Table ofContents

 

 

 

**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

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**FORM 10-Q**

 

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**(Mark One)**

 

| **x**      | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934**                                                                                                                                  |
|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** ** | ** **                                                                                                                                                                                                                               |
| ** ** | **for  the quarterly period ended September 30, 2009**                                                                                                                                                                              |
| ** ** | ** **                                                                                                                                                                                                                               |
| ** ** | **OR**                                                                                                                                                                                                                                   |
| ** ** | ** **                                                                                                                                                                                                                               |
| **o**      | **TRANSITION REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**                                                                                                                                  |
| ** ** | ** **                                                                                                                                                                                                                               |
| ** ** | **For the transition period from                    to                ** |

 

**Commission File Number 001-33993**

 

**CardioNet, Inc.**

(Exact Name of Registrant as Specified in its Charter)

 

| **Delaware**                                                   | ** ** | **33-0604557**                          |
|----------------------------------------------------------------|------------|-----------------------------------------|
| (State or Other Jurisdiction of Incorporation or Organization) |       | (I.R.S. Employer Identification Number) |

 

**227 Washington StreetConshohocken, Pennsylvania 19428**

(Address of Principal Executive Offices, including Zip Code)

 

**(610) 729-7000**

(Registrant’s Telephone Number, including Area Code)

 

Indicateby check mark whether the registrant: (1) has filed all reports requiredto be filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject tosuch filing requirements for the past 90 days.  Yes x  No o

 

Indicate by check markwhether the registrant has submitted electronically and posted on its corporateWeb site, if any, every Interactive Data File required to be submitted andposted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter)during the preceding 12 months (or for such shorter period that the registrantwas required to submit and post such files).  Yes o  No o

 

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, a non-accelerated filer, or a smaller reporting company. Seethe definitions of “large accelerated filer,” “accelerated filer” and “smallerreporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

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

 

Indicateby check mark whether the registrant is a shell company (as defined in Rule 12b-2of the Exchange Act).  Yes o  No x

 

Asof October 30, 2009, 23,868,596 shares of the registrant’s common stock,$0.001 par value per share, were outstanding.

 

 

 

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**CARDIONET, INC.**

**QUARTERLY REPORT ON FORM 10-Q FOR THE PERIOD ENDEDSEPTEMBER 30, 2009**

**TABLE OF CONTENTS**

 
| ** **        | ** **                                                                                  | **Page  No.** |
|-------------------|---------------------------------------------------------------------------------------------|---------------|
| **PART I.**  | **FINANCIAL  INFORMATION**                                                                  | ** **    |
| Item 1.           | Financial  Statements                                                                       | 4             |
| Item 2.           | Management’s  Discussion and Analysis of Financial Condition and Results of Operations | 12            |
| Item 3.           | Quantitative  and Qualitative Disclosures about Market Risk                                 | 17            |
| Item 4T.          | Controls and  Procedures                                                                    | 17            |
|              |                                                                                        |          |
| **PART II.** | **OTHER INFORMATION**                                                                       | ** **    |
| Item 1.           | Legal Proceedings                                                                           | 17            |
| Item 1A.          | Risk Factors                                                                                | 18            |
| Item 2.           | Unregistered  Sales of Equity Securities and Use of Proceeds                                | 19            |
| Item 3.           | Defaults  Upon Senior Securities                                                            | 19            |
| Item 4.           | Submission  of Matters to a Vote of Security Holders                                        | 19            |
| Item 5.           | Other Information                                                                           | 19            |
| Item 6.           | Exhibits                                                                                    | 19            |
|              |                                                                                        |          |
| SIGNATURES        | 20                                                                                          |

 

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** **

**FORWARD-LOOKING STATEMENTS**

 

This document includescertain forward-looking statements within the meaning of the “Safe Harbor”provisions of the Private Securities Litigation Reform Act of 1995 regarding,among other things, our growth prospects, the prospects for our products andour confidence in the Company’s future. These statements may be identified bywords such as “expect,” “anticipate,” “estimate,” “intend,” “plan,” “believe,” “promises”and other words and terms of similar meaning. Such forward-looking statementsare based on current expectations and involve inherent risks and uncertainties,including important factors that could delay, divert, or change any of them,and could cause actual outcomes and results to differ materially from currentexpectations. These factors include, among other things, our efforts to addressthe operational issues and strategic options described in this report, thesuccess of our sales and marketing initiatives, our ability to attract andretain talented executive management and sales personnel, our ability toidentify acquisition candidates, acquire them on attractive terms and integratetheir operations into our business, the commercialization of new products,market factors, internal research and development initiatives, partneredresearch and development initiatives, competitive product development, changesin governmental regulations and legislation, changes to reimbursement levelsfor our products, the continued consolidation of payors, acceptance of our newproducts and services and patent protection and litigation. For further detailsand a discussion of these and other risks and uncertainties, please see ourpublic filings with the Securities and Exchange Commission, including ourlatest periodic reports on Form 10-K and 10-Q. We undertake no obligationto publicly update any forward-looking statement, whether as a result of newinformation, future events, or otherwise.

 

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**PART I— FINANCIAL INFORMATION**

**Item 1. Financial Statements.**

 

**CARDIONET, INC.**

**CONSOLIDATED BALANCE SHEETS**

 

**(*In thousands except share and pershare amounts*)**

 
| ** **                                                                                                                                                                                                            | ** ** | **(Unaudited)**                  | ** ** | ** **                      | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                                                                                                                                                                                            | ** ** | **September 30, 2009** | ** ** | **December 31, 2008** | ** ** |
| ** **                                                                                                                                                                                                            | ** ** | ** **                       | ** ** | ** **                      | ** ** |
| **Assets**                                                                                                                                                                                                            |       |                             |       |                            |       |
| Current assets:                                                                                                                                                                                                       |       |                             |       |                            |       |
| Cash and cash equivalents                                                                                                                                                                                             |       | $                                | 42,873     |                            | $          | 58,171 |   |
| Accounts receivable, net of allowance for doubtful  accounts of $25,890 and $14,426, at September 30, 2009  and December 31, 2008, respectively                                              |       | 49,379                           |       | 39,334                          |       |
| Due from related parties                                                                                                                                                                                              |       | 14                               |       | 97                              |       |
| Prepaid expenses and other current assets                                                                                                                                                                             |       | 1,359                            |       | 1,059                           |       |
|                                                                                                                                                                                                                  |       |                             |       |                            |       |
| Total current assets                                                                                                                                                                                                  |       | 93,625                           |       | 98,661                          |       |
|                                                                                                                                                                                                                  |       |                             |       |                            |       |
| Property and equipment, net                                                                                                                                                                                           |       | 27,869                           |       | 18,766                          |       |
| Intangible assets, net                                                                                                                                                                                                |       | 1,154                            |       | 1,823                           |       |
| Goodwill                                                                                                                                                                                                              |       | 45,999                           |       | 45,999                          |       |
| Other assets                                                                                                                                                                                                          |       | 371                              |       | 524                             |       |
|                                                                                                                                                                                                                  |       |                             |       |                            |       |
| Total assets                                                                                                                                                                                                          |       | $                                | 169,018    |                            | $          | 165,773 |   |
|                                                                                                                                                                                                                  |       |                             |       |                            |       |
| **Liabilities and stockholders’  equity**                                                                                                                                                                        |       |                             |       |                            |       |
| Current liabilities:                                                                                                                                                                                                  |       |                             |       |                            |       |
| Accounts payable                                                                                                                                                                                                      |       | $                                | 6,358      |                            | $          | 3,838 |   |
| Accrued liabilities                                                                                                                                                                                                   |       | 6,516                            |       | 10,238                          |       |
| Current portion of debt                                                                                                                                                                                               |       | —                           |       | 72                              |       |
| Current portion of capital leases                                                                                                                                                                                     |       | 49                               |       | 49                              |       |
| Deferred revenue                                                                                                                                                                                                      |       | 454                              |       | 461                             |       |
|                                                                                                                                                                                                                  |       |                             |       |                            |       |
| Total current liabilities                                                                                                                                                                                             |       | 13,377                           |       | 14,658                          |       |
|                                                                                                                                                                                                                  |       |                             |       |                            |       |
| Deferred rent                                                                                                                                                                                                         |       | 1,563                            |       | 965                             |       |
| Other noncurrent liabilities                                                                                                                                                                                          |       | 6                                |       | 33                              |       |
|                                                                                                                                                                                                                  |       |                             |       |                            |       |
| Total liabilities                                                                                                                                                                                                     |       | 14,946                           |       | 15,656                          |       |
|                                                                                                                                                                                                                  |       |                             |       |                            |       |
| Stockholders’ equity:                                                                                                                                                                                            |       |                             |       |                            |       |
| Common stock, $.001 par value; 200,000,000 shares  authorized; 23,867,765 and 23,477,137 shares issued and outstanding  at September 30, 2009 and December 31,  2008, respectively |       | 24                               |       | 24                              |       |
| Paid-in capital                                                                                                                                                                                                       |       | 231,144                          |       | 222,608                         |       |
| Accumulated deficit                                                                                                                                                                                                   |       | (77,096                          | )          | (72,515                         | )          |
|                                                                                                                                                                                                                  |       |                             |       |                            |       |
| Total stockholders’ equity                                                                                                                                                                                       |       | 154,072                          |       | 150,117                         |       |
|                                                                                                                                                                                                                  |       |                             |       |                            |       |
| Total liabilities and stockholders’ equity                                                                                                                                                                       |       | $                                | 169,018    |                            | $          | 165,773 |   |

 

See accompanying notes.

 

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**CARDIONET, INC.CONSOLIDATED STATEMENTS OF OPERATIONS**

**(Unaudited)**

**(*In thousands except share andper share amounts*)**

 
| ** **                                                                        | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-----------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                        | ** ** | **2009**                                             | ** ** | **2008**                                            | ** ** | **2009** | ** ** | **2008** | ** ** |
| Revenues:                                                                         |       |                                                 |       |                                                |       |   |   |   |   |
| Net  patient service revenues                                                     |       | $                                                    | 33,300     |                                                | $          | 31,073 |   | $ | 106,954 |   | $ | 85,510 |   |
| Other  revenues                                                                   |       | 40                                                   |       | 150                                                 |       | 370 |   | 516 |   |
|                                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| Total  revenues                                                                   |       | 33,340                                               |       | 31,223                                              |       | 107,324 |   | 86,026 |   |
|                                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| Cost  of revenues                                                                 |       | 11,829                                               |       | 10,014                                              |       | 35,661 |   | 29,367 |   |
|                                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| Gross  profit                                                                     |       | 21,511                                               |       | 21,209                                              |       | 71,663 |   | 56,659 |   |
| Operating  expenses:                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| General  and administrative                                                       |       | 15,380                                               |       | 10,757                                              |       | 43,840 |   | 29,839 |   |
| Sales  and marketing                                                              |       | 9,562                                                |       | 5,216                                               |       | 25,548 |   | 15,743 |   |
| Research  and development                                                         |       | 1,325                                                |       | 943                                                 |       | 4,310 |   | 3,015 |   |
| Integration,  restructuring and other charges                                     |       | 1,150                                                |       | 2,859                                               |       | 3,109 |   | 4,775 |   |
|                                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| Total  expenses                                                                   |       | 27,417                                               |       | 19,775                                              |       | 76,807 |   | 53,372 |   |
|                                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| (Loss)  income from operations                                                    |       | (5,906                                               | )          | 1,434                                               |       | (5,144 | ) | 3,287 |   |
| Other  income (expense):                                                          |       |                                                 |       |                                                |       |   |   |   |   |
| Interest  income                                                                  |       | 12                                                   |       | 332                                                 |       | 178 |   | 863 |   |
| Interest  expense                                                                 |       | (2                                                   | )          | (9                                                  | )          | (10 | ) | (161 | ) |
|                                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| Total  other income                                                               |       | 10                                                   |       | 323                                                 |       | 168 |   | 702 |   |
|                                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| (Loss)  income before income taxes                                                |       | (5,896                                               | )          | 1,757                                               |       | (4,976 | ) | 3,989 |   |
| Income  tax benefit (expense)                                                     |       | 474                                                  |       | (770                                                | )          | 395 |   | (1,710 | ) |
|                                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| Net  (loss) income                                                                |       | (5,422                                               | )          | 987                                                 |       | (4,581 | ) | 2,279 |   |
|                                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| Dividends  on and accretion of mandatorily redeemable convertible preferred stock |       | —                                               |       | —                                              |       | — |   | (2,597 | ) |
|                                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| Net  (loss) income attributable to common stockholders                            |       | $                                                    | (5,422     | )                                                   | $          | 987 |   | $ | (4,581 | ) | $ | (318 | ) |
|                                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| Net  (loss) income per common share:                                              |       |                                                 |       |                                                |       |   |   |   |   |
| Basic                                                                             |       | $                                                    | (0.23      | )                                                   | $          | 0.04 |   | $ | (0.19 | ) | $ | (0.02 | ) |
| Diluted                                                                           |       | $                                                    | (0.23      | )                                                   | $          | 0.04 |   | $ | (0.19 | ) | $ | (0.02 | ) |
|                                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| Weighted  average number of common shares outstanding:                            |       |                                                 |       |                                                |       |   |   |   |   |
| Basic                                                                             |       | 23,813,040                                           |       | 23,171,000                                          |       | 23,741,785 |   | 16,644,000 |   |
| Diluted                                                                           |       | 23,813,040                                           |       | 24,039,000                                          |       | 23,741,785 |   | 16,644,000 |   |

 

See accompanying notes.

 

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**CARDIONET, INC.CONSOLIDATED STATEMENTS OF CASH FLOWS**

**(Unaudited)**

**(*In thousands*)**

 
| ** **                                                                                   | ** ** | **Nine Months Ended  September 30,** | ** ** |
|----------------------------------------------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                                   | ** ** | **2009**                                            | ** ** | **2008** | ** ** |
| **Operating activities**                                                                     |       |                                                |       |   |   |
| Net (loss) income                                                                            |       | $                                                   | (4,581     | ) | $ | 2,279 |   |
| Adjustments to reconcile net income to net cash  (used in) provided by operating activities: |       |                                                |       |   |   |
| Depreciation                                                                                 |       | 7,240                                               |       | 5,384 |   |
| Amortization of intangibles                                                                  |       | 669                                                 |       | 738 |   |
| Loss on disposal of property and equipment                                                   |       | 184                                                 |       | 281 |   |
| Deferred rent                                                                                |       | 598                                                 |       | (93 | ) |
| Provision for doubtful accounts                                                              |       | 14,086                                              |       | 8,849 |   |
| Stock-based compensation                                                                     |       | 5,458                                               |       | 2,434 |   |
| Changes in operating assets and liabilities:                                                 |       |                                                |       |   |   |
| Accounts receivable                                                                          |       | (24,131                                             | )          | (22,078 | ) |
| Due from related parties                                                                     |       | 83                                                  |       | 141 |   |
| Prepaid expenses and other current assets                                                    |       | (300                                                | )          | (2,280 | ) |
| Other assets                                                                                 |       | 153                                                 |       | (2,522 | ) |
| Accounts payable                                                                             |       | 2,520                                               |       | 73 |   |
| Accrued and other liabilities                                                                |       | (3,756                                              | )          | 11,124 |   |
|                                                                                         |       |                                                |       |   |   |
| Net cash (used in) provided by operating activities                                          |       | (1,777                                              | )          | 4,330 |   |
|                                                                                         |       |                                                |       |   |   |
| **Investing activities**                                                                     |       |                                                |       |   |   |
| Purchases of property and equipment                                                          |       | (16,527                                             | )          | (6,874 | ) |
| Investment in subsidiary, net of cash acquired                                               |       | —                                              |       | (5,002 | ) |
|                                                                                         |       |                                                |       |   |   |
| Net cash used in investing activities                                                        |       | (16,527                                             | )          | (11,876 | ) |
|                                                                                         |       |                                                |       |   |   |
| **Financing activities**                                                                     |       |                                                |       |   |   |
| Proceeds from issuance of common stock                                                       |       | 3,078                                               |       | 48,364 |   |
| Proceeds from issuance of debt                                                               |       | —                                              |       | 500 |   |
| Repayment of debt                                                                            |       | (72                                                 | )          | (3,117 | ) |
|                                                                                         |       |                                                |       |   |   |
| Net cash provided by financing activities                                                    |       | 3,006                                               |       | 45,747 |   |
|                                                                                         |       |                                                |       |   |   |
| Net increase (decrease) in cash and cash  equivalents                                        |       | (15,298                                             | )          | 38,201 |   |
| Cash and cash equivalents — beginning of period                                         |       | 58,171                                              |       | 18,091 |   |
|                                                                                         |       |                                                |       |   |   |
| Cash and cash equivalents — end of period                                               |       | $                                                   | 42,873     |   | $ | 56,292 |   |
|                                                                                         |       |                                                |       |   |   |
| **Supplemental disclosure of cash  flow information**                                        |       |                                                |       |   |   |
| Cash paid for interest                                                                       |       | $                                                   | 10         |   | $ | 378 |   |
| Cash paid for taxes                                                                          |       | $                                                   | 6,130      |   | $ | — |   |

 

See accompanying notes.

 

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**CARDIONET, INC.**

**NOTES TO CONSOLIDATED FINANCIAL STATEMENTS**

**(Unaudited)**

 

**1.****    ****Summary of SignificantAccounting Policies**

 

**Unaudited Interim Financial Data**

 

The accompanying unaudited consolidated financialstatements have been prepared in accordance with U.S. generally acceptedaccounting principles for interim financial information and the requirements ofForm 10-Q and Article 10 of Regulation S-X. Accordingly, theseconsolidated financial statements do not include all of the information andfootnotes necessary for a complete presentation of financial position, resultsof operations and cash flows.  In the opinion of management, theseconsolidated financial statements reflect all adjustments which are of normalrecurring nature and necessary for a fair presentation of the Company’sfinancial position as of September 30, 2009 and December 31, 2008,and the results of operations for the three and nine months ended September 30,2009 and 2008. The financial data and other information disclosed in thesenotes to the financial statements related to the three and nine month periodsare unaudited. The results for the three and nine month periods ended September 30,2009 are not necessarily indicative of the results to be expected for anyfuture period.

 

**Net Income (Loss) Attributable toCommon Shares**

 

The Company computes net income (loss) per share inaccordance with Financial Accounting Standards Board (FASB) Accounting StandardsCodification (ASC) 260, *Earnings Per Share*.  The following summarizes the potentialoutstanding common stock of the Company at September 30, 2009 and 2008.All share amounts have been adjusted for the one-for-two reverse stock spliteffected by the Company on March 5, 2008:

 
| ** **                                                           | ** ** | **September 30,  2009** | ** ** | **September 30,  2008** | ** ** |
|----------------------------------------------------------------------|------------|------------------------------|------------|------------------------------|------------|
| Series B  warrants                                              |       | —                       |       | 6,250                        |       |
| Common stock options and restricted stock units  outstanding         |       | 2,137,613                    |       | 1,740,885                    |       |
| Common stock options and restricted stock units  available for grant |       | 631,933                      |       | 373,757                      |       |
| Common stock held by certain employees and  unvested                 |       | 13,177                       |       | 52,343                       |       |
| Common stock                                                         |       | 23,867,765                   |       | 23,328,028                   |       |
|                                                                 |       |                         |       |                         |       |
| Total                                                                |       | 26,650,488                   |       | 25,501,263                   |       |

 

Basic net income (loss) per share attributable tocommon stockholders is computed by dividing net loss by the weighted averagenumber of common shares outstanding during the period. Diluted net income(loss) per share is computed by giving effect to all potential dilutive commonshares, including stock options, warrants and convertible preferred stock, asapplicable.

 

The followingtable presents the calculation of basic and diluted net income (loss) pershare:

 
| ** **                                                                          | ** ** | **Three  Months Ended********September 30,** | ** ** | **Nine  Months Ended********September 30,** | ** ** |
|-------------------------------------------------------------------------------------|------------|---------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                                                          | ** ** | **2009**                                          | ** ** | **2008**                                         | ** ** | **2009** | ** ** | **2008** | ** ** |
| ** **                                                                          | ** ** | **(in  thousands, except per share amounts)**     | ** ** |
| *Numerator:*                                                                        |       |                                              |       |                                             |       |   |   |   |   |
| Net  (loss) income applicable to common stockholders                                |       | $                                                 | (5,422     | )                                                | $          | 987 |   | $ | (4,581 | ) | $ | (318 | ) |
| *Denominator:*                                                                      |       |                                              |       |                                             |       |   |   |   |   |
| Weighted  average common shares outstanding—basic                         |       | 23,813,040                                        |       | 23,171,000                                       |       | 23,741,785 |   | 16,644,000 |   |
| Dilutive  effect of the Company’s employee compensation plans                  |       | —                                            |       | 868,000                                          |       | — |   | — |   |
| Weighted  average shares used in computing diluted net income (loss) per share |       | 23,813,040                                        |       | 24,039,000                                       |       | 23,741,785 |   | 16,644,000 |   |
| Basic  net income (loss) per share                                                  |       | $                                                 | (0.23      | )                                                | $          | 0.04 |   | $ | (0.19 | ) | $ | (0.02 | ) |
| Diluted  net income (loss) per share                                                |       | $                                                 | (0.23      | )                                                | $          | 0.04 |   | $ | (0.19 | ) | $ | (0.02 | ) |

 

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If the outstanding vested options or restrictedstock units were exercised or converted into common stock, the result would beanti-dilutive for the three and nine months ended September 30, 2009, andthe nine months ended September 30, 2008. Accordingly, basic and dilutednet loss attributable to common stockholders per share are identical for thoseperiods presented in the consolidated statements of operations.

 

**Goodwill**

 

The Company considers its business to be onereporting unit for purposes of performing its goodwill impairment analysis.Goodwill is reviewed for impairment annually, or when events arise that couldindicate that an impairment exists. To determine whether an impairment exists,the Company estimates the fair value of the reporting unit using an incomeapproach, generally a discounted cash flow methodology, that includesassumptions for, among other things, forecasted income, cash flow, growthrates, income tax rates, expected tax benefits and long-term discount rates,all of which require significant judgments. The Company also considerscomparable market data to assist in determining the fair value of its reportingunit. There are inherent uncertainties related to these factors and thejudgment applied in the analysis. Nonetheless, the Company believes that the combinationof an income and a market approach provides a reasonable basis to estimate thefair value of the reporting unit. If the estimated fair value of the reportingunit is less than its carrying value, an impairment exists and additionalanalysis will be undertaken to determine the amount of impairment.

 

**Stock-Based Compensation**

 

ASC 718, *Compensation — StockCompensation*, addresses the accounting for share-based paymenttransactions in which an enterprise receives employee services in exchange for (a) equityinstruments of the enterprise or (b) liabilities that are based on thefair value of the enterprise’s equity instruments or that may be settled by theissuance of such equity instruments. ASC 718 requires that an entity measurethe cost of equity-based service awards based on the grant-date fair value ofthe award and recognize the cost of such awards over the period during whichthe employee is required to provide service in exchange for the award (thevesting period). ASC 718 requires that an entity measure the cost ofliability-based service awards based on current fair value that is re-measuredsubsequently at each reporting date through the settlement date. The Companyaccounts for equity awards issued to non-employees in accordance with ASC 505-50,*Equity-Based Payments to Non-Employees*.

 

The Company’s income before and after income taxesfor the nine months ended September 30, 2009 was $5.5 million lower, andthe Company’s before and after-tax net income for the nine months ended September 30,2008 was $2.5 million lower, as a result of stock-based compensation expenseincurred. The impact of stock-based compensation expense was $0.23 and $0.15 onboth basic and diluted earnings per share for the nine months ended September 30,2009 and 2008, respectively.

 

The Company utilized the Black-Scholes valuationmodel for estimating the fair value of stock options granted using thefollowing weighted average assumptions:

 
| ** **              | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-------------------------|------------|-----------------------------------------------------|------------|
| ** **              | ** ** | **2009**                                            | ** ** | **2008** | ** ** |
| Expected dividend yield |       | 0                                                   | %          | 0 | % |
| Expected volatility     |       | 55                                                  | %          | 50 | % |
| Risk-free interest rate |       | 2.24                                                | %          | 2.52 | % |
| Expected life           |       | 6.25 years                                          |       | 6.25 years |   |

 

The dividend yield of zero is based on the fact thatthe Company has never paid dividends and has no present intention to paydividends. For stock-based compensation grants made after July 1, 2009,the Company estimated the expected volatility assumption by calculating thevolatility of its stock price from its IPO date through the current quarter,which yielded an estimated volatility of approximately 86%.  Expected volatility was estimated based onthe volatility of comparable companies for grants made prior to July 1,2009. This alternative method was used because the Company’s stock was notpublicly traded prior to the closing of its initial public offering, and didnot yield a reliable estimate of volatility during the period of its initialpublic offering through the end of the second quarter of 2009. The Companybelieves that its own stock price is a better representation of stock-based compensationvolatility going forward as the Company’s stock has been traded for a longenough period to develop a meaningful trend. The risk-free interest rate isderived from the U.S. Treasury rate in effect at the time of grant. Theexpected life calculation is based on the observed and expected time to theexercise of options by the Company’s employees based on historical exercisepatterns for similar options. Based on the Company’s historical experience ofoptions that cancel before becoming fully vested, the Company has assumed anannualized forfeiture rate of 15% for all options. Under the true-up provisionof ASC 718, the Company will record 

 

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additionalexpense if the actual forfeiture rate is lower than estimated, and will recorda recovery of prior expense if the actual forfeiture rate is higher thanestimated.

 

Based on the above assumptions, the per shareweighted average fair value of the options granted under the stock option planfor the nine months ended September 30, 2009 and 2008 was $10.81 and$12.20, respectively.

 

Thefollowing table summarizes activity under all stock award plans from December 31,2008 through September 30, 2009:

 
| ** **                             | ** ** | ** **         | ** ** | **Options Outstanding** | ** ** |
|----------------------------------------|------------|--------------------|------------|------------------------------|------------|
| ** **                             | ** ** | **Shares**         | ** ** | ** **                   | ** ** | **Weighted** | ** ** |
| ** **                             | ** ** | **Available**      | ** ** | **Number**                   | ** ** | **Average** | ** ** |
| ** **                             | ** ** | **for Grant** | ** ** | **of Shares**           | ** ** | **Exercise Price** | ** ** |
| Balance — December 31, 2008  |       | 340,935            |       | 1,635,205                    |       | $ | 13.67 |   |
| Additional options available for grant |       | 1,024,921          |       | —                       |       | $ | — |   |
| Granted                                |       | (850,890           | )          | 850,890                      |       | $ | 24.84 |   |
| Canceled                               |       | 423,289            |       | (423,289                     | )          | $ | 9.63 |   |
| Exercised                              |       | —             |       | (214,815                     | )          | $ | 8.25 |   |
|                                   |       |               |       |                         |       |   |   |
| Balance — March 31, 2009     |       | 938,255            |       | 1,847,991                    |       | $ | 20.98 |   |
|                                   |       |               |       |                         |       |   |   |
| Granted                                |       | (222,386           | )          | 222,386                      |       | $ | 17.63 |   |
| Canceled                               |       | 38,483             |       | (38,483                      | )          | $ | 14.44 |   |
| Exercised                              |       | —             |       | (13,342                      | )          | $ | 17.41 |   |
|                                   |       |               |       |                         |       |   |   |
| Balance — June 30, 2009      |       | 754,352            |       | 2,018,552                    |       | $ | 20.82 |   |
|                                   |       |               |       |                         |       |   |   |
| Granted                                |       | (171,000           | )          | 171,000                      |       | $ | 9.20 |   |
| Canceled                               |       | 48,581             |       | (48,581                      | )          | $ | 12.71 |   |
| Exercised                              |       | —             |       | (3,358                       | )          | $ | 2.56 |   |
|                                   |       |               |       |                         |       |   |   |
| Balance — September 30, 2009 |       | 631,933            |       | 2,137,613                    |       | $ | 20.13 |   |

 

Perthe plan documents, the 2008 Non-Employee Director Stock Option (NEDS) andEmployee Stock Option (ESOP) Plans have an automatic increase in the sharesavailable for grant every January the plans are active. The increase inthe shares available for grant under the NEDS plan is equal to the lesser ofthe number of shares issuable upon the exercise of options granted during thepreceding calendar year or such number of shares determined by the Board ofDirectors. The increase in the shares available for grant under the ESOP planis equal to 4% of the total shares outstanding at December 31, 2008.

 

Additionalinformation regarding options outstanding is as follows:

 
| ** **                                           | ** ** | **September 30,  2009** | ** ** | **September 30,  2008** | ** ** |
|------------------------------------------------------|------------|------------------------------|------------|------------------------------|------------|
| Range of exercise prices (per option)                |       | $0.70 - $31.18               |       | $0.70 - $31.18               |       |
| Weighted average remaining contractual life  (years) |       | 8.95                         |       | 9.09                         |       |

 

*EmployeeStock Purchase Plan*

 

OnMarch 17, 2009 and September 17, 2009, 44,189 shares and 77,010shares, respectively, were purchased in accordance with the Employee StockPurchase Plan (ESPP). Net proceeds to the Company from the issuance of sharesof common stock under the ESPP for the nine months ended September 30,2009 were $1.2 million. In January 2009, the number of shares availablefor grant was increased by 235,189, per the ESPP plan documents. At September 30,2009, approximately 302,493 shares remain available for purchase under theESPP.

 

**New Accounting Pronouncements**

 

In June 2009, the FASB issued FASB ASC105, Generally Accepted Accounting Principles, which establishes the FASBAccounting Standards Codification as the sole source of authoritative generallyaccepted accounting principles. Pursuant to the provisions of FASB ASC 105, theCompany has updated references to GAAP in its financial statements issued forthe period ended September 30, 2009. The adoption of FASB ASC 105 did notimpact the Company’s financial position or results of operations.

 

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Effective January 1, 2009, the Companyprospectively adopted ASC 820, *Fair Value Measurementsand Disclosures*, with respect to fair value measurements requiredfor the Company’s nonfinancial assets and nonfinancial liabilities. Theadoption did not have a material effect on the Company’s financial position orresults of operations.

 

Effective January 1, 2009, the Companyprospectively adopted ASC 805, *BusinessCombinations* and ASC 810, *Consolidation*.ASC 805 establishes the principles and requirements for how an acquirer (i) recognizesand measures in its financial statements the identifiable assets acquired, theliabilities assumed and any noncontrolling interest in the acquiree; (ii) recognizesand measures the goodwill acquired in the business combination or a gain from abargain purchase; and (iii) determines what information to disclose toenable users of the financial statements to evaluate the nature and financial effectsof the business combination. Previously any changes in valuation allowances asa result of income from acquisitions for certain deferred tax assets wouldserve to reduce goodwill. Under the current guidance, any changes in thevaluation allowance related to income from acquisitions currently or in priorperiods now serve to reduce income taxes in the period in which the reserve isreversed. Additionally, transaction related expenses that were previouslycapitalized are now expensed as incurred. As of December 31, 2008, theCompany had no deferred transaction related expenses for business combinationtransactions in negotiation. All transaction related costs that have beenincurred since the adoption of ASC 805 on January 1, 2009 have beenexpensed as incurred. ASC 810 establishes accounting and reporting standardsthat require (i) noncontrolling interests to be reported as a component ofequity; (ii) changes in a parent’s ownership interest while the parentretains its controlling interest to be accounted for as equity transactions;and (iii) any retained noncontrolling equity investment upon thedeconsolidation of a subsidiary to be initially measured at fair value. Theadoption did not have an effect on the Company’s financial position or resultsof operations.

 

In April 2009, ASC 805 was amended forprovisions related to the initial recognition and measurement, subsequentmeasurement and disclosure of assets and liabilities arising from contingenciesin a business combination. Under the amended guidance, assets acquired andliabilities assumed in a business combination that arise from contingenciesshould be recognized at fair value on the acquisition date if fair value can bedetermined during the measurement period. If fair value cannot be determined,companies should typically account for the acquired contingencies usingexisting guidance.  This amendment didnot have a material effect on the Company’s financial position or results ofoperations.

 

In April 2009, ASC 820 was amended toprovide additional guidance for estimating fair value when the volume and levelof activity for the asset or liability have significantly decreased. Thisamendment also includes guidance on identifying circumstances that indicate atransaction is not orderly. This amendment is effective for periods endingafter June 15, 2009.  This amendmentdid not have a material effect on the Company’s financial position or resultsof operations.

 

In April 2009, ASC 320, *Investments — Debt & Equity Securities,* was amendedto provide guidance for other-than-temporary impairments of debt securities.The amendment provides that financial asset impairment indicators should bebased on the Company’s intent to sell the security instead of the Company’sability to hold the security, and to improve the presentation and disclosure ofother-than-temporary impairments on debt and equity securities in the financialstatements.  This amendment is effectivefor periods ending after June 15, 2009. This amendment did not have a material effect on the Company’s financialposition or results of operations.

 

The Company adopted ASC 855, *Subsequent Events* on May 1, 2009. The guidanceestablishes general standards of accounting for and disclosure of events thatoccur after the balance sheet date but before financial statements are issuedor are available to be issued. This guidance sets forth the circumstances underwhich an entity should recognize events or transactions occurring after thebalance sheet date in its financial statements. The guidance also requires thedisclosure of the date through which an entity has evaluated subsequent eventsand the basis for that date - that is, whether that date represents the datethe financial statements were issued or were available to be issued. Inaccordance with ASC 855, we have evaluated subsequent events through the dateand time the financial statements were issued.

 

**2.****            ****Contingent Payment**

 

On March 8, 2007, theCompany acquired all of the outstanding capital stock of PDSHeart, Inc. (“PDSHeart”or “PDS”) for an aggregate purchase price of $51.6 million. In addition tothe $51.6 million consideration, the Company agreed to pay PDSHeartstockholders $5.0 million of contingent consideration in the event of aqualifying liquidation event, including a public offering or acquisition. TheCompany’s initial public offering was consummated on March 25, 2008 and,accordingly, the purchase price for the PDSHeart acquisition was adjusted to$56.6 million to reflect this payment.

 

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**3.****    ****Mandatorily Redeemable Convertible Preferred Stock and Stockholders’Equity (Deficit)**

 

In March 2007, theCompany sold 110,000 shares of its mandatorily redeemable convertible preferredstock, or MRCPS, which generated net proceeds to the Company of $102.1 million($110 million less offering costs of $7.9 million). The Company also issued3,383 shares of MRCPS upon conversion of an outstanding bridge loan and 1,456shares as consideration to a major shareholder of PDSHeart as consideration inthe PDSHeart acquisition. Accrued dividends were $6.1 million at March 25,2008.  The MRCPS original purchase priceplus accrued dividends were converted to common shares on March 25, 2008in connection with the Company’s initial public offering.

 

From 1999 to 2004, theCompany issued convertible preferred stock which generated net proceeds to theCompany of $53.5 million. All Series A, B, C and D preferred stockconverted to common stock on March 25, 2008 in connection with the Company’sinitial public offering.

 

In connection with aborrowing arrangement provided by a bank, the Company issued a warrant in August 2000to purchase 12,500 shares of Series B preferred stock at a price of $1.47per share. The warrant may be exercised at any time on or before August 9,2010.  In connection with the closing ofthe Company’s initial public offering on March 25, 2008, this warrantbecame exercisable for 6,250 shares of the Company’s common stock at a price of$2.94 per share. In March 2009, these warrants were fully exercisedthrough a cashless transaction.

 

In 2005 and 2006, the Company issued warrants topurchase 964,189 shares of its preferred stock at a price of $3.50 per share tothe participants in certain bridge financing transactions and to a stockholderin connection with entering into the Amended and Restated SubordinatedPromissory Note with a stockholder. As a result of the MRCPS financing, thewarrants became exercisable for shares of the Company’s Series D-1preferred stock. These warrants were automatically net exercised for commonstock on March 25, 2008 in connection with the Company’s initial publicoffering.

 

**4.****             ****Integration andRestructuring Activities**

 

*2009 Restructuring*

 

On or about July 22, 2009, the Company undertook an initiative to reduce support costscompany-wide and initiated plans to move the majority of itsmanufacturing activities from San Diego to its facility in Chester,Pennsylvania. The Company believes that it can achieve a reduction in shippingand administrative costs by combining its manufacturing facilities into onelocation. Prior to the restructuring, devices were shipped to and from the San Diego location forproduction and maintenance before being deployed out of the Company’sdistribution facility in Pennsylvania.

 

Also on or about July 22, 2009, the Company closed its event monitoring facility inFlorida and consolidated its with the Company’s event monitoring facility inGeorgia. The Company believes that it can realize costefficiencies by consolidating its event monitoring centers in the southeasternUnited States and by eliminating duplicative administrative costs.

 

The restructuring plan involves the elimination of approximately 80 positionsand the relocation of 15 employees. The Company expects the restructuring to besubstantially completed by the end of 2009, and expects the total cost of therestructuring to be approximately $1.5 million, all of which are expected toresult in cash charges. The Company incurred restructuring expenses of $1.2million for the nine months ended September 30, 2009.

 

A summary of the reserve activity related to the 2009 restructuringplan as of September 30, 2009 is as follows:

 
| ** **                           | ** ** | **Initial  Reserve  Recorded** | ** ** | **Payments  through  September 30,  2009** | ** ** | **Balance  as of  September 30,  2009** | ** ** |
|--------------------------------------|------------|--------------------------------|------------|-------------------------------------------------|------------|----------------------------------------------|------------|
| Severance and employee related costs |       | $                              | 1,014      |                                            | $          | 384                                          |       | $ | 630 |   |
| Other exit activity costs            |       | 136                            |       | 136                                             |       | —                                       |       |
| Total                                |       | $                              | 1,150      |                                            | $          | 520                                          |       | $ | 630 |   |

 

The Companyaccounts for expenses associated with exit or disposal activities in accordancewith ASC 420, *Exit or Disposal**Cost Obligations,* and records the expenses in *Integration, restructuring and other charges* in itsstatement of operations, and records the related accrual in the *Accrued expenses* line of its balance sheet.

 

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*San Diego Restructuring*

 

During the first quarter of 2008, the Company initiated plans toconsolidate its Finance and Human Resource functions in Pennsylvania. This planinvolved the elimination of seven positions in San Diego. The Companydid not incur any restructuring expenses for the nine months ended September 30,2009, and incurred expenses of $0.3 million for the nine months ended September 30,2008. The integration was substantially completed as of December 31, 2008.

 

**5.****             ****Income Taxes**

 

The Company’s effective taxrate was a benefit of 7.9% for the nine months ended September 30, 2009.This was due primarily to a benefit received from the adjustment of the estimatedeffective tax rate to the actual tax rate upon the filing of the Company’s 2008tax return. The Company has deferred income tax assets totaling approximately$31.7 million at September 30, 2009, consisting primarily of federaland state net operating loss and credit carryforwards and temporary differencesrelated to the provision for doubtful accounts. The federal and state creditcarryforwards, if unused, will expire in 2026. Due to uncertainty regarding theultimate realization of these net operating loss and credit carryforwards andother deferred income tax assets, the Company has established a valuationallowance for most of these assets and will recognize the benefits only asreassessment indicates the benefits are realizable.

 

**6.****              Reimbursement**

 

On July 10,2009, Highmark announced a reduction in the reimbursement rate for our MCOTTMservices to $754 per service, a reduction of approximately 33%. This new ratewent into effect on September 1, 2009. The reduction in reimbursement rates isreflected in the *Revenue*and*Accountsreceivable* lines in the Company’s financial statements.

 

**7.****             ****Legal Proceedings**

 

On August 26, 2009,two putative class actions were filed in the United States District Court forthe Eastern District of Pennsylvania naming CardioNet, Inc., Randy Thurmanand Martin P. Galvan as defendants and alleging violations of Sections 10(b) and20(a) of the Securities Exchange Act of 1934, as amended.  These actions were consolidated on September 9,2009 under docket number 09-3894. The complaints purport to bring claims onbehalf of a class of persons who purchased the Company’s common stock between April 30,2009 and June 30, 2009 and between April 30, 2009 and July 10,2009.  The complaints allege that thedefendants issued various materially false and misleading statements relatingto the Company’s projected performance that had the effect of artificiallyinflating the market price of its securities. The Company believes the claims are without merit and intends to defendthe litigation vigorously. At this time, it is not possible to determine thelikelihood or amount of liability, if any, on the part of the Company.Consistent with ASC 450-20-25, no accrual has been recorded in the financialstatements.

 

On April 2, 2009CardioNet entered into a Merger Agreement to acquire Biotel Inc. for $14.0million.  On July 14, 2009,CardioNet exercised its contractual right to terminate the Merger Agreement dueto Biotel’s breach of certain covenants in the agreement.  The next day, CardioNet notified Biotel ofits obligation to pay the Company $1.4 million for a termination fee andexpenses in accordance with the Merger Agreement.  On or about July 16, 2009, Biotelsubsequently commenced litigation against CardioNet in Minnesota District Courtin Hennepin County, Fourth Judicial District, alleging that CardioNet hadbreached and improperly terminated the Merger Agreement. CardioNet removed theaction to the United States District Court for the District of Minnesota on thebasis of diversity jurisdiction, and Biotel did not seek to remand the action.Biotel is seeking specific performance and damages (the amount of which iscurrently unspecified). CardioNet has counterclaimed under the terms of theMerger Agreement for its termination fee and associated expenses; the currentamount of that counterclaim is $1.4 million. The case is to be ready for trial by July 15, 2010. Discovery isunderway.  The Company plans tovigorously defend its position and prosecute its counterclaim. At this time, itis not possible to determine the likelihood or amount of liability, if any, onthe part of the Company. Consistent with ASC 450-20-25, no accrual has beenrecorded in the financial statements.

 

**Item 2. Management’s Discussion and Analysis of Financial Condition andResults of Operations.**

 

The following discussion andanalysis should be read in conjunction with our annual report on Form 10-Kfor the year ended December 31, 2008, and in conjunction with theaccompanying quarterly unaudited condensed consolidated financial statements.This discussion contains certain forward-looking statements that involve risksand uncertainties. The Company’s actual results and the timing of certainevents could differ materially from those discussed in these forward-lookingstatements as a result of certain factors, including, but not limited to, thoseset forth herein and elsewhere in this report and in the Company’s otherfilings with the Securities and Exchange Commission. See the “Forward LookingStatements” section at the beginning of this report.

 

**CompanyBackground**

 

CardioNet is a leadingprovider of ambulatory, continuous, real-time outpatient management solutionsfor monitoring relevant and timely clinical information regarding an individual’shealth. The Company’s efforts have initially been focused on the 

 

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diagnosis and monitoring of cardiac arrhythmias, orheart rhythm disorders, with a solution that it markets as Mobile CardiacOutpatient TelemetryTM (MCOTTM). The Company actively began developing itsproduct platform in April 2000, and since that time, has devotedsubstantial resources in advancing its patient monitoring solutions. Theplatform successfully integrates a wireless data transmission network,internally developed software, FDA-cleared algorithms and medical devices, anda 24-hour monitoring service center.

 

The Company has been anapproved Independent Diagnostic Testing Facility (“IDTF”) for Medicare since itreceived 510(k) clearance for the first and second generation of our core MCOTTMdevices in 2002. The Company received FDA 510(k) clearance for theproprietary algorithm included in its third generation product, or C3, in October 2005.Subsequently in November 2006, the Company received FDA 510(k) clearancefor its C3 system which it has incorporated as part of its monitoring solution.The Company continues to pursue innovation of new and existing medicalsolutions through investments in research and development. The CardioNetMonitoring Center commenced operations in Conshohocken, Pennsylvania in 2002,concurrent with its first FDA approval, and all of the Company’s MCOTTMarrhythmia monitoring activities are currently conducted at that location.

 

In March 2007, theCompany acquired all of the outstanding capital stock of PDSHeart. Theacquisition of PDSHeart provided three additional product lines to complimentMCOTTM: event, Holter and Pacer monitoring solutions. In addition, theacquisition supplied the Company with existing sales channels and relationshipsin geographic areas that were previously had not been penetrated prior to theacquisition. In March 2008, the Company completed an initial publicoffering of its common stock for proceeds of approximately $46.7 million,net of underwriter commissions and estimated offering expenses.

 

**Qualcomm Supplier Agreement**

 

The Company established arelationship with Qualcomm Inc. (“Qualcomm”) in May 2003. Qualcomm isthe sole provider of wireless cellular data connectivity solutions and datahosting and queuing services for the Company’s monitoring network. The Companyhas no fixed or minimum financial commitment as it relates to network usage orvolume activity. However, if the Company fails to maintain an agreed-uponnumber of active cardiac monitoring devices on the Qualcomm network or itutilizes the monitoring and communications services of a provider other thanQualcomm, Qualcomm has the right to terminate its relationship with theCompany.

 

**Reimbursement**

 

In October 2008, theCenters for Medicare and Medicaid Services (“CMS”) established reimbursementrates that cover MCOTTM services. The reimbursement rates are applicable to theCategory I CPT codes (93228 and 93229) established by the American MedicalAssociation (“AMA”) for MCOTTM and became effective on January 1, 2009.Highmark Medicare Services (“Highmark”) is responsible for setting thereimbursement rate on behalf of CMS for code 93229, which is the code for thetechnical component of our services. The new billing codes allow for automatedclaims adjudication, substantially simplifying the reimbursement process for physiciansand payors compared to the previous process. Reimbursement prior to the use ofthe new CPT codes was obtained through non-specific billing codes which requirevarious narratives that, in most cases, involve semi-automated or manualprocessing, as well as additional review by payors.

 

On July 10, 2009,Highmark announced a reduction in the reimbursement rate for our MCOTTM servicesto $754 per service, a reduction of approximately 33%. This new rate went intoeffect on September 1, 2009. We have also experienced a decline in ourcommercial carrier pricing. The decline in reimbursement rates has had anegative impact on the Company’s revenue and operating results, and haspresented significant challenges to the viability of the Company’s current businessmodel. Several strategic initiatives are currently being implemented, includingcost efficiency measures and a continued focus on sales volume growth. TheCompany intends to continue to work with Highmark and CMS to achieve anappropriate national rate in the future, and will continue to evaluate itsstrategic options.

 

We have successfully securedcontracts with many national and regional commercial payors. We increased thenumber of MCOTTM contracts with commercial payors from 194 at September 30,2008 to 232 at September 30, 2009. We estimate that the number of coveredcommercial lives increased from 150 million at September 30, 2008 to 158million at September 30, 2009. The current estimated total of 197 millioncovered lives for Medicare and commercial lives for which we had reimbursementcontracts as of September 30, 2009 represents approximately 76% of thetotal covered lives in the United States. The MCOTTM contracts also cover event,Holter and Pacer service pricing. In addition, there were approximately 78contracts with commercial payors that pertained only to event, Holter and Pacerservice pricing, and did not cover MCOTTM. The majority of the remaining coveredlives are insured by a relatively small number of large commercial insurancecompanies that deemed MCOTTM to be “experimental and investigational” and do notcurrently reimburse us for services provided to their beneficiaries.

 

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**Restructuring Activities**

 

In the third quarter of 2009 the Company initiatedrestructuring plans that included the closure of the Company’s event monitoringfacility in Florida and consolidating it with its event monitoring facility inGeorgia, the shift of the majority of its manufacturing activities from its SanDiego location to Chester, Pennsylvania and a reduction of support costscompany-wide. The total cost of the restructuring plan is expected to beapproximately $1.5 million, and is expected to be substantially complete by theend of fiscal 2009. The Company expects to realize an annualized cost savingsof approximately $8.0 million from the execution of the 2009 restructuringplan.

 

**Resultsof Operations**

 

***Three Months Ended September 30,2009 and 2008***

 

*Revenues.*    Total revenues forthe three months ended September 30, 2009 increased to $33.3 millionfrom $31.2 million for the three months ended September 30, 2008, anincrease of $2.1 million, or 6.8%. MCOTTM revenue increased$3.1 million due to an increase in sales volume, partially offset by adecrease in MCOTTM reimbursement rates. The net increase in MCOTTM revenue wasoffset by a decrease in PDSHeart and other revenue of $1.0 million.

 

*GrossProfit.*    Grossprofit increased to $21.5 million for the three months ended September 30,2009, or 64.5% of revenues, from $21.2 million for the three months ended September 30,2008, or 67.9% of revenues. The increase of $0.3 million was due to increasedrevenue from MCOTTM services. The increase in revenue was offset by an increasein cost of sales related to payroll expense due to higher headcount of $1.1million, an increase in supplies and other miscellaneous expenses of $0.4million and increased depreciation expense related to additional devices beingin service in the 2009 period compared to the 2008 period of $0.3 million.Gross profit as a percentage of revenue was negatively affected by the declinein reimbursement rates.

 

*Generaland Administrative Expense.*    General and administrative expense increased to$15.4 million for the three months ended September 30, 2009 from$10.8 million for the three months ended September 30, 2008. Thisincrease of $4.6 million, or 42.6%, was primarily due to an increase inthe provision for bad debt of $1.9 million, increase in stock compensationexpense of $0.7 million, increase in payroll costs of $0.7 million, increase inlegal fees of $0.6 million and an increase of $0.7 million of miscellaneousexpenses. As a percentage of total revenues, general and administrative expensewas 46.1% for the three months ended September 30, 2009 compared to 34.5%for the three months ended September 30, 2008.

 

*Sales andMarketing Expense.*    Salesand marketing expense was $9.6 million for the three months ended September 30,2009 compared to $5.2 million for the three months ended September 30,2008. The increase of $4.4 million, or 84.6%, was due to the growth of thesales force and sales operations infrastructure.  As a percent of total revenues, sales andmarketing expense was 28.7% for the three months ended September 30, 2009compared to 16.7% for the three months ended September 30, 2008.

 

*Researchand Development Expense.*    Researchand development expense was $1.3 million for the three months ended September 30,2009 compared to $0.9 million for the three months ended September 30,2008. The increase of $0.4 million, or 44.4%, was due primarily to an increasein payroll costs of $0.3 million and miscellaneous expenses of $0.1 million. Asa percent of total revenues, research and development expense increased to 4.0%for the three months ended September 30, 2009 compared to 3.0% for thethree months ended September 30, 2008.

 

*Integration,Restructuring and Other Charges.*    The Company incurred severance costs of $1.0million and relocation and other exit related costs of $0.1 million for thethree months ended September 30, 2009 in connection with the 2009restructuring plan. The 2009 restructuring plan included the consolidation andclosure of the Company’s event monitoring facility in Florida with its eventmonitoring facility in Georgia, the shift of the majority of the Company’smanufacturing activities to its Chester, Pennsylvania facility, and an overallreduction of support costs company-wide. Integration, restructuring and othercharges were 3.4% of total revenues for the three months ended September 30,2009.

 

For the three months ended September 30,2008, integration, restructuring and other charges relating to the PDSHeartacquisition were $0.2 million, charges relating to the consolidation of theFinance and Human Resources functions in Pennsylvania were $0.7 million,secondary offering costs were $0.9 million and other nonrecurring charges were$1.1 million.

 

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*OtherIncome.*    Therewas no interest income for the three months ended September 30, 2009, downfrom $0.3 million for the three months ended September 30, 2008. Thedecline was due primarily to lower short term interest rates and a loweraverage cash balance in the three months ended September 30, 2009 comparedto the three months ended September 30, 2008.

 

*IncomeTaxes.*    TheCompany received a tax benefit of $0.5 million for the three months ended September 30,2009, compared to a provision of $0.8 for the three months ended September 30,2008. The effective tax rate for the three months ended September 30, 2009was 8.0%, compared to 43.8% for the three months ended September 30, 2008.

 

*NetIncome.*    TheCompany incurred a net loss of $5.4 million for the three months ended September 30,2009 compared to net income in the three months ended September 30, 2008of $1.0 million.

 

***Nine Months Ended September 30,2009 and 2008***

 

*Revenues.*    Total revenues forthe nine months ended September 30, 2009 increased to $107.3 millionfrom $86.0 million for the nine months ended September 30, 2008, anincrease of $21.3 million, or 24.8%. MCOTTM revenue increased $24.0 million due to an increase in salesvolume, partially offset by a decrease in MCOTTM reimbursement rates. The net increase in MCOTTM revenue was offset by a decrease in PDSHeart and otherrevenue of $2.7 million.

 

*GrossProfit.*    Grossprofit increased to $71.7 million for the nine months ended September 30,2009, or 66.8% of revenues, from $56.7 million for the nine months ended September 30,2008, or 65.9% of revenues. The increase of $15.0 million, or 26.5%, was due toincreased revenue from MCOTTMservices, offset by an increase in cost of sales related to payroll expense dueto higher headcount of $4.4 million, increased depreciation expense related toadditional devices being in service in the 2009 period compared to the 2008period of $1.3 million and an increase in miscellaneous costs of $0.6 million.

 

*Generaland Administrative Expense.*    General and administrative expense increased to$43.8 million for the nine months ended September 30, 2009 from$29.8 million for the nine months ended September 30, 2008. Thisincrease of $14.0 million, or 47.0%, was primarily due to an increase inthe provision for bad debt of $5.2 million, increase in stock compensationexpense of $3.7 million, increase in payroll expense of $1.5 million, increasein rent expense of $0.5 million, increase in depreciation and amortization of$0.5 million, increase in legal fees of $0.4 million, increased professionalfees of $0.4 million and $2.3 million of miscellaneous expenses. As apercentage of total revenues, general and administrative expense was 40.8% forthe nine months ended September 30, 2009 compared to 34.7% for the ninemonths ended September 30, 2008.

 

*Sales andMarketing Expense.*    Salesand marketing expense was $25.5 million for the nine months ended September 30,2009 compared to $15.7 million for the nine months ended September 30,2008. The increase of $9.8 million, or 62.4%, was due to the growth of thesales force and sales operations infrastructure.  As a percent of total revenues, sales andmarketing expense was 23.8% for the nine months ended September 30, 2009compared to 18.3% for the nine months ended September 30, 2008.

 

*Researchand Development Expense.*    Researchand development expense was $4.3 million for the nine months ended September 30,2009 compared to $3.0 million for the nine months ended September 30,2008. The increase of $1.3 million, or 43.3%, was due primarily to an increasein payroll expense of $0.7 million, increase in consulting fees of $0.3 millionand miscellaneous expenses of $0.3 million. As a percent of total revenues,research and development expense increased to 4.0% for the nine months ended September 30,2009 from 3.5% for the nine months ended September 30, 2008.

 

*Integration,Restructuring and Other Charges.*    Integration, restructuring and other chargeswere $3.1 million, or 2.9% of revenues, for the nine months ended September 30,2009, comprised primarily of severance expenses related to the departure ofcertain executives in the first quarter of 2009 and the 2009 restructuring planactivities that were initiated in the third quarter of 2009. The 2009restructuring plan included the consolidation and closure of the Company’sevent monitoring facility in Florida with its event monitoring facility inGeorgia, the shift of the majority of the Company’s manufacturing activities toits Chester, Pennsylvania facility, and an overall reduction of support costscompanywide.

 

For the nine months ended September 30,2008, integration, restructuring and other charges were $4.8 million.Integration charges relating to the PDSHeart acquisition were $0.8 million forthe nine months ended September 30, 2008, and restructuring chargesrelating to consolidating our Finance and Human Resources functions inPennsylvania were $1.0 million. Secondary offering costs were $0.9 million,costs related to the resolution of intellectual property litigation were $1.0million and other nonrecurring charges related to the departure of certaindirectors were $1.1 million for the nine months ended September 30, 2008.

 

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*OtherIncome.*    Netinterest income was $0.2 million for the nine months ended September 30,2009, a decrease of $0.5 million, or 71.4% from $0.7 million for the ninemonths ended September 30, 2008. The decrease was primarily due to lowershort term interest rates and a lower average cash balance in the first ninemonths of 2009 compared to the first nine months of 2008.

 

*IncomeTaxes.*    TheCompany’s effective tax rate was 7.9% for the nine months ended September 30,2009, compared to an effective tax rate of 42.9% for the nine months ended September 30,2008.

 

*NetIncome.*    TheCompany incurred a net loss of $4.6 million for the nine months ended September 30,2009, a decline from a net loss of $0.3 million for the nine months ended September 30,2008.

 

**Liquidityand Capital Resources**

 

As of September 30,2009, our principal source of liquidity was cash and cash equivalents totaling$42.9 million and net accounts receivable of $50.6 million. TheCompany has incurred net losses from inception through March 31, 2008.Prior to March 2008 the Company obtained funding through various debtsources. In March 2008, all material portions of interest-bearing debtwere retired in conjunction with the Company’s initial public offering (IPO).Proceeds from the IPO were $46.7 million, net of underwriting commissions andoffering expenses. From March 2008 through June 30, 2009 the Companygenerated sufficient cash to fund its business through continuing operations.The Company incurred a net loss of $4.6 million for the nine months ended September 30,2009.

 

For the ninemonths ended September 30, 2009, cash flow from operations decreased to acash outflow of $1.8 million, compared to a cash inflow of $4.3 million for thenine months ended September 30, 2008. The decrease was due primarily to anincrease in accounts receivable that resulted from higher sales of MCOTTMservices, as well as an extended receivable turnover rate for the nine monthsended September 30, 2009 compared to the nine months ended September 30,2008. The increase in accounts receivable was offset by an increase in accountspayable, higher depreciation related to growth in operations, increasedprovision for doubtful accounts related to aging receivables, and increasedstock-based compensation related to the adoption of the director compensationplan, as well as the hiring of several senior level employees that receivedstock-based compensation awards upon employment commencement.

 

The Company used net cash ininvesting activities of $16.5 million for the nine months ended September 30,2009, compared to $11.9 million in the nine months ended September 30,2008, an increase of $4.6 million. The increase was primarily due to investmentin medical devices related to increased patient volume for the nine monthsended September 30, 2009.

 

The Company generated netcash from financing activities of $3.0 million in the nine months ended September 30,2009, compared to $45.7 million in the nine months ended September 30,2008, a decrease of $42.7 million. The decrease was primarily due to theCompany receiving proceeds from its initial public offering in the firstquarter of 2008.

 

We believe that our existingcash and cash equivalent balances and revenues from our operations will besufficient to meet our anticipated cash requirements for the foreseeablefuture.

 

Our future fundingrequirements will depend on many factors, including:

 

·                  the reimbursement ratesassociated with our products and services;

 

·                  our ability to securecontracts with additional commercial payors providing for the reimbursement ofour services;

 

·                  our ability to liquidate our receivables;

 

·                  the costs associated withdeveloping, manufacturing and building our inventory of our future monitoringsolutions;

 

·                  the costs of hiringadditional personnel and investing in infrastructure to support future growth;

 

·                  actions taken by the FDA andother regulatory authorities affecting the MCOTTM and competitive products;

 

·                  the emergence of competingtechnologies and products and other adverse market developments;

 

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·                  the costs of preparing,filing, prosecuting, maintaining and enforcing patent claims and otherintellectual property rights or defending against claims of infringement byothers;

 

·                  the costs related tobusiness combinations; and

 

·                  the costs of investing inadditional lines of business outside of arrhythmia monitoring solutions.

 

If we determine that we needto raise additional capital, such capital may not be available on reasonableterms, or at all. If we raise additional funds by issuing equity securities ourexisting stockholders’ ownership will be diluted. If we raise additional fundsby incurring additional debt financing, the terms of the debt may involvesignificant cash payment obligations as well as covenants and specificfinancial ratios that may restrict our ability to operate our business.

 

**Item 3. Quantitative andQualitative Disclosures about Market Risk.**

 

Our cash and cash equivalents as of September 30,2009 consisted primarily of cash and money market funds with maturities of lessthan 90 days.  The primary objective ofour investment activities is to preserve our capital for the purpose of fundingoperations while, at the same time, maximizing the income we receive from ourinvestments without significantly increasing risk. To achieve this objective,our investment policy allows us to maintain a portfolio of cash equivalents andshort term investments in a variety of securities including money market fundsand corporate debt securities. Due to the short term nature of our investments,we believe we have no material exposure to interest rate risk.

 

**Item 4T. Controls and Procedures.**

 

We maintain disclosurecontrols and procedures that are designed to ensure that information requiredto be disclosed in our periodic reports filed with the SEC is recorded,processed, summarized and reported within the time periods specified in the SEC’srules and forms and that such information is accumulated and communicatedto our management, including our chief executive officer and chief financialofficer, as appropriate, to allow for timely decisions regarding requireddisclosure. In designing and evaluating the disclosure controls and procedures,management recognizes that any controls and procedures, no matter how well designedand operated, can provide only reasonable assurance of achieving the desiredcontrol objectives, and no evaluation of controls and procedures can provideabsolute assurance that all control issues and instances of fraud, if any,within a company have been detected. Management is required to apply itsjudgment in evaluating the cost-benefit relationship of possible controls andprocedures.

 

As required by Rule 13a-15(b) ofthe Securities Exchange Act of 1934, as amended, or Exchange Act, prior to thefiling of this report we carried out an evaluation, under the supervision andwith the participation of our management, including our chief executive officerand chief financial officer, of the effectiveness of the design and operationof our disclosure controls and procedures (as defined in Rules 13a-15(e) and15d-15(e) of the Exchange Act) as of the end of the period covered by thisreport. Based on their evaluation, our chief executive officer and chieffinancial officer concluded that our disclosure controls and procedures wereeffective as of the end of the period covered by this report.

 

In addition, management,including our chief executive officer and chief financial officer, did notidentify any change in our internal control over financial reporting thatoccurred during our latest fiscal quarter that has materially affected, or isreasonably likely to materially affect, our internal control over financialreporting.

 

**PART II - OTHER INFORMATION.**

 

**Item 1.  LegalProceedings.**

 

Commencing on August 26,2009, two putative class actions were filed in the United States District Courtfor the Eastern District of Pennsylvania naming CardioNet, Inc., RandyThurman and Martin P. Galvan as defendants and alleging violations of Sections10(b) and 20(a) of the Securities Exchange Act of 1934, as amended.  The complaints purport to bring claims onbehalf of a class of persons who purchased the Company’s common stock between April 30,2009 and June 30, 2009 and between April 30, 2009 and July 10,2009.  The complaints allege that thedefendants issued various materially false and misleading statements relatingto the Company’s projected performance that had the effect of artificiallyinflating the market price of its securities. The complaints further allege that the alleged misstatements wererevealed to the public on June 30, 2009 and July 10, 2009 when theCompany made certain announcements regarding potential lower pricing forcommercial and Medicare reimbursement rates. These actions were consolidated on September 9, 2009 under docketnumber 09-3894.  On October 26,2009, two competing motions were filed for appointment of lead plaintiffs andlead counsel pursuant to the requirements of the Private Securities LitigationReform Act of 1995.   Lead plaintiffs arerequired to file a consolidated 

 

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complaint within fourteen days of an Order, if any,designating lead plaintiffs and lead counsel. The defendants have fourteen days to respond to the consolidatedcomplaint and if defendants file a motion to dismiss, lead plaintiffs shallhave fourteen days in which to file an opposition.  The Company believes the claims are without meritand intends to defend the litigation vigorously.

 

On April 2,2009 CardioNet entered into a Merger Agreement to acquire Biotel Inc. for $14.0million.  On July 14, 2009,CardioNet exercised its contractual right to terminate the Merger Agreement dueto Biotel’s breach of certain covenants in the agreement.  The next day, CardioNet notified Biotel ofits obligation to pay the Company $1.4 million for a termination fee andexpenses in accordance with the Merger Agreement.  On or about July 16, 2009, Biotelsubsequently commenced litigation against CardioNet in Minnesota District Courtin Hennepin County, Fourth Judicial District, alleging that CardioNet hadbreached and improperly terminated the Merger Agreement. CardioNet removed theaction to the United States District Court for the District of Minnesota on thebasis of diversity jurisdiction, and Biotel did not seek to remand the action.Biotel is seeking specific performance and damages (the amount of which iscurrently unspecified). CardioNet has counterclaimed under the terms of theMerger Agreement for its termination fee and associated expenses; the currentamount of that counterclaim is $1.4 million. The case is to be ready for trial by July 15, 2010. Discovery isunderway.  The Company plans to vigorouslydefend its position and prosecute its counterclaim.

 

**Item 1A.  Risk Factors.**

 

In evaluating aninvestment in our common stock, investors should consider carefully, amongother things, the risk factors previously disclosed in Part I, Item 1A ofour Annual Report on Form 10-K filed with the SEC for the year ended December 31,2008, as well as the information contained in this Quarterly Report and ourother reports and registration statements filed with the SEC.  Material changes from the risk factorspreviously disclosed under “Risk Factors” in Part I, Item 1A of our AnnualReport on Form 10-K with the SEC for the year ended December 31, 2008are discussed below.

 

***The reduction in the published Medicare reimbursementrates could negatively impact our business and our operating results.***

 

Highmark MedicareServices announced the reduction of the Medicare reimbursement rate for the Company’sMCOTTM services to $754, areduction of approximately 33%, which went into effect September 1, 2009.This decrease in the reimbursement rate for our services will have materialadverse effects on our business and operating results. Furthermore, if thecurrent reimbursement rate remains in effect, the Company may not beeconomically viable under its current business model.

 

The decline in reimbursement rates has had anegative impact on the Company’s revenue and operating results, and haspresented significant challenges to the viability of the Company’s currentbusiness model. Several operational initiatives are currently beingimplemented, including cost efficiency measures and a continued focus on salesvolume growth. The Company intends to continue to work with Highmark and CMS toachieve an appropriate national rate in the future, and will continue toevaluate its strategic options. Failure to effectively execute the costefficiency and other operational and strategic initiatives may have materiallyadverse consequences on the Company’s financial results and viability.

 

***Reductions in the Medicare reimbursement rates applicableto the Company’s services may lead to pressure from insurance carriers toreduce our commercial pricing.***

 

In the first nine monthsof 2009 a limited number of commercial payers have requested price reductionsbased on our Medicare reimbursement rates. Due to the reduction of our Medicarereimbursement rate that took effect on September 1, 2009, we mayexperience additional pressure from insurance payers to reduce commercialpricing. A decrease in commercial pricing would adversely affect our financialresults.

 

***The Company has significant outstanding accountsreceivables; failure to liquidate these receivables may lead to additional baddebt expense being recorded and could have a materially adverse effect on ouroperating results.***

 

The Company hasexperienced a continued increase in its days’ sales outstanding (DSO) over thenine months ended September 30, 2009. Several strategic initiatives havebeen implemented to collect on outstanding receivable accounts. While theCompany believes that it will realize improvements in its DSO in theforeseeable future, there is no guarantee that collections rates will improve.A failure to liquidate its receivables may have a materially adverse impact onits financial results.

 

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***Several lawsuits have beenbrought against us and the outcome of these lawsuits is uncertain.***

 

Several lawsuits have beenbrought against us that allege, among other things, that we issued variousmaterially false and misleading statements relating to the Company’s projectedperformance that had the effect of artificially inflating the market price ofour securities.  We intend to vigorouslydefend ourselves against these lawsuits; however, no assurance can be given asto the outcome of these lawsuits. In addition, other lawsuits may be broughtagainst us. We may be required to defend such lawsuits, thus incurring expenseswhich we may not be able to bear, or which we may not be successful indefending.

 

**Item 2. Unregistered Sales of EquitySecurities and Use of Proceeds**

 

Not applicable.

 

**Item 3. Defaults Upon Senior Securities**

 

Not applicable.

 

**Item 4. Submission of Matters to a Vote ofSecurity Holders**

 

Not applicable.

 

**Item 5. Other Information**

 

*RestructuringActivities*

 

Asdiscussed in Note 4, Integration and Restructuring Activities, to theConsolidated Financial Statements included in this Quarterly Report on Form 10-Q,management initiated certain restructuring activities on or around July 22,2009, including moving the majority of our manufacturing activities from SanDiego to our facility in Chester, Pennsylvania, as well as closing our eventmonitoring facility in Florida and consolidating it with our event monitoringfacility in Georgia and undertaking an initiative to reduce support costsCompany-wide. The Company believes that it can realize cost efficiencies byconsolidating its event monitoring centers in the southeastern United States andby eliminating duplicative administrative costs.  Among other things, the plan calls for theelimination of approximately 80 positions and the relocation of 15 employees.

 

Weexpect the restructuring to be substantially completed by the end of 2009, and expectthe total cost of the restructuring to be approximately $1.5 million, all ofwhich is expected to result in cash charges. The Company incurred restructuringexpenses of $1.2 million for the nine months ended September 30,2009.  Of these costs, approximately $1.0million relate to severance and employee related costs.

 

*Phoenix,AZ Lease Agreement*

 

OnSeptember 30, 2009, we entered into a sixty-five (65) month lease,commencing December 1, 2009, for approximately 10,800 rentable square feetin Phoenix, AZ.  The space is dedicatedto distribution activities.  There is norental due under the lease through April 30, 2010; thereafter, monthlybase rents are $9,736.20 from May 1, 2010 to April 20, 2011;$9,952.56 from May 1, 2011 to April 20, 2012; $10,168.92 from May 1,2012 to April 20, 2013; $10,385.28 from May 1, 2013 to April 20,2014; and $10,601.64 from May 1, 2014 to April 20, 2015.  A copy of the lease agreement is attached tothis Quarterly Report on Form 10-Q as Exhibit 10.5.

 

**Item 6.  Exhibits.**

 

**EXHIBIT INDEX**

 
| **Exhibit  Number** | ** ** | ** **                                                                                                                                                                                 |
|---------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |       |                                                                                                                                                                                       |
| 10.5                |       | Building Lease Agreement dated September 30, 2009 between the  Registrant and EastGroup Properties, L.P.                                                                                   |
| 31.1                |       | Certification of Chief Executive Officer pursuant to  Rules 13a-14(a) and 15d-14(a) promulgated under the Securities  and Exchange Act of 1934, as amended.                 |
| 31.2                |       | Certification of Chief Financial Officer pursuant to  Rules 13a-14(a) and 15d-14(a) promulgated under the Securities  and Exchange Act of 1934, as amended.                 |
| 32.1                |       | Certification of Chief Executive Officer and Chief Financial Officer  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002. |

 

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**CardioNet, Inc.**

 

**SIGNATURES**

 

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.

 
| ** **                   | **CARDIONET, INC.** |
|------------------------------|--------------------------|
|                         |                     |   |
|                         |                     |   |
| Date: November 6,  2009 | By:                      | /s/ Martin P.  Galvan |
|                         |                     | Martin P.  Galvan, CPA |
| * *                     | * *                 | *Chief  Financial Officer*(Principal  Financial Officer) |

 

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