2012 ANNUAL REPORT
To Our Shareholders:
As many of you may know, we made a number of substantial and transformational changes in the
recent weeks and months at Digirad, including the promotion of new senior management, the
proposed relocation of our corporate headquarters to the Atlanta area, an operational restructuring of
our Diagnostic Imaging business and a new strategic direction for our Company.
Matt Molchan, who has been with Digirad for nearly six years and successfully served as President
of our Digirad Imaging Solutions (DIS) business for more than a year, has been named President of
Digirad. Matt will assume the CEO role at Digirad following a transitional period. Until that time,
Matt and I will be working side-by-side as we collectively work on restructuring the business and
efficiently transitioning Matt to the CEO role. After that work is complete in several months, I will
step down as CEO. Also, Virgil Lott has been promoted to President of the Diagnostic Imaging
business, heading up the sales, maintenance and service of our installed base of imaging equipment.
Our new strategic direction is the result of more than a year of a comprehensive analysis to
determine the best way to position Digirad and our business segments to bring the maximum value
to the markets we serve and most importantly, to our shareholders.
That analysis was prompted by more than three years of unusual volatility for Digirad in terms of
reimbursement, healthcare reform, insurance and regulatory change as well as weak economic trends
in the marketplaces for the three businesses where we have traditionally been focused: hospital
nuclear cameras, in-office nuclear cameras and in-office imaging services.
Our in-depth market research analyzed many possible strategic directions, including partnerships,
acquisitions, divestitures, new product development and new services. We also considered the views
of our shareholders and, back in the spring of 2012, we reconstituted our Board of Directors, adding
four new directors recommended by our largest shareholders. Jeffrey E. Eberwein, who has more
than 20 years of Wall Street experience, is our new Chairman.
Based on the market research and the counsel of our reconstituted Board, which includes five
independent Directors of the six total members, we have now set out on a new strategic path.
Digirad will focus on growing and expanding the footprint and the cash flow we receive from our
DIS business and the positive cash flow from our camera services and maintenance business. Of
course, we will continue to sell our solid-state cameras but we are in the process of restructuring
that division to reduce costs significantly. Going forward, our main focus with this strategy is to
maximize cash generation from operations and return value directly to our shareholders, one way
of which will be through an increased stock buyback program.
We are also pursuing new opportunities to build our DIS business and increase the asset utilization,
as well as cash flow from that business. When we can identify assets that can produce cash returns,
are accretive almost immediately and have a relatively short payback period, we will execute an
acquisition. We are not looking to make large acquisitions that will take years to pay off. Again, this
strategy is about maximizing and expanding cash flow and building the business, as well as the
return for shareholders.
1
Following that model, in the 2012 fourth quarter, we identified and acquired a leading provider of
imaging services in the Southeast. The acquisition provides us a stronger presence in another key
southern region, takes advantage of nearby operational leadership and infrastructure established in
part by our 2007 purchase of Ultrascan in Atlanta, the Southeast’s largest mobile ultrasound
business, and generates favorable operating margins and cash flow. We will continue to seek and
make smart investments like this that can add revenue and maintain solid cash flow.
Finally, we continue to push forward shareholder oriented policies at the Board level. We recently
launched a more aggressive stock repurchase program, which the Board increased from $4 million
previously to $12 million, in order to return value directly to our shareholders. Further, while our
plan is to only execute financially disciplined acquisitions with short payback periods, we also have
ensured that shareholder approval is garnered before a larger transaction is executed. Finally, the
Board has continued to purchase stock in the open market and has adopted ownership guidelines for
the Chief Executive Officer that require his participation as well.
All of the important decisions we made in recent months, and will continue to make, are based on
the same goals: to create a lean but growing Digirad, to build on the strong business structure already
in place, to generate cash flow and to build shareholder value. After months of consideration, we
determined not to pursue strategies that would have required larger investments and greater risks.
We believe this process has resulted in a strategic solution that makes sense for our shareholders.
Digirad is well positioned in the healthcare services marketplace and is a well run organization with
a great deal of value still to be unlocked. We are all excited about the new prospects that lie in front
of us. We invite you all to follow our progress in 2013 and beyond.
Sincerely,
Todd Clyde, Chief Executive Officer
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
Form 10-K
(Mark One)
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2012
or
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: 000-50789
Digirad Corporation
(Exact Name of Registrant as Specified in its Charter)
Delaware
(State or Other Jurisdiction of
Incorporation or Organization)
13950 Stowe Drive, Poway, CA
(Address of Principal Executive Offices)
33-0145723
(I.R.S. Employer
Identification No.)
92064
(Zip Code)
(858) 726-1600
(Registrant’s Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
Common Stock, par value $0.0001 per share
Name of Each Exchange on Which Registered
NASDAQ Global Market
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $0.0001 per share
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes
No
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes
No
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes
No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File
required to be submitted and posted 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 registrant was required to submit and post such files). Yes
No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and
will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form
10-K or any amendment to this Form 10-K.
Indicate by check mark whether registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the
definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
Accelerated filer
Non-accelerated filer
Smaller reporting company
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes
No
The aggregate market value of the voting common stock held by non-affiliates based on the closing stock price on June 30, 2012, was $41,587,716. For
purposes of this computation only, all executive officers and directors have been deemed affiliates.
The number of outstanding shares of the registrant’s common stock, par value $0.0001 per share, as of March 8, 2013 was 19,266,685.
Portions of the registrant’s definitive Proxy Statement to be filed with the Securities and Exchange Commission within 120 days after registrant’s fiscal
year ended December 31, 2012 are incorporated by reference into Part III of this report.
DOCUMENTS INCORPORATED BY REFERENCE
DIGIRAD CORPORATION
FORM 10-K—ANNUAL REPORT
For the Fiscal Year Ended December 31, 2012
Table of Contents
PART I
Item 1
Item 1A
Item 1B
Item 2
Item 3
Item 4
PART II
Item 5
Item 6
Item 7
Item 7A
Item 8
Item 9
Item 9A
Item 9B
PART III
Item 10
Item 11
Item 12
Item 13
Item 14
PART IV
Item 15
Business
Risk Factors
Unresolved Staff Comments
Properties
Legal Proceedings
Mine Safety Disclosures
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity
Securities
Selected Consolidated Financial Data
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Quantitative and Qualitative Disclosures About Market Risk
Financial Statements and Supplementary Data
Changes in and Disagreements With Accountants on Accounting and Financial Disclosures
Controls and Procedures
Other Information
Directors, Executive Officers and Corporate Governance
Executive Compensation
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Certain Relationships and Related Transactions, and Director Independence
Principal Accounting Fees and Services
Exhibits and Financial Statement Schedules
Signatures
Page
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1
9
14
14
14
14
15
15
17
18
27
28
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48
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Cautionary Statement Regarding Forward-Looking Statements
PART I
This report contains various forward-looking statements regarding our business, financial condition, results of operations
and future plans and projects. Forward-looking statements discuss matters that are not historical facts and can be identified by
the use of words such as “believes,” “expects,” “anticipates,” “intends,” “estimates,” “projects,” “can,” “could,” “may,”
“will,” “would” or similar expressions. In this report, for example, we make forward-looking statements regarding, among
other things, our expectations about the rate of revenue growth in specific business segments and the reasons for that growth
and our profitability, our expectations regarding an increase in sales, strategic traction and marketing and sales spending,
uncertainties relating to our ability to compete, uncertainties relating to our ability to increase our market share, changes in
coverage and reimbursement policies of third-party payors and the effect on our ability to sell our products and services, the
existence and likelihood of strategic acquisitions and our ability to timely develop new products or services that will be
accepted by the market.
Although these forward-looking statements reflect the good faith judgment of our management, such statements can only be
based upon facts and factors currently known to us. Forward-looking statements are inherently subject to risks and
uncertainties, many of which are beyond our control. As a result, our actual results could differ materially from those
anticipated in these forward-looking statements as a result of various factors, including those set forth below under the caption
“Risk Factors.” For these statements, we claim the protection of the safe harbor for forward-looking statements contained in
the Private Securities Litigation Reform Act of 1995. You should not unduly rely on these forward-looking statements, which
speak only as of the date on which they were made. They give our expectations regarding the future but are not guarantees. We
undertake no obligation to update publicly or revise any forward-looking statements, whether as a result of new information,
future events or otherwise, unless required by law.
Corporate Information
Digirad Corporation was incorporated in Delaware in 1997. Unless the context requires otherwise, in this report the terms
“we,” “us” and “our” refer to Digirad® Corporation and our wholly-owned subsidiary, Digirad Imaging Solutions®, Inc.
ITEM 1.
BUSINESS
Overview
Digirad is the specialized diagnostic solutions provider advancing the science of imaging with intelligently dedicated
systems and services that optimize efficiency, outcomes and the patient experience throughout the continuum of care. We
generate revenues within two primary operating segments: Digirad Imaging Solutions (“DIS”), which is one of the largest
national providers of in-office nuclear cardiology and ultrasound imaging services to physician practices and hospitals, and
Diagnostic Imaging, which encompasses our nuclear camera sales and product services business.
We were the first to commercialize solid-state nuclear gamma cameras for the detection of cardiovascular disease and other
medical conditions. Our imaging systems are sold in both portable (i.e., movable) and fixed (i.e., stationary) configurations, and
provide enhanced operability, improved patient comfort and can result in lower healthcare costs. Our triple-head Cardius® 3
XPO system provides significantly shorter image acquisition time when compared to traditional vacuum tube cameras or our
single or dual head Cardius® cameras. Our ergoTM imaging system is a large field-of-view general purpose imager featuring a
sleek ergonomic (portable) design that offers clinical versatility and high performance. The ergoTM expands our reach beyond
nuclear cardiology into general nuclear medicine with applicability to various disease states. Our nuclear cameras fit easily into
floor spaces as small as seven feet by eight feet and facilitate the delivery of nuclear medicine procedures in a physician’s
office or an outpatient hospital setting. Our new ergoTM can be used in the intensive and critical care units, pediatrics, trauma
units, patient floors, emergency and operating rooms, women’s health or research areas.
Through DIS, we offer a convenient and economically efficient imaging services program as an alternative to purchasing a
gamma camera or ultrasound equipment or outsourcing the procedures to another physician or imaging center. For physicians
who wish to perform nuclear imaging, echocardiography, vascular or general ultrasound tests, or any combination of these
procedures in their offices, we provide the ability for them to engage our services, which includes the use of our imaging
system, qualified personnel, and related items required to perform imaging in the their own offices and bill Medicare, Medicaid
or one of the third-party healthcare insurers directly for those services. These services are also used by large and small
hospitals, multi-practice physician groups, and imaging centers. The flexibility of our products and our DIS service allows
physicians to ensure continuity of care and convenience for their patients and allows them to retain revenue from procedures
they would otherwise refer to imaging centers and hospitals. DIS services are primarily provided to cardiologists, internal
medicine physicians, and family practice doctors who enter into annual contracts for a set number of days ranging from once
1
per month to five times per week. We experience some seasonality in our DIS business related to vacations, holidays, and
inclement weather. Most of the DIS business focuses on cardiac care with an increase in a combination of cardiac, vascular and
general ultrasound imaging in recent months. Many of the physicians who use DIS services are reliant on reimbursements from
Medicare and third-party insurers where there has been downward pressure and uncertainty due to factors outside the
physicians’ control. The uncertainty created by the 2010 healthcare reform laws, Congress’ continued deferred action on the
Sustainable Growth Rate reimbursement factor (which is part of the Relative Value Unit calculation of reimbursements for all
medical codes associated with the physician fee schedule) and other legislation has also impacted our business. These changes
may require further modifications to our business model in order for our physician customers and us to maintain a viable
economic model.
Our Diagnostic Imaging segment's revenue results primarily from selling solid-state gamma cameras and camera
maintenance contracts. We sell our imaging systems to physician offices, hospitals and imaging centers primarily in the United
States, although we have sold a small number of imaging systems internationally.
On February 28, 2013, we announced a plan to restructure our Diagnostic Imaging business to significantly reduce costs and
focus on maximizing cash flow from our DIS service business. This restructuring effort will also include a reduction in force.
After completion of this planned restructuring, we believe the overall operating cash flow of the Company will increase.
However, it is also likely that the long-term volume and total revenue of our Diagnostic Imaging camera sales will decrease.
Further, we are assessing as part of the restructuring effort if we will continue to manufacture our products internally or
outsource manufacturing to a third party, and to what extent we will continue to manufacture our products. See Note 11 to the
audited consolidated financial statements for further information.
Market Opportunity
Nuclear Imaging
Nuclear imaging is a form of diagnostic imaging in which depictions of the internal anatomy or physiology are generated
primarily through non-invasive means. Diagnostic imaging facilitates the early diagnosis of diseases and disorders, often
minimizing the scope, cost and amount of care required and reducing the need for more invasive procedures. Currently, the
major types of non-invasive diagnostic imaging technologies available are: x-ray, magnetic resonance imaging (MRI),
computerized tomography (CT), ultrasound, positron emission tomography or PET (which is a form of nuclear imaging) and
nuclear imaging. The most widely used imaging acquisition technology utilizing gamma cameras is single photon emission
computed tomography, or SPECT. All of our current cardiac gamma cameras employ SPECT methodology.
According to industry sources, (despite the improving image quality and increasing utilization rates of competing modalities
such as computed tomography, positron emission tomography, and magnetic resonance imaging, and diagnostic procedures
such as CT angiography), SPECT procedures performed with gamma cameras will continue to be used for a substantial number
of cardiac-specific imaging procedures. We believe continued utilization will be driven by patients having easier access to
nuclear medicine services at physicians’ offices, lower purchase and maintenance costs, a smaller physical footprint, and easier
service logistics of gamma cameras. In an emerging trend in cardiology, SPECT technologies are being integrated with other
imaging modalities, to form hybrid imaging modalities, such as SPECT/CT, resulting in improved clinical quality and
diagnostic certainty.
Clinical Applications for Nuclear Imaging
Nuclear imaging is used primarily in cardiovascular, oncology, and neurological applications. Nuclear imaging involves the
introduction of very low-level radiopharmaceuticals into the patient’s bloodstream. The radiopharmaceuticals are specially
formulated to concentrate temporarily in the specific part of the body to be studied. The radiation signals emitted by the
materials are then converted into an image of the body part or organ. Nuclear imaging has several advantages over other
diagnostic imaging modalities, showing not only the anatomy or structure of an organ or body part, but also its function
including blood flow, organ function, metabolic activity, and biochemical activity. Cardiologists and an increasing number of
internists and other physicians either purchase our nuclear cameras or subscribe to our DIS services for in-office cardiac
imaging for these advantages.
Ultrasound Imaging
Ultrasound is a form of diagnostic imaging in which depictions of the internal anatomy are generated primarily through non-
invasive means. Ultrasound imagers use sonar techniques to generate diagnostic images that facilitate the early diagnosis of
diseases and disorders, often minimizing the scope and cost of care required and reducing the need for invasive procedures.
2
Clinical Applications for Ultrasound Imaging
Ultrasound is one of the most widely used imaging techniques in the United States. Ultrasound imaging is used primarily in
obstetrics, internal medicine, cardiovascular care, and vascular health applications. Ultrasound imaging involves the
transmission and detection of sound waves into and from a patient’s body. The sound waves transmitted by the ultrasound
system are then converted into an image of the body part or organ. Ultrasound imaging also shows the anatomy or structure of
many internal organs or body parts, as well as key functional information—including blood flow, wall motion and organ
function. Our ultrasound services are used by an increasing number of cardiologists, internists and other physicians for in-office
echocardiography and general ultrasound imaging.
Our Imaging Services
DIS offers portable nuclear and ultrasound imaging services. We have obtained Intersocietal Commission for Nuclear
Cardiology Laboratories (ICANL) and Intersocietal Commission for Echocardiography Laboratories (ICAEL) accreditation for
our services. Our nuclear modality services include an imaging system, a certified nuclear medicine technologist and a cardiac
stress technician, often certified or a trained nurse or paramedic, the supply of radiopharmaceuticals, and required licensing
services for the performance of nuclear imaging procedures under the supervision of physicians. Our licensing infrastructure
provides the radioactive materials license, radiation safety officer services, radiation safety training, monitoring and compliant
policies and procedures, and the quality assurance function to ensure adherence to applicable state and federal nuclear
regulations. The ultrasound imaging service is similar, in that we provide the ultrasound equipment and one experienced
ultrasound technologist.
Our portable nuclear imaging operations use a “hub and spoke” model in which centrally located regional hubs anchor
multiple van routes in the surrounding metropolitan areas. At our DIS hubs, clinical personnel load the equipment,
radiopharmaceuticals, and other supplies onto specially equipped vans for transport to the physician’s office or other customer
locations, where they set up the equipment for the day. After quality assurance testing, a technologist under the physician’s
supervision will gather patient information, inject the patient with a radiopharmaceutical, and then acquire the images for
interpretation by the physician.
We provide nuclear and ultrasound services primarily under annual contracts for services delivered on a per-day basis.
Under these agreements, physicians pay us a fixed amount for each day and they commit to the scheduling of a minimum
number of lease days during the lease term, which normally runs for one year. The same fixed payment amount is due for each
day regardless of the number of patients seen or the reimbursement or payment obtained by the physician, practice, hospital, or
imaging center.
Our Products
Digirad sells a line of nuclear medicine cameras for nuclear cardiology and general nuclear medicine applications. Our
cameras are used in hospitals, imaging centers, physician offices and by mobile service providers. The central component of a
nuclear camera is the detector and it ultimately determines the overall clinical quality of the image a camera produces. Our
nuclear cameras feature detectors based on advanced proprietary solid-state technology developed by us. Solid-state systems
have a number of benefits over conventional photomultiplier tube-based camera designs typically offered by our competitors.
Our solid-state technology systems are typically 2 – 5 times lighter and considerably more compact than most traditional
nuclear systems, making them far easier and less costly to build, as well as very reliable.
Our Cardius® family of dedicated cardiac SPECT (single-photon emission computerized tomography) solid-state imagers
are noted for their compactness, portability and unique upright imaging capabilities that make it possible to image patients up
to 500 pounds in a sitting position. Upright imaging makes it possible to image large bariatric, COPD (Chronic Obstructive
Pulmonary Disease) or claustrophobic patients that typically could not be imaged lying down on competitive systems and
afford our users the ability to generate added revenue to their practices. We offer fixed dual-head and triple-head cardiac
camera models for dedicated use within a facility and a portable dual-head configuration that makes it possible to move the
system to provide service to multiple rooms or sites. We are a market leader in the mobile solid-state nuclear camera segment.
Our flagship product in cardiology is the Cardius® XACT SPECT/CT system. It features a triple-head design and a low dose
volume CT attenuation correction methodology, making it possible to perform studies faster with greater interpretation
diagnostic confidence. Our XACT camera is increasingly being sought by departments seeking to improve productivity,
increase clinical accuracy or employ new low dose clinical protocols.
Our ergoTM large-field-of-view imaging system is targeted to hospitals with multi-camera general nuclear medicine
departments, academic centers, pediatric hospitals, regional trauma centers, women’s health centers, and cancer centers. Most
general nuclear medicine departments have the need for a single-head planar portable camera for imaging patients more
conveniently on hospital stretchers, for imaging patients that can not be moved, and for imaging patient’s at their bedside
3
(pediatrics, intensive care units, critical care units, emergency rooms, surgical suites, women’s health clinics, or on regular
patient floors). A single-head planar camera provides a more economical and convenient way to perform approximately 25% or
more of all studies commonly performed in general nuclear medicine. It also opens the door to perform studies on critically ill
patients in the patient’s room and the ability to perform new molecular breast imaging protocols that offer new revenue
generation potential while improving the standard of patient care.
Competitive Strengths
We believe that our competitive strength is based on our proprietary solid-state technology in general nuclear medicine and
cardiology.
•
Leading Solid-State Technology. Our solid-state gamma cameras utilize proprietary photo-detector modules which
enable us to build smaller and lighter cameras that are portable, with a degree of ruggedness that can withstand the
vibration associated with transportation. Through fiscal 2012, we have continued to invest in technology
advancements that enhance the performance of our solid-state photodiode detectors over traditional photomultiplier
tube-based systems for both cardiac and general purpose nuclear medicine applications. We now offer a more
geometric-efficient design for cardiology and introduced our ergoTM imaging system in mid-2010, our first large field-
of-view solid-state detector system for use in general nuclear medicine, pediatrics, women’s health and surgery.
• Portable Applications through Reduced Size and Weight. Our cameras, depending on the model, weigh anywhere from
600 to 1,000 pounds. Competitive anger photomultiplier tube-based technology cameras generally weigh 2 to 5 times
as much. Our dedicated cardiac imagers require a floor space of as little as seven feet by eight feet and generally can
be installed without facility renovations and use standard power (20 Amps @ 120 VAC). Our portable cameras are
ideal for mobile operators or practices desiring to service multiple office locations or imaging facilities, and for use in
our DIS in-office service business. We bring nuclear technology to the patient.
•
•
Speed and Image Quality. We believe our Cardius® 3 XPO and X-ACT rapid imaging dedicated cardiac cameras,
equipped with our proprietary nSPEED 3DOSEM software, can acquire images up to four times faster than
conventional fixed 90 or variable dual-head photomultiplier vacuum tube camera designs with equivalent image
quality. Increased imaging speed optimizes workflow and resource utilization and allows for reduction of the
administered dose of radiation to patients or the use of low dose imaging protocols, which we believe is increasingly
of interest to our physician customers.
Improved Patient Comfort and Utilization. We believe the upright and open architecture of our patient chair reduces
patient claustrophobia and increases patient comfort when compared to traditional vacuum tube-based imaging
systems, the majority of which require the patient to lie flat and have detector heads rotate around the patient. Upright
imaging positioning also reduces false indications that can result from organs pushing-up against the heart while
patients are on their backs. Our Cardius® XPO camera series allows for the imaging of patients weighing up to 500
pounds.
• Broad Portfolio of Cardiovascular Imaging Services. Another competitive advantage is our ability to offer nuclear
cardiology, echocardiography and complete vascular imaging services. Our ability to offer multiple services
strengthens our competitive position and expands our revenue potential. The depth of services offered varies
depending on the local market opportunity, availability of personnel and credentialing requirements in the individual
markets.
• Unique Dual Sales and Leasing Service Offering. We sell imaging systems to physicians who wish to perform nuclear
imaging in their facilities and manage the related service logistics. Through DIS, we offer both nuclear and ultrasound
services in which we lease our systems and certified personnel to physicians on an annual basis in flexible increments,
ranging from one day per month to several days per week without requiring them to make a capital investment, hire
personnel, obtain licensure, or manage other logistics associated with operating a nuclear imaging site.
•
Intellectual Property Portfolio. We have developed an intellectual property portfolio that includes product, component
and process patents covering various aspects of our imaging systems. We have 38 issued U.S. patents and an
additional 7 pending U.S. patent applications. We also license patents from third parties to enhance our product
offering. In addition to our patent portfolio, we have developed proprietary manufacturing, business know-how, and
trade secrets. This portfolio of intellectual property combined with our ability to design, manufacture, sell and service
our own equipment provides us with a distinct competitive advantage.
4
Business Strategy
Our goals are to achieve and maintain profitability and generate consistent positive cash flow via the following:
• DIS. 2012 has showed signs of stabilization in relation to healthcare reform and reimbursement uncertainties,
however, we continue to have challenges surrounding reimbursement in general. We expect to continue supporting
our physician customers by working with them to adjust our DIS business model for changes in the market as well as
continuing to focus on aligning our labor and other costs with the variable nature of our revenue streams. Going
forward, we also continue to see value in our service channel via strategic and technological initiatives designed to
increase revenue per day for us and our physician customers, as well as expand our service model offerings. We may
also acquire smaller, highly-disciplined businesses that meet strict financial criteria, and that complement our current
DIS business.
• Diagnostic Imaging. In order to overcome the market decline of cardiac specific cameras and the general downturn in
the economy that has limited the amount of healthcare capital spending, we intend to focus efforts on markets beyond
the cardiac-specific nuclear market. Our Cardius® XACT camera is particularly geared toward hospitals and large
physician practices. Our ergoTM imaging system also addresses the larger market of general nuclear imaging and
provides us with a new untapped market opportunity within the hospital. Our ergoTM imaging system is not just part of
a hospital nuclear suite, it is a camera that enables the imaging to be performed wherever the patient is located and has
great promise in areas of the hospital where previously no nuclear imaging has been performed, such as the emergency
room and the surgical suite. On February 28, 2013, we announced a plan to restructure our Diagnostic Imaging
business to significantly reduce costs and focus on maximizing cash flow from our DIS service business, as well as
improve cash flow in our Diagnostic Imaging business. This restructuring effort will also include a reduction in force.
As a result of this restructuring, it is likely that the long-term volume and total revenue of our Diagnostic Imaging
camera sales will decrease. Further, we are assessing as part of the restructuring effort if we will continue to
manufacture our products internally or outsource manufacturing to a third party, and to what extent we will continue to
manufacture our products. See Note 11 to the audited consolidated financial statements for further information.
Business Segments
Our business is organized into two reportable segments: DIS and Diagnostic Imaging. See Note 10 to the audited
consolidated financial statements for certain segment financial data relating to our business.
Manufacturing
We currently manufacture our gamma cameras and employ a strategy that combines our internal design expertise and
proprietary process technology with selective outsourcing. Outsourcing the manufacturing of certain components of our
cameras has resulted in cost efficiencies. We perform subassembly and final system performance tests at our facility. In
addition, suppliers of our critical materials, components, and subassemblies undergo ongoing quality audits by us.
We use enterprise resource planning and collaborative software to help improve efficiency in the handling and security of
inventory, purchasing, and the reduction of manufacturing variances. We use forecasting software to allow for more detailed
and separate planning of service and product inventory. In some cases, we are in-sourcing when volumes do not allow for cost
effective outsourcing.
We and our third-party manufacturers are subject to FDA Quality System Regulations, state regulations, such as those
promulgated by the California Department of Health Services, and standards set by the International Organization for
Standardization, or ISO. We are currently certified to the EN ISO 13485:2012 quality standard. We have certification
authorizing CE Marking of our Cardius® XPO, Cardius® X-ACT, ergoTM and 2020tc family of gamma cameras, as well as U.S.
Food and Drug Administration (FDA) 510(k) clearance for our complete gamma camera product line. The CE Mark is a
requirement for selling in many international markets. In addition, the X-ACT camera utilizes a patent pending x-ray
technology to provide attenuation correction information for the SPECT reconstruction. We also have received FDA Indications
for Use for our ergoTM LFOV General Purpose Imager for lymphatic scintigraphy, parathyroid scintigraphy and molecular
breast imaging.
As a result of our Diagnostic Imaging restructuring announced on February 28, 2013, we are assessing if we will continue to
manufacture our products internally or outsource manufacturing to a third party, and to what extent we will continue to
manufacture our products. See Note 11 to the audited consolidated financial statements for further information.
Raw Materials
We use a wide variety of materials, metals and mechanical and electrical components for production of our products. In
5
addition, our imaging service business involves the use of radiopharmaceuticals. We primarily purchase these materials from
external suppliers, some of which are single-source suppliers. We purchase materials from selected suppliers based on quality
assurance, cost effectiveness and constraints resulting from regulatory requirements, and we work closely with our suppliers to
assure continuity of supply while maintaining high quality and reliability. Global commodity supply and demand can ultimately
affect pricing of certain of these raw materials. Though we believe we have adequate available sources of raw materials, there
can be no guarantee that we will be able to access the quantity of raw material needed to sustain operations as well as at a cost
effective price.
Competition
The medical device industry, including the market for nuclear and ultrasound imaging systems and services, is highly
competitive. Our business in the private practice and hospital sectors continues to face the challenge of a decline in demand for
nuclear imaging equipment and services, which we believe reflects in part, the impact of the Deficit Reduction Act on the
reimbursement environment and the 2010 Healthcare Reform laws, decline in the overall economy and competition from
competing imaging modalities, such as CT (computed tomography) angiography, PET (positron emission tomography), and
hybrid technologies. We believe that the principal competitive factors in our market include acceptance by physicians, budget
availability, qualification for reimbursement, pricing, ease-of-use, reliability and mobility.
In providing DIS imaging services, we compete against many smaller local and regional nuclear and/or ultrasound
providers, often owner-operators. The fixed-installation operators often utilize used equipment and the mobile operators may
use older Digirad single-head cameras or newer dual-head cameras. We are the only mobile provider with our own exclusive
source of triple-head mobile systems. Some competing operators place new or used cameras into physician offices and then
provide the staffing, supplies and other support as an alternative to a DIS lease. In addition, we compete against imaging
centers that install fixed nuclear gamma cameras and make them available to referring physicians in their geographic vicinity.
In these cases, the physician sends his/her patients to the imaging center.
In selling our imaging systems, we compete against several large medical device manufacturers who offer a full line of
imaging cameras for each diagnostic imaging technology, including x-ray, MRI, CT, ultrasound, nuclear medicine, or SPECT/
CT and PET/CT hybrid imagers. The existing nuclear imaging systems sold by these competitors have been in use for a longer
period of time than our products and are more widely recognized and used by physicians and hospitals for nuclear imaging;
however, they are generally not solid-state, light-weight, as flexible or portable. Additionally, certain medical device companies
have developed solid-state gamma cameras which may directly compete with our product offerings. Many of the larger multi-
modality competitors enjoy significant competitive advantages over us, including greater name recognition, greater financial
and technical resources, established relationships with healthcare professionals, broader distribution networks, more resources
for product development and marketing and sales and the ability to bundle products to offer discounts.
Sales
We maintain two sales organizations, which operate independently: Diagnostic Imaging sales and DIS sales. The sales teams
work together to ensure that our customers make the right decisions in purchasing a gamma camera or utilizing our imaging
services. DIS sales teams are aligned across geographic areas we have established in order to better serve local market needs.
Our DIS business is segregated into ten areas, each area is led by a local or regional business director who is responsible for the
needs of our customers in that area and who has local operational responsibility. DIS expects to increase market penetration by
executing new quantitative profiling approaches to identifying suitable physician practices and by expanding the breadth of
available imaging services in select markets to include nuclear medicine, echocardiography, vascular and general ultrasound
scans, as well as other emerging services that have clinical need. The Diagnostic Imaging business sells directly to physicians,
clinics and hospital customers and works closely with distributors. We currently focus on hospitals, cardiology practices, and
large primary care multi-specialty groups.
Research and Development
In the past, we have had a long and extensive commitment to research and development, including an established history in
developing innovative solid-state gamma cameras, which has established a core competency in the development of silicon
photodiodes and related scintillator assemblies, signal processing electronics and image processing software, which are the core
technologies of our gamma cameras.
Our research and development efforts have been primarily focused in the near term on developing further enhancements to
our existing products as well as developing our next generation products. Our research and development expense was $3.7
million, $2.7 million, and $2.9 million in 2012, 2011, and 2010, respectively.
As a result of our Diagnostic Imaging restructuring announced on February 28, 2013, our future research and development
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efforts will be largely related to smaller enhancements and maintenance of our existing product line, which we believe will
significantly reduce spending on research and development.
Government Regulation
We and our medical professional customers must comply with a mosaic of federal and state laws and regulations. Violations
of such laws and regulations can be punishable by criminal, civil, and/or administrative sanctions, including, in some instances,
imprisonment and exclusion from participation in healthcare programs such as Medicare and Medicaid. Federal and state
governmental agencies are continuing heightened enforcement efforts in the healthcare industry, and whistleblower cases are
becoming more common. Accordingly, we maintain a vigorous compliance program and a hotline that permits our personnel to
report violations while remaining anonymous if they wish. Our compliance committee, consisting of senior management, other
select employees and our Compliance Officer, meets regularly to provide oversight of our compliance initiatives. We also
conduct periodic audits to help ensure compliance with applicable laws.
The following is a summary of some of the laws and regulations applicable to our business:
• Anti-Kickback Laws. The Medicare/Medicaid Patient Protection Act of 1987, as amended, which is commonly referred
to as the Anti-Kickback Statute, prohibits us from knowingly and willingly offering, paying, soliciting, or receiving
any form of remuneration in return for the referral of items or services, or to purchase, lease, order or arrange for or
recommend purchasing, leasing, or ordering any good, facility service or item, for which payment may be made under
a federal healthcare program. Violation of the federal anti-kickback law is a felony, punishable by criminal fines and
imprisonment, or both, and can result in civil penalties and exclusion from participation in healthcare programs such
as Medicare and Medicaid. Many states have adopted similar statutes prohibiting payments intended to induce
referrals of products or services paid by Medicaid or other nongovernmental third-party payors.
• Physician Self-Referral Laws. Federal regulations commonly referred to as the “Stark Law” prohibit physician
referrals of Medicare or Medicaid patients to an entity for certain designated health services if the physician or an
immediate family member has an indirect or direct financial relationship with the entity, unless a statutory exception
applies. We believe that referrals made by our physician customers are eligible to qualify for the “in-office ancillary
services” exception to the Stark Law, provided that the services are provided or supervised by the physician or a
member of his or her “Group Practice,” as that term is defined under the law, the services are performed in the same
building in which the physicians regularly practice medicine, and the services are billed by or for the supervising
physician or Group Practice. Violations of the Stark Law may lead to the imposition of penalties and fines, the
exclusion from participation in federal healthcare programs, and liability under the federal False Claims Act and its
whistleblower provisions. Many states have adopted similar statutes prohibiting self-referral arrangements that cover
all patients and not just Medicare and Medicaid patients.
• Federal False Claims Act. The federal False Claims Act imposes civil and criminal liability on individuals or entities
for the submission of false or fraudulent claims for payment to the government. Violations of the federal False Claims
Act may result in civil penalties and exclusion from participation in federal healthcare programs. The federal False
Claims Act also allows a private individual to bring a qui tam suit on behalf of the government against an individual or
entity for violations of the False Claims Act. In a qui tam suit, a private plaintiff initiates a lawsuit for money of which
the government was defrauded. If successful, the private plaintiff is entitled to receive up to 30% of the recovered
amount plus reasonable expenses and attorney fees. A number of states have enacted laws modeled after the False
Claims Act.
• HIPAA. The Health Insurance Portability and Accountability Act of 1996, or HIPAA, prohibits schemes to defraud
healthcare benefit programs and fraudulent conduct in connection with the delivery of, or payment for, healthcare
benefits, items or services. HIPAA also establishes standards governing electronic healthcare transactions and
protecting the security and privacy of individually identifiable health information. Some states have also enacted
privacy and security statutes or regulations that, in some cases, are more stringent than those issued under HIPAA.
The American Recovery and Reinvestment Act of 2009, enacted February 17, 2009 made significant changes to
HIPAA privacy and security regulation. Effective February 17, 2010, we are regulated directly under all of the HIPAA
rules protecting the security of electronic individually identifiable health information and many of the rules governing
the privacy of such information. In addition, the statute significantly increases and strengthens the penalties and
enforcement of the HIPAA privacy and security rules.
• Medical Device Regulation. The FDA classifies medical devices, such as our cameras, into one of three classes,
depending on the degree of risk associated with the device and the extent of control needed to ensure safety and
effectiveness. Devices deemed to pose lower risk are placed in either class I or II, which generally requires the
manufacturer to submit to the FDA a pre-market notification requesting permission for commercial distribution. This
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process is known as 510(k) clearance. Devices deemed to pose the greatest risk, such as life-sustaining, life-supporting
or implantable devices, or devices deemed not substantially equivalent to a previously cleared 510(k) device, are
placed in Class III, requiring an approved Premarket Approval Application (PMA). Our cameras are Class II medical
devices which have been cleared for marketing by the FDA. After a device receives 510(k) clearance, any
modification that could significantly affect its safety or effectiveness or that would constitute a major change in its
intended use requires a new 510(k) clearance. The FDA requires each device manufacturer to determine whether a
modification requires a new clearance or approval, but the FDA can disagree with a manufacturer’s determination. If
so, the FDA can require the manufacturer to cease marketing and/or recall the modified device until 510(k) clearance
or approval is obtained. We are also subject to post-market regulatory requirements relating to our manufacturing
process, marketing and sales activities, product performance and medical device reports should there be deaths and
serious injuries associated with our products.
• Pharmaceutical Regulation. Federal and state agencies, including the FDA and state pharmacy boards, regulate the
radiopharmaceuticals used in our DIS business. These agencies administer laws governing the manufacturing, sale,
distribution, use, administration, prescribing, and dispensing of drugs. Some of our activities may be deemed by
relevant agencies to require additional permits or licensure that we currently do not possess.
• Radioactive Materials Laws. We must maintain licensure under, and comply with, federal and state radioactive
materials laws, or RAM laws. RAM laws require, among other things, that radioactive materials are used by, or that
their use be supervised by, individuals with specified training, expertise, and credentials and include specific
provisions applicable to the medical use of radioactive materials. In our case, the authorized user must be a physician
with training and expertise in the use of radioactive materials for diagnostic purposes. We have entered into contracts
with qualified physicians in each of our regions to serve as authorized users. Because our physician customers in our
lease services business are not licensees, and in most cases are not qualified to serve as authorized users, they perform
nuclear medicine procedures as “supervised persons.”
Intellectual Property
We rely on a combination of patent, trademark, copyright, trade secret, and other intellectual property laws, nondisclosure
agreements, and other measures to protect our intellectual property. We require our employees, consultants, and advisors to
execute confidentiality agreements and to agree to disclose and assign to us all inventions conceived during the work day, using
our property, or which relate to our business. Despite any measures taken to protect our intellectual property, unauthorized
parties may attempt to copy aspects of our products or to obtain and use information that we regard as proprietary.
Patents
We have developed a patent portfolio that covers our overall products, components and processes. We have 38 issued U.S.
patents and 7 pending U.S. patent applications. The issued and pending patents cover, among other things, aspects of solid-state
radiation detectors including our photodiodes, signal processing, and system configuration. Our issued patents expire between
August 9, 2016 and April 20, 2030. We have multiple patents covering unique aspects and improvements for many of our
products. We have entered into royalty-bearing licenses for several U.S. patents with third parties, where we are the licensee,
for exclusive or non-exclusive use in nuclear imaging (subject to certain reservation of rights by the U.S. Government). In
addition to our solid-state detector and photodiode technology patents, we hold specific patents for an alternative solid-state
method using Cadmium Zinc Telluride that we previously pursued for use in gamma cameras. While each of our patents applies
to nuclear medicine, many also apply to the construction of area detectors for other types of medical and non-medical imagers
and imaging methods.
Trademarks
As of December 31, 2012, we hold trademark registrations in the United States for the following marks: 2020tc IMAGER®,
Digirad®, DigiServ®, Cardius®, SPECTour®, SPECTpak Plus®, Solidium®, and DigiTech® . We have obtained and sought
trademark protection for some of these listed marks in the European Union and Japan.
Reimbursement
Our customers typically rely primarily on the Medicare and Medicaid programs and private payors for reimbursement. As a
result, demand for our products is dependent in part on the coverage and reimbursement policies of these payors. Third party
coverage and reimbursement is subject to extensive federal, state, local, and foreign regulation, and private payor rules and
policies. In many instances, the applicable regulations, policies and rules have not been definitively interpreted by the
regulatory authorities or the courts, and are open to a variety of interpretations and are subject to change without notice.
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The scopes of coverage and payment policies vary among third-party private payors. For example, some payors will not
reimburse a provider unless the provider has a contract with the payor, and in many instances such payors will not enter into
such contracts without the approval of a third party “radiology benefit manager” (or RBM) that the payor compensates based
on reducing the payor’s imaging expense. Other payors prohibit reimbursement unless physicians own or lease our cameras on
a full-time basis, or meet certain accreditation or privileging standards. Such payor requirements and limitations can
significantly restrict the types of business models we can successfully utilize.
Medicare reimbursement rules are subject to annual changes that may affect payment for services that our customers
provide. In addition, Congress has passed healthcare reform proposals that are intended to expand the availability of healthcare
coverage and reduce the growth in healthcare spending in the U.S. Many of these laws impact the services that our customers
provide. For instance, the law has established an independent body that will have the power to recommend and mandate
reimbursement levels for various healthcare services, including the imaging services we provide. An eventual outcome of these
healthcare reform laws is expected to be changes, currently unspecified, in reimbursements and we will have to adapt to these
changes. We are unable at this time to predict the full impact of health care reform on the diagnostic radiology services that our
customers provide.
Medicare reimbursement rules impose many standards and policies on the payment of services that our customers provide.
For instance, starting in 2012, physicians billing for the technical component of nuclear imaging tests must be accredited by a
government-approved independent accreditation body and many private payors are adopting similar requirements. We have
made available to our customers a service to assist them in obtaining and maintaining the required accreditation. We believe we
have structured our contracts in a manner that allows our customers to seek reimbursement from third-party payors in
compliance with the law. Our physician customers typically bill for both the technical and professional components of the tests.
Assuming they meet certain requirements including, but not limited to, performing and documenting bona fide interpretations
and providing the requisite supervision of the non-physician personnel performing the tests, they may bill and be paid by
Medicare. If the failure to comply is deemed to be “knowing” or “willful,” the government could seek to impose fines or
penalties, and we may be required to restructure our agreements and/or respond to any resultant claims by such customers or
the government. Our hospital customers typically seek reimbursement by Medicare for outpatient services under the Medicare
Hospital Outpatient Prospective Payment System.
Employees
As of December 31, 2012, we had a total of 248 full time employees, of which 144 were employed in clinical and regulatory
positions, 39 in operational roles, 33 in general and administrative functions, 21 in marketing and sales and 11 in research and
development. We had a total of 237 employees in our DIS subsidiary. We have not experienced any work stoppages and
consider our employee relations to be good.
Availability of Public Reports
We file electronically with the Securities and Exchange Commission, or SEC, our annual reports on Form 10-K, quarterly
reports on Form 10-Q, and current reports on Form 8-K pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of
1934. The public may read or copy any materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street,
NE, Room 1580, Washington, DC 20549. The public may obtain information on the operation of the Public Reference Room
by calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet site that contains reports, proxy and information
statements, and other information regarding issuers that file electronically with the SEC. The address of that site is http://
www.sec.gov.
You may obtain a copy of our annual reports on Form 10-K, quarterly reports on Form 10-Q, and current reports on Form 8-
K and amendments to those reports on the day of filing with the SEC on our website at http://www.digirad.com, by contacting
the Investor Relations Department at our corporate offices by calling 858-726-1600 or through our investor relations
consultants at Allen & Caron, Inc. by calling 949-474-4300.
ITEM 1A.
RISK FACTORS
Risks Related to Our Business and Industry
We may not be able to achieve the benefits of our restructuring efforts.
On February 28, 2013, we announced a plan to restructure our Diagnostic Imaging business to significantly reduce costs and
focus on maximizing cash flow from our DIS service business. Restructuring efforts include many complexities, which include
but are not limited to changing the way a business conducts operations, changing of key personnel, changing the process in
how we manufacture and sell our products, modifying contracts, severing employees and working with less resources. There is
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no guarantee that our restructuring efforts will increase profitability and cash flow in either our DIS business or our Diagnostic
Imaging business, and our efforts could cause unforeseen complexities and additional cash outflows.
Our revenues may decline further due to reductions in Medicare reimbursement rates.
The success of our business is largely dependent upon our medical professional customers' ability to provide diagnostic
imaging care to their patients in an economically sustainable manner, either through the purchase of our imaging systems or
using our services, or both. Our customers are directly impacted by changes (decreases and increases) in governmental and
private payor reimbursements for diagnostic imaging. Although we are not directly impacted by changes in reimbursements, we
make every effort to act as business partners with our physician customers. For example, in 2010, we proactively adjusted the
fair market value of our imaging services rate down due to the dramatic reimbursement declines that our customers faced from
the Centers for Medicare & Medicaid Services. Reimbursements remain a source of concern for our customers and downward
pressure on reimbursements cause greater pricing pressure on our lease services and influences the buying decisions of our
individual physician Diagnostic Imaging product customers. Although the gap is closing, hospital reimbursements remain
higher than in-office reimbursements. Our Diagnostic Imaging segment's products are targeted to serve the hospital market.
Only a small portion of our DIS business segment operates in the hospital market.
Further reductions in reimbursements could significantly impact the viability of in-office imaging performed by
independent physicians. The uncertainty surrounding this issue and the historical decline in reimbursements has resulted in
cancellations of imaging days in our imaging services business and the delay of purchase and service decisions by our existing
and prospective customers in our Diagnostic Imaging business segment. Additional declines in Medicare/Medicaid
reimbursement for our relevant diagnostic imaging modalities are possible due to many factors, including but not limited to the
threatened implementation of the federal sustainable growth factor (SGR). The SGR is part of the relative value unit (RVU), a
formula that was enacted by Congress as part of the Balanced Budget Act of 1997 to control the cost of the Medicare program.
It applies to all health services paid for by Medicare, not just diagnostic imaging. The application of the SGR has been delayed
by Congress for many years, and most recently in January 2013, Congress again implemented a delay of the application of an
approximate 27% reduction in reimbursements until December 31, 2013. There is no assurance that these new rates to be
implemented in 2014 will remain the same, or if they will be implemented sooner or later than 2014. Further, there is no
assurance that concepts surrounding SGR will be timely or favorably resolved, and if not favorably resolved, it could have a
material adverse impact on our business.
Our revenues may decline further due to changes in diagnostic imaging regulations and the use of third party benefit
managers by states and private payors to drive down imaging volumes.
Nuclear medicine is a “designated health service” under the federal physician self-referral prohibition law known as the
“Stark Law,” which states that a physician may not refer designated health services to an entity with which the physician or an
immediate family member has a financial relationship, unless a statutory exception applies. Our business model and service
agreements are structured to enable our physician customers to meet the statutory in-office ancillary services (IOAS) exception
to the Stark Law allowing them to perform nuclear diagnostic imaging services on their patients in the convenience of their
own office. From time-to-time, the Centers for Medicare and Medicaid Services and Congress have proposed to modify the
IOAS to further limit or eliminate this exception. Various lobbying organizations are pushing for, and the Medicare Payment
Advisory Commission (MedPAC) is actively discussing recommending that Congress limit the availability of the IOAS
exception in order to reduce federal healthcare costs. Legislation has been introduced in prior Congresses to modify or
eliminate the exception, but has not been enacted. The outcome of these efforts is uncertain at this time; however, the limitation
or elimination of the IOAS exception could significantly impact our DIS business segment as currently structured.
Our customers who perform imaging services in their office also experience the continuing efforts by some private
insurance companies to reduce healthcare expenditures by hiring radiology benefit managers to help them manage and limit
imaging. The federal government has also set aside monies in the 2009 recession recovery acts to hire radiology benefit
managers to provide image management services to Medicare/Medicaid and MedPAC has recommended and the Centers for
Medicare & Medicaid Services has, in the past, proposed legislation requiring Medicare physicians who engage in a relatively
high volume of medical imaging be required to obtain pre-authorization through a radiology benefit manager. A radiology
benefit manager is an unregulated entity that performs various functions for private payors and managed care organizations.
Radiology benefit manager activities can include pre-authorization for imaging procedures, setting and enforcing standards
approving which contracted physicians can perform the services, such as requiring even the most experienced and highly
qualified cardiologists to obtain additional board certifications or interfering with the financial decision of the private
practitioner by requiring them to own their own imaging system and not allowing them to lease the system. The radiology
benefit managers often do not provide written documentation of their decisions or an appeals process, leaving leasing
physicians unable to challenge their decisions with the carrier or the state insurance department. Some efforts are being made to
address certain radiology benefit manager issues, for example, a few years ago the New York State Attorney General entered
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into a settlement requiring a radiology benefit manager (based and operating in New York State) to buy out its owners in the
state who own imaging centers because it created a conflict of interest in their decisions to deny authorization for competing
physicians to provide imaging services; and, New York is requiring the radiology benefit manager to establish an appeals
process. However, unregulated radiology benefit manager activities have and could continue to adversely affect our physician
customers' ability to receive reimbursement, therefore impacting our customers' decision to utilize our DIS imaging services.
Our manufacturing operations are highly dependent upon the availability of certain third-party suppliers, thereby
making us vulnerable to supply problems that could harm our business.
We rely on a limited number of third parties to manufacture and supply certain key components of our products. Alternative
sources of production and supply may not be readily available or may take several months to scale-up and develop effective
production processes. If a disruption in the availability of parts or in the operations of our suppliers were to occur, such as with
respect to components manufactured in Japan, our ability to build gamma cameras could be materially adversely affected. For
this reason, we are developing backup plans and investigating alternative procedures that are designed to prevent delays in
production. If these plans are unsuccessful, delays in the production of our gamma cameras for an extended period of time
could cause a loss of revenue and/or higher production costs, which could significantly harm our business and results of
operations.
In late 2010, the sole supplier of a key component of our ergo™ gamma camera ceased production of a critical component.
We had a limited supply of that key component and worked hard with several suppliers, who subsequently successfully
provided the component. The process to qualify a supplier for this key component is long, complex and costly. If the key
component is not available when we need it, it could adversely impact our production capability and therefore negatively
impact our financial condition. Furthermore, lower yields on the manufacturing of the key component that we do receive from
our suppliers can have a negative impact on our financial condition through higher purchase price variances, which impact
current period gross margins.
Our imaging operations are highly dependent upon the availability of certain radiopharmaceuticals, thereby making us
vulnerable to supply problems and price fluctuations that could harm our business.
Our imaging service business involves the use of radiopharmaceuticals. There were significant disruptions in the
international supply of these radiopharmaceuticals in 2010, which caused us to cancel services that would have otherwise been
provided and this adversely affected our customers, as well as our financial condition in 2010. Since this event, we have had
sufficient supply. The two major nuclear reactors supplying medical radiopharmaceuticals worldwide came back on-line at the
end of 2010; however, there is no guarantee that the reactors will remain in good repair and our supplier will have continuing
access to ample supply of our radiopharmaceutical product. If we are unable to obtain an adequate supply of the necessary
radiopharmaceuticals, we may be unable to utilize our personnel and equipment through our in-office service operations, or the
volume of our services could decline and our business may be adversely affected. Shortages can also cause price increases that
may not be accounted for in third party reimbursement rates, thereby causing us to lose margin or require us to pass increases
on to our physician customers. We have also been engaged in a contractual dispute with our former radiopharmaceutical
supplier, for which we believe we are near a settlement. If we are unable to resolve the dispute in an amicable or cost effective
manner, we may be required to pursue further expensive and protracted litigation, which could have a material adverse impact
on our financial statements.
Our business is not widely diversified.
We sell our products and imaging services primarily into the cardiac nuclear and ultrasound imaging private practice and in-
office markets. We may not be able to leverage our assets and technology to diversify our products and services in order to
generate revenue beyond the cardiac nuclear and ultrasound imaging private practice markets. If we are unable to diversify our
product and service offerings, our financial condition may suffer.
We compete against businesses that have greater resources and different competitive strengths.
The market for cardiac nuclear imaging cameras is limited and has been decreasing. Some of our competitors have greater
resources and a more diverse product offering than we do. Some of our competitors also enjoy significant advantages over us,
including greater name recognition, greater financial and technical resources, established relationships with healthcare
professionals, larger distribution networks, and greater resources for product development, as well as more extensive marketing
and sales resources. Additionally, certain companies have developed portable cameras that directly compete with our product
offerings. If we are unable to expand our current market share, our revenues and related financial condition could decline.
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In addition, our imaging services customers may switch to other service providers. Our DIS imaging services segment
competes against small local, owner operated or regional businesses, some of whom have the advantage of a lower cost
structure, and against imaging centers that install nuclear gamma cameras and make them available to physicians in their
geographic vicinity. If these competitors are able to win significant portions of our business, our sales could decline
significantly. Our financial condition could be adversely affected under such circumstances.
Our quarterly and annual financial results are difficult to predict and are likely to fluctuate from period to period.
We have historically experienced seasonality in our DIS business, and in the past, volatility due to the changing health care
environment, the variable supply of radiopharmaceuticals, and the downturn in the U.S. economy. While our physicians are
obligated to pay us for imaging days to which they have committed, our contracts permit some flexibility in scheduling when
services are to be performed. We cannot predict with certainty the degree to which seasonal circumstances such as the summer
slowdown, winter holiday vacations and weather conditions may affect the results of our operations. We have also experienced
fluctuations in demand of our cardiac nuclear gamma cameras due to economic conditions, capital budget availability and other
financial or business reasons. In addition, due to the way that customers in our target markets acquire our products, a large
percentage of our camera orders are booked during the last month of each quarterly accounting period. As such, a delivery
delay of only a few days may significantly impact quarter-to-quarter comparisons of our results of operations. Moreover, the
sales cycle in our Diagnostic Imaging segment for cameras is typically lengthy, particularly in the hospital market, which may
cause us to experience significant revenue fluctuations. The restructuring initiative announced on February 28, 2013, will create
further volatility in our operating results. For these reasons, quarterly and annual sales and operating results may vary in the
future, and period-to-period comparisons of our results of operations are not necessarily meaningful and should not be relied
upon as indicators of future performance.
Our common stock is thinly traded and our option plan could affect the trading price of our common stock.
Our common stock is thinly traded and any significant sales of our common stock may cause volatility in our stock price.
We also have registered shares of common stock that we may issue under our employee benefit plans or from our treasury
stock. Accordingly, these shares can be freely sold in the public market upon issuance, subject to restrictions under the
securities laws. If any of these stockholders, or other selling stockholders, cause a large number of securities to be sold in the
public market without a corresponding demand, the sales could reduce the trading price of our common stock. One or more
stockholders holding a significant amount of our common stock might be able to significantly influence matters requiring
approval by our stockholders, possibly including the election of directors and the approval of mergers or other business
combination transactions.
We spend considerable time and money complying with federal and state laws, regulations and other rules, and if we are
unable to comply with such laws, regulations and other rules, we could face substantial penalties.
We are directly, or indirectly through our physician customers, subject to extensive regulation by both the federal
government and the states in which we conduct our business, including: the federal Medicare and Medicaid anti-kickback laws
and other Medicare laws, regulations, rules, manual provisions, and policies that prescribe requirements for coverage and
payment for services performed by us and our physician customers; the federal False Claims statutes; the federal Health
Insurance Portability and Accountability Act of 1996, or HIPAA, as amended in 2009 under the HITECH Act that places direct
legal obligations and higher liability on us with respect to the security and handling of personal health information; the Stark
Law; the federal Food, Drug and Cosmetic Act; federal and state radioactive materials laws; state food and drug and pharmacy
laws and regulations; state laws that prohibit the practice of medicine by non-physicians and fee-splitting arrangements
between physicians and non-physicians; state scope-of-practice laws; and federal rules prohibiting the mark-up of diagnostic
tests to Medicare under certain circumstances. If our physician customers are unable or unwilling to comply with these statutes,
regulations, rules, and policies, rates of our services and products could decline and our business could be harmed.
Additionally, new government mandates will require us to provide a certain baseline of health benefits and premium
contribution for our employees and their families or pay governmental penalties. Some of these costs are not tax deductible. We
have opted to provide this coverage to our employee base in order to maintain retention of qualified medical technicians and
other professionals rather than plan to pay penalties to the government. Either option will result in additional costs to us and
could negatively impact our cash reserves.
We maintain a compliance program to identify and correct any compliance issues and remain in compliance with all
applicable laws, to train employees, to audit and monitor our operations, and to achieve other compliance goals. Like most
companies with compliance programs, we occasionally discover compliance concerns. In such cases, we take responsive action
including corrective measures when necessary. There can be no assurance that our responsive actions will insulate us from
liability associated with any detected compliance concerns.
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If our past or present operations are found to be in violation of any of the laws, regulations, rules, or policies described
above or the other laws or regulations to which we or our customers are subject, we may be subject to civil and criminal
penalties, damages, fines, exclusion from federal or state health care programs, or the curtailment or restructuring of our
operations. Similarly, if our physician customers are found to be non-compliant with applicable laws, they may be subject to
sanctions which could have a negative impact on us. Any penalties, damages, fines, curtailment or restructuring of our
operations could adversely affect our ability to operate our business and our financial results. Any action against us for
violation of these laws, even if we successfully defend against it, could cause us to incur significant legal expenses, divert our
management's attention from the operation of our business, and damage our reputation.
Health care policy changes, including U.S. health care reform legislation signed in 2010, may have a material adverse
effect on us.
In response to perceived increases in health care costs in recent years, there have been and continue to be proposals by the
federal government, state governments, regulators, and third-party payers to control these costs and, more generally, to reform
the U.S. health care system. Certain of these proposals could limit the prices we are able to charge for our products or the
amounts of reimbursement available for our products and could limit the acceptance and availability of our products. The
adoption of some or all of these proposals could have a material adverse effect on our financial position and results of
operations.
In March 2010, President Obama signed into law the Patient Protection and Affordable Care Act and the Health Care and
Education Affordability Reconciliation Act of 2010. The legislation imposes significant new taxes on medical device makers in
the form of a 2.3% excise tax on all U.S. medical device sales beginning in 2013. Under the legislation, the total cost to the
medical device industry is expected to be approximately $20 billion over ten years. This significant increase in the tax burden
on our industry could have a material, negative impact on our results of operations and our cash flows. Other elements of this
legislation, such as comparative effectiveness research, an independent payment advisory board, payment system reforms,
including shared savings pilots, and other provisions, could meaningfully change the way health care is developed and
delivered, and may materially impact numerous aspects of our business.
Our manufacturing operations and executive offices are located at a single facility that may be at risk from fire,
earthquakes or other disasters.
Our manufacturing operations, research and development activities and executive offices are located in a single facility in
Poway, California, near known fire areas and earthquake fault zones. Future natural disasters could cause substantial delays in
our operations, damage to our manufacturing equipment, research and development efforts and inventory, and cause us to incur
additional expenses. Although we have taken precautions to insure our facilities and continuing operations, as well as provide
for offsite back-up of our information systems, this may not be adequate to cover our losses in any particular case. A disaster
could significantly harm our business and results of operations.
The medical device industry is litigious, which could result in the diversion of our management's time and efforts, and
require us to pay damages which may not be covered by our insurance.
Our operations entail risks of claims or litigation relating to product liability, radioactive contamination, patent
infringement, trade secret disclosure, warranty claims, vendor disputes, product recalls, property damage, misdiagnosis, breach
of contract, personal injury, and death. Any litigation or claims against us, or claims we bring against others, may cause us to
incur substantial costs, could place a significant strain on our financial resources, divert the attention of our management from
our core business and harm our reputation. We may incur significant liability in the event of any such litigation, regardless of
the merit of the action. If we are unable to obtain insurance, or if our insurance is inadequate to cover claims, our cash reserves
and other assets could be negatively impacted. Additionally, costs associated with maintaining our insurance could become
prohibitively expensive, and our ability to become or remain profitable could be diminished.
Our ability to protect our intellectual property and proprietary technology through patents and other means is
uncertain.
Our success depends, in part, on our ability to protect our proprietary rights to the technologies used in our products. Our
pending United States patent applications, which include claims to material aspects of our products and procedures that are not
currently protected by issued patents, may not issue as patents in a form that will be advantageous to us. Any patents we have
obtained or do obtain may be challenged by re-examination or otherwise invalidated or eventually found unenforceable. Both
the patent application process and the process of managing patent disputes can be time consuming and expensive. Competitors
may attempt to challenge or invalidate our patents, or may be able to design alternative techniques or devices that avoid
infringement of our patents, or develop products with functionalities that are comparable to ours. In the event a competitor
13
infringes upon our patent or other intellectual property rights, litigation to enforce our intellectual property rights or to defend
our patents against challenge, even if successful, could be expensive and time consuming and could require significant time and
attention from our management. We may not have sufficient resources to enforce our intellectual property rights or to defend
our patents against challenges from others.
Anti-takeover provisions in our organizational documents, our Stockholders Rights Plan and Delaware law may prevent
or delay removal of current management or a change in control.
Our restated certificate of incorporation and restated bylaws contain provisions that may delay or prevent a change in
control, discourage bids at a premium over the market price of our common stock, and adversely affect the market price of our
common stock and the voting and other rights of the holders of our common stock. The rights issued pursuant to our
Stockholder Rights Plan will become exercisable, subject to certain exceptions, the tenth day after a person or group announces
acquisition of 20% or more of our common stock or announces commencement of a tender or exchange offer, the
consummation of which would result in ownership by the person or group of 20% or more of our common stock. In addition, as
a Delaware corporation, we are subject to Delaware law, including Section 203 of the Delaware General Corporation Law. In
general, Section 203 prohibits a Delaware corporation from engaging in any business combination with any interested
stockholder for a period of three years following the date that the stockholder became an interested stockholder unless certain
specific requirements are met as set forth in Section 203. These provisions, alone or together, could have the effect of deterring
or delaying changes in incumbent management, proxy contests or changes in control.
ITEM 1B.
UNRESOLVED STAFF COMMENTS
None.
ITEM 2.
PROPERTIES
Our DIS and Diagnostic Imaging segment operations are headquartered in an approximately 47,000 square foot facility in
Poway, California that is leased to us until February 2016. We believe that our existing facility is adequate for our current
needs. In addition, DIS leases approximately 27 small hub locations in the various states in which we operate, which primarily
house our fleet of cameras and vans. The lease terms typically range between one and five years.
ITEM 3.
LEGAL PROCEEDINGS
See Note 6 to the audited consolidated financial statements for a summary of legal proceedings.
ITEM 4.
MINE SAFETY DISCLOSURES
None.
14
PART II
ITEM 5.
MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
Market Information
Our common stock is traded on the NASDAQ Global Market under the symbol "DRAD." The following table presents the
high and low per share sale prices of our common stock during the periods indicated, as reported on NASDAQ.
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
Year ended December 31,
2012
2011
High
Low
High
Low
$
$
2.18
2.37
2.21
2.22
$
1.81
1.99
1.90
1.95
$
2.63
3.04
2.91
2.40
2.13
2.40
2.15
1.78
As of January 31, 2013 there were approximately 203 holders of record of our common stock. We believe that the number of
beneficial owners is substantially greater than the number of record holders because a large portion of our common stock is
held of record through brokerage firms in "street name."
Dividend Policy
We have never declared or paid cash dividends on our capital stock. We currently intend to retain available funds and any
future earnings for use in the operation and expansion of our business and do not anticipate paying any cash dividends in the
foreseeable future.
Sales of Unregistered Securities
None.
Issuer Purchases of Equity Securities
There were no issuer purchases of equity securities during the fourth quarter of fiscal 2012.
On September 18, 2012, our board of directors amended our stock buyback program, originally adopted in February 2009,
to permit an additional $2 million of our issued and outstanding common shares to be repurchased. As amended, the stock
buyback program permits us to purchase an aggregate of $4 million of our common stock. The timing of stock repurchases and
the number of shares of common stock to be repurchased are in compliance with Rule 10b-18 under the Securities Act of 1934.
October 1, 2012 – October 31, 2012
November 1, 2012 – November 30, 2012
December 1, 2012 – December 31, 2012
As of December 31, 2012
Total Number of
Shares Purchased
During the Period
0 shares of
common stock
0 shares of
common stock
0 shares of
common stock
Average Price
Paid Per Share
for Period
Presented
Total Cumulative
Number of
Shares Purchased
as Part of Publicly
Announced Plan
Maximum Dollar
Value of Shares
that May Yet
Be Purchased
Under the Plan
-
-
-
1,073,641
$
1,935,708
1,073,641
1,935,708
1,073,641
1,073,641
$
1,935,708
1,935,708
On February 27, 2013, our board of directors modified our stock buyback program to increase repurchases to an aggregate
of $7 million, and subsequently, on March 13, 2013, increased the stock buyback program again for repurchases of up to an
aggregate of $12 million. As these modifications were subsequent to December 31, 2012, they are not reflected in the table
above.
15
Stock Performance Graph
Notwithstanding any statement to the contrary in any of our previous or future filings with the SEC, the following
information relating to the price performance of our common stock shall not be deemed “filed” with the SEC or “Soliciting
Material” under the Exchange Act, or subject to Regulation 14A or 14C, or to liabilities of Section 18 of the Exchange Act
except to the extent we specifically request that such information be treated as soliciting material or to the extent we
specifically incorporate this information by reference.
The graph below compares the cumulative total stockholder return on our common stock with the cumulative total return on
the NASDAQ Stock Market Index and the NASDAQ Medical Equipment Index. The period shown commences on
December 31, 2007 and ends on December 31, 2012, the end of our most recent fiscal year. The graph assumes an investment
of $100 on December 31, 2007, and the reinvestment of any dividends, if any. The comparisons shown in the graph below are
based upon historical data.
The comparisons in the graph below are required by the Securities and Exchange Commission and are not intended to
forecast or be indicative of possible future performance of our common stock.
12/31/2007 12/31/2008 12/31/2009
12/31/2010
12/30/2011
12/31/2012
Digirad Corporation
$
NASDAQ Stock Market (US Companies) $
NASDAQ Medical Equipment Index
$
100 $
100 $
100 $
15.93 $
61.17 $
53.85 $
57.69 $
87.93 $
78.53 $
57.69 $
53.85 $
104.13 $
104.69 $
83.75 $
96.21 $
56.33
123.85
107.11
16
ITEM 6.
SELECTED CONSOLIDATED FINANCIAL DATA
The following selected consolidated financial data should be read in conjunction with our Audited Consolidated Financial
Statements and related disclosures and Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of
Operations,” which are included elsewhere in this Form 10-K. Amounts are presented in thousands, except per share amounts.
Consolidated Statement of Operations Data:
Revenues:
DIS
Diagnostic Imaging
Total revenues
Cost of revenues:
DIS
Diagnostic Imaging
Total cost of revenues
Gross profit
Operating expenses:
Research and development
Marketing and sales
General and administrative
Amortization and impairment of intangible assets
Restructuring (gain) loss
Goodwill impairment loss
Total operating expenses
Income (loss) from operations
Other income, net
Net income (loss)
Net income (loss) per share:
Basic and diluted
Shares used in per share calculations:
Basic
Diluted
Consolidated Balance Sheet Data:
Cash, cash equivalents and securities
Working capital
Total assets
Total debt
Total stockholders’ equity
Years Ended December 31,
2012
2011
2010
2009
2008
$
36,064
$ 37,794
$
39,542
$
52,318
$
56,204
14,449
50,513
27,293
10,128
37,421
13,092
3,716
6,402
7,839
233
—
—
18,190
(5,098)
174
15,951
53,745
29,672
9,315
38,987
14,758
2,738
7,622
7,741
331
(164)
—
18,268
(3,510)
168
(4,924) $ (3,342) $
16,641
56,183
32,561
11,618
44,179
12,004
2,875
5,922
9,007
435
355
—
18,594
(6,590)
376
(6,214) $
17,278
69,596
38,476
10,895
49,371
20,225
3,360
6,977
8,921
590
319
—
20,167
58
550
608
(0.26) $
(0.18) $
(0.33) $
0.03
24,154
80,358
44,697
15,590
60,287
20,071
2,764
8,554
11,805
798
1,308
2,466
27,695
(7,624)
759
(6,865)
(0.36)
$
$
$
$
19,274
19,274
19,052
19,052
18,774
18,774
18,836
19,320
18,955
18,955
2012
2011
2010
2009
2008
As of December 31,
$
27,193
$ 30,452
$
30,247
$
31,810
$
28,284
31,164
44,909
—
35,585
50,027
—
35,920
52,244
—
37,826
58,689
—
33,650
61,195
106
36,449
41,487
43,959
49,389
48,959
17
ITEM 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion contains forward-looking statements which involve risks and uncertainties. Our actual results
could differ materially from those anticipated in these forward-looking statements as a result of various factors, including those
set forth previously under the caption “Risk Factors.” This Management’s Discussion and Analysis of Financial Condition and
Results of Operations should be read in conjunction with our audited consolidated financial statements and related notes
included elsewhere in this report.
Overview
We are one of the largest national providers of in-office nuclear cardiology imaging and ultrasound services to physician
practices, hospitals and imaging centers through our Digirad Imaging Solutions (“DIS”) business segment. We also sell medical
diagnostic imaging systems including solid-state gamma cameras for nuclear cardiology and general nuclear medicine
applications, as well as provide service on the products we sell. We designed and commercialized the first solid-state nuclear
gamma camera for the detection of cardiovascular disease and other medical conditions. Our imaging systems are sold in both
portable and fixed configurations, and provide enhanced operability, improved patient comfort and, in the case of our triple-
headed Cardius® 3 XPO system, shorter image acquisition time when compared to traditional vacuum tube cameras or our
single or dual headed cameras. Our nuclear cameras fit easily into floor spaces as small as seven feet by eight feet and facilitate
the delivery of nuclear medicine procedures in a physician’s office, an outpatient hospital setting or within multiple
departments of a hospital, (e.g., emergency and operating rooms).
We generate revenues within two primary operating segments: DIS and Diagnostic Imaging. Through DIS, we offer a
comprehensive diagnostic imaging services program as an alternative to purchasing a gamma camera or ultrasound equipment
for physicians who wish to perform nuclear imaging, echocardiography, vascular ultrasound, or any combination of these
procedures in their offices by leasing the imaging system, certified personnel and other support required to perform imaging in
the physician’s office. The flexibility of our products and our DIS diagnostic imaging service allows physicians more control
over the diagnosis and treatment of their patients in their offices and to retain revenue from procedures they would otherwise
refer elsewhere. DIS services are primarily provided to cardiologists, internal medicine physicians and family practice doctors
who enter into annual contracts for our diagnostic imaging services delivered on a per-day basis. Our typical contracts provide
service coverage ranging from once per month to five times per week. We experience some seasonality in our DIS business
related to vacations, holidays and inclement weather. We have been experiencing a significant market change due to the decline
in reimbursements to our physicians and the uncertainty with healthcare legislation. This market change may require further
adjustments to our business model in order for our physician customers and us to maintain a viable economic model. Our
Diagnostic Imaging segment revenue results primarily from selling solid-state gamma cameras and camera maintenance
contracts. We sell our imaging systems to physician offices and hospitals primarily in the United States, although we have sold
a small number of imaging systems internationally.
On February 28, 2013, we announced a plan to restructure our Diagnostic Imaging business to significantly reduce costs,
including a reduction in force. After completion of this planned restructuring, we believe the overall operating cash flow of the
Company will increase. However, it is also likely that the long-term volume and total revenue of our Diagnostic Imaging
camera sales will decrease. Further, we are assessing as part of the restructuring effort if we will continue to manufacture our
products internally or outsource manufacturing to a third party, and to what extent we will continue to manufacture our
products. This restructuring will result in certain charges that will be incurred during the quarter ending March 31, 2013, and
throughout our fiscal year 2013. We anticipate the restructuring will be substantially complete by December 31, 2013. See Note
11 to the audited consolidated financial statements for further information.
Our Market
The target market for our products and services is comprised of cardiologists, internal medicine physicians, family practice
physicians, and hospitals in the United States that perform or could perform nuclear and ultrasound diagnostic imaging
procedures. During the year ended December 31, 2012, we provided imaging services through DIS to more than 475 physicians
and physician groups. We have sold over 700 cameras through our Diagnostic Imaging segment. More than half of our DIS
nuclear and ultrasound diagnostic imaging customers are internal medicine physicians or other primary care practitioners, and
the remainder are primarily cardiologists. Our market has been negatively affected by lower physician reimbursements from the
Center for Medicare and Medicaid Services (CMS) and third party providers for the codes under which our physician
customers bill for our services, pricing pressures, decreases in radiopharmaceutical isotope supplies and continuing efforts by
some third party payers to reduce health care expenditures by requiring physicians to obtain specific accreditations or
certifications. We have been addressing and will continue to address these market pressures by modifying our DIS business
model, and assisting our physician customers in complying with new regulations and requirements.
18
Trends and Drivers
The medical device industry, including the market for nuclear and ultrasound imaging systems and services, is highly
competitive. Our business continues to be affected by many factors, including healthcare reimbursement rates for cardiac
imaging procedures, competition from alternative imaging modalities such as positron emission tomography (PET) and
computed tomography (CT) angiography, competition from other small owner-operated mobile nuclear imaging providers,
declining average selling prices for our product offerings and general uncertainty in the healthcare marketplace. We continue to
experience significant market changes due to the fluctuations in reimbursement rates and the uncertainty of healthcare
legislation. We also continue to experience a low demand for our cameras, partially due to very limited hospital and physician
group capital budgets and the general low economic recovery rate. Based on our recent restructuring announcement, we expect
most of these trends to continue in the foreseeable future.
In our DIS segment, our physician customers continue to experience significant uncertainty in reimbursements from CMS
and third party providers for the codes under which our physician customers bill for our services. This uncertainty has caused
some of our physician customers to sell their practices to a hospital and others to reduce the volume of our service. As a result,
we are continuing to modify our offering and pricing for our services upon contract renewal. The uncertainty over the
enactment of future legislation that may impact reimbursement rates continues to linger and cause concern with our physician
customers. We continue to consider modification to our business model in order to adapt to environmental and regulatory
changes in our dynamic healthcare marketplace.
In our Diagnostic Imaging segment, we continue to focus on single photon emission computed tomography, or SPECT,
products targeted specifically at the larger physician practices and hospital marketplace. The most widely used imaging
acquisition technology utilizing gamma cameras is single SPECT, and all of our current cardiac gamma cameras employ
SPECT methodology. Although the National Electrical Manufacturers Association has reported that the dedicated cardiac
nuclear market has declined by approximately 70 percent since 2005, according to industry sources (despite the improving
image quality and increasing utilization rates of competing modalities such as CT, PET, and MRI, and diagnostic procedures
such as CT angiography), SPECT procedures performed with gamma cameras will continue to be used for a substantial number
of cardiac-specific imaging procedures. We believe continued utilization will be driven by patients having easier access to
nuclear medicine services at physicians’ offices, lower purchase and maintenance costs, a smaller physical footprint, and easier
service logistics of gamma cameras. In an emerging trend in cardiology, SPECT technologies are being integrated with other
imaging modalities to form hybrid imaging modalities, such as SPECT/CT, resulting in improved clinical quality and
diagnostic certainty. On February 28, 2013, we announced a plan to restructure our Diagnostic Imaging business to
significantly reduce costs, including a reduction in force. After completion of this restructuring, it is likely that the long-term
volume and total revenue of our Diagnostic Imaging camera sales will decrease. Further, we are assessing as part of the
restructuring effort if we will continue to manufacture our products internally or outsource manufacturing to a third party, and
to what extent we will continue to manufacture our products. See Note 11 to the audited consolidated financial statements for
further information.
2012 Financial Highlights
Our consolidated revenues were $50.5 million for the year ended December 31, 2012. This was a decrease of $3.2 million,
or 6.0%, over the comparable prior year period. DIS revenue decreased $1.7 million, or 4.6%, primarily due to a reduction in
the number of days we scanned for our physician customers coupled with a reduction in our average daily service fee rates. The
number of scan days was reduced due to a consolidation in the number of scan days by our physician customers in response to
reimbursement uncertainty, in addition to other business factors such as physician pre-certification requirements, making it
more difficult for our physician customers to utilize our services. Diagnostic Imaging segment revenues for the year ended
December 31, 2012 decreased by $1.5 million, or 9.4%, compared to the prior year period, primarily due to the product mix of
cameras sold coupled with a decline in camera pricing related to market pricing pressures. The number of cameras sold
increased to 29 from 27 during the year ended December 31, 2012 and 2011, respectively.
We realized a loss from operations and a net loss for the year ended December 31, 2012 primarily as a result of decreased
revenues and gross profit. Our consolidated net loss for the year ended December 31, 2012 was $4.9 million, which is an
increase of $1.6 million, or 47.3%, compared to our net loss of $3.3 million during the prior year. The DIS segment generated
an operating loss primarily as a result of an anticipated settlement related to radiopharmaceutical litigation. The operating loss
in the Diagnostic Imaging segment was primarily attributable to lower gross profit due to the product mix of cameras sold and
increased excess and obsolete inventory costs as a result of the restructuring plan discussed in further detail in Note 11 to the
audited consolidated financial statements.
Our DIS business currently operates in 19 states. For the year ended December 31, 2012, DIS operated 65 nuclear gamma
cameras and 55 ultrasound imaging systems. We continue to strive to improve our overall profitability through more efficient
19
utilization of our fleet of gamma cameras and ultrasound equipment. We measure efficiency by tracking system utilization,
which is measured based on the percentage of days that our nuclear gamma cameras and ultrasound equipment are used to
deliver services to customers out of the total number of days that they are available to deliver such services. System utilization
increased to 59.8% for the year ended December 31, 2012, compared to 56.1% in the prior year, primarily due to a decrease in
the quantity of equipment in operation during the year.
Critical Accounting Policies
Management’s discussion and analysis of our financial condition and results of operations are based upon our consolidated
financial statements which are prepared in accordance with United States generally accepted accounting principles. The
preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets
and liabilities, related disclosure of contingent assets and liabilities at the date of the financial statements, and the reported
amounts of revenues and expenses during the reporting period. We evaluate our estimates and judgments, the most critical of
which are those related to revenue recognition and inventory valuation. We base our estimates and judgments on historical
experience and other factors that we believe to be reasonable under the circumstances. Materially different results can occur as
circumstances change and additional information becomes known.
Revenue Recognition
We derive revenues primarily from providing in-office services to support the performance of cardiac diagnostic imaging
procedures and from selling and servicing solid-state digital gamma cameras. We recognize revenue in accordance with the
authoritative guidance for revenue recognition, when all of the following four criteria are met: (i) a contract or sales
arrangement exists; (ii) products have been shipped and title has transferred or services have been rendered; (iii) the price of the
products or services is fixed or determinable; and (iv) collectability is reasonably assured. The timing of revenue recognition is
based upon factors such as passage of title and risk of loss, the need for installation, and customer acceptance. These factors are
based on the specific terms of each contract or sales arrangement.
DIS revenue is derived from our ability to provide our physician customers with our services, which includes use of our
imaging system, qualified personnel, and related items required to perform imaging in their own offices and bill Medicare,
Medicaid and other payors for in-office nuclear and ultrasound diagnostic imaging procedures. Revenue related to diagnostic
imaging services is recognized at the time services are performed and collection is reasonably assured. DIS diagnostic imaging
services are generally billed on a per-day basis under annual contracts for nuclear diagnostic imaging, which specifies the
number of days of service to be provided, or on a flat rate month-to-month basis for ultrasound imaging.
Diagnostic Imaging product revenues are generated from the sales of gamma cameras and follow-on maintenance service
contracts. We generally recognize revenue upon delivery to customers. We also provide installation and training for camera
sales in the United States. Installation and training is generally performed shortly after delivery and represents a cost which we
accrue at the time revenue is recognized. Neither service is essential to the functionality of the product. Maintenance services
are sold beyond the term of the warranty, which is generally one year from the date of purchase. Revenue from these contracts
is deferred and recognized ratably over the period of the obligation and is included in Diagnostic Imaging product sales.
Reserves for Doubtful Accounts and Billing Adjustments
We provide reserves for billing adjustments and doubtful accounts. We review reserves on a quarterly basis and make
adjustments based on our historical experience rate and known collectability issues and disputes. We also consider our bad debt
write-off history. Our estimates of collectability could be impacted by material amounts due to changed circumstances, such as
a higher number of defaults or material adverse changes in a payor’s ability to meet its obligations. Within DIS, we record
adjustments and credit memos that represent billing adjustments within the first 90 days subsequent to the performance of
service. A provision for billing adjustments is charged against DIS revenues and a provision for doubtful accounts is charged to
general and administrative expenses. Our risk of material loss is mitigated as we only have a small number of customer
accounts in both DIS and Diagnostic Imaging that have receivable balances in excess of $100,000.
Inventory
We state inventories at the lower of cost (first-in, first-out) or market (net realizable value) and review our inventory
balances for excess and obsolete inventory levels on a quarterly basis. Costs include material, labor and manufacturing
overhead and variance costs. We rely on historical information to support our reserve and utilize management’s business
judgment. Per our policy, we generally reserve 100% of the cost of inventory quantities in excess of a defined period of
demand. Once inventory is reserved, we do not adjust the reserve balance until the inventory is sold or disposed.
20
Fair-value of Financial Instruments
The authoritative guidance for fair value measurements defines fair value for accounting purposes, establishes a framework
for measuring fair value and provides disclosure requirements regarding fair value measurements. The guidance defines fair
value as an exit price, which is the price that would be received upon sale of an asset or paid upon transfer of a liability in an
orderly transaction between market participants at the measurement date. The degree of judgment utilized in measuring the fair
value of assets and liabilities generally correlates to the level of pricing observability. Assets and liabilities with readily
available, actively quoted prices or for which fair value can be measured from actively quoted prices in active markets
generally have more pricing observability and require less judgment in measuring fair value. Conversely, assets and liabilities
that are rarely traded or not quoted have less pricing observability and are generally measured at fair value using valuation
models that require more judgment. These valuation techniques involve some level of management estimation and judgment,
the degree of which is dependent on the price transparency of the asset, liability or market and the nature of the asset or
liability. We have categorized our assets and liabilities measured at fair value into a three-level hierarchy in accordance with
this guidance. See Note 4 for a further discussion regarding our measurement of assets and liabilities at fair value.
Valuation of Long-Lived Assets including Finite Lived Purchased Intangible Assets
Long-lived assets consist of property and equipment and finite lived intangible assets. We record property and equipment at
cost, and record other intangible assets based on their fair values at the date of acquisition. We calculate depreciation on
property and equipment using the straight-line method over the estimated useful life of the assets. We calculate amortization on
other intangible assets using either the accelerated or the straight-line method over the estimated useful life of the assets, based
on the nature of when we expect to receive cash inflows generated by the intangible assets.
Impairment losses on long-lived assets used in operations are recorded when indicators of impairment are present and the
undiscounted cash flows estimated to be generated by those assets are less than the assets’ carrying amount. If such assets are
considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the
assets exceeds the estimated fair value of the assets. When indicators of impairment exist, we perform a review of the carrying
value of our long-lived assets to be held and used, including certain identifiable intangible assets. No impairment losses were
recorded on long-lived assets during the years ended December 31, 2012, 2011 or 2010.
Valuation of Goodwill
We review goodwill for impairment on an annual basis during the fourth quarter, as well as when events or changes in
circumstances indicate that the carrying value may not be recoverable. We begin the process by assessing qualitative factors in
determining whether it is more likely than not that the fair value of our reporting unit is less than its carrying amount. After
performing the aforementioned assessment and upon review of the results of such assessment, we may begin performing step
one of the two-step impairment analysis by quantitatively comparing the fair value of the reporting unit with goodwill to the
carrying value of its long-term assets. If the carrying value of the long-term assets exceeds the fair value of the reporting unit,
then we must perform the second step of the impairment test, whereby the carrying value of the reporting unit’s goodwill is
compared to its implied fair value. If the carrying value of the goodwill exceeds the implied fair value, an impairment loss
equal to the difference would be recorded. No impairment losses were recorded on goodwill during the years ended
December 31, 2012, 2011 or 2010.
Restructuring
Restructuring costs are included in loss from operations within the consolidated statements of comprehensive loss. Losses
on property and equipment are recorded consistent with our accounting policy related to long-lived assets. One-time
termination benefits are recorded at the time they are communicated to the affected employees. Losses on property lease
obligations are recorded when the lease is abandoned.
In response to our ongoing review of current market conditions and internal operations we implemented restructuring
activities during the year ended December 31, 2010. The restructuring was complete as of the end of fiscal year 2011.
On February 28, 2013, we announced a plan to restructure our Diagnostic Imaging business. See Note 11 to the audited
consolidated financial statements.
Share-Based Compensation
We grant options to purchase our common stock and restricted stock units (“RSUs”) to our employees and directors under
our equity compensation plans. We estimate the fair value of the stock option awards using the Black-Scholes-Merton option-
pricing model on the date of grant. The fair value of RSUs is based on the stock price on the date of grant. The fair value of
equity instruments that are expected to vest are recognized using the straight-line method over the requisite service period. We
estimated the forfeiture rate based on historical data for forfeitures and we are recognizing compensation costs only for those
21
equity awards expected to vest.
Warranty
We generally provide a 12 month warranty on our gamma cameras. We accrue the estimated cost of this warranty at the time
revenue is recorded and charge warranty expense to Diagnostic Imaging cost of revenues. Warranty reserves are established
based on historical experience with failure rates and repair costs and the number of systems covered by warranty. Warranty
reserves are depleted as gamma cameras are repaired. The costs consist principally of materials, personnel, overhead and
transportation. We review warranty reserves quarterly and, if necessary, make adjustments.
Income Taxes
We account for income taxes in accordance with provisions which set forth an asset and liability approach that requires the
recognition of deferred tax assets and deferred tax liabilities for the expected future tax consequences of temporary differences
between the carrying amounts and the tax bases of assets and liabilities. Valuation allowances are established when necessary to
reduce deferred tax assets to the amount that is more likely than not expected to be realized. In making such a determination, a
review of all available positive and negative evidence must be considered, including scheduled reversal of deferred tax
liabilities, projected future taxable income, tax planning strategies, and recent financial performance.
We follow the provisions of Accounting Standards Codification 740 - Income Taxes, that defines a recognition threshold and
measurement attributes for financial statement recognition and measurement of a tax provision taken or expected to be taken in
a tax return. The topic also provides guidance on de-recognition, classification, interest and penalties, accounting in interim
periods, disclosure and transition. Under the topic, the impact of an uncertain income tax position on the income tax return
must be recognized at the largest amount that is more-likely-than-not to be sustained upon audit by the relevant taxing
authority. An uncertain income tax position will not be recognized if it has less than a 50% likelihood of being sustained. We
recognize interest and penalties related to uncertain tax positions as a component of the income tax provision.
Results of Operations
The following table sets forth our results from operations, expressed as percentages of total revenues for the years ended
December 31, 2012, 2011 and 2010 (in thousands, except percentages):
Years ended December 31,
Change from
Prior Year
2012
% of 2012
Revenues
2011
% of 2011
Revenues
Dollars
Percent
Revenues:
DIS
Diagnostic Imaging
Total revenues
Total cost of revenues
Gross profit
Operating expenses:
Research and development
Marketing and sales
General and administrative
Amortization of intangible assets
Restructuring loss (gain)
Total operating expenses
Loss from operations
Other income
Net loss
$
$
36,064
14,449
50,513
37,421
13,092
3,716
6,402
7,839
233
—
18,190
(5,098)
174
(4,924)
71.4 % $ 37,794
70.3 % $
28.6 %
100.0 %
74.1 %
25.9 %
7.4 %
12.7 %
15.5 %
15,951
53,745
38,987
14,758
2,738
7,622
7,741
— %
0.5 %
36.0 %
331
(164)
18,268
(3,510)
(10.1)%
168
0.3 %
(9.7)% $ (3,342)
29.7 %
100.0 %
72.5 %
27.5 %
5.1 %
14.2 %
14.4 %
0.6 %
(0.3)%
34.0 %
(6.5)%
0.3 %
(6.2)% $
(1,730)
(1,502)
(3,232)
(1,566)
(1,666)
978
(1,220)
98
(98)
164
(78)
(1,588)
6
(1,582)
(4.6)%
(9.4)%
(6.0)%
(4.0)%
(11.3)%
35.7 %
(16.0)%
1.3 %
(29.6)%
(100.0)%
(0.4)%
45.2 %
3.6 %
47.3 %
22
Revenues:
DIS
Diagnostic Imaging
Total revenues
Total cost of revenues
Gross profit
Operating expenses:
Research and development
Marketing and sales
General and administrative
Amortization of intangible assets
Restructuring (gain) loss
Total operating expenses
Loss from operations
Other income
Net loss
Years Ended December 31,
Change from
Prior Year
2011
% of 2011
Revenues
2010
% of 2010
Revenues
Dollars
Percent
$ 37,794
70.3 % $
39,542
70.4 % $
15,951
53,745
38,987
14,758
2,738
7,622
7,741
331
(164)
18,268
(3,510)
168
29.7 %
100.0 %
72.5 %
27.5 %
5.1 %
14.2 %
14.4 %
0.6 %
(0.3)%
34.0 %
(6.5)%
0.3 %
$ (3,342)
(6.2)% $
16,641
56,183
44,179
12,004
2,875
5,922
9,007
435
355
18,594
(6,590)
376
(6,214)
29.6 %
100.0 %
78.6 %
21.4 %
5.1 %
10.5 %
16.0 %
0.8 %
0.6 %
33.1 %
(11.7)%
0.7 %
(11.1)% $
(1,748)
(690)
(2,438)
(5,192)
2,754
(137)
1,700
(1,266)
(104)
(519)
(326)
3,080
(208)
2,872
(4.4)%
(4.1)%
(4.3)%
(11.8)%
22.9 %
(4.8)%
28.7 %
(14.1)%
(23.9)%
(146.2)%
(1.8)%
(46.7)%
(55.3)%
(46.2)%
Restructuring. On February 28, 2013, we announced a plan to restructure our Diagnostic Imaging business to significantly
reduce costs, including a reduction in force. After completion of this planned restructuring, we believe the overall operating
cash flow of the Company will increase. However, it is also likely that the long-term volume and total revenue of our
Diagnostic Imaging camera sales will decrease. Further, we are assessing as part of the restructuring effort if we will continue
to manufacture our products internally or outsource manufacturing to a third party, and to what extent we will continue to
manufacture our products. This restructuring will result in certain charges that will be incurred during the quarter ending
March 31, 2013, and throughout our fiscal year 2013. We anticipate the restructuring will be substantially complete by
December 31, 2013.
Comparison of Years Ended December 31, 2012 and 2011
Revenues
Consolidated. Consolidated revenue was $50.5 million for the year ended December 31, 2012, a decrease of $3.2 million, or
6.0%, from the prior year period, primarily as a result of a reduction in revenue generated from our DIS business segment and
lower camera revenue generated from product sales in our Diagnostic Imaging business segment. DIS revenue accounted for
71.4% of total revenues for the year ended December 31, 2012, compared to 70.3% for prior year period. We expect DIS
revenue to continue to represent the larger percentage of our consolidated revenue.
DIS. Our DIS revenue was $36.1 million for the year ended December 31, 2012, a decrease of $1.7 million, or 4.6%, from
the prior year period. The decrease resulted from a reduction in the number of days our physician customers utilized our
imaging services and a decline in our daily service fee.
Diagnostic Imaging. Our Diagnostic Imaging revenue was $14.4 million for the year ended December 31, 2012, a decrease
of $1.5 million, or 9.4%, compared to the prior year period, primarily due to the mix of camera products which were sold to
cardiology practices and hospitals. The number of cameras sold increased to 29 from 27 during the year ended December 31,
2012 and 2011, respectively. It is likely that the long-term volume and total revenue of our Diagnostic Imaging camera sales
will decrease in the future due to the Diagnostic Imaging restructuring initiative.
Cost of Revenue and Gross Profit
Consolidated. Consolidated gross profit was $13.1 million for the year ended December 31, 2012, a decrease of $1.7
million, or 11.3%, compared to the prior year period. The decrease in consolidated gross profit is primarily the result of the mix
in camera product sales from our Diagnostic Imaging business segment, increased excess and obsolete inventory costs as a
result of the Diagnostic Imaging restructuring initiative and fewer imaging days in our DIS business segment, partially offset
by lower radiopharmaceutical costs. Consolidated gross profit as a percentage of revenue decreased to 25.9% for the year
23
ended December 31, 2012 from 27.5% for the prior year.
DIS. Cost of DIS revenue consists of labor, radiopharmaceuticals, equipment depreciation, and other costs associated with
the provision of services. Cost of DIS revenue was $27.3 million for the year ended December 31, 2012, a decrease of $2.4
million, or 8.0%, from the prior year period, primarily as a result of decreased revenues partially offset by lower
radiopharmaceutical costs. DIS gross profit was $8.8 million for the year ended December 31, 2012, an increase of $0.6
million, or 8.0% , as compared to the prior year period. DIS gross profit as a percentage of DIS revenue increased to 24.3% for
the year ended December 31, 2012 from 21.5% for the prior year due to lower radiopharmaceutical costs and an improvement
in operational performance primarily associated with the management of resources and equipment.
Diagnostic Imaging. Cost of Diagnostic Imaging segment revenue primarily consists of materials, labor and overhead costs
associated with the manufacturing and warranty of our products. Cost of Diagnostic Imaging revenues was $10.1 million for
the year ended December 31, 2012, an increase of $0.8 million, or 8.7%, over the prior year period. Diagnostic Imaging gross
profit was $4.3 million for the year ended December 31, 2012, a decrease of $2.3 million, or 34.9% as compared to the prior
year period. Diagnostic Imaging gross profit as a percentage of Diagnostic Imaging revenue decreased to 29.9% for the year
ended December 31, 2012 from 41.6% for the prior year primarily due to changes in camera product mix and increased excess
and obsolete inventory costs as a result of the restructuring initiative.
Operating Expenses
Research and Development. Research and development expenses are the costs associated with the design, development and
expansion of our existing technology and consist of salaries, development material costs, facility and overhead costs, consulting
fees, and non-recurring engineering costs. Research and development expenses were $3.7 million for the year ended
December 31, 2012, representing an increase of $1.0 million, or 35.7% compared to the prior year mainly due to initiatives to
explore and develop new products and technologies. Research and development expenses were 25.7% and 17.2% of
Diagnostic Imaging revenue for the years ended December 31, 2012 and 2011, respectively. The increase is primarily due to a
decrease in Diagnostic Imaging revenue of $1.5 million and the aforementioned exploration of new initiatives. We expect
research and development costs to decrease in the future as a result of the Diagnostic Imaging restructuring initiative.
Marketing and Sales. Marketing and sales expenses consist primarily of salaries, commissions, bonuses, recruiting costs,
travel, marketing and collateral materials and trade show costs. Marketing and sales expenses were $6.4 million for the year
ended December 31, 2012, a decrease of $1.2 million, or 16.0%, compared to the prior year, primarily as a result of lower
personnel related costs and marketing support costs. Marketing and sales expenses as a percentage of total revenues were
12.7% and 14.2% for the years ended December 31, 2012 and 2011, respectively. We expect marketing and sales expenses to
decrease in the future as a result of the Diagnostic Imaging restructuring initiative.
General and Administrative. General and administrative expenses consist primarily of salaries and other related costs for
accounting, human resources, information technology and executive personnel, legal related costs, professional fees, outside
services, insurance, and costs related to our board of directors. General and administrative expenses were $7.8 million for the
year ended December 31, 2012, an increase of $0.1 million, or 1.3%, compared to the prior year. General and administrative
expenses were 15.5% of total revenue for the year ended December 31, 2012 compared to 14.4% for the prior year.
Comparison of Years Ended December 31, 2011 and 2010
Revenues
Consolidated. Consolidated revenue was $53.7 million for the year ended December 31, 2011, a decrease of $2.4 million, or
4.3%, from the prior year period, primarily as a result of a reduction in our DIS business segment combined with lower camera
sales in our Diagnostic Imaging business segment. DIS revenue accounted for 70.3% of total revenues for the year ended
December 31, 2011, compared to 70.4% for prior year period.
DIS. Our DIS revenue was $37.8 million for the year ended December 31, 2011, a decrease of $1.7 million, or 4.4%, from
the prior year period. The decrease resulted from a reduction in our daily lease fee combined with a reduction in the number of
days we were able to scan for our physician customers. We reduced our daily lease fee in 2010 to provide more incentive to our
physician customers to continue using our services, since CMS reduced reimbursement to the physicians for our diagnostic
imaging procedures significantly at the beginning of 2010. We were only able to increase our daily lease fee slightly in 2011.
Furthermore, our physician customers reduced the number of days they scanned in 2011, in part due to the lack of patient
volume as a result of the poor economy, in part due to the uncertainty in the healthcare marketplace, and in part due to other
factors such as physician pre-certification requirements. The worldwide shortage of radiopharmaceuticals, which significantly
impacted our business in 2010, was not a factor in 2011 as full medical isotope supply was restored.
Diagnostic Imaging. Our Diagnostic Imaging revenue was $16.0 million for the year ended December 31, 2011, a decrease
of $0.7 million, or 4.1%, compared to the prior year period primarily due to a reduction in the number of cameras which were
24
sold to cardiology practices and hospitals. The number of cameras sold decreased to 27 from 34 during the year ended
December 31, 2011 and 2010, respectively. We believe that economic factors affected our customers' buying decisions,
including the uncertainty in the credit markets, a slowing economy, and continued healthcare imaging reimbursement pressures.
Cost of Revenue and Gross Profit
Consolidated. Consolidated gross profit was $14.8 million for the year ended December 31, 2011, an increase of $2.8
million, or 22.9%, compared to the prior year period. The increase in consolidated gross profit is primarily the result of
improving gross margins in our Diagnostic Imaging and DIS business segments. Consolidated gross profit as a percentage of
revenue increased to 27.5% for the year ended December 31, 2011 from 21.4% for the prior year period.
DIS. Cost of DIS revenue consists of labor, radiopharmaceuticals, equipment depreciation, and other costs associated with
the provision of services. Cost of DIS revenue was $29.7 million for the year ended December 31, 2011, a decrease of $2.9
million, or 8.9%, from the prior year period, primarily as a result of decreased expenses from fewer scans, more efficient
utilization of labor and equipment, aligning labor and revenue by a shift from all full-time (fixed) labor to some part-time
(variable) labor, combining certain positions and changing the useful lives of our DIS camera fleet from five years to ten years.
This change in lives resulted in a decrease to depreciation expense, included in cost of revenues, of approximately $0.4 million
in the year ended December 31, 2011.
DIS gross profit was $8.1 million for the year ended December 31, 2011, an increase of $1.1 million, or 16.3% as compared
to the prior year period. DIS gross profit as a percentage of DIS revenue increased to 21.5% for the year ended December 31,
2011 from 17.7% for the prior year due to improvement in operational performance primarily associated with the management
of labor and equipment and the change in the useful lives of our DIS camera fleet.
Diagnostic Imaging. Cost of Diagnostic Imaging revenue primarily consists of materials, labor and overhead costs
associated with the manufacturing and warranty of our products. Cost of Diagnostic Imaging revenues was $9.3 million for the
year ended December 31, 2011, a decrease of $2.3 million, or 19.8%, over the prior year period. Diagnostic Imaging gross
profit was $6.6 million for the year ended December 31, 2011, an increase of $1.6 million, or 32.1% as compared to the prior
year period. Diagnostic Imaging gross profit as a percentage of Diagnostic Imaging revenue increased to 41.6% for the year
ended December 31, 2011 from 30.2% for the prior year due to lower excess and obsolete inventory reserves and the sale of
certain previously reserved cameras, partially offset by higher manufacturing variances due to a key component supply issue.
Operating Expenses
Research and Development. Research and development expenses are associated with the design, development and
enhancement of our products, and consist of salaries, development material costs, facility and overhead costs, consulting fees,
and non-recurring engineering costs. We continue to invest in research and development with a focus on innovation as we seek
to improve our existing technology. Research and development expenses were $2.7 million for the year ended December 31,
2011, representing a decrease of $0.1 million, or 4.8%, compared to the prior year period. Research and development expenses
were 17.2% and 17.3% of Diagnostic Imaging revenue for the years ended December 31, 2011 and 2010, respectively.
Marketing and Sales. Marketing and sales expenses consist primarily of salaries, commissions, bonuses, recruiting costs,
travel, marketing and collateral materials and trade show costs and market study. Marketing and sales expenses were $7.6
million for the year ended December 31, 2011, an increase of $1.7 million, or 28.7%, compared to the prior year period. The
increase in marketing spend was primarily a result of our decision to invest in a strategic marketing study with a premier
healthcare consulting firm. Without that investment, marketing and sales expenses would have remained relatively flat for the
years ended December 31, 2011 and 2010.
General and Administrative. General and administrative expenses consist primarily of salaries and other related costs for
accounting, human resources, information technology and executive personnel, legal related costs, professional fees, outside
services, insurance, and costs related to our board of directors. General and administrative expenses were $7.7 million for the
year ended December 31, 2011, a decrease of $1.3 million, or 14.1%, compared to the prior year, primarily as a result of lower
bad debt reserves and lower legal and consulting services compared to the prior year , as well as our continued efforts to reduce
costs and improve efficiencies. General and administrative expenses were 14.4% of total revenue for the year ended
December 31, 2011 compared to 16.0% for the prior year.
Other Income
Other income consists primarily of interest income, net of other expenses. The decrease in other income of $0.2 million is
attributable to a decrease in interest rates and a slight decrease in our average cash balance.
25
Liquidity and Capital Resources
General
We require capital principally for capital expenditures and to finance accounts receivable and inventory, which we manage
closely. Our working capital requirements vary from period to period depending on manufacturing volumes, the timing of
deliveries and the payment cycles of our customers. Our capital expenditures consist primarily of nuclear cameras, ultrasound
machines, vans, manufacturing and development equipment and computer hardware and software. As of December 31, 2012,
we had cash, cash equivalents and securities available-for-sale of $27.2 million. We generally invest our cash reserves in money
market funds, U.S. treasury and corporate debt securities. Based upon our current level of expenditures, we believe our working
capital, together with cash flows from operating activities, will be adequate to meet our anticipated cash requirements for
capital expenditures and working capital for at least the next 12 months.
Cash Flows
The following table shows cash flow information for the years ended December 31, 2012, 2011 and 2010 (in thousands):
Net cash provided by (used in) operating activities
Net cash provided by (used in) investing activities
Net cash provided by (used in) financing activities
Operating Activities
Years Ended December 31,
2012
2011
2010
$ (1,082) $
$ (2,715) $
(728) $
$
965
2,515
100
$
$
$
229
6,710
(40)
Net cash used in operating activities increased by $2.0 million for the year ended December 31, 2012 compared to the prior
year period. The increase was primarily related to the increase in net loss and decreases in non-cash charges related to
depreciation, amortization of intangible assets and stock based compensation.
Net cash provided by operating activities increased $0.7 million for the year ended December 31, 2011 compared to the
prior year period. This increase was primarily attributable to the decreased net loss, increases related to changes in working
capital accounts (particularly collection of accounts receivable), partially offset by increases in inventory and decreased non-
cash charges related to depreciation, bad debt and other non-cash charges.
Investing Activities
Net cash used in investment activities increased by $5.2 million for the year ended December 31, 2012 compared to the prior
year period. On December 31, 2012, we acquired the operating assets of a nuclear and ultrasound imaging business located in
the Southeastern U.S. The total cash used for this acquisition was $475,000. The remaining increased use of cash compared to
fiscal year 2011 was primarily attributable to increased net investments in securities available for sale.
Net cash provided by investing activities decreased $4.2 million for the year ended December 31, 2011 compared to the
prior year period. This decrease was primarily attributable to decreased net proceeds from maturing available-for-sale securities
partially offset by lower purchases of property and equipment.
Financing Activities
Net cash used in financing activities increased by $0.8 million for the year ended December 31, 2012 compared to the prior
year period. This increase was primarily attributable to repurchases of common stock.
Net cash provided financing activities increased by $0.1 million for the year ended December 31, 2011 compared to the
prior year period. This increase was primarily attributable to increased stock option exercises.
Contractual Obligations
We are committed to making future cash payments on capital leases (including interest) and operating leases. We have not
guaranteed the debt of any other party. The following table summarizes our contractual obligations as of December 31, 2012
(amounts in thousands):
26
Contractual obligations
Operating lease obligations
Payments Due by Period
Total
Less than 1
year
1-3 years
3-5 years
More than 5
years
$
2,723
$
1,104
$
1,481
$
138
$
—
ITEM 7A.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our exposure to market risk due to changes in interest rates relates primarily to the increase or decrease in the value of debt
securities in our investment portfolio. Our risk associated with fluctuating interest rates is limited to our investments in interest
rate sensitive financial instruments. Under our current policies, we do not use interest rate derivative instruments to manage
exposure to interest rate changes. We attempt to increase the safety and preservation of our invested principal funds by limiting
default risk, market risk and reinvestment risk. We mitigate default risk by investing in investment grade securities. A 100 basis
point adverse move in interest rates along the entire interest rate yield curve would not materially affect the fair value of our
interest sensitive financial instruments. Changes in interest rates over time will increase or decrease our interest income.
27
ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Stockholders of Digirad Corporation
We have audited the accompanying consolidated balance sheets of Digirad Corporation as of December 31, 2012 and 2011,
and the related consolidated statements of comprehensive loss, stockholders’ equity, and cash flows for each of the three years
in the period ended December 31, 2012. These financial statements are the responsibility of the Company’s management. Our
responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United
States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. We were not engaged to perform an audit of the Company’s internal control over
financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit
procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of
the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial
position of Digirad Corporation at December 31, 2012 and 2011, and the consolidated results of its operations and its cash
flows for each of the three years in the period ended December 31, 2012, in conformity with U.S. generally accepted
accounting principles.
/s/ Ernst & Young LLP
San Diego, California
March 13, 2013
28
DIGIRAD CORPORATION
CONSOLIDATED BALANCE SHEETS
(In thousands, except share amounts)
Assets
Current assets:
Cash and cash equivalents
Securities available-for-sale
Accounts receivable, net
Inventories, net
Other current assets
Restricted cash
Total current assets
Property and equipment, net
Intangible assets, net
Goodwill
Total assets
Liabilities
Current liabilities:
Accounts payable
Accrued compensation
Accrued warranty
Deferred revenue
Other accrued liabilities
Total current liabilities
Other liabilities
Total liabilities
Commitments and contingencies (Note 6)
Stockholders’ equity:
Preferred stock, $0.0001 par value: 10,000,000 shares authorized; no shares issued or
outstanding
Common stock, $0.0001 par value: 80,000,000 shares authorized; 19,144,448 and 18,901,160
shares issued and outstanding (net of treasury shares) at December 31, 2012 and 2011,
respectively
Treasury stock, at cost; 1,073,641 shares and 582,825 shares at December 31, 2012 and 2011,
respectively
Additional paid-in capital
Accumulated other comprehensive income
Accumulated deficit
Total stockholders’ equity
Total liabilities and stockholders’ equity
See accompanying notes to consolidated financial statements.
29
As of December 31,
2012
2011
$
19,514
$
24,039
7,679
6,329
4,979
703
244
6,413
6,320
6,178
855
194
39,448
43,999
4,693
584
184
5,367
477
184
$
44,909
$
50,027
$
1,546
$
2,364
326
1,849
2,199
8,284
176
8,460
1,330
2,291
297
2,099
2,397
8,414
126
8,540
—
2
—
2
(2,086)
156,634
17
(118,118)
36,449
(1,058)
155,704
33
(113,194)
41,487
$
44,909
$
50,027
DIGIRAD CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(In thousands, except per share amounts)
Revenues:
DIS
Diagnostic Imaging
Total revenues
Cost of revenues:
DIS
Diagnostic Imaging
Total cost of revenues
Gross profit
Operating expenses:
Research and development
Marketing and sales
General and administrative
Amortization of intangible assets
Restructuring loss (gain)
Total operating expenses
Loss from operations
Other income (expense):
Interest income
Other income (expense)
Total other income
Net loss
Net loss per share:
Basic and diluted
Shares used in per share computations:
Weighted average shares outstanding—basic
Weighted average shares outstanding—diluted
Net loss
Other comprehensive loss:
Unrealized loss on marketable securities
Total other comprehensive loss
Comprehensive loss
Years ended December 31,
2012
2011
2010
$
36,064
$ 37,794
$
39,542
14,449
50,513
27,293
10,128
37,421
13,092
3,716
6,402
7,839
233
—
18,190
15,951
53,745
29,672
9,315
38,987
14,758
2,738
7,622
7,741
331
(164)
18,268
16,641
56,183
32,561
11,618
44,179
12,004
2,875
5,922
9,007
435
355
18,594
(5,098)
(3,510)
(6,590)
97
77
174
165
3
168
$
(4,924) $ (3,342) $
378
(2)
376
(6,214)
$
(0.26) $
(0.18) $
(0.33)
19,274
19,274
19,052
19,052
18,774
18,774
$
(4,924) $ (3,342) $
(6,214)
(16)
(16)
(30)
(30)
$
(4,940) $ (3,372) $
(86)
(86)
(6,300)
See accompanying notes to consolidated financial statements.
30
DIGIRAD CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Operating activities
Net loss
Adjustments to reconcile net loss to cash provided by (used in) operating activities:
Depreciation
Amortization
Provision for bad debts
Stock-based compensation
Restructuring loss
(Gain) loss on disposal of assets
Amortization of premium on securities available-for-sale
Changes in operating assets and liabilities:
Accounts receivable
Inventories
Other assets
Accounts payable
Accrued compensation
Deferred revenue
Other liabilities
Restricted cash
Net cash provided by (used in) operating activities
Investing activities
Purchases of property and equipment
Proceeds from sale of property and equipment
Business acquisition
Purchases of securities available-for-sale
Sales and maturities of securities available-for-sale
Net cash provided by (used in) investing activities
Financing activities
Issuances of common stock
Repurchases of common stock
Repayment of obligations under capital leases
Net cash provided by (used in) financing activities
Net (decrease) increase in cash and cash equivalents
Cash and cash equivalents at beginning of year
Cash and cash equivalents at end of year
Years ended December 31,
2012
2011
2010
$
(4,924) $
(3,342) $
(6,214)
1,898
2,765
3,815
233
(30)
630
—
(104)
140
21
1,057
127
216
73
(250)
(119)
(50)
(1,082)
(936)
118
(475)
(4,887)
3,465
(2,715)
300
(1,028)
—
(728)
331
237
800
—
(103)
286
970
(1,046)
6
(364)
691
(280)
208
(194)
965
(709)
165
—
(13,086)
16,145
2,515
119
(19)
—
100
435
832
891
355
154
285
(806)
1,280
196
74
(912)
(215)
59
—
229
(1,437)
55
—
(5,477)
13,569
6,710
44
(48)
(36)
(40)
(4,525)
24,039
3,580
20,459
6,899
13,560
$
19,514
$
24,039
$
20,459
See accompanying notes to consolidated financial statements.
31
DIGIRAD CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(In thousands)
Common stock
Treasury Stock
Shares
19,024
Amount
2
$
Shares
547
Additional
paid-in
capital
Amount
$ (991) $153,867
874
—
Accumulated
other
comprehensive
income (loss)
149
$
Accumulated
deficit
Total
stockholders’
equity
$ (103,638) $
49,389
—
—
—
—
(86)
63
—
—
—
—
(30)
33
—
—
—
—
(16)
17
—
—
—
(6,214)
—
(109,852)
—
874
44
(48)
(6,214)
(86)
43,959
800
—
119
—
(3,342)
—
(113,194)
—
(19)
(3,342)
(30)
41,487
630
—
300
—
(4,924)
—
$ (118,118) $
(1,028)
(4,924)
(16)
36,449
Balance January 1, 2010
Stock-based compensation
Shares issued under stock
incentive plans
Repurchases of common
stock
Net loss
Unrealized loss on securities
available-for-sale
—
147
—
—
—
Balance December 31, 2010
19,171
Stock-based compensation
Shares issued under stock
incentive plans
Repurchases of common
stock
Net loss
Unrealized loss on securities
available-for-sale
—
313
—
—
—
Balance December 31, 2011
19,484
Stock-based compensation
—
—
—
—
—
—
2
—
—
—
—
—
2
—
—
—
26
—
—
573
—
—
10
—
—
583
—
—
(48)
—
—
(1,039)
—
—
(19)
—
—
(1,058)
—
44
—
—
—
154,785
800
119
—
—
—
155,704
630
Shares issued under stock
incentive plans
Repurchases of common
stock
Net loss
Unrealized loss on securities
available-for-sale
Balance December 31, 2012
20,218
$
734
—
—
—
300
—
—
—
— 491
—
—
2
—
—
1,074
(1,028)
—
—
—
—
—
$(2,086) $156,634
$
See accompanying notes to consolidated financial statements.
32
DIGIRAD CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1.
The Company
Digirad Corporation (“Digirad"), a Delaware corporation, is one of the largest national providers of in-office nuclear
cardiology imaging and ultrasound services to physician practices, hospitals and imaging centers through our Digirad Imaging
Solutions (“DIS”) division. We also sell medical diagnostic imaging systems including solid-state gamma cameras for nuclear
cardiology and general nuclear medicine applications, as well as provide service on the products we sell. Digirad has two
reportable segments, DIS and Diagnostic Imaging which are collectively referred to herein as the “Company”. The
accompanying consolidated financial statements include the operations of both segments. Intercompany accounts and
transactions are accounted for at cost and have been eliminated in consolidation. All our long-lived assets are located in the
United States. Substantially all of our revenues arise from sales activity in the United States. Through DIS, we provide in-office
imaging services to physicians, offering certified personnel, required licensure, an imaging system and other support and
supplies for the performance of nuclear and ultrasound imaging procedures under the supervision of its physician customers.
DIS' physician customers enter into annual service contracts for imaging services generally delivered on a per-day basis. Our
Diagnostic Imaging segment sells solid-state gamma cameras and provides camera service and maintenance.
On February 28, 2013, we announced a plan to restructure our Diagnostic Imaging segment. See Note 11 to the audited
consolidated financial statements for further information.
NOTE 2.
Basis of Presentation and Significant Accounting Policies
Basis of Presentation
The consolidated financial statements are prepared in conformity with United States generally accepted accounting
principles ("GAAP") and include the financial statements of the Company and its wholly owned subsidiaries. GAAP requires
management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of
contingent assets and liabilities and the reported amounts of revenues and expenses. By their nature, estimates are subject to an
inherent degree of uncertainty. Actual results could differ from management’s estimates. All significant intercompany accounts
and transactions have been eliminated. In addition certain reclassifications have been made to the prior year financial
statements to conform to the current period presentation.
Revenue Recognition
We derive revenue primarily from providing in-office services to support the performance of cardiac imaging procedures
and from selling and servicing solid-state digital gamma cameras. We recognize revenue in accordance with the authoritative
guidance for revenue recognition, when all of the following four criteria are met: (i) a contract or sales arrangement exists;
(ii) products have been shipped and title has transferred or services have been rendered; (iii) the price of the products or
services is fixed or determinable; and (iv) collectability is reasonably assured. The timing of revenue recognition is based upon
factors such as passage of title and risk of loss, the need for installation, and customer acceptance. These factors are based on
the specific terms of each contract or sales arrangement.
DIS revenue is derived from the service of personnel and equipment for in-office nuclear and ultrasound imaging
procedures. Revenue related to imaging services is recognized at the time services are performed and collection is reasonably
assured. These services are generally billed on a per-day basis under annual contracts, which specify the number of days of
service to be provided, or on a flat rate month-to-month basis.
Diagnostic Imaging segment revenue is generated from the sales of gamma cameras and follow-on maintenance service
contracts. We generally recognize revenue upon delivery to customers. We also provide installation and training for camera
sales in the United States. Installation and training services are generally performed shortly after delivery and represent costs
which are accrued at the time revenue is recognized. Neither service is essential to the functionality of the product.
Maintenance services are sold beyond the term of the warranty, which is generally one year from the date of purchase. Revenue
from these contracts is deferred and recognized ratably over the service period and is included in Diagnostic Imaging sales.
Use of Estimates
The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires
management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and
33
disclosures made in the accompanying notes to the consolidated financial statements. Significant estimates include reserves for
doubtful accounts and excess and obsolete inventories, valuations and impairments of long-lived assets and of goodwill,
revenue and billing adjustments, warranty costs, the valuation allowance for deferred tax assets, estimated restructuring
charges, and the assumptions used in estimating the fair value of stock options. Actual results could differ from those estimates.
Concentration of Credit Risk and Significant Customers
Financial instruments, which potentially subject us to concentrations of credit risk, consist primarily of cash and cash
equivalents, short-term investments and accounts receivable. We limit our exposure to credit loss by placing our cash and
investments in high credit quality financial institutions and investment grade corporate debt securities. Additionally, we have
established guidelines regarding diversification our investments and their maturities, which are designed to maintain principal
and maximize liquidity. No single customer represented greater than ten percent of our sales for any of the years presented.
Fair Value of Financial Instruments
The authoritative guidance for fair value measurements defines fair value for accounting purposes, establishes a framework
for measuring fair value and provides disclosure requirements regarding fair value measurements. The guidance defines fair
value as an exit price, which is the price that would be received upon sale of an asset or paid upon transfer of a liability in an
orderly transaction between market participants at the measurement date. The degree of judgment utilized in measuring the fair
value of assets and liabilities generally correlates to the level of pricing observability. Our financial instruments primarily
consist of cash equivalents, securities available-for-sale, accounts receivable, other current assets, restricted cash, accounts
payable and other current liabilities. The carrying amount of these financial instruments generally approximate fair value due to
their short term nature. Securities available-for-sale are recorded at fair value.
Cash and Cash Equivalents
We consider all investments with a maturity of three months or less when acquired to be cash equivalents.
Securities Available-for-Sale
Securities available-for-sale primarily consist of investment grade corporate debt securities. We classify all securities as
available-for-sale and as current assets, as the sale of such securities may be required prior to maturity to execute management
strategies. These securities are carried at fair value, with the unrealized gains and losses reported as a component of other
comprehensive income (loss) in stockholders' equity until realized. Realized gains and losses from the sale of available-for-sale
securities, if any, are determined on a specific identification basis. A decline in the market value of any available-for-sale
security below cost that is determined to be other than temporary will result in an impairment charge to earnings and a new cost
basis for the security is established. No such impairment charges were recorded for any period presented. It is not more likely
than not that we will be required to sell investments before recovery of their amortized costs. As of December 31, 2012, none of
our investments have been in an unrealized loss position for more than 12 months. Premiums and discounts are amortized or
accreted over the life of the related security as an adjustment to yield using the straight-line method and are included in interest
income. Interest income is recognized when earned. Realized gains and losses on investments in securities are included in other
income (expense) within the consolidated statements of comprehensive loss.
The following table sets forth the composition of securities available-for-sale as of December 31, 2012 and 2011 (in
thousands):
As of December 31, 2012
Corporate debt securities
As of December 31, 2011
Corporate debt securities
Maturity in
Years
Amortized Cost
Unrealized
Fair Value
3 or less
$
7,662
$
17
Gains
Losses
$ — $
7,679
Maturity in
Years
Amortized Cost
Unrealized
Fair Value
2 or less
$
6,380
$
33
Gains
Losses
$ — $
6,413
We invest cash in accordance with guidelines which require its investments in marketable securities to meet minimum credit
ratings assigned by established credit organizations. We also diversify our investments through specifying maximum
investments by instrument type and issuer. It is our policy to invest in instruments that have a final maturity of no longer than
three years, with a portfolio weighted average maturity of no longer than 9 months.
34
Allowance for Doubtful Accounts and Billing Adjustments
Accounts receivable consist principally of trade receivables from customers and are generally unsecured and due within 30
days. Expected credit losses related to trade accounts receivable are recorded as an allowance for doubtful accounts within
accounts receivable, net in the consolidated balance sheets.
We review reserves on a quarterly basis and makes adjustments based on historical experience and known collectability
issues and disputes. Within DIS, we provide reserves for adjustments and credit memos that represent billing adjustments that
are normally adjusted within the first 90 days subsequent to the performance of service. A provision for billing adjustments is
charged against DIS revenues and a provision for doubtful accounts is charged to general and administrative expenses. When
internal collection efforts on accounts have been exhausted, the accounts are written off by reducing the allowance for doubtful
accounts.
The following table summarizes our allowance for doubtful accounts and billing adjustments as of and for the years ended
December 31, 2012, 2011 and 2010 (in thousands):
Balance at December 31, 2009
Provision
Write-offs and recoveries, net
Balance at December 31, 2010
Provision
Write-offs and recoveries, net
Balance at December 31, 2011
Provision
Write-offs and recoveries, net
Balance at December 31, 2012
Allowance for Doubtful
Accounts (1)
$
$
877
832
(522)
1,187
237
(676)
748
224
(459)
513
Reserves for Billing
Adjustments and
Contractual Allowances (2)
413
$
1,127
(1,128)
412
868
(924)
356
232
(507)
81
$
(1)
(2)
The provision was charged against general and administrative expenses.
The provision was charged against revenue.
Inventory
Our inventories are stated at the lower of cost (first-in, first-out) or market (net realizable value) and we review inventory
balances for excess and obsolete inventory levels on a quarterly basis. Costs include material, labor and manufacturing
overhead costs. We rely on historical information to support our excess and obsolete reserves and utilize our business judgment
with respect to estimated future demand. Per our policy, we generally reserve 100% of the cost of inventory quantities in excess
of a defined period of demand. Once inventory is reserved, we do not adjust the reserve balance until the inventory is sold or
disposed.
As a result of the restructuring initiative announced on February 28, 2013, we recorded approximately $1.2 million of reserve
for excess and obsolete inventory for the year ended December 31, 2012.
35
The following table summarizes our reserves for excess and obsolete inventory as of and for the years ended December 31,
2012, 2011 and 2010 (in thousands):
Balance at December 31, 2009
Provision
Write-offs and scrap
Balance at December 31, 2010
Provision
Write-offs and scrap
Balance at December 31, 2011
Provision
Write-offs and scrap
Balance at December 31, 2012
Reserve for Excess and
Obsolete Inventories (1)
$
$
797
1,411
(317)
1,891
82
(380)
1,593
1,164
(192)
2,565
(1)
The provision was charged against Diagnostic Imaging cost of revenues.
Long-Lived Assets including Finite Lived Purchased Intangible Assets
Long-lived assets consist of property and equipment and finite lived intangible assets. We record property and equipment at
cost, and records other intangible assets based on their fair values at the date of acquisition. We calculate depreciation on
property and equipment using the straight-line method over the estimated useful life of the assets which average 6 years for
machinery and equipment, 3 years for computer hardware and software and the lower of the lease term or an average of 5 years
for leasehold improvements. We calculate amortization on other intangible assets using either the accelerated or the straight-
line method over the estimated useful life of the assets, based on when we expect to receive cash inflows generated by the
intangible assets.
Impairment losses on long-lived assets used in operations are recorded when indicators of impairment are present and the
undiscounted cash flows estimated to be generated by those assets are less than the assets’ carrying amount. If such assets are
considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the
assets exceeds the estimated fair value of the assets. No impairment losses were recorded on long-lived assets during the years
ended December 31, 2012, 2011 and 2010.
Valuation of Goodwill
We review goodwill for impairment on an annual basis during the fourth quarter, as well as when events or changes in
circumstances indicate that the carrying value may not be recoverable. We begin the process by assessing qualitative factors in
determining whether it is more likely than not that the fair value of its reporting unit is less than its carrying amount. After
performing the aforementioned assessment and upon review of the results of such assessment, we may begin performing step
one of the two-step impairment analysis by quantitatively comparing the fair value of the reporting unit with goodwill to the
carrying value of its long-term assets. If the carrying value of the long-term assets exceeds the fair value of the reporting unit,
then we must perform the second step of the impairment test, whereby the carrying value of the reporting unit’s goodwill is
compared to its implied fair value. If the carrying value of the goodwill exceeds the implied fair value, an impairment loss
equal to the difference would be recorded.
Restricted Cash
As of December 31, 2012, we hold $0.2 million of money market funds that are restricted from withdrawal as they are held
as collateral for a letter of credit related to an annual workers' compensation policy.
Restructuring
Restructuring costs are included in loss from operations within the consolidated statements of comprehensive loss. Losses
on property and equipment are recorded consistent with our accounting policy related to long-lived assets. One-time
termination benefits are recorded at the time they are communicated to the affected employees. Losses on property lease
obligations are recorded when the lease is abandoned.
In response to our ongoing review of current market conditions and internal operations we implemented restructuring
36
activities during the year ended December 31, 2010. The restructuring was complete as of the end of fiscal year 2011.
On February 28, 2013, we announced a plan to restructure our Diagnostic Imaging business. See Note 11 to the audited
consolidated financial statements for further information.
Shipping and Handling Fees and Costs
We record all shipping and handling billings to customers as revenue earned for the goods provided. Shipping and handling
costs are included in cost of revenues and totaled $0.2 million, $0.1 million and $0.3 million for the years ended December 31,
2012, 2011 and 2010, respectively.
Share-Based Compensation
We account for share-based awards exchanged for services in accordance with the authoritative guidance for share-based
payments. Under this guidance, share-based compensation expense is measured at the grant date, based on the estimated fair
value of the award, and is recognized as expense, net of estimated forfeitures, over the requisite service period.
Warranty
We generally provide a 12 month warranty on our gamma cameras. We accrue the estimated cost of this warranty at the time
revenue is recorded and charge warranty expense to Diagnostic Imaging cost of revenues. Warranty reserves are established
based on historical experience with failure rates and repair costs and the number of systems covered by warranty. Warranty
reserves are depleted as gamma cameras are repaired. The costs consist principally of materials, personnel, overhead and
transportation. We review warranty reserves quarterly and, if necessary, make adjustments.
The activities related to our warranty reserve for the years ended December 31, 2012, 2011 and 2010 are as follows (in
thousands):
Balance at beginning of year
Charges to Diagnostic Imaging cost of revenues
Applied to liability
Balance at end of year
Research and Development
Research and development costs are expensed as incurred.
Advertising Costs
Years Ended December 31,
2012
2011
2010
$
$
297
453
(424)
326
$
$
378
708
(789)
297
$
$
332
670
(624)
378
Advertising costs are expensed as incurred. Total advertising costs for each of the years ended December 31, 2012, 2011 and
2010 were $0.5 million, $0.6 million and $0.4 million, respectively.
Net Loss Per Share
Basic earnings per share (EPS) is calculated by dividing net income or loss by the weighted average number of common
shares and vested restricted stock units outstanding. Diluted EPS is computed by dividing net income or loss by the weighted
average number of common shares and vested restricted stock units outstanding and the weighted average number of dilutive
common stock equivalents, including stock options and non-vested restricted stock units under the treasury stock method.
Common stock equivalents are only included in the diluted earnings per share calculation when their effect is dilutive. Shares
used to compute basic net loss per share include 221,335, 289,394, and 244,531 vested restricted stock units for the years
ended December 31, 2012, 2011 and 2010, respectively.
37
The following table sets forth the computation of basic and diluted net loss per share for the periods indicated (in thousands,
except per share amounts):
Net loss
Shares used to compute basic net loss per share
Dilutive potential common shares:
Stock options
Restricted stock units
Shares used to compute diluted net loss per share
Years Ended December 31,
2012
(4,924) $ (3,342) $
2011
2010
(6,214)
$
19,274
19,052
18,774
—
—
19,274
—
—
19,052
—
—
18,774
Basic and diluted net loss per share
$
(0.26) $ (0.18) $
(0.33)
Since we incurred net losses for the years ended December 31, 2012, 2011 and 2010, 403,670, 601,491 and 528,356
common share equivalents were excluded from the computation of diluted net loss per share for years ended December 31,
2012, 2011 and 2010, respectively, as their effect would be antidilutive.
Other Comprehensive Income (Loss)
Other comprehensive income (loss) is defined as the change in equity during a period from transactions and other events
and circumstances from non-owner sources. Comprehensive loss includes unrealized gains or losses on our marketable
securities.
Income Taxes
We account for income taxes in accordance with provisions which set forth an asset and liability approach that requires the
recognition of deferred tax assets and deferred tax liabilities for the expected future tax consequences of temporary differences
between the carrying amounts and the tax bases of assets and liabilities. Valuation allowances are established when necessary to
reduce deferred tax assets to the amount that is more likely than not expected to be realized. In making such a determination, a
review of all available positive and negative evidence must be considered, including scheduled reversal of deferred tax
liabilities, projected future taxable income, tax planning strategies, and recent financial performance.
We follow the provisions of Accounting Standards Codification 740 - Income Taxes, that defines a recognition threshold and
measurement attributes for financial statement recognition and measurement of a tax provision taken or expected to be taken in
a tax return. The topic also provides guidance on de-recognition, classification, interest and penalties, accounting in interim
periods, disclosure and transition. Under the topic, the impact of an uncertain income tax position on the income tax return
must be recognized at the largest amount that is more-likely-than-not to be sustained upon audit by the relevant taxing
authority. An uncertain income tax position will not be recognized if it has less than a 50% likelihood of being sustained. We
recognize interest and penalties related to uncertain tax positions as a component of the income tax provision.
Acquisition
On December 31, 2012, we acquired the operating assets of a nuclear and ultrasound imaging business located in the
Southeastern U.S. The total purchase price was $500,000, including forgiveness of a $25,000 note receivable. Of the net
purchase price, $340,000 was allocated to intangible assets and $135,000 to property, plant and equipment. The acquisition
was accounted for in accordance with Accounting Standards Codification Topic 805: Business Combinations.
Accounting Standards Updates
In June and December 2011, the Financial Accounting Standards Board (FASB) issued guidance on the presentation of
comprehensive income. This guidance eliminates the option to present the components of other comprehensive income as part
of the statement of changes in stockholders' equity. We adopted this guidance beginning on January 1, 2012. The adoption did
not have a material effect on our financial condition or results of operations, and only resulted in a change to financial
statement presentation.
38
On May 12, 2011 the FASB issued Accounting Standards Update (ASU) No. 2011-04, “Fair Value Measurement (Topic
820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and
IFRSs" (ASU 2011-04). This update amends Accounting Standards Codification (ASC) Topic 820, “Fair Value Measurement
and Disclosure.” ASU 2011-04 clarifies the application of certain existing fair value measurement guidance and expands the
disclosures for fair value measurements that are estimated using significant unobservable (Level 3) inputs. ASU 2011-04 is
effective for annual and interim reporting periods beginning on or after December 15, 2011. We adopted this guidance
beginning on January 1, 2012. The adoption of this guidance did not have a material effect on our financial condition or results
of operations.
NOTE 3.
Supplementary Balance Sheet Information (in thousands):
Inventories, net:
Raw materials
Work-in-process
Finished goods
Less reserve for excess and obsolete inventories
Property and equipment, net:
Machinery and equipment
Computer hardware and software
Leasehold improvements
Accumulated depreciation
Intangible assets, net (1):
Customer relationships
Covenants not to compete
Patents
Accumulated amortization of customer relationships
Accumulated amortization of covenants not to compete
Accumulated amortization of patents
December 31,
2012
December 31,
2011
2,522
$
3,161
1,861
7,544
(2,565)
4,979
$
2,899
2,665
2,207
7,771
(1,593)
6,178
December 31,
2012
December 31,
2011
22,302
$
2,827
865
25,994
(21,301)
4,693
December 31,
2012
2,940
300
141
3,381
(2,402)
(300)
(95)
584
$
$
$
21,684
2,712
813
25,209
(19,842)
5,367
December 31,
2011
2,600
300
141
3,041
(2,201)
(280)
(83)
477
$
$
$
$
$
$
(1)
Amortization expense for intangible assets, net for the years ended December 31, 2012, 2011 and 2010 was $0.2 million, $0.3
million and $0.4 million, respectively. Estimated amortization expense for intangible assets for 2013 is $0.2 million, for 2014 is
$0.1 million, for 2015 is $0.1 million, for 2016 and thereafter less than $0.2 million.
39
Other accrued liabilities:
Outside services and consulting
Sales and property taxes payable
Professional fees
Radiopharmaceuticals and consumable medical supplies
Facilities and related costs
Travel expenses
Legal reserve
Other accrued liabilities
December 31,
2012
December 31,
2011
$
$
208
211
319
238
216
100
385
522
836
473
293
243
129
110
—
313
$
2,199
$
2,397
NOTE 4.
Fair Value Measurements
We categorize our assets and liabilities measured at fair value into a three-level hierarchy in accordance with the
authoritative guidance for fair value measurements. Assets and liabilities presented at fair value in our consolidated balance
sheets are generally categorized as follows:
Level 1:
Quoted prices in active markets for identical assets or liabilities.
Level 2:
Level 3:
Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted
prices in markets that are not active or other inputs that are observable or can be corroborated by observable
market data for substantially the full term of the assets or liabilities.
Unobservable inputs that are supported by little or no market activity and that are significant to the fair value
of the assets or liabilities. Such assets and liabilities may have values determined using pricing models,
discounted cash flow methodologies, or similar techniques, and include instruments for which the
determination of fair value requires significant management judgment or estimation.
As required by the authoritative guidance for fair value measurements, financial assets and liabilities are classified in their
entirety based on the lowest level of input that is significant to the fair value measurement. Our assessment of the significance
of a particular input to the fair value measurement requires judgment, which may affect the valuation of assets and liabilities
and their placement within the fair value hierarchy levels. The following table sets forth by level within the fair value hierarchy
our assets that were recorded at fair value as of December 31, 2012 and 2011 (in thousands).
Assets:
Corporate debt securities
Assets:
Corporate debt securities
At Fair Value as of December 31, 2012
Level 1
Level 2
Level 3
Total
$
— $ 7,679
$
— $ 7,679
At Fair Value as of December 31, 2011
Level 1
Level 2
Level 3
Total
$
— $ 6,413
$
— $ 6,413
Our investments in corporate debt securities are valued based on quoted market prices for identical securities. Some of the
corporate debt securities we hold do not trade on a daily basis. For investments that do not trade on a daily basis, we utilize a
variety of pricing sources to determine fair value and corroborate the fair value by observing market data prior and subsequent
to the balance sheet date.
NOTE 5.
Goodwill
Goodwill has been recorded within a reporting unit of our DIS segment since the acquisition of net assets from Ultrascan. As
a result of our annual impairment test during the fourth quarter of 2008, we recorded a $2.5 million impairment loss due to a
40
significant decline in its market capitalization, adjusting goodwill to its current carrying value of $0.2 million. We determined
the implied fair value of our goodwill utilizing the discounted cash flow method under the income approach. Under the income
approach, we derived the fair value based on the present value of estimated future cash flows, which were based on historical
data and assumptions pertaining to the market. In performing the 2012 goodwill impairment test, we assessed the relevant
qualitative factors and concluded that it is more likely than not that the fair value of our goodwill is greater than the carrying
amount. After reaching this conclusion, no further testing was performed. The qualitative factors we considered included, but
were not limited to, general economic conditions, the industry outlook, our recent and forecasted financial performance and the
price of our common stock. No impairment loss was recorded in 2012, 2011 or 2010.
NOTE 6.
Commitments and Contingencies
Leases
We are currently leasing its facility which has approximately 47,000 square feet of manufacturing and office space. The
lease expires in February 2016. The minimum annual rent on the facility is subject to increases specified in the lease. We are
also required to pay taxes, insurance and operating costs under the facility lease. We have the option to renew the lease for two
additional three-year options to extend beyond its expiration, which is conditional on our occupation of the entire facility.
We lease facilities and certain automotive equipment under non-cancelable operating leases expiring from January 1, 2013
through October 31, 2017. Rent expense is recognized on a straight-line basis over the initial lease term and those renewal
periods that are reasonably assured as determined at lease inception. The difference between rent expense and rent paid is
recorded as deferred rent and is included in other liabilities. Rent expense was $1.3 million for the years ended December 31,
2012, 2011 and 2010. The future minimum rental payments due under non-cancelable operating leases having initial or
remaining lease terms in excess of one year as of December 31, 2012 are as follows (in thousands):
2013
2014
2015
2016
2017
Thereafter
Total minimum lease payments
Operating
Leases
1,104
792
689
120
18
—
2,723
$
$
Radiopharmaceutical litigation. We have been engaged in a contractual dispute with our former radiopharmaceutical supplier
who alleges that we, along with another radiopharmaceutical supplier, collaborated and breached our supply commitment
contract. In March 2013, we entered into negotiations with the former supplier, and believe we are nearing a settlement. Based
on this, we estimate the impact to the Company will be approximately $385,000, which we have recorded within other accrued
liabilities as of December 31, 2012 in the accompanying consolidated balance sheet.
Other matters. In the normal course of business, we have been, and will likely continue to be, subject to litigation or
administrative proceedings incidental to its business, such as claims related to customer disputes, employment practices, wage
and hour disputes, product liability, professional liability, commercial disputes, licensure restrictions or denials, and warranty or
patent infringement. Responding to litigation or administrative proceedings, regardless of whether they have merit, can be
expensive and disruptive to normal business operations. As litigation and the administrative proceedings are inherently
uncertain, we cannot predict the outcome of such matters. While the ultimate outcome of litigation is always uncertain, we do
not believe that any such outcomes will have a material adverse effect on our business or financial results.
NOTE 7.
Share-Based Compensation
At December 31, 2012, we have two active stock option plans, the 2004 Stock Incentive Plan (the “2004 Plan”) and the
2011 Inducement Stock Incentive Plan (the “2011 Plan”), (collectively the “Plans”), under which stock options and restricted
stock units may be granted to employees and non-employees, including members of our Board of Directors. Terms of any
equity instruments granted under the Plans are approved by the Board of Directors. Stock options typically vest over the
requisite service period of two to four years and have a contractual term of seven to ten years. Restricted stock units generally
vest over one to three years and must be settled at the earlier of the recipients' termination date or 36 months after grant. Under
the Plans, we are authorized to issue an aggregate of 2,750,000 shares of common stock. As of December 31, 2012, the Plans
had 179,967 shares available for future issuance. The number of shares reserved for issuance under the 2004 Plan is subject to
41
increase by any shares under the 1998 Stock Option/Stock Issuance Plan (the “1998 Plan”) that are forfeited, expire or are
canceled up to a maximum of 1,500,000 shares. As of December 31, 2012, the number of shares reserved for issuance under the
Plans was 427,913 shares due to forfeited, expired and canceled shares under the 1998 Plan.
Stock Options
The estimated fair value of our stock options is determined using the Black-Scholes model. All stock options were granted
with an exercise price equal to the fair value of the common stock on the grant date. The weighted-average grant date fair value
of employee stock options granted during the years ended December 31, 2012, 2011 and 2010 was $1.05, $1.86 and $1.14 per
share, respectively, which was estimated using the following weighted-average assumptions:
Expected volatility
Expected term (in years)
Risk-free interest rate
Expected dividend yield
Years Ended December 31,
2012
2011
2010
59%
6.0
1.2%
—
62%
6.5
1.9%
—
65%
6.1
2.9%
—
The determination of the fair value of stock options using an option valuation model is affected by our stock price, as well as
assumptions regarding a number of complex and subjective variables. The volatility assumption is based on the historical
volatility of our common stock over a period of time equal to the expected term of the stock options. The expected term of our
stock options is based on historical experience. The risk-free rate for periods within the contractual life of the option is based on
the U.S. Treasury yield in effect at the time of grant. We have never declared or paid dividends and have no plans to do so in
the foreseeable future.
A summary of our stock option award activity as of and for the year ended December 31, 2012 is as follows (in thousands,
except per share data):
Options outstanding at December 31, 2011
Options exercisable at December 31, 2011
Options granted
Options forfeited
Options expired
Options exercised
Options outstanding at December 31, 2012
Options exercisable at December 31, 2012
Weighted-
Average
Exercise
Price per
Share
Weighted-
Average
Remaining
Contractual
Term (In Years)
Aggregate
Intrinsic
Value
Number of
Shares
1,902
1,468
500
(122)
(85)
(410)
1,785
1,256
$
$
$
$
$
2.01
2.13
1.94
1.84
3.61
0.73
2.22
2.35
4.60
4.20
$
$
801
732
As share-based compensation expense under the authoritative guidance for share-based payments is based on awards
ultimately expected to vest, it is reduced for estimated forfeitures. The guidance requires forfeitures to be estimated at the time
of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates.
At December 31, 2012, total unrecognized compensation cost related to unvested stock options was $0.5 million, which is
expected to be recognized over a weighted-average period of 2.3 years.
Upon exercise, we issue new shares of common stock. Cash received from stock option exercises was $0.3 million during
the year ended December 31, 2012, $0.1 million during the year ended December 31, 2011 and less than $0.1 million for the
year ended December 31, 2010. We did not recognize any income tax benefits from stock option exercises as it continues to
record a valuation allowance on its deferred tax assets, as more fully described in Note 8. The total intrinsic value of stock
options exercised was less than $0.1 million during the years ended December 31, 2012, 2011 and 2010.
Restricted Stock Units
Under guidance for share-based payments, the fair value of our restricted stock awards is based on the grant date fair value
42
of our common stock. All restricted stock units were granted with no purchase price. The weighted-average grant date fair
value of the restricted stock units was $1.82, $2.15 and $2.00 per share during the years ended December 31, 2012, 2011 and
2010, respectively.
A summary of our restricted stock unit activity as of and for the year ended December 31, 2012 is as follows (in thousands,
except per share data):
Non-vested restricted stock units outstanding at December 31, 2011
Granted
Forfeited
Vested
Non-vested restricted stock units outstanding at December 31, 2012
Weighted-
Average
Grant Date
Fair Value
Per Share
Number of
Shares
$
284
50
$
(55) $
(164) $
$
115
2.15
1.82
2.34
2.14
1.94
The following table summarizes information about restricted stock units that vested during the years ended December 31,
2012, 2011 and 2010 based on service conditions (in thousands):
Fair value on vesting date of vested restricted stock units
Years Ended December 31,
2012
$
350
2011
$ 507
2010
$ 362
At December 31, 2012, total unrecognized compensation cost related to non-vested restricted stock units was $0.1 million,
which is expected to be recognized over a weighted-average period of 1.9 years.
Allocation of Share-Based Compensation Expense
Total share-based compensation expense related to all of our share-based units for the years ended December 31, 2012, 2011
and 2010 was allocated as follows (in thousands):
Cost of revenues:
DIS
Diagnostic Imaging
Research and development
Marketing and sales
General and administrative
Share-based compensation expense
Stock Repurchase Program
Years Ended December 31,
2012
2011
2010
$
$
7
82
78
127
336
630
$
$
13
99
84
110
494
800
$
$
26
60
61
113
614
874
On September 18, 2012, our board of directors amended our stock buyback program, originally adopted in February 2009,
to permit an additional $2 million of its issued and outstanding common shares to be repurchased. As amended, the stock
buyback program permits us to purchase an aggregate of $4 million of our common stock. The timing and extent of the
repurchase depends upon market conditions, applicable legal requirements, and other factors. During the years ended
December 31, 2012, 2011 and 2010, we repurchased 490,816, 9,607 and 25,800 shares of our common stock, respectively,
under the stock buyback program. As of December 31, 2012, an aggregate of $1.9 million remains authorized for stock
buyback under the program.
NOTE 8.
Income Taxes
As of December 31, 2012, we had federal and state income tax net operating loss carry forwards of $95.2 million and $30.1
million, respectively. Federal loss carry forwards of approximately $2.4 million expired in 2012. The remaining loss carry
43
forwards will begin to expire in 2018, unless previously utilized. State loss carry forwards of approximately $3.1 million
expired in 2012 and approximately $0.5 million is set to expire in 2013, unless previously utilized. We also have federal and
California research and other credit carry forwards of approximately $1.6 million and $2.1 million, as of December 31, 2012,
respectively. Approximately $0.2 million of federal credits expired in 2012. The remaining federal credits will begin to expire
in 2018. The California research credits have no expiration. Pursuant to Internal Revenue Code Sections 382 and 383, use of
our net operating loss and credit carry forwards may be limited because of a cumulative change in ownership greater than 50%
which may have occurred or which may occur in the future. A valuation allowance has been recognized to offset the deferred
tax assets, as realization of such assets has not met the “more likely than not” threshold required under the authoritative
guidance of accounting for income taxes.
Our net deferred tax assets consisted of the following (in thousands):
Deferred tax assets:
Net operating loss carry forwards
Research and development and other credits
Reserves
Intangibles
Other, net
Total deferred tax assets
Deferred tax liabilities—depreciation
Valuation allowance for deferred tax assets
Net deferred tax assets
As of December 31,
2012
2011
$
$
34,588
1,836
1,531
1,908
1,509
41,372
(441)
(40,931)
$
— $
34,518
1,878
1,282
2,206
1,392
41,276
(391)
(40,885)
—
The income tax benefit for the year ended December 31, 2012 and the income tax expense for years ended December 31,
2011 and 2010, is less than $0.1 million, respectively, and is included as a component of other income (expense) in the
consolidated statements of comprehensive loss.
Differences between the provision for income taxes and income taxes at the statutory federal income tax rate are as follows:
Income tax benefit at statutory federal rate
State income tax benefit, net of federal benefit
Permanent differences, tax credits and other
Change in effective state tax rates
Expiration of net operating loss carryovers
Stock compensation expense
Reserve for uncertain tax positions and other reserves
Change in valuation allowance
Provision (benefit) for income taxes
Years Ended December 31,
2012
(35.0)%
(2.9)%
3.0 %
2.4 %
32.4 %
— %
(2.4)%
1.0 %
(1.5)%
2011
(35.0)%
(2.7)%
(2.0)%
10.3 %
9.4 %
(0.9)%
3.1 %
20.3 %
2.5 %
2010
(35.0)%
(2.5)%
0.7 %
— %
— %
12.3 %
0.9 %
24.6 %
1.0 %
The following table summarizes the activity related to our unrecognized tax benefits (in thousands):
Balance at beginning of year
Increases related to prior year tax positions
Increases related to current year tax positions
Expiration of the statute of limitations for the assessment of taxes
Change in valuation allowances
Balance at end of year
December 31,
2012
$ 1,621
25
81
(252)
64
$ 1,539
2011
$ 1,617
30
42
(48)
(20)
$ 1,621
2010
$ 1,563
50
24
(28)
8
$ 1,617
Included in the unrecognized tax benefits of $1.5 million at December 31, 2012 was $1.2 million of tax benefits that, if
recognized, would reduce our annual effective tax rate, subject to the valuation allowance. We do not expect our unrecognized
44
tax benefits to change significantly over the next 12 months.
We file income tax returns in the U.S. and in various state jurisdictions with varying statutes of limitations. We are no longer
subject to income tax examination by tax authorities for years prior to 2007; however, our net operating loss carryforward and
research credit carryforwards arising prior to that year are subject to adjustment. Our policy is to recognize interest expense and
penalties related to income tax matters as a component of income tax expense. There were no accrued interest and penalties as
of December 31, 2012 and 2011 and no interest and penalties were recognized during the years ended December 31, 2012,
2011 and 2010.
The American Taxpayer Relief Act of 2012, which reinstated the United States federal research and development tax credit
retroactively from January 1, 2012 through December 31, 2013, was not enacted into law until the first quarter of 2013.
Therefore, the expected tax benefit resulting from such reinstatement for 2012 will not be reflected in our estimated annual
effective tax rate until 2013.
NOTE 9.
Employee Retirement Plan
We have a 401(k) retirement plan under which all full-time employees may contribute up to 100% of their annual salary,
within IRS limits. The Company contributions to the retirement plan totaled $0.2 million for each of the years ended
December 31, 2012, 2011 and 2010.
NOTE 10.
Segments
Our reporting segments have been determined based on the nature of the products and/or services offered to customers or the
nature of their function in the organization. We evaluate performance based on the operating income (loss) contributed by each
segment. The accounting policies of the reportable segments are the same as those described in the summary of significant
accounting policies. The majority of our capital expenditures arise at its DIS segment. Segment results are as follows (in
thousands):
Gross profit by segment:
DIS
Diagnostic Imaging
Consolidated gross profit
Loss from operations by segment:
DIS
Diagnostic Imaging
Consolidated loss from operations
Depreciation and amortization of tangible and intangible assets by segment:
DIS
Diagnostic Imaging
Consolidated depreciation and amortization
Identifiable assets by segment:
DIS
Diagnostic Imaging
Consolidated assets
45
Years ended December 31,
2012
2011
2010
8,771
$
4,321
8,122
6,636
13,092
$ 14,758
$
$
6,981
5,023
12,004
(48) $
(535) $
(5,050)
(5,098) $ (3,510) $
(2,975)
(3,483)
(3,107)
(6,590)
1,814
317
2,131
$
$
2,765
331
3,096
$
$
3,763
453
4,216
As of December 31,
2012
2011
9,105
$ 12,789
35,804
37,238
44,909
$ 50,027
$
$
$
$
$
$
$
$
NOTE 11.
Subsequent Events
On February 28, 2013, we announced a plan to restructure our Diagnostic Imaging business to significantly reduce costs
and focus on maximizing cash flow from our DIS service business. This restructuring effort will also include a reduction in
force. After completion of this planned restructuring, we believe the overall operating cash flow of the Company will increase.
However, it is also likely that the long-term volume and total revenue of our Diagnostic Imaging camera sales will decrease. As
a result of this restructuring effort, we estimate that we will incur approximately $1.8 million to $2.3 million (unaudited) in
restructuring charges during fiscal year 2013. Included in this estimated range is approximately $1.5 million (unaudited) of
employee related costs, while the remaining costs include contract termination costs and other related costs.
On February 27, 2013, our board of directors modified our stock buyback program to increase repurchases to an aggregate
of $7 million, and subsequently, on March 13, 2013, increased the stock buyback program again for repurchases of up to an
aggregate of $12 million.
NOTE 12.
Quarterly Financial Information (Unaudited)
The following financial information reflects all normal recurring adjustments, which are, in the opinion of management,
necessary for a fair statement of the results of the interim periods. Summarized quarterly data for fiscal 2012 and 2011 are as
follows (in thousands, except per share data):
Fiscal 2012
Revenues
Gross profit
Loss from operations
Net loss
Net loss per common share—basic and diluted (1)
Fiscal 2011
Revenues
Gross profit
Loss from operations
Net income (loss)
Net income (loss) per common share—basic and diluted (1)
1st
Quarter
2nd
Quarter
3rd
Quarter
4th
Quarter
12,969
$
12,710
$
11,817
$
13,017
3,672
$
(1,282) $
(1,268) $
(0.07) $
3,681
$
(906) $
(891) $
(0.05) $
3,129
$
(1,067) $
(906) $
(0.05) $
2,610
(1,843)
(1,859)
(0.10)
14,175
$
14,249
$
13,439
$
11,882
3,519
$
(647) $
(387) $
(0.02) $
3,995
$
(284) $
(227) $
(0.01) $
4,150
$
(52) $
$
99
0.01
$
3,094
(2,527)
(2,827)
(0.15)
$
$
$
$
$
$
$
$
$
$
(1)
Earnings per share are computed independently for each of the quarters presented. Therefore, the sum of the quarterly net earnings
per share will not necessarily equal the total for the year.
ITEM 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURES
None.
ITEM 9A.
CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in its
Securities and Exchange Commission Act of 1934 reports is recorded, processed, summarized and reported within the time
periods specified in the Securities and Exchange Commission’s rules and forms and that such information is accumulated and
communicated to our management, including our chief executive officer and chief financial officer, as appropriate, to allow for
timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, we
recognize that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance
of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit
relationship of possible controls and procedures.
46
As required by Securities and Exchange Commission Rule 13a-15(e) and 15d-15(e), we carried out an evaluation, under the
supervision and with the participation of our management, including our chief executive officer and chief financial officer, of
the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the period covered by
this report. Based on the foregoing, our chief executive officer and chief financial officer concluded that our disclosure controls
and procedures were effective at the reasonable assurance level.
There has been no change in our internal controls over financial reporting during our most recent fiscal quarter that has
materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting.
(b) Management’s Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such
term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). Because of its inherent limitations, internal control over
financial reporting may not prevent or detect all misstatements. Therefore, even those systems determined to be effective can
provide only reasonable assurance with respect to financial statement preparation and presentation.
We conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in
Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
Based on our evaluation under the framework in Internal Control—Integrated Framework, our management concluded that our
internal control over financial reporting was effective as of December 31, 2012.
This annual report does not include an attestation report of our independent registered public accounting firm regarding
internal control over financial reporting. Our report was not subject to attestation by our independent registered public
accounting firm pursuant to the rules of the SEC that permit us to provide only a management’s report in this report.
ITEM 9B.
OTHER INFORMATION
None.
47
PART III
ITEM 10.
DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information required by this item regarding directors and corporate governance is incorporated by reference to our
definitive Proxy Statement to be filed with the Securities and Exchange Commission in connection with the Annual Meeting of
Stockholders to be held in 2013, or the “2013 Proxy Statement,” under the headings “Election of Directors,” “Board of
Directors and Board Committees” and “Section 16(a) Beneficial Ownership Reporting Compliance.” We have adopted a Code
of Business Conduct and Ethics that applies to all directors, officers and employees, including our principal executive officer,
principal financial officer and principal accounting officer. Our Code of Business Conduct and Ethics is posted on our website,
www.digirad.com.
ITEM 11.
EXECUTIVE COMPENSATION
The information required by Item 11 is incorporated by reference from the information set forth under the captions
“Compensation of Non-Employee Directors” and “Executive Compensation,” in our 2013 Proxy Statement.
ITEM 12.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The information required by Item 12 is incorporated by reference from the information set forth under the captions
“Executive Compensation—Equity Compensation Plan Information” and “Security Ownership,” in our 2013 Proxy Statement.
ITEM 13.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR
INDEPENDENCE
The information required by Item 13 is incorporated by reference from the information set forth under the captions
“Corporate Governance and Board of Directors—Director Independence” and “Related Person Transactions and Section 16(a)
Beneficial Ownership Reporting Compliance,” in our 2013 Proxy Statement.
ITEM 14.
PRINCIPAL ACCOUNTING FEES AND SERVICES
The information required by Item 14 is incorporated by reference from the information set forth under the caption “Proposal
Number II—Ratification of Selection of Independent Registered Public Accounting Firm,” in our 2013 Proxy Statement.
48
ITEM 15.
EXHIBITS, FINANCIAL STATEMENT SCHEDULES
(a) Financial Statements and Financial Statement Schedules
PART IV
Documents filed as part of this report:
1.
Financial Statements:
The financial statements of Digirad Corporation listed below are set forth in Item 8 of this report for the year ended
December 31, 2012:
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets at December 31, 2012 and 2011
Consolidated Statements of Comprehensive Loss for the years ended December 31, 2012, 2011 and 2010
Consolidated Statements of Cash Flows for the years ended December 31, 2012, 2011 and 2010
Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2012, 2011 and 2010
Notes to Consolidated Financial Statements
2.
Financial Statement Schedules:
All other schedules are omitted because they are not applicable or the required information is shown in the consolidated
financial statements or notes thereto.
(b) Exhibits
EXHIBIT INDEX
Exhibit
Number
2.1
2.2
2.3
3.1
3.2
4.1
4.2
Description
Asset Purchase Agreement, by and between Digirad Corporation, Digirad Imaging Solutions, Inc.,
Digirad Ultrascan Solutions, Inc. and Ultrascan, Inc. dated May 1, 2007 (Incorporated by reference
to the exhibits to the Company’s quarterly report on Form 10-Q filed with the Commission on
May 7, 2007)
Asset Purchase Agreement, dated February 2, 2009, by and among the Company, Digirad Imaging
Solutions, Inc. and MD Office Solutions (Incorporated by reference to the exhibits to the
Company’s report on Form 8-K filed with the Commission on February 6, 2009)
Asset Purchase Agreement, dated as of March 2, 2009, by and among Digirad Imaging Solutions,
Inc. Daniel D. Rice, Denise Nelson, Greg Nelson and Antigua Medical Services, LLC (Incorporated
by reference to the exhibits to the Company’s report on Form 8-K filed with the Commission on
March 4, 2009)
Amended and Restated Certificate of Incorporation of Digirad Corporation (Incorporated by
reference to the exhibits to the Company’s report on Form 8-K originally filed with the Commission
on May 3, 2006, as amended thereafter)
Amended and Restated Bylaws of Digirad Corporation (Incorporated by reference to the exhibits to
the Company's report on Form 8-K originally filed with the Commission on May 9, 2007)
Form of Specimen Stock Certificate (Incorporated by reference to the exhibits to the Registration
Statement on Form S-1 (File No. 333-113760) originally filed with the Commission on March 19,
2004, as amended thereafter)
Preferred Stock Rights Agreement, by and between Digirad Corporation and American Stock
Transfer and Trust Company, dated November 22, 2005 (Incorporated by reference to the exhibits to
the Registration Statement on the Company's report on Form 8-A originally filed with the
Commission on November 29, 2005)
10.1†
License Agreement, by and between Digirad Corporation and the Regents of the University of
California dated May 19, 1999, as amended (Incorporated by reference to the exhibits to the
Registration Statement on Form S-1 (File No. 333-113760) originally filed with the Commission on
March 19, 2004, as amended thereafter)
49
Exhibit
Number
10.2†
10.3†
10.4†
10.5#
10.6#
10.7#
10.8#
10.9#
10.10#
10.11#
10.12#
10.13#
10.14#
10.15#
10.16
10.17#
10.18#
Description
Amendment to License Agreement by and between Digirad Corporation and the Regents of the
University of California, dated July 28, 2004, as amended (Incorporated by reference to the exhibits
to the Registration Statement on Form S-1 (File No. 333-113760) originally filed with the
Commission on March 19, 2004, as amended thereafter)
License Agreement, by and between Digirad Corporation and Cedars-Sinai Health System, dated
May 22, 2001, as amended (Incorporated by reference to the exhibits to the Registration Statement
on Form S-1 (File No. 333-113760) originally filed with the Commission on March 19, 2004, as
amended thereafter)
License Agreement, by and between Digirad Corporation and Cedars-Sinai Health System, dated
April 1, 2003, as amended (Incorporated by reference to the exhibits to the Registration Statement
on Form S-1 (File No. 333-113760) originally filed with the Commission on March 19, 2004, as
amended thereafter)
Digirad Corporation 2004 Stock Incentive Plan, as Amended and Restated on August 2, 2007
(Incorporated by reference to the exhibits to the Company’s quarterly report on Form 10-Q as filed
with the Commission on August 7, 2007)
Form of Notice of Stock Option Award and Stock Option Award Agreement for 2004 Stock
Incentive Plan (Incorporated by reference to the exhibits to the Company’s annual report on Form
10-K filed with the Commission on March 3, 2005)
2004 Non-Employee Director Option Program (Incorporated by reference to the exhibits to the
Registration Statement on Form S-1 (File No. 333-113760) originally filed with the Commission on
March 19, 2004, as amended thereafter)
Form of Notice of Stock Option Award and Stock Option Award Agreement for 2004 Non-
Employee Director Option Program (Incorporated by reference to the exhibits to the Company’s
annual report currently filed on Form 10-K with the Commission on March 3, 2005)
Form of Indemnification Agreement (Incorporated by reference to the exhibits to the Registration
Statement on Form S-1 (File No. 333-113760) originally filed with the Commission on March 19,
2004, as amended thereafter)
Executive Employment Agreement, by and between Digirad Corporation and Todd Clyde, dated
October 30, 2008 (Incorporated by reference to the exhibits to the Company’s annual report on
Form 10-K filed with the Commission on February 13, 2009)
Amendment to Employment Agreement, dated December 31, 2010, by and between the Company
and Todd P. Clyde (Incorporated by reference to the exhibits to the Company's report on Form 8-K
filed with the Commission on January 3, 2011)
Second amendment to Employment Agreement, dated March 8, 2013, by and between the Company
and Todd P. Clyde (Incorporated by reference to the exhibit to the Company's report on Form 8-K
filed with the Commission on March 13, 2013)
Executive Employment Agreement, by and between Digirad Corporation and Jeffry R. Keyes, dated
March 4, 2013 (Incorporated by reference to the exhibits to the Company's report on Form 8-K filed
with the Commission on March 5, 2013)
Employment Agreement, dated as of May 1, 2007, as amended on August 7, 2010, by and between
the Company and Matthew G. Molchan (Incorporated by reference to the exhibits to the Company's
report on Form 8-K filed with the Commission on March 5, 2013)
Severance Agreement, dated December 31, 2010, by and between the Company and Virgil Lott
(Incorporated by reference to the exhibits to the Company's report on Form 8-K filed with the
Commission on January 3, 2011)
Commercial Lease Agreement, dated August 1, 2009, by and between the Company and B. Young
Properties, LLC (Incorporated by reference to the exhibits to the Company’s report on Form 8-K
filed with the Commission on September 4, 2009)
Form of 2011 Inducement Stock Incentive Plan (Incorporated by reference to the exhibits to the
Company's report on Form 8-K filed with the Commission on July 29, 2011)
Form of 2011 Inducement Stock Incentive Plan Stock Option Agreement (Incorporated by reference
to the exhibits to the Company's report on Form 8-K filed with the Commission on July 29, 2011)
50
Exhibit
Number
10.19#
Description
Form of 2011 Inducement Stock Incentive Plan Restricted Stock Unit Agreement (Incorporated by
reference to the exhibits to the Company's report on Form 8-K filed with the Commission on July
29, 2011)
10.20#
Offer Letter, dated December 13, 2011, by and between the Company and Sara L. Hanssen
10.21#
Offer Letter, dated August 21, 2012, by and between the Company and Jeffry R. Keyes
(Incorporated by reference to the exhibits to the Company's report on Form 8-K filed with the
Commission on September 6, 2012)
10.22#
Letter Agreement (Incorporated by reference to the exhibits to the Company's report on Form 8-K
filed with the Commission on July 3, 2012)
21.1
23.1
24.1
31.1
31.2
32.1**
32.2**
101.INS
Subsidiaries of Digirad Corporation
Consent of Independent Registered Public Accounting Firm
Power of Attorney (included on the signature page of this Form 10-K)
Certification of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of
2002
Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of
2002
Certification of Principal Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
Certification of Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
XBRL Instance Document***
101.SCH
XBRL Taxonomy Extension Schema***
101.CAL
XBRL Taxonomy Extension Calculation Linkbase***
101.LAB
XBRL Taxonomy Extension Labels Linkbase***
101.PRE
XBRL Taxonomy Presentation Linkbase***
101.DEF
XBRL Taxonomy Extension Definition Linkbase***
†
+
#
**
Digirad Corporation has been granted confidential treatment with respect to certain portions of this exhibit (indicated
by asterisks), which have been filed separately with the Commission.
Portions of this exhibit (indicated by asterisks) have been omitted pursuant to a request for confidential treatment and
have been separately filed with the Commission.
Indicates management contract or compensatory plan.
The certifications attached as Exhibits 32.1 and 32.2 that accompany this Annual Report on Form 10-K
are not deemed filed with the Securities and Exchange Commission and are not to be incorporated by
reference into any filing of Digirad Corporation under the Securities and Exchange Act of 1933, as
amended, or the Securities and Exchange Act of 1934, as amended, whether made before or after the date
of this 10-K, irrespective of any general incorporation language contained in such filings.
***
Furnished, not filed
51
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused
this report to be signed on its behalf by the undersigned, thereunto duly authorized.
SIGNATURES
Dated: March 13, 2013
DIGIRAD CORPORATION
By:
Name:
Title:
/S/ TODD P. CLYDE
Todd P. Clyde
Chief Executive Officer
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints
Todd P. Clyde and Jeffry R. Keyes, and each of them, his true and lawful attorneys-in-fact and agents, with full power of
substitution and resubstitution, to sign any and all amendments (including post-effective amendments) to this Annual Report on
Form 10-K and to file the same, with all exhibits thereto and other documents in connection therewith, with the Securities and
Exchange Commission, granting unto each of said attorneys-in-fact and agents, full power and authority to do and perform
each and every act and thing requisite and necessary to be done in connection therewith, as fully to all intents and purposes as
he or she might or could do in person, hereby ratifying and confirming all that each of said attorneys-in-facts and agents, or his
substitute or substitutes, or any of them, shall do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on
behalf of the registrant and in the capacities and on the dates indicated:
Name
Title
Date
/S/ TODD P. CLYDE
Todd P. Clyde
/S/ JEFFRY R. KEYES
Jeffry R. Keyes
Chief Executive Officer
(Principal Executive Officer)
Chief Financial Officer
(Principal Financial Officer)
March 13, 2013
March 13, 2013
/S/ JEFFREY E. EBERWEIN
Jeffrey E. Eberwein
Director
(Chairman of the Board of Directors)
March 13, 2013
/S/ JOHN M. CLIMACO
John M. Climaco
/S/ CHARLES M. GILLMAN
Charles M. Gillman
/S/ JAMES B. HAWKINS
James B. Hawkins
/S/ JOHN W. SAYWARD
John W. Sayward
Director
March 13, 2013
Director
March 13, 2013
Director
March 13, 2013
Director
March 13, 2013
52
BOARD OF DIRECTORS
OFFICERS & EXECUTIVES
SHAREOWNERS INFO
Jeffrey E. Eberwein
Chairman of the Board
Todd P. Clyde
Chief Executive Officer
John M. Climaco
Director
Jeffry R. Keyes
Chief Financial Officer and Corporate
Secretary
Todd P. Clyde
Director
Virgil J. Lott
President, Diagnostic Imaging
Charles M. Gillman
Director
Matthew G. Molchan
President
James B. Hawkins
Director
John W. Sayward
Director
World Headquarters
Digirad Corporation
13950 Stowe Drive
Poway CA 92064-8803
TEL 858 726 1600
FAX 858 726 1700
EMAIL ir@digirad.com
WEB www.digirad.com
Trading Market
Market: NASDAQ
Symbol: DRAD
Transfer Agent
American Stock Transfer
59 Maiden Lane
New York NY 10038
TEL 718 921 8206
FAX 718 921 8336
Independent Auditors
Ernst & Young
4370 La Jolla Village Drive
Suite 500
San Diego CA 92122
TEL 858 535 7200
FAX 858 535 7777
Corporate Counsel
Wilson Sonsini Goodrich & Rosati
12235 El Camino Real Suite 200
San Diego CA 92130
TEL 858 350 2300
FAX 858 350 2399
DIGIRAD CORPORATION 13950 STOWE DRIVE, POWAY, CA 92064 T 858 726 1600 F 858 726 1700 WWW.DIGIRAD.COM