##### Table of Contents



U.S. SECURITIES AND EXCHANGE COMMISSION
 WASHINGTON, D.C. 20549
 FORM 10-Q
 (Mark one)
 þ
    
    Quarterly report pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934
 For the quarterly period ended October 1, 2005
 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: 1-8145
 THORATEC CORPORATION
 (Exact name of registrant as specified in its charter)
 California
(State or other jurisdiction of incorporation or organization)
    
    94-2340464
(I.R.S. Employer Identification No.)
 6035 Stoneridge Drive, Pleasanton, California
(Address of principal executive offices)
    
    94588
(Zip Code)
 Registrants telephone number, including area code: (925) 847-8600
 Indicate by check mark whether the registrant: R £
 Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule
12b-2 of the Exchange Act):  R £
 Indicate by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act):  £ R




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##### Table of Contents



THORATEC CORPORATION AND SUBSIDIARIES
 TABLE OF CONTENTS
 Part I. Financial InformationItem 1. Condensed Consolidated Financial Statements (unaudited)
    
    
    3Condensed Consolidated Balance Sheets as of October 1, 2005 and January 1, 2005
    
    
    3Condensed Consolidated Statements of Operations for the Three and Nine Months Ended October 1, 2005 and
October 2, 2004
    
    
    4Condensed Consolidated Statements of Cash Flows for the Nine Months Ended October 1, 2005 and October 2, 2004
    
    
    5Condensed Consolidated Statements of Comprehensive Income for the Three and Nine Months Ended October 1,
2005 and October 2, 2004
    
    
    6Notes to Condensed Consolidated Financial Statements
    
    
    7Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    15Item 3. Quantitative and Qualitative Disclosure of Market Risk
    
    
    34Item 4. Controls and Procedures
    
    
    34Part II. Other Information
    
    
    35Item 1. Legal Proceedings
    
    
    35Item 6. Exhibits
    
    
    35Signatures
    
    
    37Exhibits
    
    
    38EXHIBIT 31.1EXHIBIT 31.2EXHIBIT 32.1EXHIBIT 32.2
 2




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##### Table of Contents



PART I. FINANCIAL INFORMATION
 
 ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
 THORATEC CORPORATION AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED BALANCE SHEETS
 (unaudited)
(in thousands)
 October 1,
    
    
    January 1,2005
    
    
    2005AssetsCurrent assets:Cash and cash equivalents
    
    $
    25,643
    
    
    $
    16,017Short-term available-for-sale investments
    
    
    158,788
    
    
    
    129,842Restricted short-term investments
    
    
    3,370
    
    
    
    3,362Receivables, net of allowances of $910 and $708, respectively
    
    
    31,511
    
    
    
    33,051Inventories
    
    
    42,410
    
    
    
    39,141Deferred tax asset
    
    
    6,470
    
    
    
    6,470Prepaid expenses and other assets
    
    
    4,905
    
    
    
    3,873Total current assets
    
    
    273,097
    
    
    
    231,756Property, plant and equipment, net
    
    
    26,919
    
    
    
    27,584Goodwill
    
    
    94,097
    
    
    
    94,097Purchased intangible assets, net
    
    
    144,737
    
    
    
    153,141Restricted long-term investments
    
    
    3,232
    
    
    
    4,845Long-term deferred tax asset
    
    
    6,450
    
    
    
    6,381Other assets
    
    
    6,318
    
    
    
    6,611Total Assets
    
    $
    554,850
    
    
    $
    524,415Liabilities and Shareholders EquityCurrent liabilities:Accounts payable
    
    
    7,312
    
    
    
    7,699Accrued compensation
    
    
    12,560
    
    
    
    9,507Accrued income tax
    
    
    3,805
    
    
    
    2,299Other accrued expenses
    
    
    6,478
    
    
    
    6,001Total current liabilities
    
    
    30,155
    
    
    
    25,506Senior subordinated convertible notes
    
    
    143,750
    
    
    
    143,750Long-term deferred tax liability and other liabilities
    
    
    60,310
    
    
    
    63,051Total liabilities
    
    
    234,215
    
    
    
    232,307Shareholders Equity:Common shares; 100,000 authorized; issued and outstanding 50,064 and 48,735, respectively
    
    
    385,194
    
    
    
    364,775Deferred compensation
    
    
    (920
    )
    
    
    (1,586
    )Accumulated deficit
    
    
    (63,341
    )
    
    
    (71,514
    )Accumulated other comprehensive income (loss):Unrealized loss on investments
    
    
    (249
    )
    
    
    (325
    )Cumulative translation adjustments
    
    
    (49
    )
    
    
    758Total accumulated other comprehensive income (loss)
    
    
    (298
    )
    
    
    433Total shareholders equity
    
    
    320,635
    
    
    
    292,108Total Liabilities and Shareholders Equity
    
    $
    554,850
    
    
    $
    524,415
  3




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THORATEC CORPORATION AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
 (unaudited)
(in thousands, except per share data)
 Three Months Ended
    
    
    Nine Months EndedOctober 1,
    
    
    October 2,
    
    
    October 1,
    
    
    October 2,2005
    
    
    2004
    
    
    2005
    
    
    2004Product sales
    
    $
    48,841
    
    
    $
    40,661
    
    
    $
    146,917
    
    
    $
    124,055Cost of product sales
    
    
    18,610
    
    
    
    17,646
    
    
    
    57,045
    
    
    
    51,680Gross profit
    
    
    30,231
    
    
    
    23,015
    
    
    
    89,872
    
    
    
    72,375Operating expenses:Selling, general and administrative
    
    
    14,987
    
    
    
    13,168
    
    
    
    44,610
    
    
    
    39,954Research and development
    
    
    8,093
    
    
    
    6,970
    
    
    
    23,737
    
    
    
    21,689Amortization of purchased intangible assets
    
    
    2,800
    
    
    
    2,931
    
    
    
    8,404
    
    
    
    8,793Litigation
    
    
    
    
    
    
    310
    
    
    
    177
    
    
    
    443Total operating expenses
    
    
    25,880
    
    
    
    23,379
    
    
    
    76,928
    
    
    
    70,879Income (loss) from operations
    
    
    4,351
    
    
    
    (364
    )
    
    
    12,944
    
    
    
    1,496Other income and (expense):Interest expense
    
    
    (1,037
    )
    
    
    (1,015
    )
    
    
    (3,082
    )
    
    
    (1,433
    )Interest income and other
    
    
    1,113
    
    
    
    693
    
    
    
    2,983
    
    
    
    1,633Income (loss) before income tax benefit (expense)
    
    
    4,427
    
    
    
    (686
    )
    
    
    12,845
    
    
    
    1,696Income tax benefit (expense)
    
    
    (1,325
    )
    
    
    288
    
    
    
    (4,187
    )
    
    
    (594
    )Net income (loss)
    
    $
    3,102
    
    
    $
    (398
    )
    
    $
    8,658
    
    
    $
    1,102Net income (loss) per share:Basic
    
    $
    0.06
    
    
    $
    (0.01
    )
    
    $
    0.18
    
    
    $
    0.02Diluted
    
    $
    0.06
    
    
    $
    (0.01
    )
    
    $
    0.17
    
    
    $
    0.02Shares used to compute net income per share:Basic
    
    
    49,562
    
    
    
    50,114
    
    
    
    48,835
    
    
    
    53,304Diluted
    
    
    51,419
    
    
    
    50,114
    
    
    
    50,168
    
    
    
    54,422
  4




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THORATEC CORPORATION AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
 (unaudited)
(in thousands)
 Nine Months EndedOctober 1,
    
    
    October 2,2005
    
    
    2004Cash flows from operating activities:Net income
    
    $
    8,658
    
    
    $
    1,102Adjustments to reconcile net income to net cash provided by operating activities:Depreciation and amortization
    
    
    14,246
    
    
    
    14,014Investment discount (premium) amortization
    
    
    411
    
    
    
    (466
    )Non-cash interest and other expenses
    
    
    1,286
    
    
    
    1,435Tax benefit related to stock options
    
    
    4,106
    
    
    
    404Amortization of deferred compensation
    
    
    779
    
    
    
    682Loss on disposal of assets
    
    
    252
    
    
    
    57Change in net deferred tax liability
    
    
    (3,164
    )
    
    
    (2,759
    )Changes in assets and liabilities:Receivables
    
    
    1,540
    
    
    
    (1,965
    )Inventories
    
    
    (4,383
    )
    
    
    (5,361
    )Prepaid expenses and other assets
    
    
    (1,148
    )
    
    
    (745
    )Accounts payable and other liabilities
    
    
    4,159
    
    
    
    (220
    )Other
    
    
    150
    
    
    
    (230
    )Net cash provided by operating activities
    
    
    26,892
    
    
    
    5,948Cash flows from investing activities:Purchases of available-for-sale investments
    
    
    (100,540
    )
    
    
    (174,810
    )Sales of available-for-sale investments
    
    
    45,233
    
    
    
    92,500Maturities of available-for-sale investments
    
    
    27,560
    
    
    
    21,620Purchases of property, plant and equipment, net
    
    
    (4,428
    )
    
    
    (4,576
    )Net cash used in investing activities
    
    
    (32,175
    )
    
    
    (65,266
    )Cash flows from financing activities:Net proceeds from issuance of convertible debentures
    
    
    
    
    
    
    139,453Proceeds from stock option exercises, net
    
    
    17,404
    
    
    
    2,201Proceeds from stock issued under employee stock purchase plan
    
    
    550
    
    
    
    775Repurchase of common stock
    
    
    (2,238
    )
    
    
    (90,008
    )Net cash provided by financing activities
    
    
    15,716
    
    
    
    52,421Effect of exchange rate changes on cash and cash equivalents
    
    
    (807
    )
    
    
    48Net increase in cash and cash equivalents
    
    
    9,626
    
    
    
    (6,849
    )Cash and cash equivalents at beginning of period
    
    
    16,017
    
    
    
    18,270Cash and cash equivalents at end of period
    
    $
    25,643
    
    
    $
    11,421Supplemental disclosure of cash flow information:Cash paid for taxes
    
    $
    1,903
    
    
    $
    511Cash paid for interest
    
    $
    1,728
    
    
    $
    Supplemental disclosure of non-cash investing and financing activities:Transfers of equipment from inventory
    
    $
    1,114
    
    
    $
    392
  5




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THORATEC CORPORATION AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
 (unaudited)
(in thousands)
 Three Months Ended
    
    
    Nine Months EndedOctober 1,
    
    
    October 2,
    
    
    October 1,
    
    
    October 2,2005
    
    
    2004
    
    
    2005
    
    
    2004Net income (loss)
    
    $
    3,102
    
    
    $
    (398
    )
    
    $
    8,658
    
    
    $
    1,102Other net comprehensive income (loss):Unrealized gain (loss) on
investments (net of taxes of
$(20) and $9 for the three
months ended and ($69) and
($113) for the nine months
ended October 1, 2005 and
October 2, 2004, respectively)
    
    
    36
    
    
    
    3
    
    
    
    76
    
    
    
    (188
    )Foreign currency translation
adjustments (net of taxes of
$75 and $0 for the three months
ended and $230 and $0 for the
nine months ended October 1,
2005 and October 2, 2004,
respectively)
    
    
    (195
    )
    
    
    (13
    )
    
    
    (807
    )
    
    
    48Comprehensive income (loss)
    
    $
    2,943
    
    
    $
    (408
    )
    
    $
    7,927
    
    
    $
    962
  6




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THORATEC CORPORATION AND SUBSIDIARIES
 
 NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (Unaudited)
(in thousands, unless otherwise stated)
 1. Basis of Presentation
    2. Stock Based Compensation
  7




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Three Months Ended
    
    
    Nine Months EndedOctober 1,
    
    
    October 2,
    
    
    October 1,
    
    
    October 2,2005
    
    
    2004
    
    
    2005
    
    
    2004(in thousands, except per share data)(Restated)
    
    
    
    
    
    
    (Restated)Net income:As reported
    
    $
    3,102
    
    
    $
    (398
    )
    
    $
    8,658
    
    
    $
    1,102Add: Stock-based compensation expense
included in reported net income, net
of related tax effects
    
    
    277
    
    
    
    132
    
    
    
    595
    
    
    
    419Deduct: Total stock-based
compensation expense determined under
fair value based method for all
awards, net of related tax effects
    
    
    (1,495
    )
    
    
    (2,876
    )
    
    
    (4,994
    )
    
    
    (8,753
    )Pro forma net income (loss)
    
    $
    1,884
    
    
    $
    (3,142
    )
    
    $
    4,259
    
    
    $
    (7,232
    )Basic and Diluted earnings (loss) per share:As reportedBasic
    
    $
    0.06
    
    
    $
    (0.01
    )
    
    $
    0.18
    
    
    $
    0.02Diluted
    
    $
    0.06
    
    
    $
    (0.01
    )
    
    $
    0.17
    
    
    $
    0.02Pro forma income (loss)Basic
    
    $
    0.04
    
    
    $
    (0.06
    )
    
    $
    0.09
    
    
    $
    (0.14
    )Diluted
    
    $
    0.04
    
    
    $
    (0.06
    )
    
    $
    0.08
    
    
    $
    (0.14
    )
  3. New Accounting Pronouncements
  4. Cash and cash equivalents
  5. Investments
   8




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##### Table of Contents



6. Financial Instruments
  7. Inventories
  As ofOctober 1,
    
    
    January 1,2005
    
    
    2005(in thousands)Finished goods
    
    $
    19,958
    
    
    $
    18,562Work in process
    
    
    8,002
    
    
    
    4,582Raw materials
    
    
    14,450
    
    
    
    15,997Total
    
    $
    42,410
    
    
    $
    39,141
 8. Property, Plant and Equipment
  As ofOctober 1,
    
    
    January 1,2005
    
    
    2005(in thousands)Property, plant and equipment, at cost
    
    $
    64,823
    
    
    $
    61,670Less accumulated depreciation
    
    
    (37,904
    )
    
    
    (34,086
    )Total
    
    $
    26,919
    
    
    $
    27,584
   9. Goodwill and Purchased Intangible Assets
  9




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As ofOctober 1,
    
    
    January 1,2005
    
    
    2005(in thousands)Beginning balance
    
    $
    94,097
    
    
    $
    96,065Realization of acquired deferred tax asset
    
    
    
    
    
    
    (1,153
    )Reversal of accrual for securities registration costs
    
    
    
    
    
    
    (815
    )Ending balance
    
    $
    94,097
    
    
    $
    94,097
    As of October 1, 2005Gross Carrying
    
    
    AccumulatedAmount
    
    
    Amortization
    
    
    Net Carrying Amount(in thousands)Patents and Trademarks
    
    $
    37,815
    
    
    $
    (16,782
    )
    
    $
    21,033Core Technology
    
    
    37,485
    
    
    
    (8,382
    )
    
    
    29,103Developed Technology
    
    
    122,782
    
    
    
    (28,243
    )
    
    
    94,539Non-compete Agreement
    
    
    90
    
    
    
    (28
    )
    
    
    62Total Purchased Intangible Assets, net
    
    $
    198,172
    
    
    $
    (53,435
    )
    
    $
    144,737
 As of January 1, 2005Gross Carrying
    
    
    AccumulatedAmount
    
    
    Amortization
    
    
    Net Carrying Amount(in thousands)Patents and Trademarks
    
    $
    37,815
    
    
    $
    (14,051
    )
    
    $
    23,764Core Technology
    
    
    37,485
    
    
    
    (7,242
    )
    
    
    30,243Developed Technology
    
    
    122,782
    
    
    
    (23,721
    )
    
    
    99,061Non-compete Agreement
    
    
    90
    
    
    
    (17
    )
    
    
    73Total Purchased Intangible Assets, net
    
    $
    198,172
    
    
    $
    (45,031
    )
    
    $
    153,141
  10. Long-Term Debt
  10




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Long Term Debt Offering Proceeds (in millions):
 Principal amount of convertible notes at maturity
    
    $
    247.4Original issue discount
    
    
    (103.7
    )Debt issuance costs
    
    
    (4.3
    )Net proceeds
    
    $
    139.4
     11. Common Stock
  11




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##### Table of Contents



12. CEO Transition Cost
    13. Litigation
  Johnson v. Thoratec
Corporation, et al.
 Wong v. Grossman Wong
v. Grossman
  12




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14. Income Taxes
   15. Net Income (Loss) Per Share
  Three Months Ended
    
    
    Nine Months EndedOctober 1,
    
    
    October 2,
    
    
    October 1,
    
    
    October 2,2005
    
    
    2004
    
    
    2005
    
    
    2004(in thousands, except per share data)Net income (loss)
    
    $
    3,102
    
    
    $
    (398
    )
    
    $
    8,658
    
    
    $
    1,102Weighted average number of common shares-basic
    
    
    49,562
    
    
    
    50,114
    
    
    
    48,835
    
    
    
    53,304Dilutive effect of stock options and Employee Stock Purchase Plan shares
    
    
    1,857
    
    
    
    
    
    
    
    1,333
    
    
    
    1,118Weighted average number of common shares-diluted
    
    
    51,419
    
    
    
    50,114
    
    
    
    50,168
    
    
    
    54,422Net income (loss) per common shareBasic
    
    $
    0.06
    
    
    $
    (0.01
    )
    
    $
    0.18
    
    
    $
    0.02Diluted
    
    $
    0.06
    
    
    $
    (0.01
    )
    
    $
    0.17
    
    
    $
    0.02
  16. Business Segment and Geographical Data
  13




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Three Months Ended
    
    
    Nine Months EndedOctober 1,
    
    
    October 2
    
    
    October 1,
    
    
    October 2,2005
    
    
    2004
    
    
    2005
    
    
    2004(in thousands)Product sales:Cardiovascular
    
    $
    30,630
    
    
    $
    22,919
    
    
    $
    91,472
    
    
    $
    72,544ITC
    
    
    18,211
    
    
    
    17,742
    
    
    
    55,445
    
    
    
    51,511Total product sales
    
    $
    48,841
    
    
    $
    40,661
    
    
    $
    146,917
    
    
    $
    124,055Income before income taxes:Cardiovascular (a)
    
    $
    6,181
    
    
    $
    1,154
    
    
    $
    16,572
    
    
    $
    5,467ITC(a)
    
    
    2,610
    
    
    
    2,019
    
    
    
    9,228
    
    
    
    6,660Corporate (b)
    
    
    (4,440
    )
    
    
    (3,227
    )
    
    
    (12,679
    )
    
    
    (10,188
    )Litigation (c)
    
    
    
    
    
    
    (310
    )
    
    
    (177
    )
    
    
    (443
    )Income (loss) from operations
    
    
    4,351
    
    
    
    (364
    )
    
    
    12,944
    
    
    
    1,496Other income and (expense):Interest expense
    
    
    (1,037
    )
    
    
    (1,015
    )
    
    
    (3,082
    )
    
    
    (1,433
    )Interest income and other
    
    
    1,113
    
    
    
    693
    
    
    
    2,983
    
    
    
    1,633Income (loss) before income tax benefit (expense)
    
    $
    4,427
    
    
    $
    (686
    )
    
    $
    12,845
    
    
    $
    1,696
 
 (a)
    
    Includes amortization expense of $2.7 million and $8.3 million for the three and nine months
ended October 1, 2005 and $2.9 million and $8.7 million for the three and nine months ended
October 2, 2004, respectively, related to the Cardiovascular segment. The ITC segment also
includes amortization expense of $40,000 and $39,000 for the three months ended and $119,000
and $118,000 for the nine months ended October 1, 2005 and October 2, 2004, respectively.(b)
    
    Represents primarily general and administrative items not specifically identified to a
particular business segment.(c)
    
    Relates to expenses not specifically identified to a particular business segment.   Three Months Ended
    
    
    Nine Months EndedOctober 1,
    
    
    October 2,
    
    
    October 1,
    
    
    October 2,2005
    
    
    2004
    
    
    2005
    
    
    2004(in thousands)Domestic
    
    $
    38,432
    
    
    $
    30,774
    
    
    $
    113,583
    
    
    $
    95,946International
    
    
    10,409
    
    
    
    9,887
    
    
    
    33,334
    
    
    
    28,109Total
product sales
    
    $
    48,841
    
    
    $
    40,661
    
    
    $
    146,917
    
    
    $
    124,055
 14




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ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 Forward-Looking Statements
 This Quarterly Report on Form 10-Q includes forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
These statements can be identified by the words expects, projects, hopes, believes,
intends, should, estimate, will, would, may, anticipates, plans, could, and words
of similar import and the negatives thereof. Actual results, events or performance could differ
materially from these forward-looking statements based on a variety of factors, many of which are
beyond our control. Therefore, readers are cautioned not to put undue reliance on these statements.
Investors are cautioned that all such statements involve risks and uncertainties, including risks
related to the development of new markets such as Destination Therapy, the growth of existing
markets for our products, customer and physician acceptance of our products, changes in the mix of
our product sales and the related gross margin for such product sales, changes in our effective tax
rates, the results of clinical trials including the HeartMate II, the ability to improve financial
performance, regulatory approval processes, the effect of healthcare reimbursement and coverage
policies, the effects of seasonality in our product sales, the effects of price competition from
any of our competitors and the effects of any merger and acquisition related activities. Factors
that could cause actual results or conditions to differ from those anticipated by these and other
forward-looking statements include those more fully described in the Factors That May Affect
Future Results section below and in other documents we file with the Securities and Exchange
Commission, or SEC. These forward-looking statements speak only as of the date hereof. We undertake
no obligation to publicly release the results of any revisions to these forward-looking statements
that may be made to reflect events or circumstances after the date hereof, or to reflect the
occurrence of unanticipated events.
 The following presentation of managements discussion and analysis of our financial condition
and results of operations should be read together with our condensed consolidated financial
statements included in this Form 10-Q , and our consolidated financial statements included in our
Annual Report on Form 10-K for 2004 filed with the SEC.
 Overview
  Our Business Model
   
    
    Circulatory Support Products.Our circulatory support products include VADs for the
short-term and long-term treatment of congestive heart failure.
    
    Vascular Graft Products.We have developed small diameter grafts using our proprietary
materials to address the vascular access market. Our grafts are for use in hemodialysis.
  
    
    Point-of-Care Diagnostics. Our point-of-care products include coagulation diagnostic test
systems that monitor a patient while being administered certain anticoagulants, blood
gas/electrolyte and chemistry status, or anemia.
    
    Incision. Our incision products include devices used to obtain a patients blood sample
for diagnostic testing and screening for platelet function.
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##### Table of Contents



Cardiovascular segment
  
    
    The Thoratec Ventricular Assist Device System, or PVAD, is an external device for short
to mid-term cardiac support, which is sold worldwide. The device is approved to assist the
left and the right ventricle and is worn outside of the body. The Thoratec VAD is approved
for use in bridge-to-transplant, or BTT.
    
    The Thoratec Implantable Ventricular Assist Device, or IVAD, is the only bi-ventricular
implantable blood pump approved for BTT and post-cardiotomy recovery. It can be used for
left, right, or biventricular support. The IVAD utilizes the same internal working
components as the Thoratec VAD System blood pump, but has an outer housing made of a
titanium alloy that makes it suitable for implantation.
    
    The HeartMate Left Ventricular Assist System, also called the HeartMate XVE, is an
implantable device for mid to long-term cardiac support and the only device approved in the
United States, Europe and Canada for permanent support of those patients ineligible for
heart transplantation. The HeartMate XVE is approved for use in both BTT and Destination
Therapy, which is for permanent support for patients suffering from end-stage heart failure
who are not eligible for heart transplantation.
    
    The HeartMate II, which is currently in clinical trials for BTT and Destination Therapy,
is an implantable device consisting of a miniature rotary blood pump that is designed to
provide long-term cardiac support. Its design is intended to be not only smaller, but also
simpler, quieter, and longer lasting than current generation assist devices.
    
    The Vectravascular access graft is designed for use as a shunt between an artery and a
vein, primarily to provide access to the bloodstream for renal hemodialysis patients
requiring frequent needle punctures during treatment.
    ITC Segment
  
    
    The Hemochron Point of Care, or POC, coagulation system, which is used to monitor a
patients coagulation while being administered anticoagulants in various settings, including
in the cardiovascular operating room to monitor the drug Heparin and in an anticoagulation
clinic to monitor the drug Coumadin. Hemochron is considered a moderately complex device and
must be used by professionally trained personnel. The system consists of a small, portable
analytical instrument and disposable test cuvettes.
    
    The Immediate Response Mobile Analysis, or IRMA, POC blood gas/electrolyte and chemistry
system, which is used to monitor a patients blood gas/electrolyte and chemistry status. It
is considered moderately complex and its use requires supervision by professionally trained
personnel. The system consists of a small, portable analytical instrument and disposable
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##### Table of Contents



test cartridges.
    
    The ProTime coagulation monitoring system, which is used to monitor patients coagulation
while they are taking oral anticoagulants such as Coumadin, and can be prescribed for use by
patients at home or can be used in the physicians office or clinic. The system consists of
a small, portable, analytical instrument and disposable test cuvettes.
    
    The Hemoglobin Pro System, or Hgb Pro, which is used by professionals, mainly in the
doctors office to test for anemia; it provides quick results from a very small blood
sample. The system consists of a small, hand held test meter and disposable test strips.
    
    Tenderfoot, Tenderlett and Surgicutt incision products, which are used by professionals
to obtain a patients blood sample for diagnostic testing. The tenderfoot is a heel stick
used for infant testing, Tenderlett is used for finger incisions and the Surgicutt is used
to perform screening tests to determine platelet function. All products feature permanently
retracting blades for safe, virtually pain-free incision.
   Critical Accounting Policies and Estimates
  Evaluation of Purchased Intangibles and Goodwill for Impairment
   Revenue Recognition
  17




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Reserves
   Accounting Pronouncements
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##### Table of Contents



Results of Operations
  Three Months Ended
    
    

Nine
Months EndedOctober 1,
    
    
    October 2,
    
    
    October 1,
    
    
    October 2,2005
    
    
    2004
    
    
    2005
    
    
    2004Product sales
    
    
    100
    %
    
    
    100
    %
    
    
    100
    %
    
    
    100
    %Cost of product sales
    
    
    38
    
    
    
    43
    
    
    
    39
    
    
    
    42Gross profit
    
    
    62
    
    
    
    57
    
    
    
    61
    
    
    
    58Operating expenses:Selling, general and administrative
    
    
    31
    
    
    
    33
    
    
    
    30
    
    
    
    32Research and development
    
    
    16
    
    
    
    17
    
    
    
    16
    
    
    
    18Amortization of purchased intangible assets
    
    
    6
    
    
    
    7
    
    
    
    6
    
    
    
    7Litigation
    
    
    
    
    
    
    1
    
    
    
    
    
    
    
    Total operating expenses
    
    
    53
    
    
    
    58
    
    
    
    52
    
    
    
    57Income (loss) from operations
    
    
    9
    
    
    
    (1
    )
    
    
    9
    
    
    
    1Other income and (expense):Interest expense
    
    
    (2
    )
    
    
    (3
    )
    
    
    (2
    )
    
    
    (1
    )Interest income and other
    
    
    2
    
    
    
    2
    
    
    
    2
    
    
    
    1Income (loss) before income tax benefit (expense)
    
    
    9
    
    
    
    (2
    )
    
    
    9
    
    
    
    1Income tax benefit (expense)
    
    
    (3
    )
    
    
    1
    
    
    
    (3
    )
    
    
    (0
    )Net income (loss)
    
    
    6
    %
    
    
    (1
    )%
    
    
    6
    %
    
    
    1
    %
  Three months ended October 1, 2005 and October 2, 2004
 Product Sales
  
    
    VAD product sales increased $5.5 million. The increase came from higher sales of our
HeartMate II, PVAD, and IVAD products, partially offset by a reduction in sales of our XVE
product line.
    
    Other ancillary revenue (drivers, cannulae, service, rentals and spares) increased $1.4
million, including increases in driver rental revenue and cannulae sales associated with the
IVAD product line.
    
    Graft product sales increased by $0.8 million due to a higher average selling price.
    
    Point-of-care diagnostic product sales increased $0.8 million, due primarily to increases
in our sales of Protime, IRMA, and Hemochron products coupled with modest decreases in sales of our
Hgb Pro products quarter over quarter.
    
    Incision product sales were down $0.3 million quarter
over quarter primarily due to lower
volume.
  Gross Profit
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
    
    The Cardiovascular segment increased gross profit by 5% due to increased sales of higher
margin VAD products, coupled with a decrease in manufacturing costs; and
    
    The ITC segment increased gross profit by 3%, due to reduced manufacturing costs.
 Selling, General and Administrative
  
    
    Increased personnel costs associated with higher product sales and overall headcount
increases in the Cardiovascular segment of $0.7 million, offset in part by reduced personnel
costs for the ITC segment of $0.1 million.
    
    Higher spending on marketing and related activities primarily associated with Destination
Therapy and costs associated with training efforts in the Cardiovascular segment totaling
$0.4 million, offset in part by reduced spending by the ITC segment of $0.2 million.
    
    Increased personnel cost associated with CEO transition, CFO recruitment, and other bonus
and retention programs of $1.0 million.
 Research and Development
  Amortization of Purchased Intangible Assets
  Interest Expense
  Interest Income and Other
  Income Taxes
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Nine months ended October 1, 2005 and October 2, 2004
 Product Sales
  
    
    VAD product sales increased $14.0 million. The majority of this increase came from higher
sales of our HeartMate II and IVAD products, partially offset by a reduction in sales of our
PVAD and XVE products.
    
    Other ancillary revenue (drivers, cannulae, service, rentals and spares) increased $3.3
million, including increases in Destination Therapy ancillary products and driver rental
revenue.
    
    Graft product sales increased by $1.6 million due to a higher average selling price.
    
    Point-of-care diagnostic product sales increased
$4.7 million, primarily due to increases
in sales of our Hemochron, ProTime, and IRMA products, partially offset by decreased sales of
our Hgb Pro products year over year.
    
    Incision product sales decreased by $0.8 million due in
part to lower volume, partially
offset by higher average selling prices in the first and second quarters of 2005.
  Gross Profit
  
    
    The Cardiovascular segment increased gross profit by 2% due to increased sales and sales
of higher margin VAD products offset in part by an increase in manufacturing costs; and
 
    
    The ITC segment increased gross profit by 2% due to reduced manufacturing costs and
increased margins in the point-of-care market related to the shift in mix from distributor
to direct channels sales.
 Selling, General and Administrative
  
    
    Increased personnel costs associated with higher product sales and overall headcount
increases in the Cardiovascular segment of $1.5 million, increased personnel costs
associated with the CEO transition, CFO placement and other corporate bonus and retention
programs of $1.6 million, offset in part by reduced personnel and recruiting costs for the
ITC segment of $0.3 million.
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##### Table of Contents




    
    Higher spending on marketing and related activities primarily associated with our
Destination Therapy and training programs in the Cardiovascular segment and costs associated
with IRMA and international marketing efforts in the ITC segment totaling $0.2 million.
    
    Higher professional fees, including legal, audit and financial consulting services,
project related business development activities and ERP system implementation expenses, of
an additional $1.1 million.
    
    Higher depreciation costs associated with changes in estimated lives for certain
computer and sales and marketing equipment of $0.8 million offset by reduced spending in supplies and equipment of $0.3 million.
 Research and Development
  Amortization of Purchased Intangible Assets
  Interest Expense
  Interest Income and Other
  Income Taxes
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Liquidity and Capital Resources
        Contractual Obligations
  Total
    
    
    2005
    
    
    2006
    
    
    2007
    
    
    2008
    
    
    2009
    
    
    ThereafterLong-Term Debt Obligations (includes interest)(a)
    
    $
    267.5
    
    
    
    1.7
    
    
    
    3.4
    
    
    
    3.4
    
    
    
    3.4
    
    
    
    3.4
    
    
    
    252.2Operating Lease Obligations
    
    
    19.9
    
    
    
    1.1
    
    
    
    2.9
    
    
    
    2.8
    
    
    
    2.5
    
    
    
    2.2
    
    
    
    8.4Purchase Obligations
    
    
    18.5
    
    
    
    0.5
    
    
    
    2.6
    
    
    
    2.2
    
    
    
    2.2
    
    
    
    1.8
    
    
    
    9.2Real Estate Purchase Obligation
    
    
    13.3
    
    
    
    0.9
    
    
    
    12.4
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Total
    
    $
    319.2
    
    
    
    4.2
    
    
    
    21.3
    
    
    
    8.4
    
    
    
    8.1
    
    
    
    7.4
    
    
    
    269.8
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FACTORS THAT MAY AFFECT FUTURE RESULTS
 Our business faces many risks. These risks include those related to the development of new
products and markets including Destination Therapy, the growth of existing markets for our
products, customer and physician acceptance of our products, changes in the mix of our product
sales, and the related gross margins for such product sales, changes in our effective tax rates,
the results of clinical trials, including those for the HeartMate II, the ability to improve
financial performance, regulatory approval processes, the effect of healthcare reimbursement and
coverage policies, our product sales, the effects of price competition from any of our competitors
and the effects of any merger and acquisition related activities. The risks described below are
what we believe to be the material risks facing our company. However, the risks described below may
not be the only risks we face. Additional risks that we do not yet know of or that we currently
believe are immaterial may also impair our business operations. If any of the events or
circumstances described in the following risk factors actually occurs, our business, financial
condition or results of operations could suffer, and the trading price of our common stock could
decline significantly. Investors should consider the following risks, as well as the other
information included in this Quarterly Report and our Annual Report on Form 10-K , and other
documents we file from time to time with the SEC, such as our current reports on Form 8-K and any
public announcements we make from time to time.
 We have a history of net losses.
  Since our physician and hospital customers depend on third party reimbursement, if third party
payors fail to provide appropriate levels of reimbursement for our products, our results of
operations will be harmed.
   If we fail to obtain approval from the FDA and from foreign regulatory authorities, we cannot
market and sell our products under development in the United States and in other countries, and if
we fail to adhere to ongoing FDA Quality System Regulations, the FDA may withdraw our market
clearance or take other action.
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Certain lawsuits have been filed against us.
  Wong v. Grossman
    Our debt obligations expose us to risks that could adversely affect our business, operating results
and financial condition.
  
    
    make it difficult for us to make payments on our debt;
    
    make it difficult for us to obtain any necessary financing in the future for working
capital, capital expenditures, debt service, acquisitions or general corporate purposes;
    
    limit our flexibility in planning for or reacting to changes in our business;
    
    reduce funds available for use in our operations;
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##### Table of Contents




    
    impair our ability to incur additional debt because of financial and other restrictive
covenants proposed for any such additional debt;
    
    make us more vulnerable in the event of a downturn in our business or an increase in
interest rates; or
    
    place us at a possible competitive disadvantage relative to less leveraged competitors
and competitors that have better access to capital resources.
  If hospitals do not conduct Destination Therapy procedures using our VADs, our product sales will
be diminished.
   
    
    the number of CMS sites approved for Destination Therapy;
    
    the clinical outcomes of Destination Therapy procedures;
    
    cardiologists and referring physicians education, and their commitment to Destination Therapy;
    
    the economics of the Destination Therapy procedure for individual hospitals, which
include the costs of the VAD and related pre- and post-operative procedures and their
reimbursement;
    
    the impact of changes in reimbursement rates on the timing of purchases of VADs for
Destination Therapy; and
    
    the economics for individual hospitals of not conducting a Destination Therapy procedure,
including the costs and related reimbursements of long-term hospitalization.
  The long and variable sales and deployment cycles for our VAD systems may cause our product sales
and operating results to vary significantly, which increases the risk of an operating loss for any
given fiscal period.
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Physicians may not accept or continue to accept our current products and products under
development.
  Our future product sales will be affected by the number of heart transplants conducted.
  We have experienced rapid growth and changes in our business, and our failure to manage this and
any future growth could harm our business.
  If we fail to successfully introduce new products, our future growth may suffer.
  Amortization of our intangible assets, which represent a significant portion of our total assets,
will adversely affect our net income and we may never realize the full value of our intangible
assets.
  We may encounter problems manufacturing our products.
  We rely on specialized suppliers for certain components and materials in our products and
alternative suppliers may not be available.
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##### Table of Contents




    
    pay premium prices to our suppliers to keep their production lines open or to obtain
alternative suppliers;
    
    buy substantial inventory to last through the scheduled end of life of our product, or
through such time that we will have a replacement product developed and approved by the FDA;
or
    
    stop shipping the product in which the legacy component is used once our inventory of the
discontinued component is exhausted.
  If we fail to compete successfully against our existing or potential competitors, our product sales
or operating results may be harmed.
 Vectra
  
    
    develop products;
    
    complete clinical testing;
    
    receive regulatory approvals; and
    
    manufacture and sell commercial quantities of products.
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##### Table of Contents




    
    New drug therapies under development may not require the intense monitoring of a
patients coagulation that the current anti-coagulation drug of choice (Heparin) requires.
    
    New competitors might enter the market with broader test menus.
  The price of our common stock may fluctuate significantly.
  
    
    future announcements concerning us or our competitors;
    
    timing and reaction to the publication of clinical trial results;
    
    quarterly variations in operating results, which we have experienced in the past and expect to experience in the future;
    
    charges, amortization and other financial effects relating to our merger with TCA;
    
    introduction of new products or changes in product pricing policies by us or our competitors;
    
    acquisition or loss of significant customers, distributors or suppliers;
    
    business acquisitions or divestitures;
    
    changes in earnings estimates by analysts;
    
    changes in third party reimbursement practices;
    
    regulatory developments, enforcement actions bearing on advertising, marketing or sales,
and disclosure regarding completed ongoing or future clinical trials; and
    
    fluctuations in the economy, world political events or general market conditions.
   Since we depend upon distributors, if we lose a distributor or a distributor fails to perform, our
operations may be harmed.
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Changes we make to our method of distributing and selling our products could hurt our relationship
with distributors and their customers.
   
    
    the promotion by our former distributors of products from competitors rather than our products;
    
    the potential loss of customers who prefer to deal with a particular distributor; and
    
    the challenges and costs associated with building an effective direct sales force.
  Our inability to protect our proprietary technologies or an infringement of others patents could
harm our competitive position.
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Product liability claims could damage our reputation and hurt our financial results.
  Identified quality problems can result in substantial costs and write-downs.
    If we make acquisitions or divestitures, we could encounter difficulties that harm our business.
  Our non-U.S. sales present special risks.
  
    
    we generally sell many of our products at a lower price outside the United States;
    
    sales agreements may be difficult to enforce;
    
    receivables may be difficult to collect through a foreign countrys legal system;
    
    foreign customers may have longer payment cycles;
    
    foreign countries may impose additional withholding taxes or otherwise tax our foreign
income, impose tariffs or adopt other restrictions on foreign trade;
    
    U.S. export licenses may be difficult to obtain;
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
    
    intellectual property rights may be (and often are) more difficult to enforce in foreign countries;
    
    terrorist activity or war may interrupt distribution channels or adversely impact our customers or employees; and
    
    fluctuations in exchange rates may affect product demand and adversely affect the
profitability, in U.S. dollars, of products sold in foreign markets where payments are made
in local currencies.
  Any claims relating to improper handling, storage or disposal of hazardous chemicals and
biomaterials could be time consuming and costly.
   The occurrence of a catastrophic disaster or other similar events could cause damage to our
facilities and equipment, which would require us to cease or curtail operations.
  If we are unable to favorably assess the effectiveness of our internal control over financial
reporting, or if our independent auditors are unable to provide an unqualified attestation report
on our assessment, our stock price could be adversely affected.
  Fluctuations in foreign currency exchange rates could result in declines in our reported sales and
earnings.
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The competition for qualified personnel is particularly intense in our industry. If we are unable
to retain or hire key personnel, we may not be able to sustain or grow our business.
  We may be unable to repay or repurchase our convertible notes or our other indebtedness.
  Conversion of the convertible notes or other future issuances of our stock will dilute the
ownership interests of existing shareholders.
   Anti-takeover defenses in our governing documents could prevent an acquisition of our company or
limit the price that investors might be willing to pay for our common stock.
  
    
    Our Articles of Incorporation allow our Board of Directors to issue, at any time and
without shareholder approval, preferred stock with such terms as it may determine. No shares
of preferred stock are currently outstanding. However, the rights of holders of any of our
preferred stock that may be issued in the future may be superior to the rights of holders of
our common stock.
    
    We have a rights plan, commonly known as a poison pill, which would make it difficult
for someone to acquire our company without the approval of our Board of Directors.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE OF MARKET RISK
 Interest Rate Risk
   Foreign Currency Rate Fluctuations
   
 ITEM 4. CONTROLS AND PROCEDURES
  Disclosure Controls and Procedures
  34




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Changes to Internal Controls
  Inherent Limitations on Controls and Procedures
   
 PART II. OTHER INFORMATION
 
 ITEM 1. LEGAL PROCEEDINGS
  
 ITEM 6. EXHIBITS
  10.18
    
    Amended and Restated Employment Agreement by and between the Company and D. Keith Grossman,
dated August 15, 2005. (1)10.33
    
    Consulting Agreement by and between the Company and D. Keith Grossman, dated August 15, 2005. (1)10.34
    
    Consulting Agreement by and between the Company and Jeffrey Nelson, dated August 15, 2005. (1)
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10.35
    
    Consulting Agreement by and between the Company and Lawrence Cohen, dated August 15, 2005. (1)10.36
    
    Purchase and Sale Agreement and Escrow Instructions dated September 2, 2005, by and between
the Company and Aegis I, LLC. (2)31.1
    
    Section 302 Certification of Chief Executive Officer31.2
    
    Section 302 Certification of Chief Financial Officer.32.1
    
    Section 906 Certification of Chief Executive Officer32.2
    
    Section 906 Certification of Chief Financial Officer.
 
 (1)
    
    Filed as an Exhibit to Thoratecs Form 8-K filed with the SEC on August 19, 2005.(2)
    
    Filed as an Exhibit to Thoratecs Form 8-K filed with the SEC on September 8, 2005. 36




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SIGNATURES
  THORATEC CORPORATIONDate: November 9, 2005
    
    /s/ D. Keith GrossmanD. Keith GrossmanChief Executive OfficerDate: November 9, 2005
    
    /s/ Cynthia Lucchese

     Cynthia Lucchese
     Chief Financial Officer,(principal financial and accounting officer)
 37