On May 24, 2005, Dr. Ari Weitzner, individually and as putative representative of a purported
class, filed a complaint against Cynosure under the federal Telephone Consumer Protection Act, or
TCPA, in Massachusetts Superior Court in Middlesex County seeking monetary damages, injunctive
relief, costs and attorneys fees. The complaint alleges that Cynosure violated the TCPA by sending
unsolicited advertisements by facsimile to the plaintiff and other recipients without the prior
express invitation or permission of the recipients. Under the TCPA, recipients of unsolicited
facsimile advertisements are entitled to damages of up to $500 per facsimile for inadvertent
violations and up to $1,500 per facsimile for knowing or willful violations. Although Cynosure is
continuing to investigate the number of facsimiles transmitted during the period for which the
plaintiff in the lawsuit seeks class certification and the number of these facsimiles that were
“unsolicited” within the meaning of the TCPA, Cynosure expects the number of unsolicited facsimiles
to be very large. Cynosure is vigorously defending the lawsuit and has filed initial briefs and
motions with the court. Cynosure is not able to estimate the amount or range of loss that could
result from an unfavorable outcome of the lawsuit as the matter is still in the early stages of the
proceedings.
In December 2005, certain individuals commenced an arbitration against Cynosure along with
Sona International Inc., Sona Med Spa Inc., Carousel Capital, Inc. and various individuals. The
arbitration demand alleges fraud, violations of various state
consumer protection laws and other causes of action in connection with the plaintiff’s
acquisition of franchises from the Sona entities. Cynosure declined to participate in the
arbitration because it had not agreed contractually to do so. The plaintiffs have advised Cynosure
that they might bring the same or similar claims against Cynosure in a court proceeding. Cynosure
is not able to estimate the amount or range of loss that could result from an unfavorable outcome
of any such court proceeding.
In January 2006, Gentle Laser Solutions, Inc., Liberty Bell Med Spa, Inc. and Kevin T.
Campbell filed suit against Cynosure and one of its former directors, along with Sona International
Inc., Sona Lasers Centers, Inc. and various other individuals. The
suit alleges fraud, breach of contract and other causes of action in connection with the plaintiffs’
acquisition of franchises from the Sona entities. Cynosure is not able to estimate the amount or
range of loss that could result from an unfavorable outcome of the lawsuit as the matter is still
in the early stages of the proceedings.
In
addition to the matters discussed above, from time to time, Cynosure
is subject to various other claims, lawsuits, disputes with third
parties, investigations and pending actions involving various allegations against Cynosure incident
to the operation of its business, principally product liability. Each
of these other matters is subject
to various uncertainties, and it is possible that some of these other matters may be resolved unfavorably
to Cynosure. Cynosure establishes accruals for losses that management deems to be probable and
subject to reasonable estimate. Cynosure management believes that the ultimate outcome of these
other matters will not have a material adverse impact on Cynosure’s consolidated financial position,
results of operations or cash flows.
Note 10- Sona MedSpa
In 2001, Cynosure invested $1,500,000 in the Series A preferred stock of Sona MedSpa
International, Inc. (Sona MedSpa), a spa franchise or that owns and operates hair removal clinics in
the United States. Cynosure’s equity investment represented a 40% equity ownership of Sona MedSpa,
which Cynosure accounted for under the equity method of accounting, which required classification
of Sona MedSpa as a related party. In May 2004, Cynosure sold its 40% equity interest in Sona
MedSpa for $4.5 million, resulting in a $3.0 million gain.
In connection with the original investment in Sona MedSpa, Cynosure also entered into a
revenue sharing arrangement with Sona MedSpa whereby Cynosure provided lasers to Sona MedSpa and,
in return, received a percentage of the revenues related to the aesthetic procedures performed at
Sona MedSpa locations. Simultaneous with the sale of Cynosure’s equity investment, Cynosure sold
certain lasers previously placed in Sona MedSpa clinics to Sona MedSpa for $1.2 million, which is
included in Cynosure revenues in 2004. Cynosure also entered into an amended laser placement and
revenue sharing arrangement with the new owners of Sona MedSpa. Effective May 24, 2004, Cynosure
had no ongoing ownership interest in Sona MedSpa and Sona MedSpa was no longer considered a related
party.
In October 2005, Cynosure entered into a preferred vendor agreement with Sona MedSpa whereby
Cynosure sold certain laser systems to Sona Medspa for approximately $1.3 million, which was
recorded as deferred revenue as of December 31, 2005 because the fee was not fixed or determinable
at the time of sale. In March 2006, Sona MedSpa notified
Cynosure that Sona MedSpa was uncertain that it had the financial
resources to honor its commitments to Cynosure and Cynosure
determined that the collectibility of the fee was not probable and, as a result,
reversed the
9
Cynosure, Inc.
Notes to Consolidated Financial Statements
related deferred revenue. Cynosure expensed as cost of goods sold approximately
$667,000 of inventory delivered under the agreement. Additionally, Cynosure provided an allowance
for doubtful accounts of $463,000 for accounts receivable associated with services provided prior
to the October 2005 preferred vendor agreement. On May 2, 2006, Cynosure sent Sona MedSpa a notice
of default with respect to Sona MedSpa’s failure to pay Cynosure amounts payable under two
agreements between the parties. The defaults, if not cured in 30 days, are expected to lead to
termination of the agreements.
Note 11 — Related Party Transactions
In May
2002, Cynosure sold 3,327,960 shares of common stock (representing a
60% ownership interest) to El.En. S.p.A. (El.En.) for approximately
$9.8 million in cash. As a consequence, the results of Cynosure are
consolidated in the financial statements of El.En. Final
consideration of $1.5 million from the sale was received in May 2003. During 2004, El.En. acquired 2,190,834 additional
shares of Cynosure’s common stock from the Company and certain
minority stockholders, increasing its ownership percentage of
Cynosure to approximately 87%.
In
December 2005, Cynosure completed its initial public offering
(IPO) of 5,750,000 shares of class A common stock at a price to the public of $15.00 per
share. Cynosure sold 4,750,000 shares of our class A common stock,
including an over-allotment option of 750,000 shares, and El.En., the
selling stockholder in the offering, sold 1,000,000 of the shares.
Cynosure received aggregate net proceeds of approximately $64.0
million from the sale of its shares, after deducting underwriting discounts and commission of
approximately $5.0 million and expenses of the offering of
approximately $2.3 million. El.En.’s ownership percentage of
Cynosure as of March 31, 2006 is 35%.
Purchases of inventory from El.En. during the three months ended March 31,
2006 and 2005 were approximately $1,153,000 and $249,000, respectively. As of March 31, 2006 and
December 31, 2005, amounts due to related party for these purchases were approximately $1,485,000
and $960,000, respectively. Amounts due from El.En. as of March 31, 2006 and December 31, 2005
were $91,000 and $72,000, respectively, which represent services performed by Cynosure.
During 2003, Cynosure made an investment in a private company that represents an approximate
2% ownership interest in the entity. During the three months ended March 31, 2005, Cynosure
recognized revenue of approximately $140,000 related to laser sales to this entity and did not
recognize any revenue during the three months ended March 31, 2006. Cynosure’s investment of
$257,000 is carried at the lower of cost or fair value.
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