notbelieve there is a great likelihood that materially different amounts would bereported related to the accounting policies described below.  However, application of these assumptions asto future uncertainties and, as a result, actual results could differ fromthese estimates.

*RevenueRecognition. *Revenue from the sale of the Company’sEnSite clinical workstation is recognized at the time of shipment in instanceswhere the Company has evidence of a contract, the fee charged is fixed anddeterminable, and collection is probable. Revenue from service and customer support contracts is deferred andrecognized ratably over the period the services are provided.  The Securities and Exchange Commission’sStaff Accounting Bulletin (SAB) No. 101, “Revenue Recognition” providesguidance on the application of generally accepted accounting principals toselected revenue recognition issues. The Company has concluded that its revenue recognition policy isappropriate and in accordance with SAB No. 101.

 

 

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*Allowance for Doubtful Accounts.* Accounts receivable are reduced by an allowance for amounts that maybecome uncollectible in the future.  Theestimated allowance is based on management’s review of accounts receivablebalances sales and historic write offs.

*Inventories and Related Allowance for Excess and ObsoleteInventory.*  Inventories are valued at the lower of costor market and have been reduced by an allowance for excess and obsoleteinventories.  The estimated allowance isbased on management’s review of inventories on hand compared to estimatedfuture usage and sales.

*New Accounting Standards.*  In October2001, the FASB issued SFAS No. 144, *Accounting for the Impairment of Long-Lived Assetsand for Long-Lived Assets to be Disposed Of*, which is effective forfiscal years beginning after June 15, 2002. This statement addresses financial accounting and reporting for theimpairment or disposal of long-lived assets and supersedes SFAS No. 121, *Accountingfor the Impairment of Long-Lived Assets and for Long-Lived Assets to beDisposed Of*, and the accounting and reporting provisions ofAccounting Principles Board (APB) Opinion No. 30, *Reporting the Results of Operations*for a disposal of a segment of a business. The adoption of this pronouncement is not expected to have a materialimpact on the Company’s consolidated results of operations, financial position,or cash flows.

**Cautionary Statement**

Except for the historical information containedherein, this Quarterly Report on Form 10–Q contains forward-lookingstatements within the meaning of Section 27A of the Securities Act of1933, as amended, and Section 21E of the Securities Exchange Act of 1934,as amended.  When used in thisForm 10–Q and in future filings by the Company with the Securitiesand Exchange Commission, in the Company’s press releases and in oral statementsmade with the approval of an authorized executive officer, the word or phrases“believes,” “anticipates,” “expects,” “intends,” “will likely result,”“estimates,” “projects” or similar expressions are intended to identify suchforward-looking statements, but are not the exclusive means of identifying suchstatements.  These forward-lookingstatements involve risks and uncertainties that may cause the Company’s actualresults to differ materially from the results discussed in the forward-lookingstatements.  Factors that might causesuch differences include, but are not limited to, the following:  risks associated with the successfuldevelopment and commercialization of a new technology; continued clinicaltesting experience; uncertainty of obtaining Food and Drug Administration andinternational regulatory clearances; uncertainty of availability of treatmentsemploying the Company’s EnSite system; uncertainty of market acceptance of theEnSite System; training requirements for electrophysiologists; the uncertaintyof the ability to diagnose and treat atrial fibrillation; the expectation offuture losses; significant competition and rapid technological change in thetachycardia diagnostic market; risks associated with the Company’s dependenceon patents and proprietary technology; risks associated with the Company’slimited manufacturing experience and dependence on suppliers; and theuncertainty of third-party reimbursement for diagnostic medical proceduresemploying the EnSite System.  Thesefactors are discussed in the cautionary statements included in Exhibit 99to our Form 10–K for the year ended December 31, 2001.  Other forward-looking statements are foundin the Company’s disclosures about market risk.  The Company cautions investors and others to review thestatements set forth in Management’s Discussion and Analysis of FinancialCondition and Results of Operations, Exhibit 99 and in the Company’s otherreports filed with the Securities and Exchange Commission and that otherfactors may prove to be important in affecting the Company’s business andresults of operations.

## **Item3.  Qualitative and QuantitativeDisclosures about Market Risk.**

The Company hadapproximately $6.1 million of cash and investments as of June 30, 2002.  Substantially all of the investments wereU.S.  government or investment grade,fixed income securities from domestic issuers. Because of the credit risk criteria of the Company’s investmentpolicies, the primary market risk associated with these investments is interestrate risk.  The Company does not usederivative financial instruments to manage interest rate risk or to speculateon futures changes in interest rates.  Arise in interest rates could negatively affect the fair value of the Company’sinvestments; however, because management considers it unlikely that the Companywould need or choose to substantially liquidate the Company’s investments,management believes that such an increase in interest rates would not have amaterial impact on the Company’s future earnings or cash flows.  Even though the Company distributes productsabroad, the Company does not conduct sales in foreign currencies.  Therefore, management does believe thatCompany is exposed to any material foreign currency exchange rate risk.

 

 

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# **PART II.  OTHER INFORMATION**

## **Item4.  Submission of Matters to a Vote ofSecurity Holders**

The Annual Meeting of the Company’s stockholders washeld on May 14, 2002.  At the meeting,stockholders voted on the reelection of three directors for terms expiring atthe Annual Meeting of the Company in 2005. Each of the directors was reelected by a vote as follows:  Robert G. Hauser, M.D. received 10,545,423 votes“For” and 1,975,345 votes were “Withheld”; Mark T. Wagner received 12,118,623votes “For” and 402,145 votes were “Withheld”; Warren S. Watson received10,553,993 votes “For” and 1,966,775 votes were “Withheld”.   The Company’s 1993 Long Term Incentive andStock Option Plan was amended to increase the number of shares authorized forissuance under the Plan by 750,000 with 7,550,757 votes in favor, 616,333 votesagainst, 159,870 abstentions and 4,193,808 broker non-votes.  The Company’s Directors’ Stock Option Planwas amended to increase the number of shares authorized for issuance under thePlan by 100,000 with 7,546,392 votes in favor, 614,998 votes against, 165,570abstentions and 4,193,808 broker non-votes.

## ** **

## **Item6.  Exhibits and Reports on Form 8–K**

(a)           Exhibits
| **Exhibit** |   | **Description**                                                                                                                                                                                                |
|-------------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.1        |   | Loan  Modification Agreement dated April 19, 2002, between the Company and Silicon  Valley Bank                                                                                                                |
|        |   |                                                                                                                                                                                                           |
| 10.2        |   | 1993 Long Term  Incentive and Stock Option Plan (as amended May 14, 2002)                                                                                                                                 |
|        |   |                                                                                                                                                                                                           |
| 10.3        |   | Directors’ Stock  Option Plan (as amended May 14, 2002)                                                                                                                                              |
|        |   |                                                                                                                                                                                                           |
| 99.1        |   | Certification of  the CEO and principal financial officer dated on August 14, 2002,  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002. |

 

(b)           Reportson Form 8-K

                Acurrent report on Form 8-K was filed by the Company on April 22, 2002;such report contained information disclosed pursuant to Regulation FD underItem 9 and included as an exhibit the press release issued by the Companyannouncing its first quarter 2002 earnings results.

 

**SIGNATURES**

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.
|                              |   | ENDOCARDIAL SOLUTIONS,  INC. |
|-----------------------------------|--------|------------------------------|
|                              |   |                         |
| Dated:  August 14, 2002 |   | By:                          | /s/ JAMES W. BULLOCK |
|                              |   |                         | James W. Bullock |
|                              |   |                         | *President  and Chief Executive Officer* |
|                              |   |                         | *(Principal  Executive, Financial and* |
|                              |   |                         | *Accounting  Officer)* |

 

 

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