Rule 424(b)(3)
File No. 333-23137
[SONUS LOGO]
SONUS CORP.
3,744,492 COMMON SHARES
This Prospectus relates to 3,744,492 common shares (the "Shares") of
the capital stock of Sonus Corp. (the "Company") which may be offered for sale
from time to time by the selling shareholders identified under "Selling
Shareholders." The expenses of the offering, estimated at $270,000, will be
borne by the Company.
The Company is an Alberta, Canada corporation. Effective February 9,
1998, the Company changed its name from HealthCare Capital Corp. to Sonus Corp.
The Company's common shares, without nominal or par value (the "Common Shares"),
began trading on the American Stock Exchange ("AMEX") on February 10, 1998. The
last reported sale price of the Common Shares on AMEX on June 5, 1998, was
$7.5625 per share. Until February 10, 1998, the Common Shares were traded in
Canada on The Alberta Stock Exchange (the "ASE").
The Company has been advised that the selling shareholders expect to
offer the Shares from time to time at prices and on terms then prevailing on
AMEX or at prices related to the then-current market prices, or in negotiated
transactions. See "Selling Shareholders" and "Plan of Distribution."
The Shares covered by this Prospectus include approximately 1.5 million
Common Shares issuable upon the exercise of warrants or convertible securities
acquired by certain selling shareholders prior to the date of this Prospectus.
This Prospectus relates only to the Shares issuable upon the exercise of such
warrants or convertible securities and not to the warrants or convertible
securities themselves.
The selling shareholders and any broker-dealers who may participate in
sales of Shares covered by this Prospectus may be deemed to be statutory
underwriters within the meaning of the Securities Act of 1933. See "Plan of
Distribution."
THE SHARES OFFERED HEREBY INVOLVE A HIGH DEGREE OF RISK. SEE "RISK
FACTORS" BEGINNING ON PAGE 4 FOR A DISCUSSION OF CERTAIN FACTORS THAT SHOULD BE
CONSIDERED BY PROSPECTIVE PURCHASERS OF SHARES.
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NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR DETERMINED IF THIS
PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
================================================================================
The date of this Prospectus is June 9, 1998.
<PAGE>
[Map of United States and Canada Showing Sonus Corp.
Hearing Care Clinic Locations]
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TABLE OF CONTENTS
PAGE
PROSPECTUS SUMMARY.......................................................... 1
RISK FACTORS................................................................ 4
SERVICE AND ENFORCEMENT OF LEGAL PROCESS.................................... 10
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS........................... 10
PRICE RANGE OF COMMON SHARES................................................ 11
DIVIDEND POLICY............................................................. 11
CAPITALIZATION.............................................................. 12
ACQUISITION OF SECURITIES BY WARBURG........................................ 13
SELLING SHAREHOLDERS........................................................ 14
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS....................... 23
BUSINESS ................................................................... 29
MANAGEMENT.................................................................. 38
EXECUTIVE COMPENSATION...................................................... 40
CERTAIN TRANSACTIONS........................................................ 45
PRINCIPAL SHAREHOLDERS...................................................... 48
DESCRIPTION OF CAPITAL STOCK................................................ 49
CANADIAN FEDERAL INCOME TAX CONSIDERATIONS.................................. 52
INVESTMENT CANADA ACT....................................................... 54
TRANSFER AGENT.............................................................. 54
PLAN OF DISTRIBUTION........................................................ 54
LEGAL MATTERS............................................................... 55
EXPERTS ................................................................... 55
ADDITIONAL INFORMATION...................................................... 55
PRO FORMA FINANCIAL INFORMATION............................................. 57
INDEX TO FINANCIAL STATEMENTS...............................................F-1
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PROSPECTUS SUMMARY
The following summary is qualified in its entirety by, and should be
read in conjunction with, the more detailed information and financial statements
appearing elsewhere in this Prospectus. Additionally, investors should carefully
consider the information set forth under "Risk Factors" beginning on page 4. All
dollar amounts, unless otherwise indicated, are expressed in United States
dollars and, if converted from Canadian dollars, have been so converted using
the spot exchange rate on the date indicated as quoted by the Federal Reserve
Bank of New York for the New York Interbank Market.
THE COMPANY
The Company, through its primary operating subsidiaries Sonus-Canada
Ltd., a British Columbia corporation ("Sonus-Canada"), and SONUS-USA, INC., a
Washington corporation ("Sonus-USA"), currently owns and operates a network of
69 hearing care clinics in the United States and Western Canada. The clinics are
located primarily in the metropolitan areas of Tucson, Arizona; Los Angeles,
California; San Diego, California; Chicago, Illinois; Lansing, Michigan;
Albuquerque, New Mexico; Portland, Oregon; Vancouver, British Columbia; and
Calgary, Alberta. The Company intends to expand its network of hearing care
clinics by acquiring clinics in its existing as well as new geographic markets.
From August 1, 1996, to May 31, 1998, the Company acquired 60 hearing care
clinics.
Each of the Company's hearing care clinics provides its hearing
impaired patients with a full range of audiological products and services.
Substantially all of the Company's hearing care clinics are staffed by
audiologists. The Company's operating strategy is to provide patients with high
quality and cost-effective hearing care while at the same time increasing its
operating margins by attracting and retaining patients, recruiting qualified and
productive audiologists, achieving economies of scale and administrative
efficiencies, and pursuing large group and managed care contracts. The Company
believes that it is well positioned to provide retail hearing rehabilitative
services to consumers while simultaneously serving the diagnostic needs of
referring physicians and meeting the access and cost concerns of managed care
providers and insurance companies.
The Company was incorporated under the laws of the Province of Alberta,
Canada in July 1993, under the name "575035 Alberta Ltd." The Company changed
its name to HealthCare Capital Corp. in October 1994. On February 9, 1998, the
Company changed its name to Sonus Corp. The Company's executive offices are
located at 111 S.W. Fifth Avenue, Suite 2390, Portland, Oregon 97204 (telephone
(503) 225-9152), and an additional corporate office is located at Suite 1120,
595 Howe Street, Vancouver, B.C. V6B 1NZ (telephone (604) 685-4854).
RECENT DEVELOPMENTS
On December 24, 1997, the Company completed the sale of 13,333,333
shares of the Company's Series A Convertible Preferred Shares, without nominal
or par value (the "Convertible Shares"), together with warrants to purchase an
additional 2,000,000 Common Shares at an exercise price of $12.00 per share (the
"Warrants"), to Warburg Pincus Ventures, L.P., a Delaware limited partnership
("Warburg"), for an aggregate price of $18,000,000 (the "Warburg Sale"). See
"Acquisition of Securities by Warburg." As a result of the Warburg Sale,
Warburg, Pincus & Co., the general partner of Warburg, holds voting power with
respect to 33% of the outstanding voting securities of the Company. See "Risk
Factors--Concentration of Share Ownership." Including the Common Shares issuable
upon exercise of the Warrants, Warburg, Pincus & Co. beneficially owns
approximately 46% of the Company's outstanding voting securities. The
Convertible Shares have the rights, privileges, and preferences set forth in the
section of this Prospectus entitled "Description of Capital Stock--Convertible
Shares." The Company has granted Warburg certain registration rights with
respect to Common Shares issuable upon conversion of the Convertible Shares.
Under the terms of the Warburg Sale, the Company is required to
nominate and use its reasonable best efforts to cause to be elected and remain
as directors two persons designated by Warburg, subject to certain
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conditions. See "Description of Capital Stock--Convertible Shares." On December
24, 1997, Gene K. Balzer, Ph.D., resigned as a director of the Company and
Warburg's designee, Joel Ackerman, was appointed to fill the resulting vacancy.
See "Management." Because of certain restrictions on the appointment of
additional non-Canadian directors under Alberta corporate law, Warburg has
agreed to defer designation of a second nominee. The Company is presently
investigating alternatives that may allow additional non-Canadian residents to
be elected as directors. See "Acquisition of Shares by Warburg."
Also on December 24, 1997, the Company finalized employment contracts
with certain of its executive officers who were not previously parties to
employment agreements with the Company, including Brandon M. Dawson, President
and Chief Executive Officer, Edwin J. Kawasaki, Vice President-Finance and Chief
Financial Officer, and Randall E. Drullinger, Vice President-Marketing. See
"Executive Compensation--Employment and Consulting Agreements." In addition,
effective February 2, 1998, the Company granted stock options for a total of
800,000 Common Shares to the foregoing executive officers pursuant to the terms
of the Company's 1996 Stock Award Plan.
On February 9, 1998, the Company's shareholders approved a one-for-five
reverse stock split of the Common Shares, and on February 10, 1998, the Common
Shares became listed on AMEX. All share and per share values in this Prospectus
have been restated to reflect the effect of the reverse split.
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SUMMARY FINANCIAL, OPERATING AND PRO FORMA DATA
The summary historical financial data presented below for the years
ended July 31, 1996 and 1997 has been derived from the audited financial
statements of the Company included elsewhere in this Prospectus. The summary
historical financial data presented below for the six months ended January 31,
1997 and 1998, has been derived from the unaudited financial statements of the
Company. All summary historical financial data should be read in conjunction
with the financial statements and notes thereto included elsewhere in this
Prospectus.
The summary pro forma data for the fiscal year ended July 31, 1997
reflects the acquisition of 11 clinics operated by the Hearing Care Associates
Group ("HCA") as of October 1, 1996, and 14 clinics comprising the Midwest
Division of Hearing Health Services, Inc. (the "Midwest Division"), as of
October 31, 1996, as if such acquisitions had occurred on August 1, 1996. Such
data should be read in conjunction with the information presented under "Pro
Forma Financial Information" herein.
<TABLE>
(IN THOUSANDS, EXCEPT PER SHARE AND OTHER DATA)
Year ended July 31, Six months January 31,
--------------------------------------- ------------------------
1997 1998
Pro Forma ---- ----
1996 1997 1997
---- ---- ----
STATEMENT OF OPERATIONS DATA:
<S> <C> <C> <C> <C> <C>
Operating revenue $ 2,389 $ 13,462 $ 15,027 $ 4,202 $ 9,416
Cost of sales 1,017 5,010 5,527 1,547 3,119
Operating expenses 1,961 10,185 11,279 3,611 7,511
------- ------- ------- ------- -------
Loss from operations (589) (1,733) (1,779) (956) (1,214)
Other income (expense), net 8 32 40 9 33
------- ------- ------- ------- -------
Loss before income taxes (581) (1,701) (1,739) (947) (1,181)
Income tax expense (benefit) -- -- (31) -- --
------- ------- ------- ------- -------
Net loss $ (581) $ (1,701) $ (1,708) $ (947) $ (1,181)
======= ======= ======= ======= =======
Net loss per common share, basic $ (0.27) $ (0.42) $ (0.42) $ (0.27) $ (.26)
======= ======= ======= ======= =======
and diluted
Weighted average number of
shares outstanding 2,120 4,010 4,091 3,520 4,595
======= ======== ======= ======= =======
</TABLE>
July 31, January 31,
1997 1998
---- ----
BALANCE SHEET DATA:
Cash and cash equivalents $ 1,099 $ 6,150
Investments available for sale 8,815
Working capital (1,900) 11,807
Total assets 16,544 31,770
Long-term debt, net of current portion 765 590
Convertible debt 2,600 2,600
Shareholders' equity 8,835 23,427
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RISK FACTORS
The Shares offered hereby should be considered a highly speculative
investment. Prospective investors should carefully consider the following
factors, in addition to the other information contained herein, before deciding
to purchase Shares. This Prospectus contains forward-looking statements within
the meaning of the federal securities laws. Such forward-looking statements
involve risks and uncertainties, and actual results may differ from those
projected due to a number of factors, including those set forth below and
elsewhere in this Prospectus. See "Special Note Regarding Forward-Looking
Statements."
SHORT OPERATING HISTORY
The Company has a limited history of operations consisting primarily of
operating a small number of hearing care clinics in British Columbia beginning
in October 1994. The Company did not begin operating in the United States until
it purchased two hearing care clinics in Santa Maria, California, in July 1996.
The Company currently operates 57 hearing care clinics in the United States and
12 clinics in Canada.
OPERATING LOSSES
For the fiscal year ended July 31, 1997, the Company sustained a net
loss of $1,701,000. For the three months ended January 31, 1998, the Company's
net loss was $1,085,000, as compared to a loss of $649,000 for the three months
ended January 31, 1997. For the six months ended January 31, 1998, the Company
sustained a net loss of $1,181,000, as compared to a loss of $947,000 in the
equivalent period ended January 31, 1997. Further losses are anticipated as a
result of planned increases in the executive and general management staff of the
Company to support the Company's expansion plans, additional advertising and
public relations costs, amortization of goodwill related to past and future
acquisitions, and the continued development of an information management system.
There can be no assurance that the Company will achieve profitability in the
near or long term.
EXPANSION PROGRAM
Much of the Company's future success is dependent upon acquiring
hearing care clinics in new markets in which the Company has no previous
presence. There can be no assurance that the Company will be able to complete
acquisitions consistent with its expansion plans, that such acquisitions will be
on terms sufficiently favorable to enable the Company to operate profitably or
that the Company will be able to successfully integrate the hearing care clinics
that it acquires into its business. Successful integration of purchased clinics
will be dependent upon maintaining payor and customer relationships and
converting the information management systems of the clinics the Company
acquires to the Company's systems. Significant expansion could place a strain on
the Company's managerial and other resources and could necessitate the hiring of
a number of new managerial and administrative personnel. Unforeseen problems
with future acquisitions or failure to manage expansion effectively may have a
material adverse effect on the business, financial condition, and results of
operations of the Company.
The Company intends to issue additional Common Shares in payment of all
or a portion of the purchase price of certain acquisitions. There can be no
assurance that fluctuations in the market price of the Common Shares will not
adversely affect the Company's ability to use its Common Shares for
acquisitions. The Company also uses cash to fund acquisitions pursuant to its
business strategy. The Company's ability to use cash to make acquisitions is
dependent upon having available cash balances. Inadequate access to cash could
result in delays and have a negative effect on the Company's acquisition
strategy.
IMPACT OF POLICY CHANGES BY THIRD-PARTY INSURERS
A portion of the hearing instruments sold by the Company are paid for
by third-party insurers. Many of such insurers impose restrictions in their
health insurance policies on the frequency with which hearing instruments may be
upgraded or replaced on a reimbursable basis. Such restrictions have a negative
impact on hearing
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instrument sales volume. There can be no guarantee that such insurers will not
implement other policy restrictions in the future in order to further minimize
reimbursement for hearing care. Such restrictions could have a material adverse
effect on the Company's business, financial condition, and results of
operations.
MANAGED CARE
Managed care arrangements typically shift some of the economic risk of
providing patient care from the person who pays for the care to the provider of
the care by capping fees, requiring reduced fees, or paying a set fee per
patient irrespective of the amount of care delivered. With respect to hearing
care, such limits could result in reduced payments for services or restrictions
on the types of services for which reimbursement is available or the frequency
of replacements or upgrades of equipment. If managed care arrangements become
more prevalent in the hearing care field in the future, or the downward
pressures on fees associated with managed care increase, the Company's business,
financial condition, and results of operations may be materially adversely
affected.
DEPENDENCE ON KEY PERSONNEL
The success of the Company is dependent to a significant degree on the
services of Brandon M. Dawson, president and chief executive officer of the
Company, and on the other members of its executive management team. The loss of
the services of any of these key personnel could have a material adverse effect
on the Company's business, financial condition, and results of operations.
The Company's success is also substantially dependent upon its ability
to identify, attract and retain qualified employees, particularly audiologists,
who are primarily responsible for clinic profitability as well as for attracting
and retaining customers. The Company recruits such personnel from a limited pool
of available applicants. Although the Company attempts to enter into employment
contracts with its audiologists that contain covenants not to compete, such
audiologists may become competitors of the Company. The Company's failure to
attract and retain audiologists and other key employees would have a material
adverse effect on the business, financial condition, and results of operations
of the Company.
CONCENTRATION OF SHARE OWNERSHIP
Warburg, by virtue of its ownership of 13,333,333 Convertible Shares,
holds approximately 33% of the outstanding voting securities of the Company.
Including the shares issuable upon exercise of the Warrants to purchase
2,000,000 Common Shares, Warburg "beneficially owns" approximately 46% of the
voting securities of the Company. See "Principal Shareholders." As a result of
Warburg's significant percentage share ownership, as well as its right to
designate two nominees for director, Warburg will be able to exercise
substantial influence and control over the Company's affairs, including the
election of directors and any significant corporate transactions.
Furthermore, under the Securities Purchase Agreement dated December 24,
1997, between Warburg and the Company, certain corporate transactions by the
Company require Warburg's prior consent. For as long as Warburg beneficially
owns at least 666,667 outstanding Common Shares (including for this purpose
Convertible Shares convertible into such number of Common Shares), the Company
may not, without Warburg's consent, (i) sell, lease, exchange, or transfer all
or substantially all of its assets to any third party, (ii) amalgamate the
Company with another corporation such that the then existing shareholders of the
Company hold less than 51% of the combined voting power of the amalgamated
corporation, (iii) materially change the nature of the Company's business, (iv)
effect a liquidation, amalgamation, or sale of the Company or sell substantially
all of its or its subsidiaries' assets, or (v) with certain exceptions, redeem
or pay a dividend or distribution on its Common Shares. See "Acquisition of
Securities by Warburg."
In addition, at June 1, 1998, the executive officers and directors of
the Company beneficially owned 1.5 million Common Shares (not including Common
Shares subject to options). Consequently, officers and directors retain voting
power with respect to approximately 18% of the voting securities presently
outstanding. Accordingly, these individuals, acting in concert, have substantial
influence over most matters requiring shareholder approval.
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Such concentration of ownership could also enable management to delay or hinder
a change in control of the Company and may discourage third parties from
attempting to acquire such control.
PUBLIC MARKET; VOLATILITY OF STOCK PRICE
The Common Shares began trading on AMEX on February 10, 1998. Prior to
listing on AMEX, there was no public market for the Common Shares in the United
States. The Common Shares were traded on the ASE in Canada until their delisting
on February 11, 1998. The Common Shares were delisted from the ASE at the
Company's request because the Company believed that any advantages gained by
continuing to be listed on the ASE as well as AMEX were outweighed by the
regulatory burdens imposed by the ASE. In order to maintain the listing of the
Common Shares on AMEX, the Company will be required to comply with certain
minimum listing standards imposed by AMEX. There can be no assurance that the
Company will continue to meet such standards or that an active trading market in
Common Shares will be sustained.
The market price of the Company's Common Shares may be significantly
affected by such factors as the Company's operating results and seasonality
therein, changes in any earnings estimates publicly announced by the Company or
by analysts, announcements of technological or surgical innovations affecting
hearing care, the introduction of new hearing care products or changes in
existing hearing care products, the entry of competitors into the hearing care
markets or into retail hearing instrument sales, and various factors affecting
the economy in general. In addition, the U.S. stock market has experienced a
high level of price and volume volatility and market prices for the stock of
many companies have experienced wide price fluctuations not necessarily related
to the operating performance of such companies.
POTENTIAL FOR FUTURE SALES OF SHARES
This Prospectus relates to the offering for sale of a total of
3,744,492 Shares from time to time by one or more persons identified under the
caption "Selling Shareholders" (the "Selling Shareholders"), of which (i) 2.2
million Shares are presently outstanding, (ii) 1.1 million Shares are issuable
upon the exercise of purchase warrants, and (iii) 400,000 Shares are issuable
upon the exercise of convertible notes. See "Selling Shareholders," "Principal
Shareholders," and "Plan of Distribution." Of the 3.7 million Shares being
offered hereunder, approximately 540,000 Shares are held by executive officers,
directors or founding shareholders of the Company. Each such person intends to
offer his or her shares for sale from time to time during the next 18 months as
his or her individual circumstances dictate.
An additional 6.1 million Common Shares which are not covered by this
Prospectus are issuable upon the exercise of options, purchase warrants, and
convertible securities, of which 5.1 million were exercisable at June 1, 1998.
Also, 2.2 million outstanding Common Shares which are not covered by this
Prospectus are freely transferable under the Canadian and U.S. federal
securities laws. Sales of any significant number of Common Shares, or the
potential for such sales, in the public market could adversely affect the
prevailing market price of the Common Shares. See "Price Range of Common
Shares."
Warburg holds Convertible Shares immediately convertible into 2,666,666
Common Shares. Although there are certain restrictions on the sale of shares by
Warburg, the sale of such shares or the threat of such sale could adversely
affect the market price of the Common Shares. See "Acquisition of Securities by
Warburg."
COMPETITION
The market in which the Company operates is intensely competitive,
highly fragmented, and characterized by intense price competition and an
increasing number of new audiologists entering the market. The Company has
numerous competitors in each of the markets in which it operates hearing care
clinics. Some of its competitors are better known and have substantially greater
financial and marketing resources than the Company. In addition, other persons
or entities may seek to acquire hearing care clinics in the markets in which the
Company hopes to operate, thereby creating competitive pressures in connection
with the acquisition of hearing care clinics by the Company.
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RESTRICTION ON DIVIDENDS
Under the terms of the Warburg Sale, the Company's ability to pay
dividends to its shareholders is restricted. In addition, as a result of its
ownership of the Convertible Shares, Warburg has certain preferential rights
upon the payment of dividends. See "Acquisition of Securities by Warburg" and
"Description of Capital Stock -- Convertible Shares -- Dividends." The payment
of dividends on the Common Shares is solely within the discretion of the Board,
subject to the right of Warburg, for as long as it beneficially owns at least
666,667 outstanding Common Shares (including for this purpose Convertible Shares
convertible into such number of Common Shares), to veto any proposed payment of
dividends on the Common Shares. Since its inception the Company has not paid
cash dividends on its Common Shares. The Company intends to retain any future
earnings for further development and growth of its business and does not
anticipate paying cash dividends on the Common Shares in the foreseeable future.
LABOR UNIONS
Although there are no collective bargaining agreements in place with
respect to the Company's operations, there can be no assurance that the
Company's employees will not attempt to unionize. Certain individuals have
attempted to unionize the employees of Sonus-Canada, the Company's primary
Canadian operating subsidiary, in the past. Any unionization of the Company's
employees could have a material adverse effect on the business, financial
condition, and results of operations of the Company.
ADDITIONAL FINANCING
The Company's strategy to acquire additional hearing care clinics will
require substantial additional funding. The Company recently completed the
Warburg Sale for an aggregate purchase price of $18,000,000 in cash. See
"Acquisition of Securities by Warburg." The net proceeds from the Warburg Sale
of approximately $15.8 million are expected to be sufficient to finance
operations and the Company's acquisition strategy over the next 12 months.
Funding will, however, continue to be needed to finance future acquisitions, for
the continued development of information management systems that will link each
clinic with the Company's corporate headquarters, and as additional working
capital. These funding requirements may result in the Company incurring
long-term and short-term indebtedness and in the public or private issuance,
from time to time, of additional equity or debt securities. Any such issuance of
equity may be dilutive to current shareholders and debt financing may impose
significant restrictive covenants on the Company. There can be no assurance that
financing will be available to the Company or will be available on terms
acceptable to the Company.
REPUTATION OF THE INDUSTRY
Certain segments of the hearing care industry, in particular the sale
and fitting of hearing instruments, have been the subject of governmental
investigation and adverse publicity due to unscrupulous sales practices by
certain organizations. Adverse publicity concerning the hearing care industry
could have a material adverse effect on the Company's business, financial
condition, and results of operations.
REGULATION
The sale of hearing aid devices is regulated at the federal level in
the United States by the United States Food and Drug Administration ("FDA"),
which has been granted broad authority to regulate the hearing care industry.
Under federal law, hearing instruments may only be sold to individuals who have
first obtained a medical evaluation from a licensed physician, although a fully
informed adult may waive a medical evaluation in certain instances. Regulations
promulgated by the FDA also presently require that dispensers of hearing
instruments provide customers with certain warning statements and notices in
connection with the sale of hearing instruments and that dispensers meet certain
labeling requirements.
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Most states in the United States and many provinces in Canada have
established formal licensing procedures that require the certification of
audiologists and/or hearing instrument specialists ("HISs"). Although the extent
of regulation varies by jurisdiction, almost all states and provinces engage in
some degree of oversight of the industry. The Company operates its hearing care
clinics through its wholly owned subsidiaries, Sonus-USA, which is a Washington
general business corporation, and Sonus-Canada, a British Columbia corporation.
The subsidiary corporations employ licensed audiologists who offer and perform
audiology services on behalf of the Company.
In certain states in the United States, business corporations such as
Sonus-USA may not be authorized to employ audiologists and offer audiology
services. For example, in California, where the Company operates 34 clinics,
although the performance of audiology services by professional corporations
owned solely by licensed audiologists is expressly authorized under California
law, it is unclear whether general business corporations such as Sonus-USA may
employ licensed audiologists to perform audiology services. However, the
California Department of Consumer Affairs has indicated by memorandum that
speech-language pathologists, which are regulated under statutes and regulations
similar to those governing audiologists, may practice in a general business
corporation and that a general business corporation may provide speech-language
pathology services through licensed speech pathologists. In Illinois, where the
Company has six hearing care clinics, it is also unclear whether general
business corporations may employ licensed audiologists to perform audiology
services. Under Illinois law, only professional corporations and individuals are
authorized to obtain licenses to practice audiology.
The laws and regulations governing the practice of audiology are
enforced by regulatory agencies with broad discretion. If the Company were found
to be in violation of such laws and regulations in one or more states, the
consequences could include the imposition of fines and penalties upon the
Company and its audiologists as well as the issuance of orders prohibiting the
Company from operating its clinics under its present structure. In that event,
among the solutions the Company might consider would be the restructuring of all
or a portion of its operations in a manner similar to that used by certain
medical and dental clinic networks. Under such a structure, professional
corporations owned by licensed audiologists would contract with the Company to
perform professional services and the Company would contract with the
professional corporations to provide management services. A restructuring of
this nature would result in material additional costs to the Company.
No assurance can be given that the Company's activities will be found
to be in compliance with laws and regulations governing the corporate practice
of audiology or, if its activities are not in compliance, that the operational
structure of the Company can be modified to permit compliance. In addition, no
assurance can be given that other states or provinces in which the Company
presently operates will not enact prohibitions on the corporate practice of
audiology or that the regulatory framework of certain jurisdictions will not
limit the ability of the Company to expand into such jurisdictions if the
Company is unable to modify its operational structure to comply with such
prohibitions or to conform with such regulatory framework. Additional laws and
regulations may be adopted in the future at the federal, state, or province
level that could have a material adverse effect on the business, financial
condition, and results of operations of the Company.
A small percentage of the revenues of the hearing care clinics operated
by the Company comes from Medicare and Medicaid programs. Federal law prohibits
the offer, payment, solicitation or receipt of any form of remuneration in
return for, or in order to induce, (i) the referral of a Medicare or Medicaid
patient, (ii) the furnishing or arranging for the furnishing of items or
services reimbursable under Medicare or Medicaid programs or (iii) the purchase,
lease or order of any item or service reimbursable under Medicare or Medicaid.
Noncompliance with the federal anti-kickback legislation can result in exclusion
from Medicare and Medicaid programs and civil and criminal penalties.
ISSUANCE OF PREFERRED SHARES AND ADDITIONAL COMMON SHARES
The Board of Directors of the Company (the "Board") has the authority
to issue an unlimited number of preferred shares of the Company ("Preferred
Shares") in one or more series and to fix the number of shares of any such
series and the designations, rights, privileges, restrictions, and conditions
attaching thereto, without any further vote or action by the shareholders of the
Company other than as may be necessary to comply with the AMEX listing
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requirements. The Board recently designated the Convertible Shares for issuance
in connection with the Warburg Sale. See "Description of Capital
Stock--Convertible Shares." The future issuance of other series of Preferred
Shares could adversely affect the rights of holders of Common Shares. For
example, the designation and issuance of additional series of Preferred Shares
could result in securities, similar to the Convertible Shares, that would have
preference over the Common Shares with respect to dividends and in liquidation
and that could (upon conversion or otherwise) have all of the rights of the
Common Shares. The Board also has the authority to issue an unlimited number of
additional Common Shares without any further vote or action by the Company's
shareholders, except as required by AMEX, possibly causing the interests of the
existing shareholders to suffer substantial dilution. See "Description of
Capital Stock--Common Shares." The issuance of additional series of Preferred
Shares or additional Common Shares could potentially be used to discourage
attempts by others to obtain control of the Company through merger, tender
offer, proxy or consent solicitation, or otherwise by making such attempts more
costly or more difficult to achieve.
- 9 -
<PAGE>
SERVICE AND ENFORCEMENT OF LEGAL PROCESS
The Company is incorporated under the laws of the Province of Alberta,
Canada. Some of the directors, controlling persons and officers of the Company,
as well as certain of the experts named herein and 10 of the Selling
Shareholders, are residents of Canada and all or a portion of the assets of such
persons and of the Company are located outside of the United States. As a
result, it may be difficult for holders of the Common Shares to effect service
within the United States upon those directors, controlling persons, officers,
experts and Selling Shareholders hereunder who are not residents of the United
States, or to realize in the United States upon judgments of courts of the
United States predicated upon the civil liability provisions of the United
States federal securities laws to the extent such judgments exceed such person's
United States assets. The Company has been advised by its Canadian counsel,
Ballem MacInnes, that there is doubt as to the enforceability in Canada against
the Company or against any of its directors, controlling persons, officers or
experts or any Selling Shareholders hereunder who are not residents of the
United States, in original actions or in actions for enforcement of judgments of
United States courts, of liabilities predicated solely upon United States
federal securities laws. The Company's agent for service of process in the
United States is MN Service Corp. (Oregon), 111 S.W. Fifth Avenue, Suite 3500,
Portland, Oregon 97204, telephone (503) 224-5858.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Statements in this Prospectus, to the extent they are not based on
historical events, are forward-looking statements. Forward-looking statements
include, without limitation, statements containing the words "believes,"
"anticipates," "intends," "expects," and words of similar import. Investors are
cautioned that forward-looking statements involve known and unknown risks,
uncertainties and other factors that may cause the actual results, performance,
or achievements of the Company to be materially different from those described
herein. Factors that may result in such variance, in addition to those
accompanying the forward-looking statements, include economic trends in the
Company's market areas, the ability of the Company to manage its growth and
integrate new acquisitions into its network of hearing care clinics, development
of new or improved medical or surgical treatments for hearing loss or of
technological advances in hearing instruments, changes in the application or
interpretation of applicable governmental laws and regulations, the ability of
the Company to complete additional acquisitions of hearing care clinics on terms
favorable to the Company, the degree of consolidation in the hearing care
industry, the Company's success in attracting and retaining qualified
audiologists and staff to operate its hearing care clinics, product and
professional liability claims brought against the Company that exceed its
insurance coverage, and the availability of and costs associated with potential
sources of financing. Given these uncertainties, prospective investors are
cautioned not to place undue reliance on such forward-looking statements. The
Company disclaims any obligation to update or to publicly announce the result of
any revisions to any of the forward-looking statements contained herein to
reflect future events or developments. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations" and "Business."
- 10 -
<PAGE>
PRICE RANGE OF COMMON SHARES
The Common Shares were traded on the ASE until February 10, 1998, at
which time they began trading on AMEX. The following table sets forth the
reported high and low sales prices in Canadian and United States dollars for the
Common Shares for the periods indicated:
<TABLE>
CANADIAN $(1) UNITED STATES $(1)
FISCAL YEAR PERIOD HIGH LOW HIGH LOW
<S> <C> <C> <C> <C>
1996 First Quarter 1.50 0.70 1.10 0.55
Second Quarter 3.50 1.40 2.55 1.05
Third Quarter 20.00 3.10 14.75 2.25
Fourth Quarter 20.00 10.00 14.70 7.25
1997 First Quarter 14.25 10.00 10.40 7.30
Second Quarter 12.90 9.30 9.45 7.00
Third Quarter 12.25 6.25 8.95 4.45
Fourth Quarter 9.85 6.25 7.10 4.50
1998 First Quarter 10.75 7.75 7.75 5.60
Second Quarter 13.00 8.50 9.05 6.00
Third Quarter 13.64 10.84 9.50 7.63
Fourth Quarter(2) 12.38 10.74 8.63 7.38
(1) For reported prices prior to February 10, 1998, the high and low sales
prices were converted to United States dollars as of the date of sale. For
reported prices after February 10, 1998, the high and low sales prices were
converted to Canadian dollars as of the date of sale.
(2) Through May 31, 1998.
</TABLE>
As of March 31, 1998, there were 86 holders of record of Common Shares.
DIVIDEND POLICY
The payment of dividends on the Common Shares is solely within the
discretion of the Board, subject to the right of Warburg, for as long as it
beneficially owns at least 666,667 outstanding Common Shares (including for this
purpose Convertible Shares convertible into such number of Common Shares), to
veto any proposed payment of dividends on the Common Shares. In addition,
Warburg has certain preferential rights upon payment of dividends by the
Company. See "Acquisition of Securities of Warburg" and "Description of Capital
Stock-Convertible Shares--Dividends." Since its inception the Company has not
paid cash dividends on its Common Shares. The Company intends to retain any
future earnings for further development and growth of its business and does not
anticipate paying cash dividends on the Common Shares in the foreseeable future.
- 11 -
<PAGE>
CAPITALIZATION
The following table sets forth the short-term debt and the
capitalization of the Company at January 31, 1998.
As of January 31, 1998
----------------------
(in thousands)
Short-term debt and capital lease obligations:
Bank loans and short-term notes payable $ 89
Convertible notes payable (1) 2,600
Current portion of long-term debt and capital lease obligations 603
----------
Total short-term debt and capital lease obligations $3,292
Long-term debt and capital lease obligations:
Long-term debt and capital lease obligations, non-current
portion $ 897
Shareholders' equity:
Preferred shares, without nominal or par value,
unlimited number of shares authorized;
Convertible Preferred Shares, 13,333,333 shares
issued and outstanding 15,752
Common shares, without nominal or par value,
unlimited number of shares authorized;
5,460,583 shares issued and outstanding (3) 11,268
Notes receivable from shareholders (124)
Accumulated deficit (3,298)
Treasury shares, 6,960 shares at cost (58)
Cumulative translation adjustment (113)
----------
Total shareholders' equity 23,427
----------
Total capitalization $ 27,616
======
(1) Convertible debt consists of $2,600,000 principal amount of convertible
subordinated notes due July 31, 1998. The notes do not bear interest and are
immediately convertible into Common Shares at the conversion price of $6.50
principal amount per share.
(2) Shares issued and outstanding do not include the following: (i) 3,566,661
Common Shares issuable upon the exercise of share purchase warrants outstanding
at January 31, 1998; (ii) 400,000 Common Shares issuable upon the conversion of
convertible subordinated notes; (iii) 2,666,666 Common Shares issuable upon
conversion of the Convertible Shares; and (iv) 305,500 Common Shares issuable
upon the exercise of vested stock options held by employees, directors, and
officers of, and consultants to, the Company.
- 12 -
<PAGE>
ACQUISITION OF SECURITIES BY WARBURG
On December 24, 1997, the Company completed the Warburg Sale. The
Convertible Shares issued in the Warburg Sale are entitled to one-fifth of a
vote per share (or such other number of votes equal to the number of Common
Shares into which a Convertible Share shall be convertible from time to time) in
the election of directors and any other matters presented to the shareholders of
the Company for action or consideration. See "Description of Capital
Stock--Convertible Shares." Warburg's Convertible Shares represent approximately
33% of the outstanding voting securities of the Company. Including the Common
Shares issuable upon exercise of the Warburg Warrants, Warburg "beneficially
owns" approximately 46% of the voting securities of the Company. See "Risk
Factors--Concentration of Share Ownership."
The Convertible Shares may be converted at any time, in whole or in
part, into Common Shares. The conversion rate is currently one Common Share for
every five Convertible Shares surrendered for conversion, subject to further
adjustment for stock dividends, stock splits, reverse stock splits,
recapitalizations, and other anti-dilution adjustments.
As long as Warburg beneficially owns a number of outstanding Common
Shares constituting at least 10% of the outstanding Common Shares (including for
this purpose the Common Shares issuable upon conversion of the Convertible
Shares (the "Conversion Common Shares") but not the Common Shares issuable upon
exercise of the Warrants), the Company will be required to nominate and use its
reasonable best efforts to cause to be elected and to remain as directors two
persons, reasonably satisfactory to the Company, designated by Warburg. On
December 24, 1997, in partial satisfaction of this requirement, the Board
elected Joel Ackerman, a managing director of E. M. Warburg, Pincus & Co., LLC,
as a director of the Company, filling the vacancy created by the resignation of
Gene K. Balzer, Ph.D. See "Management." Warburg, Pincus & Co. is the general
partner of Warburg.
Alberta corporate law requires that a majority of the board of
directors of an Alberta corporation be Canadian residents. As a result of this
restriction and the current composition of the Board, no additional individuals
may be appointed or elected to the Board unless they are Canadian residents.
Warburg has agreed to defer designating a second nominee until the Company has
had an opportunity to consider alternatives that may enable the Company to have
additional non-Canadian directors, including re-incorporation in another
Canadian jurisdiction or in the United States.
The number of directors as to which Warburg has the right to designate
nominees will increase to three if and for so long as the number of positions on
the Board exceeds eight. Such number will decrease by one if Warburg
beneficially owns a number of outstanding Common Shares constituting less than
10% of the outstanding Common Shares (including Conversion Common Shares) and
will further decrease to none if Warburg beneficially owns less than 666,667
outstanding Common Shares (including Conversion Common Shares). As long as
Warburg beneficially owns at least 666,667 outstanding Common Shares (including
Conversion Common Shares), the number of positions on the Board may not exceed
11. The right to designate one nominee for director may be transferred by
Warburg to a single purchaser of at least 6,666,667 Convertible Shares or the
Common Shares issued upon conversion thereof.
Prior to consummation of the transaction with Warburg, control of the
Company was effectively in the hands of the Company's directors, particularly
Douglas F. Good, Chairman of the Board, and Brandon M. Dawson, President, Chief
Executive Officer and Director, who together owned 20% of the outstanding Common
Shares. Messrs. Good and Dawson now hold a total of 13% of the voting securities
of the Company.
As a result of Warburg's significant percentage share ownership, as
well as its right to designate nominees for director as discussed above, Warburg
will be able to exercise substantial influence and control over the Company's
affairs. See "Risk Factors--Concentration of Share Ownership." For as long as
Warburg beneficially owns at least 666,667 outstanding Common Shares (including
Conversion Common Shares), the Company may not,
- 13 -
<PAGE>
without Warburg's consent, (i) sell, lease, exchange or transfer all or
substantially all of its assets to any third party, (ii) amalgamate the Company
with another corporation such that the then existing shareholders of the Company
hold less than 51% of the combined voting power of the amalgamated corporation,
(iii) materially change the nature of the Company's business, (iv) effect a
liquidation, amalgamation or sale of the Company or sell substantially all of
its or its subsidiaries' assets, or (v) with certain exceptions, redeem or pay a
dividend or distribution on its Common Shares.
The net proceeds of the Warburg Sale totaled approximately $15.8
million and will be used to make acquisitions of additional audiology-related
businesses and for working capital. In the event that Warburg exercises the
Warrants in full, the Company will receive additional net proceeds of up to
$23.5 million.
SELLING SHAREHOLDERS
The following table sets forth the name of each Selling Shareholder,
any position, office or other material relationship of such Selling Shareholder
with the Company within the past three years, the number of Common Shares owned
by such Selling Shareholder at December 31, 1997, the number of shares to be
offered by the Selling Shareholder and the amount of Common Shares to be owned
by such Selling Shareholder after completion of the offering assuming all the
offered shares are sold. Figures representing the number of shares owned by each
Selling Shareholder are based on records available to the Company and in some
cases, representations made by such Shareholders, and the Company makes no
representations as to the accuracy of such figures.
Of the 5,859,917 Common Shares outstanding at June 1, 1998, 2.2
million, or 38%, have been registered for resale pursuant to this Prospectus. In
addition, 1.5 million Common Shares issuable upon the exercise of purchase
warrants or convertible notes have been registered for resale, representing 20%
of the approximately 7.7 million Common Shares issuable upon the exercise of all
options, purchase warrants, and other convertible securities outstanding at June
1, 1998.
Virtually all of the shares held by Selling Shareholders are restricted
securities within the meaning of Rule 144 under the Securities Act of 1933 (the
"Securities Act"). Restricted securities may not be sold under Rule 144 until a
one-year holding period has been satisfied. In addition, shares held by
executive officers or directors of the Company are "control shares" subject to
the provisions of Rule 144 other than the holding period requirements. Sales
under Rule 144 are, among other matters, subject to manner of sale requirements
and provisions limiting the number of shares which may be sold during any
three-month period. Restricted or control shares may also be sold in private
transactions outside the requirements of Rule 144 or pursuant to a registration
statement.
<TABLE>
NUMBER OF SHARES
OWNED PRIOR TO SHARES TO BE OWNED
NAME OF SELLING SHAREHOLDER OFFERING SHARES OFFERED AFTER OFFERING
- --------------------------- ---------------- -------------- ----------------
<S> <C> <C> <C>
Abbingdon Venture Partners 148,720(1) 148,720 --
Limited Partnership
Abbingdon Venture Partners 14,256(2) 14,256 --
Limited Partnership II
Aho, Donald J. 3,200(3) 3,200 --
Alfa Life Insurance Co. 80,000(3) 80,000 --
Alfa Mutual Fire Insurance 120,000(3) 120,000 --
Co.
Alfa Mutual Insurance Co. 120,000(3) 120,000 --
Angus, Richard(4) 14,300 14,300 --
- 14 -
<PAGE>
NUMBER OF SHARES
OWNED PRIOR TO SHARES TO BE OWNED
NAME OF SELLING SHAREHOLDER OFFERING SHARES OFFERED AFTER OFFERING
- --------------------------- ---------------- -------------- ----------------
Art, Barbara Holley V Trust 8,000(3) 8,000 --
Art, Barbara Holley VII Trust 19,200(3) 19,200 --
Aspen Limited Partnership(5) 152,060(6) 136,600 15,460
Aspen Partners, Inc. (7) 29,260 29,260
Bennett, Carissa(8) 50,618 50,618 --(8)
Bickford, Michael D. & 16,000(3) 16,000 --
Lisbeth H.
Business Development Capital 57,024(9) 57,024 --
Limited Partnership III
Caldwell, Derek(10) 17,840(11) 17,840 --
Campbell, Murray T.A.(12) 6,340 6,340 --
Cass, Baron & Darlene 8,000(3) 8,000 --
"Family Foundation"
Cass, A. Baron III "Childrens 32,000(3) 32,000 --
Trust"
Cass, A. Baron III 278,902(13) 173,532 105,370
Clark, Dr. Jim & Valerie 200 200 --
Cohen, Barton J. 112,000(14) 32,000 80,000
Cohen, Barton J. "Family 8,000(3) 8,000 --
Foundation"
Collins, William 30,000(3) 30,000 --
Cross, Deborah Law(15) 81,600 81,600 --
Dawson, James W.(16) 1,320 1,320 --
Dawson, Brandon M.(17) 850,000 100,000 750,000(17)
DeJong, William(18) 16,440 16,440 --(18)
Downey, Gary B. 3,200(3) 3,200 --
Drullinger, Randall E.(19) 50,000 50,000 --(19)
Feinberg, Hill A. 8,000(3) 8,000 --
Ferrer, Christine 32,000(3) 32,000
Finney, Stanford C., Jr. 129,200(20) 32,000 97,200
Frazer, Gregory(21) 243,093 149,381 93,712(21)
Friedman, Theodore 16,000(3) 16,000 --
- 15 -
<PAGE>
NUMBER OF SHARES
OWNED PRIOR TO SHARES TO BE OWNED
NAME OF SELLING SHAREHOLDER OFFERING SHARES OFFERED AFTER OFFERING
- --------------------------- ---------------- -------------- ----------------
Gabbert, Jerome 9,600(3) 9,600 --
Good, Douglas F.(22) 241,912 100,000 141,912(22)
Gross Foundation Inc. 80,000(3) 80,000 --
Hill, Mark W. 20,000(3) 20,000 --
Holley, John W. and Wilson, 11,200(3) 11,200 --
Barbara
Holley, John W. Grantor 48,000(3) 48,000 --
Trust
Jacobson, Eli 12,800(3) 12,800 --
Judge, James P. 16,000(3) 16,000 --
Kanuk, Alan R. 14,400(3) 14,400 --
Kaplan, Howard 16,000(3) 16,000 --
Kawasaki, Edwin J.(23) 20,000 20,000 --(23)
Kigler, Marvin 1,600(3) 1,600 --
King, Gail 8,000(3) 8,000 --
King, Netta Sue Q-Tip Trust 8,000(3) 8,000 --
Lappetito, Paul 4,000(3) 4,000 --
Lemak, John 16,000(3) 16,000 --
Lieberman, John R. 1,600(3) 1,600 --
Low, Nathan(24) 53,827(25) 53,827 --
Mabry, Philip H. 8,000(3) 8,000 --
Marshall, Marilyn E.(26) 270,007 100,000 170,007(26)
Mathis, James T. 2,000(3) 2,000 --
McKnight, Charles 3,200(3) 3,200 --
McNight, Netta Sue King 3,200(3) 3,200 --
Miller, Dwight(24) 45,545(27) 45,545 --
Milstein, Edward 32,000(3) 32,000 --
Milstein, Howard 32,000(3) 32,000 --
Mutz, Marcus R. 16,000(3) 16,000 --
C. M. Oliver & Company 61,720(29) 61,720 --
Limited(28)
- 16 -
<PAGE>
NUMBER OF SHARES
OWNED PRIOR TO SHARES TO BE OWNED
NAME OF SELLING SHAREHOLDER OFFERING SHARES OFFERED AFTER OFFERING
- --------------------------- ---------------- -------------- ----------------
Pinnacle Hotel Associates 90,000(30) 90,000 --
Limited Liability Company
Pretlow, Joe 8,000(3) 8,000 --
Rachofsky, Howard E. 169,000(31) 160,000 9,000
Rainbow Trading Partners, 42,000(32) 32,000 10,000
Ltd.
Rainbow Trading Venture 45,200(33) 35,200 10,000
Partners, L.P.
Ramsay, Bruce A.(34) 6,680 6,680 --
Reik, William J. III 16,000(3) 16,000 --
Riggs, Leonard M., Jr., 26,666(3) 26,666 --
M.D.
Riggs, Peggy A. 13,333(3) 13,333 --
Rutledge, Stephen 2,000(3) 2,000 --
Sagit Investment Management 286,000 286,000 --
Ltd.
Saito, Karen D. 1,320 1,320 --
Saito, Kenneth O. 400 400 --
Saito, Linda N. 1,320 1,320 --
Saito, Stephanie N. 200 200 --
Sands Partnership No. 1 53,532 53,532 --
Money Purchase Pension Plan
Scharfer, Paul(35) 8,920(36) 8,920 --
Schlosberg, Paul E. 7,592(37) 7,592 --
State Capital Partners 16,000(3) 16,000 --
Still, Marc R. IRA(38) 30,420(39) 27,200 3,220
Stinson, John C. 10,000(3) 10,000 --
Stone, David 32,000(3) 32,000 --
Stone, Richard(24) 14,536(40) 14,536 --
Strauss, John L. 253,147(41) 213,147 40,000
Swerdoff, Alan(24) 3,675(42) 3,675 --
Tanihana, Jami(43) 179,875 181,195 --(43)
- 17 -
<PAGE>
NUMBER OF SHARES
OWNED PRIOR TO SHARES TO BE OWNED
NAME OF SELLING SHAREHOLDER OFFERING SHARES OFFERED AFTER OFFERING
- --------------------------- ---------------- -------------- ----------------
Thau, Andrea, Money 1,600(3) 1,600 --
Purchase Plan
Thau, Andrea P., Profit 3,200(3) 3,200 --
Sharing Plan
The Curran Companies, Inc. 93,533(44) 93,533 --
Thomson, Craig R.(45) 13,780 13,780 --
Thomson, Michael G.(46) 25,740 25,740 --
</TABLE>
- -------------------------
(1) Consists of shares issuable upon the conversion of a convertible
subordinated promissory note issued by the Company in the amount of
$966,680 in connection with its acquisition of the Midwest Division on
October 31, 1996.
(2) Consists of shares issuable upon the conversion of a convertible
subordinated promissory note issued by the Company in the amount of
$92,664 in connection with its acquisition of the Midwest Division on
October 31, 1996.
(3) One-half of the number of shares shown are issuable to the Selling
Shareholder upon the exercise of the Company's September Warrants (as
defined below). Each September Warrant is exercisable for one Common
Share at an exercise price of $10.00 until August 31, 1998. See
"Description of Capital Stock-- Warrants."
(4) Richard Angus, through Wood Gundy, Inc., assisted in the private
placement of the Company's special warrants issued in February 1996,
and received 7,150 shares and 7,150 February Warrants (as defined
below) in partial payment for such placement services. See "Description
of Capital Stock--Warrants."
(5) Aspen Limited Partnership received 92,800 of the shares shown as the
designee of Dallas Research & Trading, Inc. ("Dallas Research"), which
acted as a placement agent in connection with the private placement of
the Company's special warrants in the United States in December 1996.
Dallas Research received a selling commission equal to 9% of the gross
proceeds of the offering that was paid through the issuance of 36,000
September Warrants. Dallas Research also received an additional 4,000
September Warrants in payment of its corporate finance fee and an
option to acquire 40,000 share purchase warrants. See "Description of
Capital Stock--Warrants."
(6) The number of shares shown includes 43,800 shares issuable upon the
exercise of the Company's September Warrants. The number of shares
shown also includes 33,600 shares issuable upon the exercise of share
purchase warrants at an exercise price of $6.25 per share until August
31, 1998. See "Description of Capital Stock--Warrants."
(7) Consists of shares issuable upon the conversion of a convertible
subordinated promissory note issued to Brown's Creek, Inc., by the
Company in the amount of $1,170,000 (the "Brown's Creek Note") in
connection with its acquisition of the Midwest Division on October 31,
1996. Aspen Partners, Inc., purchased a portion of the Brown's Creek
Note in December 1997.
- 18 -
<PAGE>
(8) Ms. Bennett has entered into a five-year employment contract with the
Company as an area administrator. She is married to Gregory Frazer, an
officer and director of the Company. She acquired her Common Shares in
connection with the acquisition by the Company of 11 clinics operated
by HCA on October 1, 1996. The shares to be owned by Ms. Bennett after
the offering do not include Mr. Frazer's shares or 20,000 shares which
Ms. Bennett will have the right to acquire upon the exercise of stock
options, half of which are currently vested. See note 21 below and
"Management," "Principal Shareholders," and "Certain Transactions."
(9) Consists of shares issuable upon the conversion of a convertible
subordinated promissory note issued by the Company in the amount of
$370,656 in connection with its acquisition of the Midwest Division on
October 31, 1996.
(10) Mr. Caldwell received 1,840 of the shares shown as the designee of
Sunrise Securities Corporation ("Sunrise"), which acted as a placement
agent in connection with the private placement of the Company's special
warrants in the United States in December 1996. Sunrise received a
selling commission equal to 9% of the gross proceeds of the offering
that was paid through the issuance of 38,682 September Warrants.
Sunrise also received a $25,000 corporate finance fee and an option to
acquire 42,980 share purchase warrants. See "Description of Capital
Stock--Warrants."
(11) The number of shares shown includes 8,560 shares issuable upon the
exercise of the Company's September Warrants. The number of shares
shown also includes 720 shares issuable upon the exercise of share
purchase warrants at an exercise price of $6.25 per share until August
31, 1998. See "Description of Capital Stock--Warrants."
(12) Mr. Campbell was one of the Company's original shareholders and a
former director of the Company. See "Certain Transactions."
(13) The number of shares shown includes 60,000 shares issuable upon the
exercise of the Company's September Warrants. See "Description of
Capital Stock--Warrants."
(14) The number of shares shown includes 16,000 shares issuable upon the
exercise of the Company's September Warrants. See "Description of
Capital Stock--Warrants."
(15) Ms. Cross has entered into a three-year employment contract with the
Company as an area administrator. She acquired her Common Shares in
connection with the acquisition by the Company of Hearing Dynamics in
December 1996. Of the shares shown, a total of 15,732 shares are
subject to restrictions on sale or transfer. Such restrictions will
lapse as to one-half of such shares on November 30 in each of 1998 and
1999. In addition, 16,000 of the shares are being held by the Company
(the "Contingent Shares"). If for any of the 12-month periods ending on
November 30, 1997, 1998 or 1999, the income of Hearing Dynamics before
interest, taxes, depreciation and amortization and after a corporate
overhead allocation falls below 20% of the net revenues of the business
for such year, Ms. Cross may elect to pay the Company $1.00 for each
$1.00 of shortfall or cancel one-fifth of a Contingent Share for each
$1.72 of shortfall.
(16) James W. Dawson is the father of Brandon M. Dawson, who is president,
chief executive officer, and a director of the Company.
(17) Brandon M. Dawson is president, chief executive officer, and a director
of the Company. The number of shares to be owned by Mr. Dawson after
the offering, which represents 13.7% of the Common Shares presently
outstanding, does not include 590,000 shares which Mr. Dawson has the
right to acquire pursuant to the exercise of stock options, 60,000 of
which are currently vested. See "Management," "Principal Shareholders,"
and "Certain Transactions."
- 19 -
<PAGE>
(18) Mr. DeJong is a director of the Company. The shares to be owned by Mr.
DeJong after the offering do not include 15,000 shares which Mr. DeJong
has the right to acquire pursuant to the exercise of stock options. See
"Management," "Principal Shareholders," and "Certain Transactions."
(19) Mr. Drullinger is an officer of the Company. The shares to be owned by
Mr. Drullinger after the offering do not include 120,000 shares which
Mr. Drullinger has the right to acquire pursuant to the exercise of
stock options, 40,000 of which are currently vested. See "Management."
(20) Includes 16,000 shares issuable upon the exercise of the Company's
September Warrants.
(21) Mr. Frazer is an officer and director of the Company and acquired his
shares in connection with the acquisition by the Company of 11 clinics
operated by HCA on October 1, 1996. The number of shares to be owned by
Mr. Frazer after the offering, which represents 1.7% of the Common
Shares presently outstanding, does not include 80,000 shares which Mr.
Frazer will have the right to acquire pursuant to the exercise of stock
options, half of which are currently vested. See note 8 above and
"Management," "Principal Shareholders," and "Certain Transactions."
(22) Mr. Good is a director of the Company. The number of shares to be owned
by Mr. Good after the offering represent 2.6% of the Common Shares
presently outstanding. See "Management," "Principal Shareholders," and
"Certain Transactions."
(23) Mr. Kawasaki is an officer of the Company. The shares to be owned by
Mr. Kawasaki after the offering do not include 230,000 shares which Mr.
Kawasaki will have the right to acquire pursuant to the exercise of
stock options, 20,000 of which are currently vested. See "Management."
(24) The Selling Shareholder received the shares shown as the designee of
Sunrise. See note 10 above.
(25) The number of shares shown includes 17,958 shares issuable upon the
exercise of the Company's September Warrants. The number of shares
shown also includes 17,911 shares issuable upon the exercise of share
purchase warrants at an exercise price of $6.25 per share until August
31, 1998. See "Description of Capital Stock--Warrants."
(26) The number of shares to be owned by Ms. Marshall after the offering
represents approximately 3% of the Common Shares presently outstanding.
See "Certain Transactions."
(27) The number of shares shown includes 14,067 shares issuable upon the
exercise of the Company's September Warrants. The number of shares
shown also includes 17,411 shares issuable upon the exercise of share
purchase warrants at an exercise price of $6.25 per share until August
31, 1998. See "Description of Capital Stock--Warrants."
(28) C.M. Oliver & Company Limited acted as placement agent in connection
with the private placement of the Company's September Warrants in
Canada in September 1996 and received a selling commission that
included $48,625 in cash and 6,800 September Warrants. C.M. Oliver &
Company Limited also received a $61,987 syndication fee, a $37,097
corporate finance fee, and an option to acquire 16,200 share purchase
warrants. See "Description of Capital Stock--Warrants."
(29) The number of shares shown includes 6,800 shares issuable upon the
exercise of the Company's September Warrants. The number of shares
shown also includes 16,200 shares issuable upon the exercise of share
purchase warrants at an exercise price of $6.25 per share until August
31, 1998. See "Description of Capital Stock--Warrants."
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<PAGE>
(30) Consists of shares issuable upon the conversion of the Brown's Creek
Note issued by the Company in connection with its acquisition of the
Midwest Division on October 31, 1996. Pinnacle Hotel Associates Limited
Liability Company purchased a portion of the Brown's Creek Note in
December 1997.
(31) Includes 80,000 shares issuable upon the exercise of the Company's
September Warrants.
(32) Includes 16,000 shares issuable upon the exercise of the Company's
September Warrants.
(33) Includes 17,600 shares issuable upon the exercise of the Company's
September Warrants.
(34) Mr. Ramsay was one of the Company's original shareholders. See "Certain
Transactions."
(35) Mr. Scharfer received 920 of the shares shown as the designee of
Sunrise. See note 10 above.
(36) The number of shares shown includes 4,280 shares issuable upon the
exercise of the Company's September Warrants. The number of shares
shown also includes 360 shares issuable upon the exercise of share
purchase warrants at an exercise price of $6.25 per share until August
31, 1998. See "Description of Capital Stock--Warrants."
(37) Consists of shares issuable upon the conversion of the Brown's Creek
Note issued by the Company in connection with its acquisition of the
Midwest Division on October 31, 1996. Mr. Schlosberg purchased a
portion of the Brown's Creek Note in December 1997.
(38) Mr. Still was president of Dallas Research and received the shares
shown as the designee of Dallas Research. See note 5 above.
(39) The number of shares shown includes 10,400 shares issuable upon the
exercise of the Company's September Warrants. The number of shares
shown also includes 6,400 shares issuable upon the exercise of share
purchase warrants at an exercise price of $6.25 per share until August
31, 1998. See "Description of Capital Stock--Warrants."
(40) The number of shares shown includes 4,424 shares issuable upon the
exercise of the Company's September Warrants. The number of shares
shown also includes 5,688 shares issuable upon the exercise of share
purchase warrants at an exercise price of $6.25 per share until August
31, 1998. See "Description of Capital Stock--Warrants."
(41) Includes 80,000 shares issuable upon the exercise of the Company's
September Warrants as well as 53,747 shares issuable upon the
conversion of the Brown's Creek Note issued by the Company in
connection with its acquisition of the Midwest Division on October 31,
1996. Mr. Strauss purchased a portion of the Brown's Creek Note in
December 1997.
(42) The number of shares shown includes 1,392 shares issuable upon the
exercise of the Company's September Warrants. The number of shares
shown also includes 890 shares issuable upon the exercise of share
purchase warrants at an exercise price of $6.25 per share until August
31, 1998. See "Description of Capital Stock--Warrants."
(43) Ms. Tanihana has entered into a five-year employment contract with the
Company as an area administrator. She acquired her shares in connection
with the acquisition by the Company of 11 clinics operated by HCA on
October 1, 1996. The shares to be owned by Ms. Tanihana after the
offering do not include 20,000 shares which Ms. Tanihana will have the
right to acquire upon the exercise of stock options, half of which are
currently vested. See "Certain Transactions."
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<PAGE>
(44) The number of shares shown includes 20,000 shares issuable upon the
exercise of the Company's September Warrants. See "Description of
Capital Stock--Warrants."
(45) Craig R. Thomson was one of the Company's original shareholders and a
former officer and director of the Company. See "Certain Transactions."
(46) Michael G. Thomson is employed by and a member of the capital markets
group of C.M. Oliver & Company Limited, which acted as placement agent
in connection with the private placement of the Company's September
Warrants in Canada in September 1996, and is a wholly owned subsidiary
of C.M. Oliver, Inc. See note 28 above. In addition, Mr. Thomson was
one of the Company's original shareholders and a former officer and
director of the Company. See "Certain Transactions."
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MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Since 1996, the Company has achieved significant growth in revenues,
primarily due to the acquisition and operation of additional hearing care
clinics. For the fiscal year ended July 31, 1997, and the six months ended
January 31, 1998, the Company generated total revenues of $13.5 million and $9.4
million, respectively. As of January 31, 1998, the Company's cumulative deficit
was $3.3 million and its total shareholders' equity was $23.4 million. For the
fiscal year ended July 31, 1997, and the six months ended January 31, 1998, the
Company incurred net losses of $1.7 million and $1.2 million, respectively.
RECENT ACQUISITIONS
On August 1, 1996, Sonus-USA acquired the assets of Santa Maria Hearing
Associates. Consideration for acquisition of the single clinic consisted of
$50,000 in cash paid at closing and $25,000 for a covenant not to compete which
was paid on January 5, 1997. The intangible assets recorded in the acquisition
of the single clinic, including the covenant not to compete, amounted to
$76,000.
On October 1, 1996, HCA, consisting of 11 hearing care clinics located
in Los Angeles, California, merged with Sonus-USA. The consideration paid by the
Company consisted of $314,724 in cash and 477,907 Common Shares. An additional
$350,861 in cash was paid for covenants not to compete. The intangible assets
recorded in the transaction, including the covenants not to compete, amounted to
$2,831,000.
On October 31, 1996, Sonus-USA acquired the assets of the Midwest
Division, consisting of 14 hearing care clinics located in the Chicago,
Illinois, and Lansing, Michigan metropolitan areas. The consideration paid by
the Company consisted of a subordinated convertible note in the principal amount
of $2,600,000, which is convertible into 400,000 Common Shares at $6.50 per
share, and the assumption of certain liabilities in the amount of $360,000. The
intangible assets recorded in the transaction, including a covenant not to
compete, amounted to $2,441,500.
On December 6, 1996, Sonus-USA completed a merger with Hearing Dynamics
("HD"), which operated four hearing care clinics in the San Diego, California,
area. Cash in the amount of $102,600 and 81,600 Common Shares were exchanged for
all of the issued and outstanding shares of HD in connection with the merger. An
additional $25,000 was paid to the seller for a covenant not to compete. The
intangible assets recorded in the transaction, including the covenant not to
compete, amounted to $840,000.
On December 17, 1996, Sonus-USA acquired all of the Common Shares of
FHC, Inc., doing business as Family Hearing Centers ("FHC"). Consideration for
acquisition of the single clinic consisted of cash in the amount of $150,000,
the issuance of a promissory note in the amount of $150,000 and the assumption
and repayment of $100,000 in FHC corporate debt. An additional $112,223 was paid
to the sellers for a covenant not to compete. The intangible assets recorded in
the transaction, including the covenant not to compete, amounted to $472,000.
On January 9, 1997, Sonus-USA purchased all of the outstanding shares
of Hearing Care Associates-Los Angeles, Inc., for $301,000 in cash. An
additional $112,500 was paid to the sellers for a covenant not to compete. The
intangible assets recorded in the acquisition of the single clinic, including
the covenant not to compete, amounted to $466,000.
On February 28, 1997, Sonus-USA acquired all of the outstanding shares
of Hearing Care AssociatesArcadia, Inc., for $410,338 in cash. An additional
$130,170 was paid to the sellers for a covenant not to compete. The intangible
assets recorded in the acquisition of the single clinic, including the covenant
not to compete, amounted to $404,000.
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<PAGE>
On March 6, 1997, Sonus-USA acquired all of the outstanding shares of
Hearing Care Associates-Sherman Oaks, Inc., for $26,568 in cash. An additional
$33,783 was paid to the sellers for a covenant not to compete. The intangible
assets recorded in the acquisition of the single clinic, including the covenant
not to compete, amounted to $103,000.
On March 14, 1997, Sonus-USA acquired all of the outstanding shares of
Auditory Vestibular Center, Inc., for $84,306 in cash. An additional $28,580 was
paid to the sellers for a covenant not to compete. The intangible assets
recorded in the acquisition of the single clinic, including the covenant not to
compete, amounted to $67,000.
On April 8, 1997, Sonus-USA acquired all of the outstanding shares of
Hearing Care Associates-Lancaster, Inc., for $136,751 in cash. An additional
$61,877 was paid to the sellers for a covenant not to compete. The intangible
assets recorded in the acquisition of the single clinic, including the covenant
not to compete, amounted to $140,000.
On June 6, 1997, Sonus-USA acquired all the outstanding shares of
Hearing Improvement Center, Inc., a California corporation operating two hearing
care clinics, in exchange for $500,000 in cash, 28,368 Common Shares, a two-year
promissory note in the amount of $132,624 payable in equal quarterly
installments including interest at 6% per annum, and a three-year promissory
note in the amount of $282,036 with accrued interest at the rate of 6% per annum
payable at the end of the first year and the balance of the note, including
interest, payable in equal monthly installments over the remaining term. An
additional $50,000 was paid to the sellers for covenants not to compete. The
intangible assets recorded in the acquisition of the two clinics, including
covenants not to compete, amounted to $1,108,000.
On July 8, 1997, Sonus-USA acquired certain assets of Dakota Hearing
Aid Service for $40,000 in cash. An additional $10,000 was paid to the seller
for a covenant not to compete. The intangible assets recorded in the
acquisition, including the covenant not to compete, amounted to $31,000.
On August 27, 1997, Sonus-USA acquired all the outstanding shares of
Hearing Care Associates-Santa Monica, Inc., for $258,268 in cash. An additional
$114,135 was paid to the sellers for covenants not to compete. The intangible
assets recorded in the acquisition of the clinic, including covenants not to
compete, amounted to $260,000.
On January 5, 1998, Sonus-USA acquired all the outstanding shares of
Hearing Care Associates-Inglewood, Inc., for $100,000 in cash and a three-year
promissory note in the amount of $97,000 which bears interest at the rate of 6
percent per annum and is payable in 12 equal quarterly installments. An
additional $23,040 is payable in 12 equal quarterly installments to the sellers
for covenants not to compete. The intangible assets recorded in the acquisition
of the clinic, including covenants not to compete, amounted to $60,000.
On January 30, 1998, Sonus-USA acquired certain assets of HearCare
Corp. for $90,000 in cash and the assumption and repayment of $138,120 in debt.
An additional $25,000 was paid to the seller for a covenant not to compete. The
intangible assets recorded in the acquisition of the clinic, including the
covenant not to compete, amounted to $200,000.
On February 12, 1998, Sonus-USA acquired all of the outstanding shares
of Hearing Care Associates- Montclair, Inc., for $50,000 in cash, the issuance
of a three-year promissory note in the amount of $26,000 and the assumption and
repayment of $15,000 in debt. An additional $15,000 was paid to the sellers for
covenants not to compete. The intangible assets recorded in the acquisition of
the clinic, including the covenant not to compete, amounted to $50,000.
On February 27, 1998, Sonus-USA acquired certain assets of Metropolitan
Hearing Clinics, Inc., consisting of five hearing care clinics in the Portland
and Eugene, Oregon, metropolitan areas. Consideration for the acquisition
consisted of $500,000 in cash, the issuance of a five-year promissory note in
the amount of $560,000
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<PAGE>
and the assumption of current liabilities in the amount of $70,500. An
additional $190,000 is payable to the seller in 12 equal quarterly installments
for a covenant not to compete.
On February 27, 1998, Sonus-USA acquired certain assets of Tucson
Audiology Institute, Inc., consisting of one hearing care clinic in Tucson,
Arizona. Consideration for the acquisition consisted of $294,000 in cash, the
issuance of a three-year promissory note in the amount of $120,000, contingent
payments of $100,000 payable over three years and the assumption of current
liabilities in the amount of $92,000. An additional $50,000 is payable to the
seller in 12 equal quarterly installments for a covenant not to compete.
On February 27, 1998, Sonus-USA acquired certain assets of Katz Hearing
Aid & Audiology, Inc., consisting of three hearing care clinics in the Tucson,
Arizona metropolitan area. Consideration for the acquisition consisted of
$250,000 in cash, the issuance of a three-year promissory note in the amount of
$85,000, contingent payments of $115,000 payable over four years and the
assumption of current liabilities in the amount of $24,000. An additional
$75,000 is payable to the seller in 12 equal quarterly installments for a
covenant not to compete.
On March 31, 1998, Sonus-USA acquired all the outstanding shares of
Hearing & Speech Associates, Inc. and Tri-County Hearing Aid Center, Inc.,
consisting of four hearing care clinics in Southern California. Consideration
for the acquisition consisted of $400,000 in cash, 22,936 Common Shares and a
three-year promissory note in the amount of $235,336.
On April 13, 1998, Sonus-USA acquired all the outstanding shares of
Burton Associates Hearing Aid Specialists, Inc., consisting of two hearing care
clinics in Southern California. Consideration for the acquisition consisted of
$100,000 in cash, a three-year promissory note in the amount of $50,000 and
contingent payments of $75,000 payable over four years.
On April 30, 1998, Sonus-USA acquired certain assets of Hamel Hearing
Aids, consisting of one hearing clinic in Portland, Oregon. Consideration for
the acquisition consisted of $190,000 in cash. An additional $10,000 was paid to
the seller for a covenant not to compete.
On May 1, 1998, Sonus-USA acquired all the outstanding shares of
H.E.&A.R., Inc., consisting of one hearing care clinic in Los Angeles,
California. Consideration for the acquisition consisted of $17,500 in cash and a
promissory note due October 31, 2000, in the amount of $72,500.
The 21 hearing care clinics acquired by the Company since August 1,
1997, have combined historical revenues for their prior fiscal years of
approximately $8.3 million. The Company expects these clinics to contribute to
the Company's future revenues consistent with their historical revenues, as well
as to have a positive effect on cash flow and future liquidity.
Acquisition Summary
As of February 28, 1998, the Company had recorded $12,467,590 in
intangible assets, including $1,447,000 in covenants not to compete, which
represented approximately 36% of the Company's total assets. The amortization of
the unamortized balance of $11,825,000 at February 28 will result in an annual
non-cash charge to earnings of approximately $640,000 in each of the next 20
years. If all of the covenants not to compete referred to above were currently
in effect, an additional non-cash charge to earnings of approximately $391,000
in each of the current and next two fiscal years would also be incurred.
RESULTS OF OPERATIONS
Six Months Ended January 31, 1998 Compared to Six Months Ended January 31, 1997
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<PAGE>
Revenues. Total revenues for the six months ended January 31, 1998,
were $9,416,000, representing a 124% increase over revenues of $4,202,000 for
the comparable period in fiscal 1997. The increase was primarily attributable to
the 41 clinics acquired by the Company since October 1, 1996. Product revenues
were $8,101,000 for the six months ended January 31, 1998, up 118% from
$3,712,000 for the same period in 1997. Audiological service revenues of
$1,315,000 represented 14% of total revenues for the six months ended January
31, 1998, as compared to $490,000 or 12% of total revenues for the comparable
period in 1997. This increase is due to the fact that substantially all of the
clinics acquired in the United States separately charge for the performance of
audiological services when a hearing instrument is purchased. A large proportion
of the revenue base in the six-month period ended January 31, 1997, was
attributable to the Company's Canadian clinics where the policy was to waive the
fee for audiological services if a hearing instrument was purchased.
Gross Profit. Gross profit for the six months ended January 31, 1998,
was $6,297,000 or 67% of revenues, compared to $2,655,000 or 63% of revenues for
the comparable period in fiscal 1997. The increase in gross profit percentage
was primarily due to higher volume discounts and improved product sales
management.
Clinical Expenses. Clinical expenses for the six months ended January
31, 1998, were $4,523,000 representing an increase of 115% over clinical
expenses of $2,102,000 for the comparable period in fiscal 1997. This increase
was attributable to the 41 additional clinics acquired by the Company since
October 1, 1996.
General and Administrative Expenses. General and administrative
expenses increased 93% from $1,240,000 for the six months ended January 31,
1997, to $2,388,000 for the six months ended January 31, 1998, due to planned
increases in corporate staff and other corporate expenses related to the
operation of a larger organization. As a percentage of revenues, general and
administrative expenses decreased to 25% for the six month period ended January
31, 1998, from 30% for the same period in the prior fiscal year. Management
anticipates that general and administrative expenses will continue to decrease
as a percentage of revenues as the Company establishes a larger revenue base
through its strategic acquisition program and enhanced marketing efforts.
Depreciation and Amortization Expense. Depreciation and amortization
expense for the six months ended January 31, 1998, was $600,000, an increase of
123% over the depreciation and amortization expense of $269,000 for the same
period in the prior fiscal year. The increase resulted from the depreciation of
fixed assets and amortization of goodwill and covenants not to compete
associated with 41 additional clinics operated by the Company during the six
month period ended January 31, 1998.
Year Ended July 31, 1997, Compared to Year Ended July 31, 1996
Accounts Receivable Turnover. The Company's accounts receivable
turnover increased to 74 days for the fiscal year ended July 31, 1997 from 61
days in the prior fiscal year. The Company's accounts receivable balances
consisted primarily of insurance proceeds to be received from managed care and
third party insurance providers.
Revenues. Total revenues for the fiscal year ended July 31, 1997, were
$13,462,000, representing a 463% increase over revenues of $2,389,000 for the
prior fiscal year. Of this increase, $10,015,000 was attributable to the 39
clinics acquired during fiscal 1997. Product sales revenues were $11,627,000 for
the 1997 fiscal year, up 395% from the $2,345,000 for fiscal 1996. Audiological
service revenues increased from $44,000, or 2% of total revenues in fiscal 1996,
to $1,835,000, or 14% of total revenues, for the 1997 fiscal year. Substantially
all of the clinics acquired in the United States separately charge for the
performance of audiological services when a hearing instrument is purchased. The
Company's policy in the past was to waive the fee if a hearing instrument was
purchased.
Gross Profit on Product Sales. Product gross profit for the fiscal year
ended July 31, 1997, was $6,617,000 compared to $1,328,000 for the prior fiscal
year. Gross profit percentage was 58% for both fiscal 1997 and fiscal 1996. The
Company expects its gross profit percentage to improve in fiscal 1998 due to
higher volume discounts and improved product sales management.
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Operating Expenses. Operating expenses for the fiscal year ended July
31, 1997, were $10,185,000, representing an increase of 419% over operating
expenses of $1,961,000 for the prior fiscal year. As a percentage of total
revenues, operating expenses decreased to 76% for the fiscal year ended July 31,
1997, from 82% for fiscal 1996, primarily due to fixed costs being spread over a
larger revenue base.
LIQUIDITY AND CASH RESERVES
During September 1996, the Company issued special warrants for 178,200
Common Shares in a private placement in Canada at a price of $5.68 per share for
gross proceeds of $1,012,500. In December 1996, the Company issued special
warrants for 829,800 Common Shares in a private placement in the United States
at a price of $6.25 per share for gross proceeds of $5,186,250. The net proceeds
from the sale of the special warrants in September and December 1996 were
$5,529,000. The special warrants issued in Canada were accompanied by share
purchase warrants to acquire a total of 178,200 additional Common Shares at a
price of $10.00 per share. The special warrants issued in the United States were
accompanied by share purchase warrants to acquire a total of 829,800 additional
Common Shares at a price of $10.00 per share. The share purchase warrants expire
on August 31, 1998. However, if the closing bid for the Common Shares is in
excess of $15.00 per share for a period of 20 consecutive trading days, the
Company has the option upon 45 days' prior written notice to the holders to
force the exercise or cancellation of the share purchase warrants. The actual
uses of the proceeds of the September and December 1996 private placements are
as follows (in thousands):
Working capital $ 1,500
Capital expenditures 600
Acquisitions 3,400
Offering and registration costs 700
--------
$ 6,200
========
During the fiscal year ended July 31, 1997, the Company acquired 39
hearing care clinics located in California, Illinois, Michigan, New Mexico and
North Dakota. The acquisitions were funded primarily through the issuance of
Common Shares valued at $3.3 million, the issuance of convertible subordinated
notes in an aggregate principal amount of $2.6 million, the issuance of $565,000
in promissory notes, cash payments totaling $2.1 million, and the assumption of
debt totaling $460,000. Consideration paid for covenants not to compete amounted
to $955,000. From August 1, 1997, to March 31, 1998, the Company acquired 19
hearing care clinics located in Arizona, California, Michigan, and Oregon. These
acquisitions were funded primarily through the issuance of $1.0 million in
promissory notes, cash payments of $1.9 million, the assumption of liabilities
totaling $440,000, contingent payments of $290,000, and the issuance of Common
Shares valued at $200,000. Consideration for covenants not to compete amounted
to $154,000 in cash and $338,000 in deferred payments over the next three years.
Sonus-Canada, the Company's Canadian operating subsidiary, has a
revolving demand loan with the Royal Bank of Canada, providing for borrowings up
to $171,000 at January 31, 1998. As of January 31, 1998, $89,000 was outstanding
against this line. Advances under the line of credit bear interest at 1% above
the Royal Bank of Canada prime rate, are secured by all the assets of
Sonus-Canada, and are personally guaranteed by a shareholder.
Sonus-USA has a $500,000 line of credit from a hearing instrument
manufacturer, none of which was outstanding at January 31, 1998. The line of
credit is secured by a portion of Sonus-USA's accounts receivable, is guaranteed
by the Company and bears interest at the prime rate on a fully floating basis.
Debt service is interest only payable monthly until July 16, 1998, when all
amounts outstanding under the line of credit will be due.
On December 24, 1997, the Company consummated the sale of 13,333,333
Series A Convertible Preferred Shares together with warrants to purchase
2,000,000 Common Shares for $12 per share, in a private
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placement to Warburg for an aggregate purchase price of $18 million. The Company
believes that the net proceeds of $15.8 million from the Warburg Sale and cash
generated from operations will provide it with sufficient capital to fund its
operations and planned acquisitions over the next 12 months.
In February 1997, the Company received proceeds of $1,970,000 from the
exercise of warrants issued in connection with the Company's special warrant
offering in February of 1996.
NEW ACCOUNTING PRONOUNCEMENTS
In February 1997, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards (SFAS) No. 128, "Earnings Per
Share." SFAS No. 128 supersedes APB Opinion No. 15, "Earnings Per Share" and
specifies the computation, presentation, and disclosure requirements for
earnings per share ("EPS") for entities with publicly held common stock or
potential common stock. It replaces the presentation of primary EPS with a
presentation of basic EPS and fully diluted EPS with diluted EPS. Basic EPS,
unlike primary EPS, excludes dilution and is computed by dividing income
available to common shareholders by the weighted average number of common shares
outstanding for the period. Diluted EPS reflects the potential dilution that
could occur if securities or other contracts to issue Common Shares were
exercised or converted into Common Shares or resulted in the issuance of Common
Shares that would then share in the earnings of the entity. Diluted EPS is
computed similarly to fully diluted EPS under APB Opinion No. 15. SFAS No. 128
is effective for financial statements for both interim and annual periods ending
after December 15, 1997. The Company adopted SFAS No. 128 as of January 31,
1998, for the quarter then ended. All prior period EPS data have been restated
to conform with SFAS No. 128.
In June 1997, the FASB also issued SFAS No. 130, "Reporting
Comprehensive Income," which established requirements for disclosure of
comprehensive income. The objective of SFAS No. 130 is to report all changes in
equity that result from transactions and economic events other than transactions
with owners. Comprehensive income is the total of net income and all other
non-owner changes in equity. The statement is effective for financial statements
for fiscal years beginning after December 15, 1997. The Company does not
anticipate any significant impact on reported results of operations due to the
adoption of SFAS No. 130.
In June 1997, the FASB issued SFAS No. 131, "Disclosure about Segments
of an Enterprise and Related Information," which changes the way segment
information is reported for public companies and requires those companies to
report selected segment information in interim financial reports to
shareholders. The statement is effective for financial statements for fiscal
years beginning after December 15, 1997. Although the Company has not fully
determined its complete impact, the Company does not foresee any material change
due to adoption of this statement on its financial presentation to shareholders.
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BUSINESS
OVERVIEW
The Company, through its primary operating subsidiaries Sonus-USA and
Sonus-Canada, currently owns and operates a network of 69 hearing care clinics
in the United States and Western Canada. In September 1997, Sonus-USA and
Sonus-Canada changed their names from HealthCare Hearing Clinics, Inc., and HC
HealthCare Hearing Clinics Ltd., respectively. By vote of the shareholders, the
Company changed its name to Sonus Corp. on February 9, 1998. Clinics owned by
the Company are located primarily in the metropolitan areas of Tucson, Arizona;
Los Angeles, California; San Diego, California; Chicago, Illinois; Lansing,
Michigan; Albuquerque, New Mexico; Portland, Oregon; Vancouver, British
Columbia; and Calgary, Alberta. The Company intends to expand its network of
hearing care clinics by acquiring clinics in its existing as well as new
geographic markets.
Each of the Company's hearing care clinics provides its hearing
impaired patients with a full range of audiological products and services.
During the fiscal year ended July 31, 1997, approximately 86% of the Company's
revenues were derived from product sales, including hearing instruments,
batteries, and accessories, while the remaining 14% of the Company's revenues
were derived from audiological services. Substantially all of the Company's
hearing care clinics are staffed by audiologists. The Company's operating
strategy is to provide patients with high quality and cost-effective hearing
care while at the same time increasing its operating margins by attracting and
retaining patients, recruiting qualified and productive audiologists, achieving
economies of scale and administrative efficiencies, and pursuing large group and
managed care contracts. The Company believes that it is well positioned to
provide retail hearing rehabilitative services to consumers while simultaneously
serving the diagnostic needs of referring physicians and meeting the access and
cost concerns of managed care providers and insurance companies.
INDUSTRY BACKGROUND
Professionals and Clinics. Hearing instruments may be dispensed by
either a dispensing audiologist or an HIS. Although both audiologists and HISs
may be licensed to dispense hearing instruments, audiologists have advanced
training in audiology and hold either a masters or Ph.D. degree.
Overall, dispensing audiologists are much younger than HISs. The March
1997 issue of The Hearing Review, a hearing industry trade journal, indicates
that approximately 27% of HISs in the U.S. are at least 61 years of age, 37% are
51-60 years of age, 25% are 41-50 years of age and only 11% are age 42 or under,
compared to 8%, 19%, 43% and 30%, respectively, for dispensing audiologists. The
Company believes that many HISs are facing retirement with no formal
"exit-strategy," a situation that creates an attractive investment opportunity
for the Company.
The typical hearing care practice wields little purchasing power with
manufacturers, and must spread overhead over a relatively small revenue base. In
addition, a typical hearing care practice often has insufficient capital to
purchase new technologies and lacks the systems and size necessary to develop
economies of scale. As a result, the Company believes that dispensing
audiologists and HISs will find it increasingly attractive to sell their
practices to or affiliate with larger organizations, such as the Company.
Another factor that may favor the consolidation of hearing care
practices is managed care. As managed care becomes more pervasive, hearing care
professionals will have an even greater need for the information resources,
management expertise, economies of scale, and access to managed care group
contracts that larger organizations such as the Company may be better able to
provide. However, managed care is not presently a large part of the hearing care
market and hearing care products and services are likely to continue to be
provided predominantly on a private pay basis for the next several years.
- 29 -
<PAGE>
Notwithstanding the factors favoring consolidation of hearing care
practices, there are currently only a few multiple clinic networks operating in
more than one state or province in the United States or Canada with combined
annual revenues in excess of $5 million.
Hearing Impaired Population. According to the 1996 edition of
Communication Facts, published by the American Speech-Language Hearing
Association, the number of persons in the United States who have hearing loss is
estimated to be approximately 28 million and the percentage of individuals with
a hearing loss relative to the general population is approximately 2% for those
under 18 years of age, 5% for those between 18 and 44 years of age, 14% for
those between 45 and 64 years of age, 23% for those between 65 and 74 years of
age and 32% for those over 75 years of age. In addition, the American Tinnitus
Association estimates that approximately 12 million American adults have
tinnitus (a ringing sensation in the ears) that is severe enough to seek medical
help.
The Company believes that the widely recognized demographic trend
toward an aging population will increase the demand for hearing instrument sales
and audiological services and that the demand for hearing instruments that are
less visible and for newer and superior hearing instrument technology, such as
digital and programmable hearing instruments, will also contribute to market
growth. In addition, the Company believes that some individuals forgo hearing
care because of the stigma of aging that can be associated with wearing a
hearing instrument and that the demand for hearing instrument sales and hearing
care services can be increased by marketing and education designed to reduce
that stigma.
Hearing Health Care Industry Segments. The hearing health care industry
serving patients with hearing and balance disorders is comprised of four
distinct service segments:
o hearing rehabilitation services, including the evaluation and
rehabilitation of persons with hearing impairments by assessing
communicative impairment and providing amplification;
o advanced audio-diagnostic services, including the neuro-audiologic
evaluation and non-medical diagnosis of hearing and balance
disorders;
o industrial and preventative audiological services, including noise
level measurements, dosimetry, and hearing screenings; and
o otolaryngologic services, including surgery and other medical
treatment.
The Company's clinics primarily provide hearing rehabilitation services. The
Company has one facility, the Rockyview Hearing and Balance Clinic located in
Calgary, Alberta, that provides advanced audio-diagnostic services and one
clinic located in San Diego, California, that provides evaluation and treatment
for patients with tinnitus.
Hearing rehabilitation services include the assessment and
rehabilitation of persons with hearing impairments through the use of hearing
instruments and counseling. Rehabilitation services, including amplification
systems, are provided by audiologists and HISs. The services offered include the
diagnostic audiological testing, fitting and dispensing of hearing instruments,
follow-up rehabilitative assistance, the sale of hearing instrument batteries,
hearing instrument repairs, and the sale of swim plugs, custom ear plugs, and
assistive listening devices.
Advanced audio-diagnostic services include the assessment and
non-medical treatment of vestibular and balance disorders and the evaluation of
patients with specific symptoms of an auditory or vestibular disorder, including
hearing loss, tinnitus, and balance problems. In order to make a differential
diagnosis of hearing disorders, an ear, nose and throat physician may employ or
refer patients to an audiologist to conduct special diagnostic hearing tests to
differentiate between conductive, sensory, and neural pathology. If the cause of
the hearing loss is a medical disorder in either the nervous system (neural) or
the middle ear (conductive), the physician proceeds with medical treatment.
However, if a non-treatable conductive or sensory loss is found, the physician
will generally refer the patient to an audiologist for rehabilitation.
- 30 -
<PAGE>
GROWTH STRATEGY
The Company's growth strategy is to expand its operations through the
selective acquisition of hearing clinics located in existing as well as new
geographic markets. The Company believes that the fragmented nature of the
hearing care industry, the absence of industry-wide standards, and the
inexperience and limited capital resources of many hearing care providers,
combine to provide an opportunity to build an expanding network of hearing care
clinics devoted to providing high-quality hearing health care services. See
"Risk Factors--Expansion Program."
The Company plans to expand its network of clinics in each new market
by initially targeting for acquisition a significant hearing care practice in
order to secure a solid foundation upon which to build a regional network of
audiology practices. The Company will then seek to acquire additional individual
or group practices in order to realize economies of scale in management,
marketing, and administration, and hopes that its initial purchase in the region
will attract other practitioners interested in selling their businesses. Due to
the contacts of management with audiologists in the industry, the Company is
frequently presented with opportunities to acquire hearing care clinics. Since
August 1, 1996, the Company has acquired 60 clinics, all located in the United
States.
The Company looks at the following factors before acquiring clinics in
a particular geographic market: (a) population size and distribution; (b)
audiology practice density, saturation and average group size; (c) local
competitors; (d) level of managed care penetration; and (e) local industry and
economy. In acquiring particular clinics within a geographic market, the Company
seeks clinics with the following characteristics: (a) an established patient
base drawing from a substantial metropolitan population; (b) significant revenue
and profitability prior to acquisition; (c) above-average potential to enhance
clinic profitability after acquisition; and (d) if a clinic has an audiologist,
a willingness by the audiologist to enter into an employment agreement with the
Company in order to retain continuity in patient service and relationships and
maintain the identity of the clinic in the community where it is located.
Prior to acquiring a hearing care clinic, the Company conducts a due
diligence investigation of the clinic's operations that includes an analytical
review of the clinic's financial statements, tax returns, and other operating
data, a review of patient files on a random sample basis, a review of credit
reports, contracts, bank deposits, and other documents and information that the
Company deems significant, and the preparation of financial projections. Based
on the information collected and analyzed during the due diligence review, the
Company determines an appropriate purchase price for the acquisition.
The Company generally uses cash, Common Shares, promissory notes,
assumption of debt, or a combination of the foregoing to fund acquisitions. See
"Risk Factors--Additional Financing." The amount paid for each practice varies
on a case-by-case basis according to historical revenues, projected earnings
after integration into the Company, and transaction structure. In connection
with each acquisition, the Company acquires substantially all of the assets of
the practice, including its audiological equipment and supplies, office lease
and improvements, receivables and patient files.
At the time a practice is acquired, the audiologist associated with the
practice typically becomes an employee of the Company and enters into an
employment agreement with the Company with an initial term of three years and
annual renewals thereafter. The employment agreement usually includes a
three-year noncompete provision following termination of employment. If the
office of a retiring HIS is acquired, a six- to 12-month transition plan is
usually negotiated with the HIS. See "Risk Factors--Dependence on Key Personnel"
and "Risk Factors--Expansion Program."
There can be no assurance that the Company will be able to complete
acquisitions consistent with its expansion plans, that such acquisitions will be
on terms favorable to the Company, or that the Company will be able to
successfully integrate the hearing care clinics that it acquires into its
business. Successful integration will be dependent upon maintaining payor and
customer relationships and converting the management information systems
- 31 -
<PAGE>
of the clinics the Company acquires to the Company's systems. Significant
expansion could place a strain on the Company's managerial and other resources
and could necessitate the hiring of a number of new managerial and
administrative personnel. Unforeseen problems with future acquisitions or
failure to manage expansion effectively may have a material adverse effect on
the business, financial condition, and results of operations of the Company.
OPERATING STRATEGY
The Company's operating strategy is to provide its patients with high
quality and cost effective hearing care products and services while at the same
time increasing its operating margins by attracting and retaining patients,
recruiting qualified and productive audiologists, achieving economies of scale
and administrative efficiencies, and pursuing large group and managed care
contracts.
Attracting and Retaining Patients. The Company seeks to attract new
patients and retain existing patients at each clinic by providing patients with
friendly, comprehensive, and cost-effective hearing care at convenient times and
locations. In addition, by educating patients about hearing health issues and by
providing quality service during office visits and consistent patient follow-up
and support, the Company hopes to foster patient loyalty and increase the
likelihood of obtaining referrals and repeat visits for examinations and product
purchases. See "Risk Factors-- Competition" and "Risk Factors--Impact of Policy
Changes by Third-Party Insurers."
Recruiting Qualified and Productive Audiologists. Audiologists employed
by the Company are primarily responsible for clinic profitability as well as for
attracting and retaining customers. The Company seeks to employ audiologists who
share the Company's goal of delivering high-quality hearing care service and who
are also dedicated to expanding and enhancing their practices. The Company
believes that it can offer significant benefits to audiologists by providing
assistance in administrative tasks associated with operating an audiology
practice, thereby allowing them to focus on serving patients and increasing
productivity. The Company also believes that its size and structure enable it to
offer financial resources for practice development and enhancement that solo and
small group practitioners find difficult to obtain independently. See "Risk
Factors--Dependence on Key Personnel."
Achieving Economies of Scale and Administrative Efficiencies. A key
operating strategy of the Company is to achieve increased economies of scale and
administrative efficiencies at each of its clinics. When a clinic is acquired by
the Company, it immediately has available to it terms and discounts with hearing
instrument manufacturers that are generally more favorable than it could
negotiate independently. In addition, the Company believes that by centralizing
certain management and administrative functions such as marketing, billing,
collections, human resources, risk management, payroll, and general accounting
services, the profitability of a clinic can be improved by spreading the cost of
such functions over a larger revenue base. The Company has developed an on-line
management information system that links a substantial number of the Company's
clinics with the Company's corporate headquarters in order to provide management
with the ability to collect and analyze clinic data, control overhead expenses,
allow detailed budgeting at the clinic level, and permit effective resource
management. See "Risk Factors--Expansion Program" and "Risk Factors--Additional
Financing."
Pursue Large Group and Managed Care Contracts. Although the Company
intends to continue to aggressively pursue private-payor business because it is
presently more pervasive and profitable than managed care business, the Company
believes that by providing comprehensive geographic coverage in a particular
market, it will be strongly positioned to offer services to group hearing care
plans in that market. Managed care arrangements typically shift some of the
economic risk of providing patient care from the person who pays for the care to
the provider of the care by capping fees, requiring reduced fees, or paying a
set fee per patient irrespective of the amount of care delivered. With respect
to hearing care, such limits could result in reduced payments for services or
restrictions on the types of services for which reimbursement is available or
the frequency of replacements or upgrades of equipment. At the present time,
managed care penetration of the hearing care market is limited. However, if
managed care begins to play a larger role in hearing care, the Company plans to
develop information systems to improve productivity, manage complex
reimbursement methodologies, measure patient satisfaction and outcomes of care,
and integrate information from multiple sources.
- 32 -
<PAGE>
Many third-party insurers impose restrictions in their health insurance
policies on the frequency with which hearing instruments may be upgraded or
replaced on a reimbursable basis. Such restrictions have a negative impact on
hearing instrument sales volume. There can be no guarantee that such insurers
will not implement other policy restrictions in the future in order to further
minimize reimbursement for hearing care. Such restrictions could have a material
adverse effect on the Company's business, financial condition, and results of
operations. See "Risk Factors--Competition" and "Risk Factors--Managed Care."
CLINIC STAFFING AND FACILITIES
Typically, each Company hearing clinic is staffed with at least one
audiologist and one patient care coordinator, who handles reception, clerical,
and most bookkeeping functions. The Company currently employs approximately 95
audiologists. Where volume warrants, a clinic may also be staffed with
additional audiologists and patient care coordinators. An audiologist employed
by the Company has a masters or Ph.D. degree in audiology. The audiologist is
licensed by the appropriate state or province to dispense hearing instruments
and is a member of the Canadian Association of Speech/Language Pathologists and
Audiologists or the American Speech-- Language Hearing Association.
Each of the Company's hearing clinics operates in leased space that
ranges in size from 800 to 3,000 square feet depending on patient volume and the
extent of services provided by the clinic. Clinics generally have a reception
seating area, a reception work and filing area, an office for the audiologist, a
laboratory for hearing instrument repairs and modifications, a technology
demonstration room and an evaluation room. A properly equipped office offering
only hearing rehabilitation services requires equipment that costs $50,000 to
$75,000. The cost of equipment for a clinic offering advanced audio-diagnostic
services is much greater and ranges from $225,000 to $250,000.
The table below shows the location of each of the Company's hearing
care clinics at January 31, 1998, the date the clinic was acquired by the
Company, and the revenues generated by each clinic for the periods indicated:
- 33 -
<PAGE>
<TABLE>
Revenues Revenues Revenues Revenues
Date for 3 months for 3 months for fiscal year as of latest
Clinic and Location Purchased/Opened ended 1/31/98 ended 1/31/97 ended 7/31/97 fiscal year
- ------------------- ---------------- ------------- ------------- -------------- -----------
Alberta
- -------
<S> <C> <C> <C> <C> <C>
Rockyview, Calgary(3) April 1996 $106,352 $ 96,796 $503,789 $ -
T.H. Moore, Calgary April 1995 60,019 51,113 199,173 383,423
British Columbia
- ----------------
Fraserview, Abbotsford October 1994 19,672 19,292 127,076 91,343
Fraserview, Chilliwack October 1994 52,878 66,485 286,428 228,405
Kamloops, Kamloops October 1994 74,638 58,504 283,699 205,394
Langley, Langley January 1996 58,767 77,207 369,943 285,611
Fraserview, Maple Ridge October 1994 37,315 45,801 170,661 145,742
Fraserview, New Westminster October 1994 51,143 87,139 276,017 288,459
Pacific, North Vancouver(6) April 1996 39,757 45,027 218,465 -
Fraserview, Richmond October 1994 35,669 47,684 169,075 152,771
Fraserview (2 clinics), Vancouver October 1994 107,428 122,049 570,306 653,590
California
- ----------
HCA, Alhambra October 1996 153,511 175,896 872,677 515,144
Hearing Dynamics, Alvarado December 1996 144,116 117,331 664,677 597,221
HCA, Arcadia February 1997 130,028 105,128 544,870 508,329
Allied, Arroyo Grande(1) July 1996 18,359 39,232 84,297 119,647
HCA, Burbank October 1996 45,379 73,107 262,314 280,643
Hearing Dynamics, Chula Vista December 1996 57,522 53,600 309,374 284,335
Hearing Dynamics, Coronado(1) December 1996 63,466 21,154 159,417 106,160
HCA, Fountain Valley(1)(5) December 1996 10,165 1,107 71,631 -
HCA, Glendale October 1996 122,499 197,437 950,491 837,293
HCA, Glendora October 1996 58,440 91,969 343,885 267,568
HCA, Inglewood January 1998 43,882 37,568 400,999 323,854
HCA, Lancaster March 1997 108,969 67,255 390,353 453,939
HCA, Long Beach October 1996 154,011 140,469 604,692 393,353
HIC, Long Beach June 1997 246,589 220,950 1,267,750 1,208,117
HCA, Los Angeles(4)(6) January 1997 211,111 - - 618,207
HCA, Mission Hills October 1996 95,514 92,253 425,625 341,935
HCA, Montrose(1) October 1996 17,720 16,120 54,964 105,861
HCA, Northridge October 1996 240,466 284,627 1,054,132 1,176,386
HCA, Oxnard October 1996 97,689 74,226 358,989 115,882
Hearing Dynamics, San Diego December 1996 140,555 71,666 709,438 619,755
HCA, Santa Clarita Valley October 1996 64,005 52,030 249,253 256,149
HCA, Santa Monica August 1997 138,932 104,260 417,144 415,559
Allied, Santa Maria July 1996 27,554 47,113 235,003 201,137
Santa Maria, Santa Maria(4)(6) August 1996 100,579 85,555 228,385 157,714
HIC, Seal Beach(7) June 1997 - - - -
HCA, Sherman Oaks March 1997 48,818 69,643 320,071 384,551
Illinois
- --------
SONUS, Berwyn October 1996 88,596 118,696 569,652 736,632
SONUS, Chicago October 1996 34,957 33,716 170,901 244,355
SONUS, Hinsdale October 1996 59,618 86,650 319,287 240,647
SONUS, Lombard(1) October 1996 30,655 35,217 128,005 177,660
SONUS, North Cicero(1)(8) October 1996 - - - -
SONUS, Oak Lawn October 1996 102,261 113,429 558,765 667,515
SONUS, Oak Park October 1996 24,413 48,570 236,452 247,589
Michigan
- --------
SONUS, Carson City(1)(2) October 1996 - - - -
SONUS, Charlotte(6) October 1996 26,170 21,739 71,181 -
SONUS, Hayes Green Beach(1)(2) October 1996 - - - -
SONUS, Kalamazoo(4)(6) January 1998 - - - -
SONUS, Grand Ledge October 1996 82,896 69,603 414,689 437,636
SONUS, Lansing October 1996 95,594 86,295 365,011 310,851
SONUS, Okemos October 1996 79,344 74,737 301,993 241,558
New Mexico
- ----------
Family Hearing Centers, Albuquerque December 1996 194,806 95,973 969,930 991,923
North Dakota
- ------------
Dakota Hearing Aid Service(4)(6) July 1997 19,644 - - -
</TABLE>
- 34 -
<PAGE>
- ----------------------------
(1) Designates satellite clinic. Satellite clinics operate less than five
days per week and are generally located in doctors' offices or hospitals.
(2) Information combined with SONUS, Grand Ledge.
(3) Opened April 1996.
(4) Quarterly comparative information unavailable.
(5) Opened December 1996.
(6) Annual comparative information unavailable.
(7) Information combined with Hearing Improvement Center, Long Beach
(8) Information combined with SONUS, Oak Lawn.
"Revenues for fiscal year ended 7-31-97" represents clinic revenues for
the full 12-month period ended July 31, 1997, and may include revenues prior to
the date of acquisition by the Company. "Revenues as of latest fiscal year"
represents clinic revenues for the most recently completed fiscal year prior to
acquisition by the Company. The fiscal year-ends from which these revenues were
derived vary from clinic to clinic depending on the acquisition date and the
fiscal year ending date.
PRODUCTS AND SUPPLIERS
The hearing instrument manufacturing industry is highly competitive
with approximately 40 manufacturers serving the worldwide market. Few
manufacturers offer significant product differentiation. The Company currently
purchases hearing instruments from a number of manufacturers based upon criteria
that include quality, price, and service. Over time, the Company intends to
reduce the number of manufacturers from whom it purchases hearing instruments in
order to achieve greater volume discounts. In addition to hearing instruments,
the Company's clinics also offer a limited selection of other assistive
listening devices and hearing instrument accessories.
MARKETING
The Company's marketing program is designed to help its hearing care
clinics retain existing patients and expand the services they receive, attract
new patients, and develop contracts to serve large groups of patients.
The Company believes that patient satisfaction is the key to retaining
and expanding services to existing patients. The Company also believes that
delivering comfortable, high quality hearing care at times and locations that
are convenient for the patient will motivate patients to return to the Company's
clinics for their future hearing care needs. Educating patients about hearing
health, prescribing only necessary hearing enhancing products, ensuring that
each patient leaves a clinic with a future visit already scheduled, and
maintaining consistent patient follow-up and support are key elements of the
Company's plan to build patient loyalty and patronage.
After a patient has obtained a hearing instrument, ongoing revenues are
generated from battery purchases and routine maintenance of the instruments. The
Company believes that repeat revenues are attributable to the length of time
that a clinic has been established and the effectiveness of its patient
retention programs.
The Company believes that the same aspects of the Company's approach
that earn the loyalty of current patients will also generate new patients. The
Company's new patient marketing programs are designed to help the Company
generate referrals from physicians and existing patients and increase the
Company's visibility in the community. The Company seeks to foster such
visibility by developing marketing materials and information sources that
communicate the Company's philosophy of high quality patient-oriented hearing
care.
The Company's large group marketing approach is designed to enable the
Company to develop contacts with self-insured employers and with health plans in
the metropolitan areas it serves and emphasizes the convenience, quality of
care, and wide range of services offered by the Company. The economies of scale
available to the Company may also allow health plans and self-insured employers
served by the Company to reduce
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<PAGE>
administrative burdens they might otherwise face. The Company believes that it
is well positioned to respond to challenges presented by the growth of managed
care arrangements as they arise.
COMPETITION
The hearing care industry in the United States and Canada is highly
fragmented and intensely competitive. Many of the Company's competitors are
small retailers that focus primarily on the sale of hearing instruments.
However, the Company also competes with other networks of hearing care clinics
and with large distributors of hearing instruments such as Bausch & Lomb, a
hearing instrument manufacturer that distributes its products through a national
network of over 1,000 franchised stores (Miracle Ear), and Beltone Electronic
Corp., a privately-owned hearing instrument manufacturer that distributes its
products primarily through its nationwide network of approximately 600
franchised dealers. These competitors are in many cases better known and owned
by companies having far greater financial and other resources than the Company.
There can be no assurance that one or more of these competitors will not seek to
compete directly in the markets targeted by the Company, nor can there be any
assurance that the largely fragmented hearing care market cannot be successfully
consolidated by other companies or through the establishment of co-operatives,
alliances, confederations or the like. See "Risk Factors-- Competition."
REGULATION
The sale of hearing instrument devices is regulated at the federal
level in the United States by the United States Food and Drug Administration
("FDA"), which has been granted broad authority to regulate the hearing care
industry. Under federal law, hearing instruments may only be sold to individuals
who have first obtained a medical evaluation from a licensed physician, although
a fully informed adult may waive a medical evaluation in certain instances.
Regulations promulgated by the FDA also presently require that dispensers of
hearing instruments provide customers with certain warning statements and
notices in connection with the sale of hearing instruments and that such sales
be made in compliance with certain labeling requirements.
Most states in the United States and many provinces in Canada have
established formal licensing procedures that require the certification of
audiologists and/or HISs. Although the extent of regulation varies by
jurisdiction, almost all states and provinces engage in some degree of oversight
of the industry. The Company operates its hearing care clinics through its
wholly owned subsidiaries, Sonus-USA and Sonus-Canada. These subsidiary
corporations employ licensed audiologists who offer and perform audiology
services on behalf of the Company.
In certain states in the United States, business corporations such as
Sonus-USA may not be authorized to employ audiologists and offer audiology
services. For example, in California, where the Company operates 34 clinics,
although the performance of audiology services by professional corporations
owned solely by licensed audiologists is expressly authorized under California
law, it is unclear whether general business corporations such as Sonus-USA may
employ licensed audiologists to perform audiology services. However, the
California Department of Consumer Affairs has indicated by memorandum that
speech-language pathologists, which are regulated under statutes and regulations
similar to those governing audiologists, may practice in a general business
corporation and that a general business corporation may provide speech-language
pathology services through licensed speech pathologists. In Illinois, where the
Company has eight hearing care clinics, it is also unclear whether general
business corporations may employ licensed audiologists to perform audiology
services. Under Illinois law, only professional corporations and individuals are
authorized to obtain licenses to practice audiology.
The laws and regulations governing the practice of audiology are
enforced by regulatory agencies with broad discretion. If the Company were found
to be in violation of such laws and regulations in one or more states, the
consequences could include the imposition of fines and penalties upon the
Company and its audiologists as well as the issuance of orders prohibiting the
Company from operating its clinics under its present structure. In that event,
among the solutions the Company might consider would be the restructuring of all
or a portion of its operations in a manner similar to that used by certain
medical and dental clinic networks. Under such a structure,
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<PAGE>
professional corporations owned by licensed audiologists would contract with the
Company to perform professional services and the Company would contract with the
professional corporations to provide management services.
No assurance can be given that the Company's activities will be found
to be in compliance with laws and regulations governing the corporate practice
of audiology or, if its activities are not in compliance, that the operational
structure of the Company can be modified to permit compliance. In addition, no
assurance can be given that other states or provinces in which the Company
presently operates will not enact prohibitions on the corporate practice of
audiology or that the regulatory framework of certain jurisdictions will not
limit the ability of the Company to expand into such jurisdictions if the
Company is unable to modify its operational structure to comply with such
prohibitions or to conform with such regulatory framework. Additional laws and
regulations may be adopted in the future at the federal, state, or province
level that could have a material adverse effect on the business, financial
condition, and results of operations of the Company.
A small percentage of the revenues of the hearing care clinics operated
by the Company comes from Medicare and Medicaid programs. Federal law prohibits
the offer, payment, solicitation or receipt of any form of remuneration in
return for, or in order to induce, (i) the referral of a Medicare or Medicaid
patient, (ii) the furnishing or arranging for the furnishing of items or
services reimbursable under Medicare or Medicaid programs or (iii) the purchase,
lease or order of any item or service reimbursable under Medicare or Medicaid.
Noncompliance with the federal anti-kickback legislation can result in exclusion
from Medicare and Medicaid programs and civil and criminal penalties.
PRODUCT AND PROFESSIONAL LIABILITY; PRODUCT RETURNS
In the ordinary course of its business, the Company may be subject to
product and professional liability claims alleging the failure of, or adverse
effects claimed to have been caused by, products sold or services provided by
the Company. The Company maintains insurance against such claims at a level that
the Company believes is adequate. A customer may return a hearing instrument to
the Company and obtain a full refund up to 30 days after the date of purchase.
Some of the Company's clinics offer a 60-day refund period. In general, the
Company can return hearing instruments returned by customers within 30 to 60
days to the manufacturer for a full refund. The Company maintains a reserve
based on estimated returns to account for returns that cannot be passed through
to the manufacturers and must be absorbed by the Company.
EMPLOYEES
At April 1, 1998, the Company had 194 full-time and 43 part-time
employees, of which 78 are audiologists practicing full time and 17 practicing
part-time. None of the Company's employees are represented by a labor union.
Management believes it maintains good relationships with its employees. See
"Risk Factors--Labor Unions."
PROPERTIES
The Company's principal executive offices are located in approximately
5,600 square feet of leased office space in downtown Portland, Oregon. The lease
covering 2,600 square feet of such space expires in August 1998 and requires
remaining rental payments totaling $20,736. The lease on the remaining 3,000
square feet expires in August 1999 and provides for an annual rent of $57,072.
Each of the Company's hearing clinics operates in leased space that ranges in
size from 800 to 3,000 square feet. All of the locations are leased for one to
six-year terms pursuant to generally non-cancelable leases (with renewal options
in some cases). The aggregate committed rental expense as of July 31, 1997, for
the subsequent five-year period is approximately $2.1 million.
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<PAGE>
MANAGEMENT
Information with respect to the directors and executive officers of the
Company, including their age at March 31, 1998, position with the Company, and
principal business experience during the previous five years, is set forth
below:
<TABLE>
NAME AGE POSITION
<S> <C> <C>
Brandon M. Dawson 29 President, Chief Executive Officer and Director
Douglas F. Good 56 Chairman of the Board and Director
Gregory J. Frazer, Ph.D. 45 Vice President, Business Development and Director
William DeJong 40 Director
Hugh T. Hornibrook 48 Director
Joel Ackerman 32 Director
Randall E. Drullinger 34 Vice President, Marketing
Edwin J. Kawasaki 39 Vice President, Finance and Chief Financial Officer
Kathy A. Foltner 44 Vice President, Operations
</TABLE>
BRANDON M. DAWSON. Mr. Dawson has served as President and Chief
Executive Officer and as a director of the Company since December 1995. From May
1992 to December 1995, he was director of U.S. sales for Starkey Laboratories
Inc. ("Starkey"), the largest custom "in-the-ear" hearing instrument
manufacturer in the world. Prior to May 1992, Mr. Dawson held a number of
positions with Starkey, including Assistant Sales Manager from December 1988 to
October 1990 and National Sales Manager from November 1990 to April 1992.
DOUGLAS F. GOOD. Mr. Good has served as a director of the Company since
1994, and as Chairman of the Board since August 1996. From December 1995 to July
1996, he served as the Company's chief financial officer and as President of the
Company from October 1994 to December 1995. Prior to becoming President of the
Company, Mr. Good was chief financial officer and a director of International
Retail Systems Inc. of Dallas, Texas, a software and point of sale systems
company.
GREGORY J. FRAZER, PH.D. Mr. Frazer has served as Vice President -
Business Development and as a director of the Company since October 1996, when
the Company acquired 11 audiology based hearing clinics which were among 22
clinics in Southern California of which Mr. Frazer was part owner and operator.
The Company has since acquired eight of the remaining 11 clinics. Mr. Frazer has
spent his entire career as a hearing care professional since receiving his
doctoral degree in audiology from Wayne State School of Medicine in 1981.
WILLIAM DEJONG. Mr. DeJong is a partner in the Calgary, Alberta, law
firm of Ballem MacInnes, which he joined in September 1987. He served as
Secretary of the Company from shortly after its incorporation in 1993 until
December 1997. He has been a director of the Company since 1994.
HUGH T. HORNIBROOK. Mr. Hornibrook has been a director of the Company
since April 1996. From April 1996 to January 1997, he was Vice President,
Corporate Development of the Company, and from July 1994 to April 1996, he was
an independent business consultant. He served as director of corporate
development for The Loewen Group Inc., a large funeral home and cemetery
operator with operations throughout North America, from 1988 to June 1994.
JOEL ACKERMAN. Mr. Ackerman is a Managing Director of E.M. Warburg,
Pincus & Co., L.L.C. From 1990 to 1993, Mr. Ackerman served as an associate at
Mercer Consulting, a strategic management consulting company. Mr. Ackerman was
appointed to the Board in December 1997 at the request of Warburg, the holder of
all the outstanding Convertible Shares.
- 38 -
<PAGE>
RANDALL E. DRULLINGER. Mr. Drullinger has served as Vice President,
Marketing of the Company since April 1996. From August 1990 to April 1996, he
was director of financial management services at Starkey.
EDWIN J. KAWASAKI. Mr. Kawasaki has served as Vice President, Finance
of the Company since August 1996. Mr. Kawasaki was a principal of Stafford
Capital Corp., an investment buy-out firm, from September 1995 to July 1996, and
was a senior vice president at Peregrine Holdings Ltd., an investment banking
boutique firm, from January 1994 to September 1995. From 1987 to 1993, he was
the controller of Lewis and Clark College. Prior to 1987, Mr. Kawasaki was a
supervising senior accountant with KPMG Peat Marwick LLP.
KATHY A. FOLTNER. Ms. Foltner was appointed Vice President, Operations
of the Company in November 1996, when the Company acquired substantially all of
the assets of the Midwest Division from Hearing Health Services, Inc. Ms.
Foltner had served as vice president of Hearing Health Services, Inc., since
January 1995 and as director of Michigan operations, from July 1994 to December
1994. Prior to July 1994, Ms. Foltner was the owner and president of
Audio-Vestibular Testing Center, Inc.
TERM OF DIRECTORS AND BOARD COMMITTEES
The Company's articles of incorporation provide for six directors until
the directors of the Company increase or decrease that number in accordance with
the articles of incorporation. Directors are elected annually. The board of
directors maintains an audit committee, consisting of Messrs. Ackerman, DeJong,
and Hornibrook, which reviews services provided by the Company's independent
auditors, makes recommendations concerning their engagement or discharge, and
reviews with management and the independent auditors the annual financial
statements of the Corporation, the results of the audit, the adequacy of
internal accounting controls, and the quality of financial reporting.
COMPENSATION OF DIRECTORS
The directors of the Company do not receive any fees for attending
board meetings but are reimbursed for out-of-pocket and travel expenses incurred
in attending board meetings. The Company has no other standard arrangement
pursuant to which directors are compensated by the Company for their services in
their capacity as directors. The Company may from time to time, as it has in the
past, grant stock options to directors in accordance with the policies of AMEX,
the Securities and Exchange Commission, and the securities laws and regulations
of the jurisdictions where the directors reside. Options granted during the
fiscal year ended July 31, 1997, are included in the table titled "Option Grants
in Last Fiscal Year" under the caption "Executive Compensation."
- 39 -
<PAGE>
EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE
The following table sets forth for the years indicated the compensation
awarded or paid to, or earned by, the Company's chief executive officer and the
Company's other executive officers whose salary level and regular bonus for the
fiscal year ended July 31, 1997, exceeded $100,000.
<TABLE>
Annual Long-Term
Compensation Compensation Awards
------------ -------------------
Number of Shares
Name and Principal Position Year Salary Underlying Options
- --------------------------- ---- ------ ------------------
<S> <C> <C> <C>
Brandon M. Dawson 1997 $130,000 --
President and Chief 1996 86,667 130,000
Executive Officer
Gregory J. Frazer, Ph.D. 1997 110,000 80,000
Vice President-Business
Development
</TABLE>
In addition, three other executive officers of the Company were paid an
aggregate of $317,289 in cash compensation, including incentive compensation of
$67,454 relating to acquisitions, during the 1997 fiscal year.
OPTION GRANTS
During the fiscal year ended July 31, 1997, the Company granted stock
options to employees and directors under its Stock Option Plan adopted effective
November 18, 1993, and its Stock Award Plan adopted effective December 10, 1996.
Options are granted at the discretion of the Board of Directors. Options granted
to date have terms of five to ten years and generally vest in two or more equal
annual installments. The options are not transferable or assignable.
The following table sets forth certain information concerning grants of
options to purchase Common Shares to individuals who were directors or executive
officers of the Company during the fiscal year ended July 31, 1997:
- 40 -
<PAGE>
OPTION GRANTS IN LAST FISCAL YEAR
<TABLE>
Number of Percentage of
Shares Total Options Market
Underlying Granted to Exercise Price on
Options Employees in Price Grant Date
Name Granted Fiscal Year ($/share) ($/share) Expiration Date
- ---- ------- ----------- --------- --------- ---------------
<S> <C> <C> <C> <C> <C>
Gene K. Balzer, Ph.D. -- -- -- -- --
Brandon M. Dawson -- -- -- -- --
William DeJong -- -- -- -- --
Randall E. Drullinger -- -- -- -- --
Kathy A. Foltner 25,000(1) 8.2% $7.25 $7.25 Feb. 5, 2002
Gregory J. Frazer, Ph.D. 80,000(2) 26.4 6.50 8.80 Oct. 1, 2001
Douglas F. Good -- -- -- -- --
Hugh T. Hornibrook -- -- -- -- --
Edwin J. Kawasaki 34,000(3) 11.2 5.60 5.60 May 8, 2002
</TABLE>
- --------------
(1) One-half of Ms. Foltner's options became exercisable on November 1,
1997, with the balance becoming exercisable on November 1, 1998.
(2) One-half of Mr. Frazer's options became exercisable on October 1,
1997, with the balance becoming exercisable on October 1, 1998.
(3) One-half of Mr. Kawasaki's options became exercisable on August 12,
1997, with the balance becoming exercisable on August 12, 1998.
- 41 -
<PAGE>
OPTION EXERCISES AND FISCAL YEAR-END VALUES
The following table sets forth certain information regarding option
exercises during the fiscal year ended July 31, 1997, and the fiscal year-end
value of unexercised options held by individuals who were directors or executive
officers of the Company during the 1997 fiscal year:
<TABLE>
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR
AND FISCAL YEAR-END OPTION VALUES
Number of Securities
Underlying
Unexercised Value of Unexercised
Options at In-the-Money Options
July 31, 1997 at July 31, 1997(2)
---------------------- -------------------
Shares
Acquired on Value Unexer-
Name Exercise Realized(1) Exercisable Unexercisable Exercisable cisable
- ----------------------- ---------- ----------- ----------- ------------- ----------- -------
<S> <C> <C> <C> <C> <C> <C>
Gene K. Balzer, Ph.D. 40,000 $ 170,741 -- -- -- --
Brandon M. Dawson 50,000 211,420 60,000 -- $275,687 --
William DeJong -- -- 15,000 -- 35,275 --
Randall E. Drullinger -- -- 40,000 -- -- --
Kathy A. Foltner -- -- -- 25,000 -- --
Gregory J. Frazer, -- -- -- 80,000 -- --
Ph.D.
Douglas F. Good 45,000 180,118 -- -- -- --
Hugh T. Hornibrook -- -- 40,000 -- -- --
Edwin J. Kawasaki -- -- -- 34,000 -- $11,900
</TABLE>
- --------------
(1) The value realized was calculated based on the excess of the closing
sale price of the Common Shares reported on the ASE on the date of
exercise over the exercise price.
(2) The value shown was calculated based on the excess of the closing sale
price of the Common Shares reported on the ASE on July 31, 1997, over
the per share exercise price of the unexercised in-the-money options.
EMPLOYMENT AND CONSULTING AGREEMENTS
The Company has entered into employment agreements with Brandon M.
Dawson, its President and Chief Executive Officer, Edwin J. Kawasaki, its Vice
President-Finance and Chief Financial Officer, and Randall E. Drullinger, its
Vice President-Marketing, effective December 24, 1997. The term of each
agreement expires on December 24, 2001, subject to automatic one-year extensions
annually unless either party gives six months' prior written notice of
non-extension. The agreements provide for annual base salaries of $195,000,
$115,000, and $104,000 to Messrs. Dawson, Kawasaki, and Drullinger,
respectively, subject to such increases (but not decreases) as are determined
from time to time by the Board or a compensation committee designated by the
Board. Each executive will be eligible to receive an annual incentive bonus
beginning with the 1998 fiscal year in an amount to be determined by the Board
up to a specified percentage of the executive's base salary as follows: Mr.
Dawson, 100%; Mr. Kawasaki, 50%; and Mr. Drullinger, 50%. In addition, upon
execution of his agreement, Mr. Kawasaki received a bonus for services performed
in the 1997 fiscal year in the amount of $42,500. The agreements provide that
the executives will be entitled to participate in all of the Company's
compensation plans covering key executive and managerial employees, including,
without limitation, medical, disability and life
- 42 -
<PAGE>
insurance benefits and vacation pay, as well as reimbursement for the lease of
an automobile up to $12,000 per year for Mr. Dawson and $6,000 per year for each
of Messrs. Kawasaki and Drullinger. The Company will also provide Mr. Dawson
with an equity split-dollar life insurance policy with a face amount of
$2,000,000, provided that the premiums paid by the Company per year will not
exceed $20,000, to be recovered from the death benefits, surrender value or loan
proceeds payable on the policy.
In February 1998, the Company granted nonqualified stock options to the
executives as contemplated by the employment agreements as follows:
(a) Mr. Dawson--353,600 shares at an exercise price of $6.75, 78,400
shares at an exercise price of $10.00, and 98,000 shares at an exercise price of
$12.00;
(b) Mr. Kawasaki--121,600 shares at an exercise price of $6.75, 30,400
shares at an exercise price of $10.00, and 38,000 shares at an exercise price of
$12.00;
(c) Mr. Drullinger--44,000 shares at an exercise price of $6.75, 16,000
shares at an exercise price of $10.00, and 20,000 shares at an exercise price of
$12.00.
Each of the options will vest in four equal annual installments beginning one
year following the date of grant and will expire 10 years after the date of
grant. The options will become exercisable in full in the event that, within one
year (two years in the case of Mr. Dawson) following a change in control of the
Company, the executive's employment is terminated by the Company without cause,
or the executive experiences a material demotion in status or position or a
material change in his duties that is inconsistent with his position at the
Company, his base salary is reduced, or his participation in the Company's
compensation plans is not continued on a level comparable with other key
executives (each of the foregoing events constitutes "good reason"). A change in
control of the Company will be deemed to occur if (i) a person acquires
beneficial ownership of 50% or more of the combined voting power of the Company,
with certain exceptions, (ii) the incumbent directors (or nominees approved by a
majority of the incumbent directors, including subsequently approved directors)
cease to constitute at least a majority of the directors of the Company, or
(iii) a reorganization, amalgamation or sale of all or substantially all the
assets of the Company, with certain exceptions, is consummated. A portion of Mr.
Dawson's options will also become exercisable based on the time elapsed
following the date of grant in the event that his employment is terminated by
the Company without cause or by Mr. Dawson for "good reason."
The agreements with Messrs. Dawson, Kawasaki, and Drullinger include an
agreement on the part of each executive not to compete with the Company for a
period of two years (three years with respect to Mr. Dawson) after the
executive's employment with the Company is terminated. If the executive's
employment is terminated by reason of death, the Company will pay to the
executive's personal representative his base salary through the date of death,
together with any accrued benefits (including death benefits) to which the
executive is entitled under the terms of the Company's compensation plans. In
the event of the executive's termination due to disability, the executive will
be entitled to receive his base salary reduced by any benefits paid under the
Company's group long-term disability insurance plan for the remaining term of
the agreement and the portion of his annual bonus relating to the period before
his disability. If the executive's employment is terminated by the Company for
cause or the executive terminates his employment voluntarily without good
reason, the Company will pay the executive his base salary through the effective
date of termination, together with any accrued benefits to which the executive
is entitled under the terms of the Company's compensation plans. Cause includes
a material act of fraud, dishonesty or moral turpitude, gross negligence or
intentional misconduct. Good reason includes a material demotion in the
executive's status or position, a material change in his duties that is
inconsistent with his position, a reduction in his base salary, or a failure to
continue his participation in the Company's compensation plans on terms
comparable to other key executives. If the executive's employment is terminated
by the Company without cause or by the executive with good reason, the Company
will pay the executive's base salary through the termination date, plus an
amount of severance pay equal to, with respect to Messrs. Kawasaki and
Drullinger, one times the executive's base salary payable in 12 monthly
installments and, with respect to Mr. Dawson, two times the sum of his base
salary and his
- 43 -
<PAGE>
average annual bonus for the prior two fiscal years payable in 24 monthly
installments. In addition, upon such termination without cause or with good
reason, the Company will afford continued participation in the Company's
compensation plans (or, if not permitted under the general provisions of any
such plan, will provide a substantially equivalent benefit) for two additional
years in the case of Mr. Dawson and for one year in the case of Messrs. Kawasaki
and Drullinger.
Effective January 1, 1997, the Company entered into a five-year
consulting agreement with Hugh T. Hornibrook, a director of the Company, under
which the Company pays Mr. Hornibrook a retainer of $71 per month and $88 per
hour (each converted from Canadian dollars at April 1, 1998) for consulting
services on an as-needed basis.
Since January 1, 1997, the Company has retained NeuroDynamic Systems,
Inc., at the rate of $6,000 per month, to provide consulting services in
connection with the Company's Canadian operations and the development of a
training program for audiologists. The consulting arrangement may be canceled at
any time by the Company. Gene K. Balzer, Ph.D., a former director of the
Company, is president and sole shareholder of NeuroDynamic Systems, Inc.
On October 31, 1996, the Company entered into a three-year employment
agreement with Kathy A. Foltner, its Vice President-Operations, that provides
for a salary of $85,000 per year. The employment agreement also provides for
certain employee benefits and options to purchase up to 25,000 Common Shares at
$7.25 per share included in the table under "Option Grants" above. The agreement
contains covenants not to compete with and not to solicit employees, clients, or
customers of the Company during her period of employment and for 36 full
calendar months following termination of her employment.
On October 1, 1996, the Company entered into a five-year employment
agreement with Gregory J. Frazer, its Vice President-Business Development, that
provides for a base salary of $110,000 per year and for a bonus based on the
aggregate net income of the hearing clinics acquired by the Company that were
previously owned, in part, by Mr. Frazer. The employment agreement provides Mr.
Frazer with certain fringe benefits such as medical and dental insurance,
vacation, professional liability insurance, an automobile allowance,
reimbursement of certain expenses, and options to purchase up to 40,000 Common
Shares at $6.50 per share. Mr. Frazer also received an additional 40,000 options
to purchase Common Shares at $6.50 per share upon his election as a director of
the Company. Mr. Frazer has also entered into an agreement with the Company
which contains covenants not to compete with and not to solicit employees,
clients or customers of the Company on behalf of a competitor during his period
of employment and for three years following termination of his employment.
OPTION PLANS
Effective November 18, 1993, the Board adopted and the shareholders of
the Company approved a stock option plan (the "1993 Plan"). Options to purchase
320,000 Common Shares were outstanding under the 1993 Plan at December 31, 1997.
No additional stock options will be granted under the 1993 Plan.
Effective December 10, 1996, the Board adopted a Stock Award Plan
providing for the grant of options to employees of the Company. The Board
subsequently amended and restated the Stock Award Plan effective February 5,
1997, and adopted a second amendment and restatement effective October 15, 1997,
which was approved by the shareholders of the Company on December 5, 1997. On
February 9, 1998, shareholders approved an amendment to the Stock Award Plan to
increase the number of Common Shares which may be made the subject of awards
from 600,000 to 1,800,000 Common Shares. At April 1, 1998, 2,400 options granted
under the Stock Award Plan had been exercised, options to purchase a total of
1,420,000 Common Shares were outstanding, and 377,600 Common Shares were
available for future grants of awards.
- 44 -
<PAGE>
CERTAIN TRANSACTIONS
On October 1, 1996, the Company acquired 11 hearing care clinics in
Southern California through the acquisition of all of the outstanding shares of
three companies owned by Gregory J. Frazer, Ph.D., who was subsequently
appointed Vice President-Business Development and a director of the Company, his
wife, Carissa Bennett, and Jami Tanihana (the "HCA Shareholders"). The
consideration paid by the Company consisted of $314,724 in cash and 474,907
Common Shares of which Mr. Frazer and Ms. Bennett received a total of 294,071
shares. Mr. Frazer and Ms. Bennett also received a total of $196,294 in payment
for covenants not to compete.
The HCA Shareholders have the right, until September 30, 2001, to
require the Company to redeem an aggregate of 3,000 of their Common Shares as of
the last day of each calendar quarter at a price of $8.35 per share. The
redemption rights are noncumulative and expire if not exercised as of the end of
any calendar quarter as to such quarter. Pursuant to such redemption rights, the
Company has redeemed a total of 5,280 Common Shares from Ms. Tanihana, 1,320
Common Shares from Ms. Bennett and 360 Common Shares from Mr. Frazer for
consideration of $44,089, $11,022, and $3,006, respectively.
During 1997, the Company acquired six additional hearing clinics in
Southern California in which Mr. Frazer was part-owner. Of the aggregate cash
purchase price of $1,217,231 for the six clinics, Mr. Frazer and Ms. Bennett
received a total of $560,377. Mr. Frazer and Ms. Bennett also received the sum
of $147,654 in payment for covenants not to compete in connection with the
acquisitions. During 1998, the Company has acquired two additional clinics in
California in which Mr. Frazer was part-owner. Mr. Frazer received $136,500 of
the total purchase price of $237,000. He also received $19,020 in payment for
covenants not to compete.
On October 31, 1996, the Company acquired the Midwest Division in
exchange for convertible subordinated notes made payable to certain affiliates
of the seller, Hearing Health Services, Inc., in the aggregate amount of
$2,600,000, convertible into 400,000 Common Shares, and the assumption of a
promissory note with a balance of $360,000 payable to Kathy A. Foltner, Vice
President-Operations of the Company. The promissory note is payable in equal
annual installments of $120,000 that began on July 1, 1997, and bears interest
at 6% per annum. The balance of the promissory note at December 31, 1997, was
$240,000. In addition to the promissory note, the Company also agreed to assume
an obligation of the Midwest Division to pay Ms. Foltner $50,000 in each of
1997, 1998, and 1999, if specified production goals are met. The Company paid
Ms. Foltner $62,500 for the period from October 1, 1996 to March 31, 1998. The
Company also agreed to register the shares issuable upon conversion of the
convertible subordinated notes under the Securities Act. Such shares are covered
by this Prospectus.
Under the terms of an escrow agreement dated January 14, 1994, among
the Company, Michael G. Thomson, Craig R. Thomson, Murray T.A. Campbell, Bruce
A. Ramsay and William DeJong (the "Founding Shareholders"), and a trustee,
600,000 Common Shares were issued to the Founding Shareholders in exchange for
an aggregate of $100,000 in cash and deposited in escrow with the trustee. As of
October 21, 1997, all of the shares had been released from escrow.
Douglas F. Good, Marilyn Marshall, and Trudy McCaffery (the "Fraserview
Shareholders"), the Company, and a trustee entered into an escrow agreement
dated October 7, 1994, 850,000 shares of Common Stock (the "Performance Shares")
that were issued to the Fraserview Shareholders in connection with the Company's
acquisition of Fraserview Hearing & Speech Clinic Ltd. Pursuant to a purchase
and sale agreement (the "Share Purchase Agreement") dated as of April 15, 1996,
between the Fraserview Shareholder and Brandon M. Dawson, Roger W. Larose,
Randall E. Drullinger and Hugh T. Hornibrook (the "Purchasers"), the Fraserview
Shareholders sold all of the Performance Shares to the Purchasers for an
aggregate consideration of $601,637 (converted from Canadian dollars at April
15, 1996). Pursuant to an assignment and novation agreement dated as of August
28, 1996, Roger W. Larose assigned all of his right, title and interest in the
Share Purchase Agreement to Brandon M. Dawson. In addition, pursuant to an
assignment and novation agreement dated as of February 27, 1997, Mr. Hornibrook
assigned all of his right, title, and interest in the Share Purchase Agreement
to Edwin J. Kawasaki.
- 45 -
<PAGE>
As a result of the Share Purchase Agreement and assignments, Messrs. Dawson,
Drullinger and Kawasaki hold 780,000, 50,000 and 20,000 Performance Shares,
respectively. The Performance Shares were released from escrow effective
February 11, 1998.
From 1994 through July 31, 1996, Douglas F. Good, a shareholder and
director of the Company and its former chief executive officer, advanced funds
to the Company for short-term working capital and acquisitions. Interest on the
advances accrued at 9% per annum. The Company paid Mr. Good aggregate interest
of $43,001 for the three-year period ended July 31, 1996 and the highest
outstanding balance during such period was $240,167 during January 1995. As of
July 31, 1996, the total of the advances and all accrued interest had been
repaid.
On August 16, 1996, Douglas F. Good, a director of the Company,
exercised options for 45,000 Common Shares at $3.65 per share (converted from
Canadian dollars at August 16, 1996). In connection with such exercise, Mr. Good
paid the Company $163,744.
William DeJong is a partner in the Calgary, Alberta law firm of Ballem
MacInnes. Mr. DeJong currently serves as a director of the Company. During the
period from October 15, 1994, to May 31, 1998, total fees, disbursements and
government sales tax paid to Ballem MacInnes by the Company for legal services
were approximately $357,000. Mr. DeJong was granted options to purchase 10,000
Common Shares at $0.35 per share in November 1993, which he exercised on
February 22, 1996.
On January 11, 1996, Michael G. Thomson, a Founding Shareholder,
exercised options for 40,000 Common Shares at $0.35 per share (converted from
Canadian dollars at January 11, 1996). In connection with such exercise, Mr.
Thomson paid the Company $14,657.
On May 19, 1997, Gene K. Balzer, a former director of the Company,
exercised options to purchase 40,000 shares of Common Stock at $1.40 per share
(converted from Canadian dollars on May 19, 1997). In connection with such
exercise, the Company loaned Mr. Balzer $56,000 to pay the aggregate exercise
price of the options. Interest on the loan accrues at 10% per annum.
Under a settlement agreement between the Company and Roger W. Larose,
formerly the Company's chief operating officer, the Company agreed to pay the
exercise price of 40,000 options to purchase Common Shares held by Mr. Larose.
On April 1, 1996, Mr. Larose exercised options for 20,000 Common Shares at $1.40
per share and Douglas F. Good, as an advance to and on behalf of the Company,
paid the exercise price of $28,048 to the Company. On September 30, 1996, Mr.
Larose exercised options for an additional 20,000 Common Shares at $1.40 per
share and Mr. Good, as an advance to and on behalf of the Company, paid the
exercise price of $27,900 to the Company.
Brandon M. Dawson subsequently executed promissory notes in favor of
Mr. Good equal to the amounts advanced by Mr. Good in connection with the
options exercised by Mr. Larose, and Mr. Dawson was substituted for Mr. Good as
the obligee with respect to such advances. Interest on the advances accrued at
the rate of 9% per annum. The advances were repaid to Mr. Good by the Company on
December 26, 1997, along with interest in the amount of $7,147, thereby
satisfying Mr. Dawson's obligations to Mr. Good.
On October 5, 1997, the Company loaned Mr. Dawson $85,000 in connection
with the purchase of his residence. The loan was repaid on April 10, 1998, along
with interest at 10% per annum in the amount of $4,308. On December 26, 1997,
the Company loaned Mr. Dawson $30,639 in order to allow Mr. Dawson to repay an
advance from Mr. Good in connection with the exercise by Mr. Dawson of options
to purchase 20,000 Common Shares. The loan bears interest at 7.75% per annum and
is due on November 1, 1999.
On April 1, 1996, Brandon M. Dawson exercised options for 20,000 Common
Shares at $1.40 per share. In connection with such exercise, Mr. Dawson paid the
Company $28,048. On March 19, 1998, the Company
- 46 -
<PAGE>
loaned Mr. Dawson $34,298 in order to pay taxes incurred as a result of Mr.
Dawson's option exercises on April 1, 1996. The loan bears interest at 7.75% per
annum and is due on November 1, 1999.
On May 8, 1997, Mr. Dawson exercised options for 50,000 Common Shares
at $1.35 per share in order to allow options for Common Shares to be granted to
other employees. In connection with such exercise, the Company loaned Mr. Dawson
$67,500 to pay the aggregate exercise price of the options. The loan, which
bears interest at 10% per annum, is due on November 1, 1999. In addition, on
April 24, 1998, the Company loaned Mr. Dawson $91,000 in order to pay taxes
incurred as a result of Mr. Dawson's option exercise on May 8, 1997. The
additional loan bears interest at 7.75% per annum and is due on November 1,
1999.
- 47 -
<PAGE>
PRINCIPAL SHAREHOLDERS
The following table gives information regarding the beneficial
ownership of Common Shares as of June 1, 1998, by each of the Company's
directors, by certain of the Company's executive officers, and by the
Company's present directors and executive officers as a group. In addition,
it gives information, including addresses, regarding each person or group known
to the Company to own beneficially more than 5% of the outstanding Common Shares
or Convertible Shares. Information as to beneficial stock ownership is based on
data furnished by the persons concerning whom such information is given. Unless
otherwise indicated, all shares listed as beneficially owned are held with sole
voting and investment power. The numbers in the table include Common Shares as
to which a person has the right to acquire beneficial ownership through the
exercise or conversion of options, purchase warrants or convertible securities
within 60 days after June 1, 1998.
<TABLE>
=============================================================================================================================
Amount and
Class Nature % of % of
of of "Beneficial Common Preferred
Name Shares Ownership"(1)(2) Shares(1)(2) Shares
<S> <C> <C> <C>
- -----------------------------------------------------------------------------------------------------------------------------
Joel Ackerman Common -- -- --
- -----------------------------------------------------------------------------------------------------------------------------
A. Baron Cass III Common 326,702(3) 5.5% --
5005 LBJ Freeway, Ste. 1130
Dallas, Texas 75244
- -----------------------------------------------------------------------------------------------------------------------------
Brandon M. Dawson Common 910,000 15.4% --
111 S.W. Fifth Ave., Ste. 2390
Portland, Oregon 97204
- -----------------------------------------------------------------------------------------------------------------------------
William DeJong Common 31,440 * --
- -----------------------------------------------------------------------------------------------------------------------------
Gregory J. Frazer, Ph.D. Common 342,391(4) 5.8% --
18531 Roscoe Blvd., Ste. 201
Northridge, California 91324
- -----------------------------------------------------------------------------------------------------------------------------
Douglas F. Good Common 241,912 4.1% --
- -----------------------------------------------------------------------------------------------------------------------------
Hugh T. Hornibrook Common 40,000 * --
- -----------------------------------------------------------------------------------------------------------------------------
Robertson Stephens Investment Common 764,800(5) 13.1% --
Management Co.
555 California Street, Suite 2600
San Francisco, California 94104
- -----------------------------------------------------------------------------------------------------------------------------
Warburg, Pincus & Co.(6) Common 4,666,666(6) 44.3% --
466 Lexington Avenue Preferred 13,333,333(6) -- 100%
New York, New York 10017-3147
- -----------------------------------------------------------------------------------------------------------------------------
All directors and executive officers as a Common 1,709,544 28.0% --
group (9 persons)
=============================================================================================================================
</TABLE>
- --------------
*Less than 1% of the outstanding Common Shares.
(1) "Beneficial ownership" includes Common Shares that the person has
the right to acquire through the exercise or conversion of options,
purchase warrants or convertible securities within 60 days after June
1, 1998, as follows: A. Baron Cass III, 80,000 shares; Brandon M.
Dawson, 60,000 shares; William
- 48 -
<PAGE>
DeJong, 15,000 shares; Gregory J. Frazer, Ph.D., 50,000 shares; Hugh T.
Hornibrook, 40,000 shares; Warburg, Pincus & Co., 4,666,666 shares; and
all directors and executive officers as a group, 237,500 shares.
(2) Calculated in accordance with Rule 13d-3(d)(1) under the Securities
Exchange Act of 1934, pursuant to which Common Shares as to which a
person has the right to acquire beneficial ownership through the
exercise or conversion of options, purchase warrants or convertible
securities within 60 days after June 1, 1998, have been included in
shares deemed to be outstanding for purposes of computing percentage
ownership by such person.
(3) Includes Common Shares beneficially owned by the Cass Family
Foundation, the Cass Childrens Trust, and the Prime Petroleum Profit
Sharing Trust.
(4) Includes 49,298 Common Shares held by Carissa Bennett, Mr. Frazer's
wife.
(5) Approximate number of shares publicly disclosed as held by investment
funds managed by Robertson Stephens Investment Management Co.
(6) Warburg, Pincus & Co. is the general partner of Warburg, Pincus
Ventures, L.P., the record owner of 13,333,333 Convertible Shares,
together with warrants to purchase 2,000,000 Common Shares. Each
Convertible Share is entitled to one-fifth of a vote. The Convertible
Shares vote together with the Common Shares as a single class. The
Convertible Shares held by Warburg represent approximately 31% of the
combined voting power of outstanding securities. Of the 4,666,666
Common Shares shown as beneficially owned by Warburg, 2,666,666 shares
represent the Common Shares issuable upon conversion of the 13,333,333
Convertible Shares outstanding.
DESCRIPTION OF CAPITAL STOCK
The authorized capital stock of the Company consists of an unlimited
number of Common Shares and an unlimited number of Preferred Shares. As of June
1, 1998, the Company had outstanding 5,859,917 Common Shares, 13,333,333
Convertible Shares, and certain options and warrants for the purchase of Common
Shares and Convertible Securities, convertible into Common Shares as set forth
in detail below. The Company is incorporated under the laws of Alberta, Canada.
The Board has the authority to issue Preferred Shares in one or more
series and to fix the number of shares comprising any such series and the
designations, rights, privileges, restrictions, and conditions attaching
thereto, including the rate or amount of dividends or the method of calculating
dividends, the dates of payment of dividends, the redemption, purchase, and/or
conversion price or prices and the terms and conditions of any such redemption,
purchase, and/or conversion, and any sinking fund or other provisions, without
any further vote or action by the holders of Common Shares. The only outstanding
series of Preferred Shares is the Convertible Shares, consisting of 13,333,333
Preferred Shares issued to Warburg on December 24, 1997. A summary of certain of
the preferences, limitations and relative rights of the Convertible Shares is
set forth below.
COMMON SHARES
Voting Rights. Holders of Common Shares are entitled to one
--------------
vote per share at all meetings of shareholders of the Company. Except as
otherwise required by law or unless the Board determines otherwise with respect
to a particular series of Preferred Shares, the Common Shares and all series of
Preferred Shares having voting rights will vote together as one class. Under the
Business Corporations Act (Alberta), the holders of each class of shares are
generally entitled to vote as a separate class (whether or not such class
otherwise has voting rights) upon any proposal to amend the Company's articles
of incorporation ("Articles") to (i) increase or decrease
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<PAGE>
the maximum number of authorized shares of that class, (ii) increase the maximum
number of authorized shares of another class having rights or privileges equal
or superior to those of that class, (iii) effect an exchange, reclassification
or cancellation of all or a portion of the shares of that class, (iv) add,
change or remove the rights, privileges, restrictions or conditions attached to
that class, (v) increase the rights or privileges of any class having rights or
privileges equal or superior to those of that class, (vi) create a new class
having rights or privileges equal or superior to those of that class, (vii)
change the rights or privileges of any class with inferior rights or privileges
such that they are equal to or superior to those of that class; (viii) effect an
exchange of shares of another class into the shares of that class, or (ix)
restrict the issue or transfer of the shares of that class or extend or remove
that restriction.
Other. All Common Shares rank ratably with regard to dividends (if and
-----
when declared by the Board). In the event of a liquidation, dissolution, or
winding up of the Company, holders of Common Shares are entitled to share
equally and ratably in the assets of the Company, if any, remaining after the
payment of all liabilities of the Company and the liquidation preference of any
outstanding class or series of Preferred Shares. The Common Shares do not have
preemptive rights. All outstanding Common Shares are fully paid and
nonassessable.
CONVERTIBLE SHARES
Certain of the preferences, limitations and relative rights of the
Convertible Shares are summarized below.
Voting Rights. Each Convertible Share is entitled to one-fifth of a
--------------
vote (or such other number of votes equal to the number of Common Shares into
which such Convertible Share shall be convertible from time to time) in the
election of directors and any other matters presented to the shareholders of the
Company for their action or consideration. Except to the extent otherwise
required by law or the Company's Articles, holders of Convertible Shares and of
any other outstanding Series of Preferred Shares will vote together with the
holders of Common Shares as a single class. Any change in the rights and
preferences of the Convertible Shares will require the approval of the holders
of at least 66-2/3% of the outstanding Convertible Shares, voting separately as
a class.
Dividends. Each Convertible Share is entitled to receive, when, as
----------
and if declared by the Board out of the Company's assets legally available for
payment, cumulative dividends from the date of original issuance, payable
annually at a rate of 5% per annum on a base amount of $1.35 per share (the
"Base Amount"). All accrued and unpaid dividends will be forfeited upon the
conversion of the Convertible Shares. The dividend rate will be subject to
increase on specified dates in the event that certain conditions (the
"Triggering Conditions") have not been met. The Triggering Conditions are as
follows:
(a) The Common Shares are listed on the New York Stock Exchange,
the American Stock Exchange, or the Nasdaq National Market (each a
"U.S. Principal Market");
(b) The Common Shares are traded on a U.S. Principal Market at a
daily closing price greater than $12.00 per Common Share on each of the
ten consecutive trading days preceding the applicable date; and
(c) The Company's net income before income taxes, dividends on the
Convertible Shares, and amortization of goodwill and covenants not to
compete for the three consecutive fiscal quarters preceding the
applicable date shall have averaged at least $.35 per fully diluted
Common Share per fiscal quarter (for purposes of making this
calculation, the Common Shares issuable upon the exercise of the
Warrants will not be counted).
If the Triggering Conditions have not been met by:
(x) January 1, 2003, the dividend rate will thereafter be 15% per
annum of the Base Amount;
(y) January 1, 2004, the dividend rate will thereafter be 18% per
annum of the Base Amount; or
- 50 -
<PAGE>
(z) January 1, 2005, the dividend rate will thereafter be 21% per
annum of the Base Amount.
As soon as the Triggering Conditions have been satisfied, the dividend rate will
revert to 5% per annum of the Base Amount. All references to per share amounts
or prices with respect to the Triggering Conditions will be adjusted for any
subdivision, consolidation, or reclassification of the Common Shares.
Dividends on the Convertible Shares may, in the discretion of the Board
and subject to applicable regulatory approvals at the time of payment, be paid
in Common Shares based on the market price of such shares. Accruals of dividends
on the Convertible Shares will not bear interest.
No dividends on the Common Shares or any other share capital ranking,
as to dividends, equal to or junior to the Convertible Shares as to dividends
may be declared or paid unless full accumulated dividends on the Convertible
Shares have been paid or declared and sufficient funds set aside for such
payment. The foregoing prohibition will not apply to dividends or distributions
payable in Common Shares or certain other comparable actions.
Liquidation Preference. In the event of any voluntary or involuntary
-----------------------
liquidation, dissolution, or winding up of the Company subject to the rights of
holders of any securities of the Company ranking senior to the Convertible
Shares upon liquidation, the holders of Convertible Shares will be entitled to
receive, out of the assets of the Company available for distribution to
shareholders, before any distribution of assets is made to holders of Common
Shares or any other securities ranking junior to the Convertible Shares upon
liquidation, a liquidating distribution in an amount equal to the greater of (i)
$1.35 per share plus any accrued and unpaid dividends or (ii) the amount that
would have been distributable to such holders if they had converted their
Convertible Shares into Common Shares immediately prior to such dissolution,
liquidation, or winding up, plus any accrued and unpaid dividends. The sale,
conveyance, mortgage, pledge or lease of all or substantially all the assets of
the Company will be deemed to be a liquidation of the Company for purposes of
the liquidation rights of the holders of Convertible Shares. After payment of
the full amount of the liquidating distribution to which they are entitled, the
holders of Convertible Shares will have no right to any of the remaining assets
of the Company.
Optional Redemption. The Convertible Shares may not be redeemed
-------------------
before January 1, 2003. Thereafter, the Convertible Shares may be redeemed at
the option of the Company, in whole or in part. The redemption price will be an
amount equal to the greater of (i) $1.35 per share plus any accrued and unpaid
dividends or (ii) the fair market value of a Convertible Share as determined by
a nationally recognized independent investment banking firm selected by mutual
agreement of the Company and the holder of a majority of the outstanding
Convertible Shares. The Convertible Shares are not subject to mandatory
redemption or any sinking fund provisions.
Conversion Rights. The Convertible Shares may be converted at any
-----------------
time, in whole or in part, at the option of the holder thereof, into Common
Shares. The conversion rate is presently equal to one Common Share for every
five Convertible Shares surrendered for conversion. The conversion rate is
subject to further adjustment for stock dividends, stock splits,
recapitalizations, and other anti-dilution adjustments. Upon the conversion of
any Convertible Shares, any accrued and unpaid dividends with respect to such
shares will be forfeited. The Company has the right to force conversion of the
Convertible Shares, in whole or in part, upon satisfaction of all the Triggering
Conditions. Common Shares issuable upon conversion of the Convertible Shares
will be fully paid and nonassessable and will not have preemptive rights.
Preemptive Rights. The Convertible Shares do not have preemptive
-----------------
rights.
WARRANTS
At June 1, 1998, the Company had outstanding share purchase warrants as
follows:
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<PAGE>
(1) Share purchase warrants (the "September Warrants") governed by
an indenture dated September 17, 1996 (the "September Warrants"),
between the Company and the Trustee, as trustee and warrant agent, to
purchase 1,093,482 Common Shares at an exercise price of $10.00 per
share until August 31, 1998. If the closing bid for the Common Shares
is in excess of $15.00 per share on each of 20 consecutive trading
days, the Company has the option, upon 45 days' prior written notice to
the holders, to force the exercise or cancellation of the September
Warrants.
(2) Share purchase warrants, issued as part of the fees paid to
the Company's placement agents in private placements of the Company's
securities in Canada and the United States during 1996, to purchase
99,180 Common Shares at an exercise price of $6.25 per share until
August 31, 1998. The Company has the option upon 45 days' prior written
notice to force the exercise or cancellation of the warrants if the
closing bid for the Common Shares on AMEX is at least $15.00 per share
on each of 20 consecutive trading days.
(3) Share purchase warrants issued in connection with the private
placement of the Convertible Shares in December 1997 to purchase
2,000,000 Common Shares at an exercise price of $12.00 per share until
December 24, 2002. The Company may force the exercise of the warrants
upon satisfaction of all the Triggering Conditions.
The share amounts and exercise prices of all outstanding share purchase
warrants are subject to adjustment under certain circumstances, including any
subdivision, consolidation, or reclassification of the Common Shares or any
reorganization of the Company.
CONVERTIBLE SECURITIES AND STOCK OPTIONS
At June 1, 1998, the Company had outstanding convertible subordinated
notes in an aggregate principal amount of $2,600,000 convertible into 400,000
Common Shares, 13,333,333 Convertible Shares convertible into 2,666,666 Common
Shares, and stock options held by employees, directors and officers of, and
consultants to, the Company exercisable for a total of 1,460,000 Common Shares.
CANADIAN FEDERAL INCOME TAX CONSIDERATIONS
Following is a summary of the principal Canadian federal income tax
considerations by Felesky Flynn, Barristers and Solicitors, tax counsel to the
Company, under the Income Tax Act (Canada) (the "Tax Act") and the regulations
thereunder generally applicable to a holder who acquires Common Shares pursuant
to this offering and who, for purposes of the Tax Act, holds such shares as
capital property and deals at arm's length with the Company. Generally, Common
Shares will be considered to be capital property to a holder provided the holder
does not hold the Common Shares in the course of carrying on a business and has
not acquired them in one or more transactions considered to be an adventure in
the nature of trade. Special rules apply to non-resident insurers that carry on
an insurance business in Canada and elsewhere.
This summary is based upon the provisions of the Tax Act in force as of
the date hereof, all specific proposals to amend the Tax Act that have been
publicly announced prior to the date hereof (the "Proposed Amendments") and
counsel's understanding of the current published administrative and assessing
policies and practices of Revenue Canada, Customs, Excise and Taxation ("Revenue
Canada"). For the purposes of this summary, it has been assumed that the Tax Act
will be amended as proposed, although no assurance can be given in this regard.
This summary is not exhaustive of all possible federal income tax consequences
and, except for the Proposed Amendments, does not anticipate any changes in the
law, whether by legislative, governmental or judicial decision or action, nor
does it take into account provincial, territorial or foreign tax considerations,
which may differ significantly from those discussed herein. This summary is not
applicable to subscribers who are traders or dealers in securities, a holder
that is a "financial institution" as defined in the Tax Act for purposes of the
mark-to-market
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<PAGE>
rules, or to a holder of an interest which would be a "tax shelter investment"
as defined in the Proposed Amendments.
THIS SUMMARY IS OF A GENERAL NATURE ONLY AND IS NOT INTENDED TO BE, AND
SHOULD NOT BE CONSTRUED TO BE, LEGAL OR TAX ADVICE TO ANY PARTICULAR HOLDER.
ACCORDINGLY, HOLDERS SHOULD CONSULT THEIR INDEPENDENT TAX ADVISERS FOR ADVICE
WITH RESPECT TO THE INCOME TAX CONSEQUENCES RELEVANT TO THEIR PARTICULAR
CIRCUMSTANCES.
The following applies to holders who acquire Common Shares pursuant to
this offering, who are not resident in Canada for purposes of the Tax Act and
who do not use or hold and are not deemed to use or hold their Common Shares in,
or in the course of, carrying on a business in Canada.
DISPOSITIONS OF COMMON SHARES
A non-resident holder will, upon a disposition or deemed disposition of
Common Shares, not be subject to taxation in Canada on any gain realized on the
disposition unless the shares are "taxable Canadian property" for the purposes
of the Tax Act and no relief is afforded under an applicable tax convention
between Canada and the country of residence of the holder. Since the Common
Shares are listed on a prescribed stock exchange for the purposes of the Tax
Act, Common Shares held by a non-resident holder will generally not be "taxable
Canadian property" unless, at any time during the five-year period immediately
preceding the disposition, the non-resident holder, persons with whom the
non-resident holder did not deal at arm's length, or the non-resident holder
together with such persons, owned or had the right to acquire 25% or more of the
issued shares of any class of the capital of the Company. Any interest in shares
or options in respect of shares will be considered to be the equivalent of
ownership of such shares for purposes of the definition of taxable Canadian
property.
Subject to the comments set out below in respect of the application of
the Canada-United States Income Tax Convention, 1980 (the "Convention") to U.S.
resident holders, non-residents whose shares constitute "taxable Canadian
property" will be subject to taxation thereon on the same basis as Canadian
residents unless otherwise exempted by an applicable tax convention between
Canada and the country of residence of the holder.
Pursuant to the Convention, shareholders of the Company that are
residents in the U.S. for the purposes of the Convention and whose shares might
otherwise be "taxable Canadian property" may be exempt from Canadian taxation in
respect of any gains on the disposition of the Common Shares, provided the
principal value of the Company is not derived from real property located in
Canada at the time of disposition.
Non-resident holders who might hold their Common Shares as "taxable
Canadian property" should consult their own tax advisers with respect to the
income tax consequences of a disposition of their Common Shares.
Non-resident holders whose shares are repurchased by the Company,
except in respect of certain purchases made by the Company in the open market,
will be deemed to have received the payment of a dividend by the Company in an
amount equal to the excess paid over the paid-up capital of the Common Shares so
purchased. Such deemed dividend will be excluded from the holder's proceeds of
disposition of the Common Shares for the purposes of computing any capital gain
or loss but will be subject to Canadian non-resident withholding tax in the
manner described below under "--Dividends."
DIVIDENDS
Dividends received by a non-resident holder of Common Shares will be
subject to Canadian withholding tax at the rate of 25% of the amount thereof
unless the rate is reduced under the provisions of an applicable tax convention
between Canada and the country of residence of the holder. The provisions of the
Convention generally reduce the rate to 15%. A further reduction to 5% under the
Convention will be available if the recipient is a company which owns at least
10% of the voting shares of the Company.
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<PAGE>
INVESTMENT CANADA ACT
The Investment Canada Act (the "ICA") prohibits the acquisition of
control of a Canadian business by non- Canadians without review and approval of
the Investment Review Division of Industry Canada, the agency that administers
the ICA, unless such acquisition is exempt from review under the provisions of
the ICA. The Investment Review Division of Industry Canada must be notified of
such exempt acquisitions. The ICA covers acquisitions of control of corporate
enterprises, whether by purchase of assets, shares or "voting interests" of an
entity that controls, directly or indirectly, another entity carrying on a
Canadian business. The ICA will have no effect on the acquisition of Shares
covered by this Prospectus.
Apart from the ICA, there are no other limitations on the right of
nonresident or foreign owners to hold or vote securities imposed by Canadian law
or the Company's Articles. There are no other decrees or regulations in Canada
that restrict the export or import of capital, including foreign exchange
controls, or that affect the remittance of dividends, interest or other payments
to nonresident holders of the Company's Common Shares, except as discussed
elsewhere herein.
OTHER
The foregoing is only a brief description of the rights and limitations
of the Common Shares and is subject to and qualified by reference to all
applicable provisions of the Business Corporations Act (Alberta) and the
Company's Articles.
TRANSFER AGENT
CIBC Mellon Trust Company and ChaseMellon Shareholder Services L.L.C.
are co-transfer agents and co-registrars for the Common Shares.
PLAN OF DISTRIBUTION
The Shares offered hereby may be offered and sold from time to time by
the Selling Shareholders. Such offers and sales may be made at prices and on
terms then prevailing or at prices related to the then-current market price, or
in negotiated transactions. The methods by which such Shares may be sold may
include, but not be limited to, the following: (a) a block trade in which the
broker or dealer so engaged will attempt to sell the Shares as agent but may
position and resell a portion of the block as principal to facilitate the
transaction; (b) purchases by a broker or dealer as principal and resale by such
broker or dealer for its account; (c) an exchange distribution in accordance
with the rules of such exchange; (d) ordinary brokerage transactions and
transactions in which the broker solicits purchasers; (e) privately negotiated
transactions; (f) short sales; and (g) a combination of any such methods of
sale. In effecting sales, brokers or dealers engaged by the Selling Shareholders
may receive commissions or discounts from the Selling Shareholders or from the
purchasers in amounts to be negotiated immediately prior to the sale. The
Selling Shareholders may also sell Shares in accordance with Rule 144 under the
Securities Act. The Company reserves the right to suspend transfers of the
Shares offered hereby if, in its reasonable judgment, such suspension is
necessary to ensure that all material information about the Company has been
properly disseminated to the public.
The Company has advised each Selling Shareholder that he or she and any
such brokers, dealers or agents who effect a sale of the Shares offered hereby
are subject to the prospectus delivery requirements under the Securities Act.
The Company also has advised each Selling Shareholder that in the event of a
"distribution" of his shares, such Selling Shareholder and any broker, dealer or
agent who participates in such distribution may be subject to applicable
provisions of the Securities Exchange Act of 1934 (the "Exchange Act") and the
rules and regulations thereunder, including, without limitation, the
anti-manipulation rules under the Exchange Act.
The Selling Shareholders and any brokers participating in such sales
may be deemed to be underwriters within the meaning of the Securities Act. There
can be no assurance that the Selling Shareholders will sell any or all of the
Shares offered hereby.
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<PAGE>
Any commission paid or any discounts or concessions allowed to any
broker, dealer, underwriter, agent or market maker and, if any such broker,
dealer, underwriter, agent or market maker purchases any of the Shares offered
hereby as principal, any profits received on the resale of such Shares, may be
deemed to be underwriting commissions or discounts under the Securities Act.
The Company agreed to register the shares of certain Selling
Shareholders under the Securities Act pursuant to various agreements. The
Company is bearing substantially all of the costs relating to the registration
of the Shares offered hereby, except commissions, discounts or other fees
payable to a broker, dealer, underwriter, agent or market maker in connection
with the sale of any of such Shares and the legal fees incurred by the Selling
Shareholders, all of which will be borne by the Selling Shareholders. The
Company will not receive any of the proceeds from the sale of the Shares offered
hereby.
LEGAL MATTERS
The legality of the shares offered hereby has been passed upon for the
Company by Ballem MacInnes, Calgary, Alberta. William DeJong, a partner in
Ballem MacInnes, is a director of the Company.
EXPERTS
The consolidated financial statements of the Company as of July 31,
1997, and for the year then ended have been included in this Prospectus in
reliance upon the report of KPMG Peat Marwick LLP, independent auditors,
appearing elsewhere herein and upon the authority of said firm as experts in
accounting and auditing.
The consolidated statement of operations of the Company for the year
ended July 31, 1996, has been included in this Prospectus in reliance upon the
report of Shikaze Ralston, Chartered Accountants, appearing elsewhere herein and
upon the authority of such firm as experts in accounting and auditing.
The financial statements of the Hearing Care Associates Group as of
July 31, 1996, and July 31, 1995, and the financial statements of the Midwest
Division of Hearing Health Services, Inc., as of June 30, 1996, and June 30,
1995, have been included in this Prospectus in reliance upon the reports of KPMG
Peat Marwick LLP, independent auditors, appearing elsewhere herein and upon the
authority of said firm as experts in accounting and auditing.
Effective December 20, 1996, upon the recommendation of the board of
directors and approval by the shareholders, the Company retained KPMG Peat
Marwick LLP as its independent auditors, replacing Shikaze Ralston. The Company
made the change in independent auditors due to its significant and growing
operations in the United States and its need to draw upon the services and
expertise of a large international accounting and auditing firm. The report of
Shikaze Ralston on the consolidated financial statements of the Company referred
to above does not contain an adverse opinion or disclaimer of opinion and is not
qualified as to uncertainty, audit scope, or accounting principles. In addition,
there were no disagreements with Shikaze Ralston on any matter of accounting
principles or practices, financial statement disclosure, or auditing scope or
procedure, which disagreements, if not resolved to the satisfaction of Shikaze
Ralston, would have caused them to make reference to the subject matter of the
disagreements in connection with their report. Before engaging KPMG Peat Marwick
LLP as its new independent certified public accountants, the Company did not
consult with them regarding any matters related to the application of accounting
principles, the type of audit opinion that might be rendered on the Company's
financial statements or any other such matters.
ADDITIONAL INFORMATION
A Registration Statement on Form SB-2 relating to the shares offered
hereby has been filed by the Company with the Securities and Exchange Commission
(the "Commission"). This Prospectus does not contain all of the
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<PAGE>
information set forth in such Registration Statement and the exhibits thereto.
For further information with respect to the Company and the Shares offered
hereby, reference is made to such Registration Statement and exhibits.
The Company is also subject to the periodic reporting requirements of
the Exchange Act, and in accordance therewith files reports, proxy statements,
and other information with the Commission. A copy of the Registration Statement
and other reports, proxy statements, or other information filed by the Company
may found at the Commission's site on the World Wide Web. The address of such
site is http://www.sec.gov. All such reports may also be inspected and copied at
the offices of the Commission at 450 Fifth Street, N. W., Washington, D. C.
20549 and at regional offices of the Commission located at 7 World Trade Center,
13th Floor, New York, New York 10048 and at Citicorp Center, 500 West Madison
Street, Suite 1400, Chicago, Illinois 60661. Copies of all or any part of the
Registration Statement may be obtained from the Public Reference Section of the
Commission, Washington, D. C., upon the payment of the fees prescribed by the
Commission.
The Company intends to furnish to its shareholders annual reports
containing financial statements audited by an independent public accounting
firm.
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<PAGE>
PRO FORMA FINANCIAL INFORMATION
The "Sonus Combined" column set forth in the unaudited pro forma
condensed combined statement of operations for the year ended July 31, 1997,
assumes that the acquisition of the Hearing Care Associates Group on October 1,
1996, and the acquisition of the Midwest Division of Hearing Health Services,
Inc., on October 31, 1996 (the "Acquisitions"), had occurred on August 1, 1996.
The unaudited pro forma combined financial information includes all of the
operations of the 25 clinics acquired in the Acquisitions.
The unaudited pro forma condensed combined financial information set
forth below is not necessarily indicative of the Company's combined financial
position or the results of operations that actually would have occurred if the
transactions had been consummated on such dates. In addition, such information
is not intended to be a projection of results of operations that may be obtained
by the Company in the future. The unaudited pro forma combined financial
information should be read in conjunction with the consolidated financial
statements and related notes thereto included elsewhere in this Prospectus.
<TABLE>
UNAUDITED PRO FORMA CONDENSED COMBINED STATEMENT OF OPERATIONS
FOR THE YEAR ENDED JULY 31, 1997
ACQUIRED PRO FORMA SONUS
SONUS CLINICS(a) ADJUSTMENTS COMBINED
------- ----------- ------------- ----------
(in thousands, except per share amounts)
<S> <C> <C> <C> <C>
Net revenues $ 13,462 $ 1,565 $ - $ 15,027
Costs and expenses:
Product cost of sales 5,010 517 - 5,527
Operational expenses 9,395 1,265 (276(b) 10,384
Depreciation and amortization 790 53 52(c) 895
Total operating expenses 15,195 1,835 (224) 16,806
--------- --------- ---------- ------
Loss from operations (1,733) (270) (224) (1,779)
Other income 32 81 - 40
Loss before income taxes (1,701) (262) (224) (1,789)
Income tax expense - (31) - (31)
--------- --------- --------- --------
Net loss $ (1,701) $ (231) $ (224) $ (1,708)
========= ========= ========= ========
Pro forma:
Net loss per common share $ (0.42)
========
Weighted average number
of shares outstanding
4,091
========
NOTES TO UNAUDITED PRO FORMA COMBINED FINANCIAL INFORMATION
(1) BASIS OF PRESENTATION
The "Sonus Combined" column set forth in the unaudited pro forma condensed combined statements of operations for the
year ended July 31, 1997, gives effect to the Acquisitions as if such transactions had occurred on August 1, 1996.
(2) PRO FORMA ADJUSTMENTS
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<PAGE>
(a) Reflects the historical operations of the acquired clinics prior to their acquisition by the Company.
(b) To record the elimination of non-recurring acquisition bonuses in the amount of $276,000 paid to certain
employees of acquired clinics immediately prior to the closing date.
(c) To record amortization of goodwill for the Acquisitions in the amount of $52,000 for the year ended July 31,
1997, as if the Acquisitions had occurred on August 1, 1996.
</TABLE>
<TABLE>
ACQUISITIONS (FOR PERIODS FROM AUGUST 1,1996 TO DATE OF ACQUISITION) (IN THOUSANDS)
Hearing Care Associates Midwest Division
August 1, 1996 through August 1, 1996 through
September 30, 1996 October 31, 1996 Total
---------------------- ---------------------- -----
STATEMENT OF OPERATIONS DATA:
<S> <C> <C> <C>
Net patient service revenues $ 789 $ 776 $ 1,565
Costs and expenses:
Product cost of sales 248 269 517
Operational expenses 697 568 1,265
Depreciation and amortization 20 33 53
------ ------- ------
Total operating expenses 965 870 1,835
------ ------- ------
Losses from operations (176) (94) (270)
Other income, net 8 - 8
------ ------- ------
Net loss before income taxes (168) (94) (262)
Income tax benefit - (31) (31)
------ ------- ------
Net loss $ (168) (63) $ (231)
====== ======= ======
</TABLE>
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<PAGE>
INDEX TO FINANCIAL STATEMENTS
<TABLE>
SONUS CORP.
<S> <C>
Report of KPMG Peat Marwick LLP, Independent Auditors ...........................................F-2
Auditors' Report.................................................................................F-3
Consolidated Balance Sheets as of July 31, 1997 and January 31, 1998 (unaudited).................F-4
Consolidated Statements of Operations for the years ended July 31, 1997
and 1996, and for the six-month periods ended January 31, 1998 and 1997 (unaudited)............F-5
Consolidated Statements of Shareholders' Equity for the years ended July 31, 1997
and 1996 and the six-month period ended January 31, 1998 (unaudited)...........................F-6
Consolidated Statements of Cash Flows for the years ended July 31, 1997 and 1996
and the six-month periods ended January 31, 1998 and 1997 (unaudited)..........................F-7
Notes to Consolidated Financial Statements.......................................................F-9
HEARING CARE ASSOCIATES GROUP
Independent Auditors' Report....................................................................F-23
Balance Sheet as of July 31, 1996...............................................................F-24
Statements of Operations for the years ended July 31, 1996 and 1995.............................F-25
Statements of Stockholders' Equity (Deficit) for the years ended July 31, 1996 and 1995.........F-26
Statements of Cash Flows for the years ended July 31, 1996 and 1995.............................F-27
Notes to Financial Statements...................................................................F-28
THE MIDWEST DIVISION OF HEARING HEALTH SERVICES, INC.
Independent Auditors' Report....................................................................F-32
Balance Sheets as of June 30, 1996 and October 31, 1996 (unaudited).............................F-33
Statements of Operations and Accumulated Earnings for the years ended June 30,
1996 and 1995, and the four months ended October 31, 1996 and 1995 (unaudited)................F-34
Statements of Cash Flows for the years ended June 30, 1996 and 1995, and the
four months ended October 31, 1996 and 1995 (unaudited).......................................F-35
Notes to Financial Statements...................................................................F-36
</TABLE>
- F-1 -
<PAGE>
REPORT OF KPMG PEAT MARWICK LLP, INDEPENDENT AUDITORS
TO THE BOARD OF DIRECTORS
SONUS CORP.:
We have audited the accompanying consolidated balance sheet of Sonus
Corp. (previously HealthCare Capital Corp.) and subsidiaries as of July 31,
1997, and the related consolidated statements of operations, shareholders'
equity, and cash flows for the year then ended. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
Sonus Corp. and subsidiaries as of July 31, 1997, and the consolidated results
of their operations and their cash flows for the year then ended in conformity
with generally accepted accounting principles.
KPMG Peat Marwick LLP
Portland, Oregon
October 24, 1997, except for note 15, as to which the date is February 9, 1998,
and except for note 16, as to which the date is December 24, 1997.
- F-2 -
<PAGE>
AUDITORS' REPORT
To the Shareholders of
HealthCare Capital Corp.
We have audited the consolidated balance sheet of HealthCare Capital Corp. and
subsidiaries as of July 31, 1996, and the related statements of operations and
retained earnings (deficit), cash flows and shareholders' equity for the year
then ended. These consolidated financial statements are the responsibility of
the company's management. Our responsibility is to express an opinion on these
financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform an audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the results of the consolidated financial
position of HealthCare Capital Corp. and subsidiaries as of July 31, 1996, and
the consolidated results of their operations, and their cash flows for the year
then ended in accordance with generally accepted accounting principles as
adopted in the United States of America.
Vancouver, Canada Shikaze Ralston
October 24, 1996 Chartered Accountants
- F-3 -
<PAGE>
SONUS CORP.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
July 31, January 31,
1997 1998
---------- -------------
(unaudited)
ASSETS
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 1,099 $ 6,150
Investments available for sale - 8,815
Accounts receivable, net of allowance
for doubtful accounts of $44 and $68, respectively 2,514 2,571
Other receivables 314 409
Inventory 425 662
Prepaid expenses 260 646
------- -------
Total current assets 4,612 19,253
Property and equipment, net 2,277 2,781
Other assets 136 196
Goodwill and covenants not to compete, net 9,519 9,540
-------- --------
$ 16,544 $ 31,770
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Bank loans and short-term notes payable 59 89
Accounts payable and accrued liabilities 3,395 4,154
Convertible notes payable 2,600 2,600
Capital lease obligation, current portion 101 124
Long term debt, current portion 357 479
------- -------
Total current liabilities 6,512 7,446
Capital lease obligation, non-current position 305 307
Long term debt, non-current portion 765 590
Convertible notes payable 127 -
-------- --------
Total liabilities 7,709 8,343
Shareholders' equity
Series A convertible preferred stock, no par
value per share, 0 and 13,333,333 shares,
respectively, authorized, issued, and outstanding 15,752
Common stock, no par value per share,
unlimited number of shares authorized,
5,427,657 and 5,460,583 shares, respectively,
issued and outstanding 11,131 11,268
Notes receivable from shareholders (124) (124)
Accumulated deficit (2,117) (3,298)
Treasury stock, 3,960 and 6,960 shares,
respectively, at cost (33) (58)
Cumulative translation adjustment (22) (113)
-------- --------
Total shareholders' equity 8,835 23,427
-------- --------
$ 16,544 $ 31,770
======== ========
See accompanying notes to consolidated financial statements.
</TABLE>
- F-4 -
<PAGE>
SONUS CORP.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
Year ended Six months ended
July 31, January 31,
-------------------------------------------------------------------------------------
1997 1996 1998 1997
-------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net revenues $ 13,462 $ 2,389 $ 9,416 $ 4,202
Costs and expenses:
Cost of products sold 5,010 1,017 3,119 1,547
Clinical expenses 5,985 1,197 4,523 2,102
General and administrative expenses 3,410 639 2,388 1,240
Depreciation and amortization 790 125 600 269
-------- ------- ------- ---------
Total costs and expenses 15,195 2,978 10,630 5,158
-------- ------- ------- ---------
Loss from operations (1,733) (589) (1,214) (956)
Other income (expense):
Interest income 76 8 88 35
Interest expense (47) - (55) 15
Other, net 3 - - (11)
-------- ------- ------- --------
Net loss $ (1,701) $ (581) $ (1,181) $ (947)
======== ======= ======= ========
Weighted average outstanding shares 4,010 2,120 4,595 3,520
======== ======= ======= ========
Net loss per share, basic and diluted $ (0.42) $ (0.27) $ (0.26) $ (0.27)
======= ======= ======= ========
See accompanying notes to consolidated financial statements.
</TABLE>
- F-5 -
<PAGE>
<TABLE>
SONUS CORP.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE DATA)
Shareholder Cumulative Total
Preferred Common Notes Accumulated Treasury Translation Shareholders
Stock Stock Receivable Deficit Stock Adjustment Equity
-------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE AT JULY 31, 1995 $ - $ 175 $ - $ 165 $ - $ (2) $ 338
Issuance of 600,000 common
shares under private
placement (net proceeds) - 416 - - - - 416
Exercise of stock options for
120,000 common shares - 102 - - - - 102
Issuance of 174,400 common
shares upon conversion
of Company's promissory note - 160 - - - - 160
Issuance of 381,149 common
shares under private
placement (net proceeds) - 1,072 - - - - 1,072
Translation adjustment - - 9 - - 5 5
Net loss - - - (581) - - (581)
------ ------ ------ ------ ------ ------ --------
BALANCE AT JULY 31, 1996 - 1,925 - (416) - 3 1,512
Issuance of 22,560 common shares
in connection with receipt
of tax credit - 38 - - - - 38
Exercise of stock options for
155,000 common shares - 316 (124) - - - 192
Issuance of 587,876 common
shares
in connection with acquisitions - 3,291 - - - - 3,291
Issuance of 1,093,482 common
shares under private
placement (net proceeds) - 5,529 - - - - 5,529
Exercise of warrants for
7,150 common shares - 32 - - - - 32
Repurchase of 3,960 treasury
shares - - - - (33) - (33)
Translation adjustment - - - - - (25) (25)
Net loss - - - (1,701) - - (1,701)
------ ------- ------ ------- ------ ------- -------
BALANCE AT JULY 31, 1997 - $11,131 (124) (2,117) $ (33) $ (22) $ 8,835
Issuance of 25,925 common shares
for conversion of convertible notes - 128 - - - - 128
Repurchase of 1,680 treasury - - - - (25) - (25)
shares
Issuance of 10,000 common shares
upon exercise of stock options - 9 - - - - 15,752
Issuance of 13,333,333 Series A
convertible preferred
shares (net proceeds) 15,752 - - - - - 9
Translation adjustment - - - - - (91) (91)
Net (loss) - - - (1,181) - - (1,181)
------ ------ ------ ------ ------ ------- -------
BALANCE AT JANUARY 31, 1998 $15,752 $11,268 $ (124) $(3,298) $ (58) $ (113) $ 23,427
====== ====== ====== ======== ====== ======= =======
(UNAUDITED)
See accompanying notes to consolidated financial statements.
</TABLE>
- F-6 -
<PAGE>
<TABLE>
SONUS CORP.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
Years ended Six months ended
July 31, January 31,
--------------------------------------------------------------------------
1997 1996 1998 1997
--------------------------------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
<S> <C> <C> <C> <C>
Net loss $ (1,701) $ (581) $ (1,181) $ (947)
Adjustments to reconcile net loss to net cash
used in operating activities:
Provision for bad debt expense 47 - 61 -
Depreciation and amortization 790 125 600 269
Changes in non-cash working capital:
Accounts receivable (2,158) (7) (118) 50
Other receivables (314) - (95) -
Inventory (281) (16) (237) 22
Prepaid expenses (219) (25) (386) (10)
Income taxes recoverable 9 14 - -
Accounts payable and accrued liabilities 2,932 45 759 (99)
Deferred purchase discounts - (23) - -
------ ------ ------- -------
Net cash used in operating activities (895) (468) (597) (715)
------ ------ ------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of investments available for sale (8,815) -
Purchase of property and equipment (1,941) (293) (519) (384)
Deferred acquisition costs, net 132 (268) (57) 6
Net cash paid on business acquisitions (3,389) (238) (703) (1,664)
------ ------ ------- -------
Net cash used in investing activities (5,198) (799) (10,094) (1,042)
------ ------ ------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds (repayments) of long term debt
and capital lease obligations 1,382 (101) 69 (14)
Deferred financing costs, net 42 (42) (3) 40
Advances (repayments) of bank loans and
short-term notes payable 26 (75) 30 29
Advances from (repayments) to shareholders (124) (235) - 56
Issuance (redemption) of convertible notes - (33) - -
Issuance of common stock for cash, net of costs 5,915 1,750 10 5,995
Issuance of preferred stock for cash, net of costs 15,752 -
Acquisition of treasury stock (33) - (25) -
------ ------ ------- --------
Net cash provided by financing activities 7,208 1,264 15,833 6,106
------ ------ ------- --------
Net increase (decrease) in cash and cash equivalents 1,115 (3) 5,142 3,349
Effect on cash and cash equivalents of changes
in foreign translation rate (27) (2) (91) (33)
------- ------- -------- --------
Cash and cash equivalents at the beginning of the
period 11 16 1,099 11
------- ------- -------- --------
Cash and cash equivalents at the end of the period $ 1,099 $ 11 $ 6,150 $ 3,327
====== ======= ======== ========
</TABLE>
- F-7 -
<PAGE>
<TABLE>
Years ended Six months ended
July 31, January 31,
--------------------------------------------------------------------------
1997 1996 1998 1997
--------------------------------------------------------------------------
Required supplemental disclosures:
<S> <C> <C> <C> <C>
Interest paid during period $ 41 $ 14 $ 38 15
Non-cash financing activities:
Issuance and assumption of long-term debt $ 1,025 $ 206 97 $ 323
in acquisitions
Issuance of convertible notes in acquisitions $ 2,600 $ - - $ 2,960
Issuance of common stock in acquisitions $ 3,291 $ - - $ 2,494
Conversion of convertible note - - $ (127) -
Issuance of common stock upon conversion - - $ 127 -
See accompanying notes to consolidated financial statements.
</TABLE>
- F-8 -
<PAGE>
SONUS CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Description of Company
----------------------
HealthCare Capital Corp. doing business as Sonus (the "Company"), an
Alberta, Canada corporation, through its primary operating subsidiaries,
Sonus-Canada Ltd. (formerly HC HealthCare Hearing Clinics Ltd.), a British
Columbia, Canada corporation, and Sonus-USA, Inc. (formerly HealthCare Hearing
Clinics, Inc.), a Washington corporation, currently owns and operates a network
of 52 hearing care clinics in the United States and Western Canada. The clinics
are located primarily in the metropolitan areas of Los Angeles, California; San
Diego, California; Chicago, Illinois; Lansing, Michigan; Albuquerque, New
Mexico; Vancouver, British Columbia; and Calgary, Alberta. Each of the Company's
hearing care clinics provides its hearing impaired patients with a full range of
audiological products and services. The Company intends to expand its network of
hearing care clinics by acquiring clinics in its existing, as well as new,
geographic markets.
Principles of Consolidation
---------------------------
The consolidated financial statements include the Company's wholly
owned subsidiaries. All significant intercompany accounts have been eliminated.
The functional currency of all of the Company's Canadian operations is the
Canadian dollar while the functional currency of the Company's U.S. operations
is the U.S. dollar. In accordance with Statement of Financial Accounting
Standards No. 52, "Foreign Currency Translation", assets and liabilities
recorded in Canadian dollars are remeasured at current rates in existence on
July 31, 1997. Exchange gains and losses from remeasurement of assets and
liabilities recorded in Canadian dollars are treated as unrealized gains and
losses and reported as a separate component of stockholders' equity.
Revenue Recognition
-------------------
Revenues from the sale of hearing instrument products are recognized at
the time of delivery. Revenues from the provision of hearing care diagnostic
services are recognized at the time that such services are performed. As of July
31, 1997 and 1996, net revenues consisted of the following (in thousands):
1997 1996
------- ------
Product revenue $11,627 $2,345
Service revenue 1,835 44
------- ------
$13,462 $2,389
======= ======
Income Taxes
------------
The Company accounts for income taxes under the asset and liability
method. Under the asset and liability method, deferred tax assets and
liabilities are recognized for the future tax consequences attributable to
differences between the financial statement carrying amounts of existing assets
and liabilities and their respective tax bases and operating loss and tax credit
carryforwards. Deferred tax assets and liabilities are measured using enacted
tax rates expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled. The effect on
deferred tax assets and liabilities of a change in tax rates is recognized in
income in the period that includes the enactment date.
Cash and Cash Equivalents
-------------------------
Cash equivalents consist of short-term, highly liquid investments with
original maturities of 90 days or less.
Inventory
---------
- F-9 -
<PAGE>
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Inventories are stated at the lower of cost (first in, first out) or
net realizable value.
Property and Equipment
----------------------
Property and equipment are recorded at cost and depreciated as follows:
Professional equipment 20% declining balance
Office equipment 30% declining balance
Automotive equipment 30% declining balance
Leasehold improvements Straight line over five years
Computer equipment 30% declining balance
In the year of acquisition, depreciation is calculated at one-half the
above noted rates. Property and equipment purchased under capitalized leases are
amortized over the shorter of the lease term or their estimated useful life and
such depreciation is included with depreciation expense. Property and equipment
at July 31, 1997 consists of the following (in thousands):
Professional equipment $ 930
Office equipment 481
Automotive equipment 16
Leasehold improvements 405
Computer equipment 1,144
--------
2,976
Less accumulated depreciation $ (699)
--------
$ 2,277
========
Advertising Expenses
--------------------
The Company defers its advertising costs until the advertisement is
actually run, at which time the full expense is recognized. Deferred advertising
costs were $89,000 and $0 for the years ended July 31, 1997 and 1996,
respectively. Advertising expense was $786,000 and $207,000 for the years ended
July 31, 1997 and 1996, respectively.
Goodwill and Covenants not to Compete
-------------------------------------
The unallocated purchase costs in excess of the net assets acquired
(goodwill) is being amortized on the straight-line basis over twenty years.
Non-compete agreements are amortized on the straight-line basis upon termination
of the contracted employee for any reason. Goodwill and covenants not to compete
as of July 31, 1997 are as follows (in thousands):
Goodwill $ 8,966
Covenants not to compete 955
Less: accumulated amortization (402)
--------
$ 9,519
========
The Company assesses the recoverability of this intangible asset by
determining whether the amortization of the goodwill balance over its remaining
life can be recovered through discounted projected future cash flows of the
acquired businesses from which the goodwill arose. Amortization charged to
operations was $364,000 and $17,000 for the years ended July 31, 1997 and 1996,
respectively.
- F-10 -
<PAGE>
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Deferred Acquisition and Financing Costs
----------------------------------------
Costs related to the acquisition of clinics are deferred and, upon
successful completion of acquisitions, are allocated to the assets acquired and
are subject to the accounting policies outlined above. Costs related to
potential acquisitions that are unsuccessful are expensed in the periods in
which it is determined that such acquisitions are unlikely to be consummated.
Costs related to issuing shares are deferred and upon the issuance of the
related shares, are applied to reduce the net proceeds of the issue.
Earnings Per Share
------------------
Earnings per share is based on the weighted average number of common
shares outstanding in each period. Common share equivalents represented by
convertible debt and contingent shares held in escrow have not been included in
the calculation of earnings per share as the effect would be anti-dilutive.
Concentrations of Credit Risk
-----------------------------
Financial instruments, which potentially subject the Company to
concentration of credit risk, consist principally of cash and trade receivables.
The Company places its cash with high credit quality institutions. At times,
such amounts may be in excess of the FDIC insurance limits. The Company's trade
accounts receivable are derived from numerous private payers, insurance
carriers, health maintenance organizations and government agencies.
Concentration of credit risk relating to trade accounts receivable is limited
due to the diversity and number of patients and payers.
Fair Value of Financial Instruments
-----------------------------------
The carrying value of financial instruments such as cash and cash
equivalents, trade receivables, notes receivable, trade payables and notes
payable, approximate their fair value.
Use of Estimates
----------------
Management of the Company has made a number of estimates and
assumptions relating to the reporting of assets and liabilities and the
disclosure of contingent assets and liabilities to prepare these financial
statements in conformity with generally accepted accounting principles. Actual
results could differ from those estimates.
Reclassifications
-----------------
Certain amounts in the 1996 financial statements have been reclassified
in order to conform to the 1997 presentation.
Interim Financial Statements
----------------------------
The interim financial statements reflect all adjustments, consisting of
only normal recurring adjustments, which are, in the opinion of management,
necessary for a fair statement of the results for the interim periods presented.
The results of operations for an interim period are not necessarily indicative
of the results of operations for a full year.
NOTE 2. ACQUISITIONS
During the fiscal year ended July 31, 1997, the Company purchased 39
hearing care clinics based in the United States in 12 separate transactions. In
each transaction, the acquisitions were accounted for as purchase transactions.
The acquired assets and liabilities were recorded at their estimated fair values
at the date of acquisition,
- F-11 -
<PAGE>
NOTE 2. ACQUISITIONS (CONTINUED)
and the unallocated excess purchase price (goodwill) is being amortized on a
straight line basis over 20 years. Purchase price adjustments may arise in the
event working capital on the closing date deviates from the minimum working
capital requirement specified in the purchase agreement. The operating results
of each acquired clinic have been included in the consolidated statements of
operations from each respective acquisition date.
Certain acquisitions have been structured using the Company's common
shares or debt convertible into the Company's common shares as a portion of the
consideration of the transaction. The valuation of the Company's common shares
given in consideration is based on the market price for a reasonable period
before and after the date the terms of an acquisition are agreed to, announced
and approved by regulatory authorities.
Santa Maria Hearing Associates
------------------------------
On August 1, 1996, Sonus-USA, Inc. acquired for cash certain assets of
Santa Maria Hearing Associates at a cost of $50,000. The seller entered into a
three year covenant not to compete with Sonus-USA, Inc. for consideration of
$25,000 which was paid on January 5, 1997.
Hearing Care Associates Group
-----------------------------
On October 1, 1996, Sonus-USA, Inc. completed the merger of Hearing
Care Associates - Northridge, Inc., Hearing Care Associates - Glendora, Inc.,
and Hearing Care Associates - Glendale, Inc. (collectively "HCA") through a
merger of these HCA corporations at a cost of $2,704,260. As consideration for
this merger, the Company paid cash of $314,724 and issued 477,907 common shares
of the Company at a price of $5.00 per share. For cash consideration of $314,724
paid on closing plus $36,137 paid on November 1, 1996, the sellers entered into
covenants not to compete for a period of three years after their employment
terminates.
Hearing Health Services, Inc.
-----------------------------
On October 31, 1996, Sonus-USA, Inc. purchased substantially all of the
assets of the Midwest Division of Hearing Health Services, Inc. at a cost of
$2,960,000. Consideration for this acquisition was in the form of a secured
$2,600,000 convertible note payable due October 31, 1997 and assumption of a
$360,000 note payable. The former note is convertible into 400,000 common shares
of the Company at a rate of $6.50 per share.
Hearing Dynamics
----------------
On December 6, 1996, Sonus-USA, Inc. merged with Hearing Dynamics
("HD"), a California corporation. The merger of HD into Sonus-USA, Inc. was
consummated as a tax-free merger whereby common shares of the Company were
exchanged for all the issued and outstanding shares of HD at a cost of $804,360.
Consideration for this acquisition was $102,600 cash paid on closing and 81,600
common shares of the Company issued at a price of $8.60 per share. A total of
23,600 shares are subject to restrictions on sale or transfer. Such restrictions
will lapse as to one-third of such shares on November 30 in each of 1997, 1998,
and 1999. In addition, 16,000 of the shares are being held by the Company (the
"Contingent Shares"). If for any of the three years ending on November 30, 1997,
1998 or 1999, the income of HD before interest, taxes, depreciation and
amortization and after a corporate overhead allocation falls below 20% of the
net revenues of the business for such year, the seller may elect to pay the
Company $1.00 or cancel one-fifth of a Contingent Share for each $1.72 of
shortfall. One-fifth of a Contingent Share is also required to be canceled or a
dollar retained for each $1.72 of long-term liabilities of the business as of
the date of closing of the acquisition and for each $1.72 of net accounts
receivable that remains uncollected after a specified time period. For cash
consideration of $25,000 paid on closing, the seller entered into a covenant not
to compete for a period of one year after employment terminates.
- F-12 -
<PAGE>
NOTE 2. ACQUISITIONS (CONTINUED)
FHC, Inc.
---------
On December 17, 1996, Sonus-USA, Inc. acquired all of the outstanding
shares of FHC, Inc., a New Mexico corporation, at a cost of $400,000.
Consideration for this acquisition was $250,000 cash paid on closing and a
three-year promissory note of $150,000 bearing interest at 6 1/2% per annum. For
consideration of $112,233 payable over a three-year period, the sellers also
entered into covenants not to compete for a period of three years from the date
of closing.
Hearing Care Associates - Los Angeles, Inc.
-------------------------------------------
On January 9, 1997, Sonus-USA, Inc. purchased all of the outstanding
shares of Hearing Care Associates - Los Angeles, Inc. for total consideration of
$301,000. For cash consideration of $112,500, the sellers entered into covenants
not to compete for a period of three years after employment terminates.
Hearing Care Associates - Arcadia, Inc.
---------------------------------------
On February 28, 1997, Sonus-USA, Inc. purchased all of the outstanding
shares of Hearing Care Associates - Arcadia, Inc. at a cost of $410,338 cash
paid on closing. For cash consideration of $130,170, the sellers entered into
covenants not to compete for a period of three years after employment
terminates.
Hearing Care Associates - Sherman Oaks, Inc.
--------------------------------------------
On March 6, 1997, Sonus-USA, Inc. purchased all of the outstanding
shares of Hearing Care Associates - Sherman Oaks, Inc. at a cost of $26,568 cash
paid on closing. For cash consideration of $33,783, the sellers entered into
covenants not to compete for a period of three years after employment
terminates.
Auditory Vestibular Center, Inc.
--------------------------------
On March 14, 1997, Sonus-USA, Inc. purchased all of the outstanding
shares of Auditory Vestibular Center, Inc. for total consideration of $84,306.
For cash consideration of $28,580, the sellers entered into covenants not to
compete for a period of three years after employment terminates.
Hearing Care Associates - Lancaster, Inc.
-----------------------------------------
On April 8, 1997, Sonus-USA, Inc. purchased all of the outstanding
shares of Hearing Care Associates - Lancaster, Inc. for total consideration of
$136,751. For cash consideration of $61,877, the sellers entered into covenants
not to compete for a period of three years after employment terminates.
Hearing Improvement Center, Inc.
--------------------------------
On June 6, 1997, Sonus-USA, Inc. purchased all of the outstanding
shares of Hearing Improvement Center, Inc. for consideration of $500,000 cash
paid on closing, 28,368 common shares of the Company issued at a price of $7.05
per share, a two-year promissory note in the amount of $132,624 payable in
quarterly installments including interest at 6% per annum and a three-year
promissory note in the amount of $282,036 with accrued interest at a rate of 6%
per annum payable at the end of the first year and the balance of the note,
including interest, payable in equal monthly installments over the remaining
term. For cash consideration of $50,000, the sellers entered into covenants not
to compete for a period of three years after employment terminates.
- F-13 -
<PAGE>
NOTE 2. ACQUISITIONS (CONTINUED)
Dakota Hearing Aid Service
--------------------------
On July 8, 1997, Sonus-USA, Inc. acquired for cash certain assets of
Dakota Hearing Aid Service at a cost of $40,000. The seller entered into a
three-year covenant not to compete with Sonus-USA, Inc. for cash consideration
of $10,000.
NOTE 3. FINANCING ARRANGEMENTS
Bank Loan
---------
Sonus-Canada Ltd. maintains a revolving bank demand loan bearing
interest at the bank's prime rate plus 1% per annum (5.75% at July 31, 1997),
secured by a general security agreement covering all assets of Sonus-Canada
Ltd., the postponement of claim by the shareholders and the guarantee of a
shareholder. The loan provides for a maximum credit limit of $182,000. At July
31, 1997, no amounts were outstanding under the loan.
Line of Credit
--------------
In July 1997, Sonus-USA, Inc. obtained a $500,000 line of credit from
Phonak, Inc., a hearing instrument manufacturer. The line of credit is secured
by a portion of Sonus-USA, Inc.'s accounts receivable, is guaranteed by the
Company, and bears interest at the prime rate on a fully floating basis. Debt
service is interest only, payable monthly until July 16, 1998, when all amounts
outstanding under the line of credit will be due. At July 31, 1997, no amounts
were outstanding under the line of credit.
Short-term Notes Payable
------------------------
Sonus-USA, Inc. and Sonus-Canada Ltd. have entered into short-term,
non-interest bearing notes with certain hearing instrument manufacturers. The
outstanding balance of the notes as of July 31, 1997 was $59,000.
NOTE 4. LONG-TERM DEBT
Long-term debt consists of the following at July 31, 1997 (in thousands
except for installment amounts):
Secured bank loan payable in
installments of $726 per month plus
interest calculated at the bank
prime rate plus 1-1/2% per annum........................ $ 7
Equipment loan from a supplier. The
loan requires fifty-two equal
installments every four weeks of
$2,124 including interest calculated
at the rate of 10% per annum......................... 75
Unsecured note payable in annual
installments of $50,000 plus
interest calculated at 6.5% per
annum, maturing on December 17, 1999 ............................. 150
Unsecured, non-interest bearing note
payable in quarterly installments of
$9,352, maturing on December 31,
1999.............................................................. 94
Equipment loans from suppliers, with
maturities ranging from October,
1999 to December, 2018 and monthly
payments, including interest at
rates ranging
- F-14 -
<PAGE>
from 0% to 9% per annum aggregating $3,165....................... 82
Unsecured note payable in monthly
installments of $1,357 including
interest calculated at the rate of
8% per annum, maturing on February
1, 1999........................................................... 23
Note payable requiring monthly
installments of $351 including
interest calculated at 18% per
annum, maturing on April 15, 2002........................ 13
Note payable requiring payment of
accrued interest of $17,395 on June
6, 1998, and monthly installments
thereafter of $12,500 including
interest calculated at 6% per annum
compounded monthly, maturing on June 6, 2000...................... 282
Note payable requiring quarterly
installments of $17,716 including
interest calculated at 6% per annum,
maturing on June 6, 1999......................................... 133
Secured note payable requiring
monthly installments of $1,000
including interest calculated at 6%
per annum, maturing February 1, 1999.......................... 23
Note payable requiring annual
installments of $120,000 plus
interest calculated at 6% per annum,
maturing on July 1, 1999......................... 240
------
1,122
Less current portion..................................................... (357)
------
$ 765
=====
The maturities of long-term debt are as follows (in thousands): 1998 -
$357; 1999 - $459; 2000 - $237; 2001 - $11; 2002 - $4; thereafter $54.
- F-15 -
<PAGE>
NOTE 5. CAPITAL LEASES
The following is a schedule by year of future minimum lease payments
under capital leases together with the present value of the net minimum lease
payments as of July 31, 1997 (in thousands):
1998................................................. $ 132
1999................................................. 127
2000................................................. 126
2001................................................. 88
---------
Total minimum lease payments......................... 473
Less: amount representing interest.................. (67)
---------
Present value of minimum lease payments.............. 406
Less current portion................................. (101)
---------
$305
=========
Total assets under capitalized leases at July 31, 1997, were $305,000,
net of accumulated depreciation of $131,000.
NOTE 6. CONVERTIBLE NOTES PAYABLE
Convertible notes payable consist of the following at July 31, 1997 (in
thousands except for per share amounts):
Non-interest bearing note due on demand;
convertible into common shares of
the Company at a rate of $5.00 per share................ $ 127
Non-interest bearing note due October 31, 1997;
convertible into common shares of
the Company at a rate of $6.50 per share................ 2,600
-------
$ 2,727
=======
NOTE 7. SHAREHOLDERS' EQUITY
Common Stock
------------
On February 28, 1996, the Company issued 340,000 special warrants at a
price of $3.70 for gross proceeds of $1,250,690. The special warrants provided
for the conversion of each February special warrant to 1.1 units. Each unit
consisted of one common share and one share purchase warrant. The February
special warrants were converted into common shares at no additional cost to the
holder on February 28, 1997. Each share purchase warrant represents the right to
purchase one common share at a price of $5.50 until expiration on February 28,
1998.
A private placement in Canada of 162,000 special warrants was
consummated by the Company in September 1996 and a private placement in the
United States of 829,800 special warrants was consummated by the Company in
December 1996. Such special warrants are collectively referred to as the
September special warrants. The aggregate offering price for the September
special warrants was $1,012,500 for those sold in Canada and $5,186,250 for
those sold in the United States. Each of the September special warrants placed
in Canada entitled the holder to receive 1.1 common shares and 1.1 share
purchase warrants, with each such warrant exercisable for one common share at a
price of $10.00 per share. Each of the September special warrants placed in the
United States
- F-16 -
<PAGE>
NOTE 7. SHAREHOLDERS' EQUITY (CONTINUED)
entitled the holder thereof to receive one common share and one share purchase
warrant to purchase an additional common share for $10.00 per share.
In connection with the offering of the September special warrants in
Canada, the Company's placement agent (the Canadian Agent) received a selling
commission consisting of $48,625 in cash and 6,800 September special warrants
exercisable for one common share and one share purchase warrant to purchase an
additional common share for $10.00 per share and was granted an option to
acquire 16,200 share purchase warrants, each exercisable for one common share at
a price of $6.25 per share. The Canadian Agent also received a $61,987
syndication fee and a $37,097 corporate finance fee.
In connection with the placement of the September special warrants in
the United States, the Company's two placement agents (the U.S. Agents) each
received a selling commission equal to 9 percent of the gross proceeds in the
form of September special warrants, or a total of 74,682 September special
warrants. One of the U.S. Agents also received 4,000 September special warrants
in payment of its corporate finance fee. Such September special warrants are
exercisable for one common share and a share purchase warrant to purchase one
additional common share for $10.00 per share. In addition, the U.S. Agents
received an option to acquire 42,980 and 40,000 share purchase warrants,
respectively, with each warrant exercisable for one common share at a price of
$6.25 per share. All of the share purchase warrants issued in September or
December 1996 are subject to certain rights of the Company to force exercise or
cancellation.
A total of 1,050,000 outstanding shares were held in escrow at July 31,
1997. All such shares are registered in the shareholders' respective names with
all voting rights attached and exercisable by the respective registered
shareholder. The escrowed shares are restricted as to transferability. The
release of 200,000 shares was subject to lapse of time provisions; the shares
were released on October 21, 1997. The release of the remaining 850,000 shares
is subject to the following provisions:
o One share will be released for each $0.40 of cash flow generated by
the Company;
o Release shall only be made pursuant to a written application to The
Alberta Stock Exchange; and
o The maximum number of shares to be released in any year to a
shareholder shall be one-third of the original number of shares
held in escrow on behalf of such shareholder.
Stock Option Plans
------------------
The Company has two stock option plans, the Stock Option Plan ("1993
Plan") and the Stock Award Plan ("1996 Plan") pursuant to which the Company may
grant to officers, directors, employees and consultants incentive and
non-qualified options to purchase up to 10% of the outstanding common shares
under the 1993 Plan and up to 600,000 common shares under the 1996 Plan, subject
to applicable regulatory limits. The 1996 Plan is subject to shareholder
approval at the Company's 1997 annual meeting. The exercise price of options
granted under the plans may not be less than 75% of the fair market value of the
Company's common shares at the date of grant (100% for tax-qualified incentive
stock options). Options become exercisable at the date of grant or in equal
annual installments over a period of one to four years from the date of grant.
The options generally expire five years after the date of grant.
The 1996 Plan also provides for the granting of stock appreciation
rights, restricted units, performance awards and other stock-based awards. The
Company had no such awards or rights outstanding at July 31, 1997 or 1996.
- F-17 -
<PAGE>
NOTE 7. SHAREHOLDERS' EQUITY (CONTINUED)
The activity during the years ended July 31, 1997 and 1996 was as
follows:
<TABLE>
1997 1996
------------ --------
Weighted- Weighted-
Average Average
Options Exercise Price Options Exercise Price
---------------- ---------------------- ---------------- ---------------------
<S> <C> <C> <C> <C>
Outstanding - beginning of year 340,000 $4.15 90,000 $1.40
Granted 368,400 $6.85 370,000 $3.95
Exercised (155,000) $2.05 (120,000) $ .85
Canceled (65,000) $7.50 - $ -
----------------- ---------------- ------------------- -----------------
Outstanding - end of year 488,400 $6.40 340,000 $4.15
================= ================ =================== =================
Exercisable at end of year 177,500 $5.95
-----
Weighted-average fair
value of options granted
during the year $4.45 $6.15
</TABLE>
The following table summarizes information about stock options
outstanding at July 31, 1997:
<TABLE>
Options Outstanding Options Exercisable
----------------------------------------------------------- ----------------------------------------
Weighted-
Number Average Weighted- Number Weighted -
Range of Outstanding Remaining Average Exercisable Average
Exercise Prices as of Contractual Exercise as of Exercise
July 31, 1997 Life Price July 31, 1997 Price
- -------------------- -------------------- ------------------ ----------------- --------------------- ------------------
<S> <C> <C> <C> <C> <C> <C>
$0.25 -- $1.00 10,000 2.66 $0.90 10,000 $ 0.90
$1.25 -- $1.50 60,000 3.39 $1.40 60,000 $ 1.40
$3.50 -- $3.75 25,000 3.55 $3.60 17,500 $ 3.60
$5.50 -- $5.75 50,000 4.77 $5.60 - $ -
$6.25 -- $6.75 120,000 4.18 $6.50 - $ -
$7.00 -- $7.50 133,400 4.49 $7.30 - $ -
$9.75 -- $10.50 90,000 3.57 $10.00 90,000 $10.00
- -------------------- -------------------- ------------------ ----------------- --------------------- ------------------
$0.05 -- $2.10 488,400 4.05 $6.40 177,000 $5.959
</TABLE>
The Company accounts for stock option grants in accordance with
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees." Accordingly, no compensation cost has been recognized for its stock
option grants. Pro forma information regarding net income (loss) and net income
(loss) per share is required under Statement of Financial Accounting Standards
No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123") and has been
determined as if the Company had accounted for all 1997 and 1996 stock option
grants based on the fair value method. The pro forma information presented below
is not representative of the effect stock options will have on pro forma net
income (loss) or net income (loss) per share for future years.
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes multiple option-pricing model. The following weighted
average assumptions were used for grants in 1997 and 1996: risk- free interest
rates of 5.94% and 6.43%, respectively, an expected option life of 4.92 years
and 4.24 years, respectively, expected volatility of 96% and dividend yield of
zero.
The Black-Scholes method is one of many models used to calculate the
fair value of options that are freely tradable, fully transferable and that have
no vesting restrictions. These models also require highly subjective
assumptions, including future stock price volatility and expected time until
exercise, which greatly affect the calculated values.
- F-18 -
<PAGE>
NOTE 7. SHAREHOLDERS' EQUITY (CONTINUED)
Had compensation cost for these plans been determined based on the fair
value of awards at the grant date, as prescribed by SFAS 123, net loss or net
loss per share would have been as follows:
1997 1996
---- ----
(in thousands, except
per share data)
Net loss applicable to common shareholders:
As reported $(1,701) $ (581)
Pro forma (1) $(2,121) $(1,172)
Net loss per share:
As reported $ (0.42) $ (0.27)
Pro forma (1) $ (0.55) $ (0.55)
(1) SFAS 123 applies to awards granted in fiscal years that begin after
December 15, 1994. Consequently, the effects of applying SFAS 123 shown here are
not likely to be representative of the effects in future years due to the
exclusion of awards granted in prior years but vesting (and therefore expensed)
in 1996 and 1997.
NOTE 8. INCOME TAXES
HealthCare Capital Corp. and its Canadian subsidiaries file separate
corporate income tax returns on a stand-alone basis in Canada. Sonus-USA, Inc.
files separate corporate income tax returns in the United States.
There was no provision for income taxes for the years ended July 31,
1997 and 1996 as the Company incurred net operating losses.
The components of temporary differences that give rise to significant
portions of deferred income taxes at July 31, 1997 and 1996 are as follows (in
thousands):
1997 1996
---- ----
Deferred tax assets:
Net operating losses carried forward $ 839 $ 344
Allowance for doubtful accounts 44 ---
Other --- 24
--------- ---------
883 368
Deferred tax liabilities:
Goodwill and start-up costs (54) ---
Other --- (21)
--------- ---------
829 347
Less valuation allowance (829) (347)
--------- ---------
$ --- $ ---
========= =========
A reconciliation of the Company's expected tax expense using the
statutory income tax rate to the actual effective rate is as follows:
1997 1996
---- ----
Tax benefit at statutory rate (34)% (34)%
- F-19 -
<PAGE>
NOTE 8. INCOME TAXES (CONTINUED)
Adjustment for higher Canadian tax rate --- (11)
Capitalized costs deducted for tax purposes --- (6)
Expenses not deductible for tax purposes 5 10
Change in valuation allowance 29 41
----- -----
Tax rate per financial statements ---% ---%
===== =====
At July 31, 1997, the Company had approximate net operating loss
carryforwards for tax purposes which, if not utilized, expire in the years ended
as follows (in thousands):
<TABLE>
UNITED
CANADA STATES TOTAL
------ ------ -----
<S> <C> <C> <C> <C>
2001 $ 18 $ --- $ 18
2002 35 --- 35
2003 711 --- 711
2004 45 --- 45
2011 --- 303 303
2012 --- 906 906
--------- -------- ---------
$ 809 $1,209 $2,018
========== ======== =========
</TABLE>
NOTE 9. RELATED PARTY TRANSACTIONS
William DeJong is a partner in the Calgary, Alberta law firm of Ballem
MacInnes and is a director of the Company. Total fees, disbursements and
government sales tax paid to Ballem MacInnes by the Company for legal services
as of July 31, 1997 and 1996 were $168,000 and $37,000, respectively (converted
from Canadian dollars at July 31, 1997 and 1996).
In connection with the acquisition of the Midwest Division of Hearing
Health Services, Inc., Sonus-USA, Inc. assumed a promissory note with a balance
of $360,000 payable to Kathy Foltner, an officer of the Company. The promissory
note is payable in equal annual installments of $120,000 beginning July 1, 1997,
and bears interest at 6% per annum.
Gregory J. Frazer, Ph.D., an officer and director of the Company, was a
shareholder in certain Hearing Care Associates corporations which the Company
acquired during the year ended July 31, 1997. Total consideration paid to Mr.
Frazer and his wife in connection with the acquisitions and related
noncompetition agreements totaled $933,000 in cash and 294,071 common shares of
the Company at a price of $5.00 per share.
Brandon M. Dawson, an officer and director of the Company, exercised
options for 50,000 shares of Common Stock at $1.35 per share (converted from
Canadian dollars at May 8, 1997). In connection with such exercise, the Company
loaned Mr. Dawson $67,500 to pay the aggregate exercise price of the options.
The loan is secured by the stock underlying the exercise of the options and
accrues interest at 10% per annum. Gene K. Balzer, Ph.D., a director of the
Company, exercised options for 40,000 common shares at $1.40 per share
(converted from Canadian dollars at May 19, 1997). In connection with such
exercise, the Company loaned Mr. Balzer $56,000 to pay the aggregate exercise
price of the options. The loan is secured by the stock underlying the exercise
of the options and accrues interest at 10% per annum.
- F-20 -
<PAGE>
NOTE 10. 401(K) PLAN
The Company sponsors a 401(k) plan for all employees who have satisfied
minimum service and age requirements. Employees may contribute up to 20% of
their compensation to the plan. The Company does not match employee
contributions.
NOTE 11. COMMITMENTS AND CONTINGENCIES
Operating Leases
----------------
The following is a schedule by year of future minimum lease payments
for non-cancelable operating leases at July 31, 1997 (in thousands):
1998 $ 658
1999 531
2000 468
2001 229
2002 107
Thereafter 146
-------
Total minimum lease payments $ 2,139
=======
Rental expense under operating leases was $810,000 and $208,000 for the
years ended July 31, 1997 and 1996, respectively.
Insurance
---------
In the normal course of business, the Company may become a defendant or
plaintiff in various lawsuits. Although a successful claim for which the Company
is not fully insured could have a material effect on the Company's financial
condition, management is of the opinion that it maintains insurance at levels
sufficient to insure itself against the normal risk of operations.
NOTE 12. SUBSEQUENT EVENTS
On August 27, 1997, Sonus-USA, Inc. purchased all of the outstanding
shares of Hearing Care Associates - Santa Monica, Inc. at a cost of $258,268
cash paid on closing. For cash consideration of $114,135, the sellers entered
into covenants not to compete for a period of three years after employment
terminates.
NOTE 13. CANADIAN VERSUS U.S. GAAP
As of July 31, 1997 and 1996, there were no material differences
between Canadian generally accepted accounting principles ("GAAP") and U.S.
GAAP.
- F-21 -
<PAGE>
NOTE 14. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
The following is a tabulation of the unaudited quarterly results of
operations for the year ended July 31, 1997 (in thousands, except per share
data):
<TABLE>
Quarter ended
--------------------------------------------------------------------
October January April July
1996 1997 1997 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net revenue $ 1,268 $ 2,933 $ 4,355 $ 4,906
Operating loss (299) (672) (444) (318)
Net loss (298) (649) (432) (322)
Earnings before interest,
depreciation and amortization (1) (247) (454) (251) 9
Net loss per share $ (0.10) $ (0.15) $ (0.10) $ (0.05)
(1) Earnings before interest, depreciation and amortization is provided because it is a measure commonly used by acquisition
companies. It is presented to enhance an understanding of the Company's operating results and is not intended to represent cash
flow or results of operations in accordance with generally accepted accounting principles for the periods indicated.
</TABLE>
NOTE 15. REVERSE STOCK SPLIT
Effective February 9, 1998, the shareholders approved a one-for-five
reverse stock split of the Common Shares. All share and per share information
appearing in the accompanying financial statements and related notes has been
restated to give effect to the reverse stock split of the Common Shares.
NOTE 16. ISSUANCE OF PREFERRED SHARES
On December 24, 1997, the Company completed the sale of 13,333,333
shares of the Company's Series A Convertible Preferred Shares, without nominal
or par value (the "Convertible Shares"), together with warrants to purchase an
additional 2,000,000 Common Shares, at an exercise price of $12.00 per share to
an investor for net proceeds of $15,752,000. The Convertible Shares may be
converted at any time, in whole or in part, into Common Shares at the rate of
one Common Share for every five Convertible Shares, subject to adjustment on the
occurrence of certain events. Each Convertible Share is presently entitled to
one-fifth of a vote on matters presented to shareholders of the Company for
action.
The holder of the Convertible Shares is entitled to receive, when, as,
and if declared by the board of directors of the Company out of the Company's
assets legally available for payment, cumulative dividends from the date of
original issuance, payable annually at a rate of 5% per annum on a base amount
of $1.35 per share. All accrued and unpaid dividends will be forfeited upon
conversion of the Convertible Shares. The dividend rate is subject to increase
on specified dates in the event that certain conditions have not been met.
- F-22 -
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Shareholders and Board of Directors
HealthCare Capital Corp.:
We have audited the accompanying balance sheet of Hearing Care Associates Group
as of July 31, 1996, and the related statements of operations, stockholders'
equity (deficit), and cash flows for each of the years in the two years then
ended. 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 audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Hearing Care Associates Group
as of July 31, 1996, and the results of its operations and its cash flows for
each of the years in the two year period then ended in conformity with generally
accepted accounting principles.
KPMG Peat Marwick LLP
Portland, Oregon
February 14, 1997
- F-23 -
<PAGE>
<TABLE>
HEARING CARE ASSOCIATES GROUP
BALANCE SHEET
JULY 31, 1996
ASSETS
Current assets:
<S> <C>
Cash and cash equivalents $ 243,167
Trade accounts receivable, net of allowance for doubtful accounts of $22,130 711,028
Related party receivable 97,372
Prepaid expenses and other current assets 22,013
------
Total current assets 1,073,580
Equipment and fixtures, net 209,717
Intangible assets, at cost, less accumulated amortization 163,387
Deferred taxes 20,600
Other assets, net 9,678
------
Total assets $1,476,962
==========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable $ 575,362
Notes payable 106,438
Related party payable 437,512
Accrued payroll and related costs 141,175
Other accrued expenses and current liabilities 261,719
-------
Total current liabilities 1,522,206
Stockholders' equity (deficit):
Common stock; authorized 24,000 shares;
issued and outstanding 2,600 shares 70,000
Accumulated deficit (115,244)
--------
Total stockholders' deficit (45,244)
-------
$1,476,962
==========
</TABLE>
See accompanying notes to financial statements.
- F-24 -
<PAGE>
HEARING CARE ASSOCIATES GROUP
STATEMENTS OF OPERATIONS
YEARS ENDED JULY 31, 1996 AND 1995
1996 1995
---- ----
Product sales $ 3,480,056 $ 2,740,612
Product cost of sales 1,393,554 659,941
------------ ------------
2,086,502 2,080,671
Net patient service revenue 673,115 513,129
Expenses:
Selling expenses 2,949,340 2,147,185
General and administrative expenses 320,763 151,433
------------ ------------
3,270,103 2,298,618
------------ ------------
(Loss) income from operations (510,486) 295,182
Other income (expense) net 11,727 (9,817)
(Loss) income before income taxes (498,759) 285,365
------------- -------------
Income tax (benefit) expense (22,900) 108,883
------------- -------------
Net (loss) income $ (475,859) $ 176,482
============= =============
See accompanying notes to financial statements.
- F-25 -
<PAGE>
HEARING CARE ASSOCIATES GROUP
STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
YEARS ENDED JULY 31, 1996 AND 1995
<TABLE>
Total
Stockholders'
Common Stock Accumulated Equity
Shares Par Value Deficit (Deficit)
------ --------- ------- ---------
<S> <C> <C> <C> <C> <C> <C>
Balances at July 31, 1994 2,600 $ 70,000 $ 184,133 $ 254,133
Net income - - 176,482 176,482
------------- ------------- -------------- ------------
Balances at July 31, 1995 2,600 70,000 360,615 430,615
Net loss - - (475,859) (475,859)
------------- ------------- ------------- ------------
Balances at July 31, 1996 2,600 $ 70,000 $ (115,244) $ (45,244)
============= ============= ============= ============
See accompanying notes to financial statements.
</TABLE>
- F-26 -
<PAGE>
HEARING CARE ASSOCIATES GROUP
STATEMENTS OF CASH FLOWS
YEARS ENDED JULY 31, 1996 AND 1995
<TABLE>
1996 1995
---- ----
Cash flows from operating activities:
<S> <C> <C>
Net (loss) income $ (475,859) $ 176,482
Adjustments to reconcile net (loss) income to
net cash provided by (used in) operations:
Depreciation and amortization 68,091 61,422
Deferred income taxes 54,000 (34,178)
Changes in current assets and liabilities:
Increase in accounts receivable (147,794) (358,299)
Decrease (increase) in notes receivable - related party 57,067 (20,131)
(Increase) decrease in prepaid
expenses and other current assets (37,548) 13,568
Increase in accounts payable 173,483 56,197
Increase in accrued expenses and
other current liabilities 223,671 71,144
------------ -------------
Net cash used in operating activities (84,889) (33,795)
------------ -------------
Cash flows from investing activities:
Purchases of equipment and fixtures (66,597) (17,313)
Acquisition of intangible assets (17,493) (3,245)
------------ -------------
Net cash used in investing activities (84,090) (20,558)
------------ -------------
Cash flows from financing activities:
Net proceeds from related parties 248,578 255,095
Repayments on notes payable (85,176) (71,800)
------------ ------------
Net cash provided by financing activities 163,402 183,295
------------ ------------
Net increase (decrease) in cash and
cash equivalents (5,577) 128,942
Cash and cash equivalents at beginning of year 248,744 119,802
------------ ------------
Cash and cash equivalents at end of year $ 243,167 $ 248,744
============ ============
Supplemental disclosures of cash flow information:
Interest paid $ 21,104 $ 13,349
============ ============
Income taxes paid $ 0 $ 143,061
============ ============
</TABLE>
See accompanying notes to financial statements.
- F-27 -
<PAGE>
HEARING CARE ASSOCIATES GROUP
NOTES TO FINANCIAL STATEMENTS
JULY 31, 1996
(1) ORGANIZATION AND OPERATIONS
Hearing Care Associates Group (the "Company") consists of three California
corporations: Hearing Care Associates - Northridge, Inc., Hearing Care
Associates - Glendale, Inc., and Hearing Care Associates -Glendora, Inc. The
Company provides hearing rehabilitation services through a network of eleven
clinics located in the Los Angeles, California, metropolitan area.
The accompanying financial statements reflect the combined operations of
these three corporations.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) CASH AND CASH EQUIVALENTS
For purposes of reporting cash flows, cash and cash equivalents include cash
on hand and short-term investments with original maturities of 90 days or
less.
(b) NET REVENUES
Revenues from the sale of hearing instrument products are recognized at the
time of delivery. Revenues from the provision of hearing care diagnostic
services are recognized at the time that such services are performed.
(c) EQUIPMENT AND FIXTURES
Equipment and fixtures are stated at cost less accumulated depreciation and
amortization. Additions and betterments are capitalized, and maintenance and
repairs are charged to current operations as incurred. The cost of assets
retired or otherwise disposed of and the related accumulated depreciation
and amortization are removed from the accounts, and the gain or loss on such
dispositions is reflected in current operations. Amortization of leasehold
improvements is provided on an accelerated basis over the term of the lease
or estimated useful lives of the assets, whichever is less. Depreciation is
provided on an accelerated basis. Estimated useful lives of the assets are:
Professional equipment 7 - 10 years
Furniture and fixtures 7 - 10 years
Office equipment 5 - 7 years
Leasehold improvements 7 years
(d) INCOME TAXES
The Company accounts for income taxes under the asset and liability method.
Under the asset and liability method, deferred tax assets and liabilities
are recognized for the future tax consequences attributable to differences
between the financial statement carrying amounts of existing assets and
liabilities and their respective tax bases and operating loss and tax credit
carryforwards. Deferred tax assets and liabilities are measured using
enacted tax rates expected to apply to taxable income in the years in which
those temporary differences are expected to be recovered or settled. The
effect on deferred tax assets and liabilities of a change in tax rates is
recognized in income in the period that includes the enactment date.
(Continued)
- F-28 -
<PAGE>
(e) INTANGIBLE ASSETS
Intangible assets consist of non-compete agreements, purchased patient
listings and goodwill (the cost in excess of net assets acquired in a
purchase transaction). Goodwill and patient listings are being amortized on
a straight-line basis over 15 years. Non-compete agreements are amortized on
a straight-line basis over the life of the contract.
(f) CONCENTRATIONS OF CREDIT RISK
Financial instruments, which potentially subject the Company to
concentration of credit risk, consist principally of cash and trade
receivables. The Company places its cash with high credit quality
institutions. At times such amounts may be in excess of the FDIC insurance
limits. The Company's trade accounts receivable are derived from numerous
private payors, insurance carriers, health maintenance organizations and
government agencies. Concentration of credit risk relating to trade accounts
receivable is limited due to the diversity and number of patients and
payors.
(g) FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying value of financial instruments such as cash and cash
equivalents, trade receivables, notes receivable, trade payables and notes
payable, approximate their fair value.
(h) USE OF ESTIMATES
Management of the Company has made a number of estimates and assumptions
relating to the reporting of assets and liabilities and the disclosure of
contingent assets and liabilities to prepare these financial statements in
conformity with generally accepted accounting principles. Actual results
could differ from those estimates.
(3) EQUIPMENT AND FIXTURES
Equipment and fixtures consist of the following at July 31, 1996:
Professional equipment $ 254,431
Office equipment 193,736
Furniture and fixtures 143,921
Leasehold improvements 76,627
------------
668,715
Less accumulated depreciation 458,998
------------
$ 209,717
============
Depreciation expense for fiscal 1996 and 1995 was $57,172 and $49,236,
respectively.
(4) NOTES PAYABLE
Equipment loans payable to supplier. The
loans are due April 15, 1998, and require
total monthly installments of $2,000,
including interest calculated at the rate
of 9 percent per annum. $ 106,438
============
(5) INCOME TAXES
The components of the 1996 and 1995 provision (benefit) for income taxes are
as follows: (Continued)
- F-29 -
<PAGE>
Year Ended July 31
------------------
1996 1995
---- ----
Current:
Federal $ (76,900) $ 120,449
State 0 22,612
------------- -------------
(76,900) 143,061
------------- -------------
Deferred:
Federal 45,465 (28,776)
State 8,535 (5,402)
------------- -------------
54,000 (34,178)
------------- -------------
Total $ (22,900) $ 108,883
============= =============
At July 31, 1995, the difference between the total income tax expense and
the income tax expense computed using the statutory federal income tax rate
was due primarily to state tax expense, net of federal tax benefit. At July
31, 1996, the difference between the total income tax benefit and the income
tax benefit computed using the statutory federal income tax rate was due
primarily to state tax benefit, net of federal effect, as well as an
increase in the valuation allowance.
The net deferred tax asset of $20,600 at July 31, 1996, consists primarily
of net operating loss carryovers and differences resulting from using the
cash method of accounting for income tax purposes. No valuation allowance
was deemed necessary at July 31, 1995. An increase in the valuation
allowance during the year resulted in a valuation allowance at July 31, 1996
of approximately $156,000.
At July 31, 1996, the Company has a net operating loss carryforward for
federal income tax purposes of approximately $274,000.
(6) OPERATING LEASES
The Company leases offices and equipment under noncancelable operating
leases which require future minimum annual rentals as follows:
Year ending July 31:
1997 $ 241,139
1998 207,000
1999 208,908
2000 212,731
2001 216,665
Thereafter 376,956
-------------
$ 1,463,399
=============
(Continued)
- F-30 -
<PAGE>
Certain of the leases contain renewal options and escalation clauses which
require payments of additional rent to the extent of increases in related
operating costs. Rent expense for fiscal 1996 and 1995 was $208,868 and
$236,293, respectively.
(7) RELATED PARTY TRANSACTIONS
The Company receives advances to fund operations from stockholders who are
also employees and officers of the Company. The balance due to these
stockholders is $437,512 at July 31, 1996. Employees who are stockholders
have also received periodic advances from the Company. The total amount due
to the Company from these employees is $97,372 at July 31, 1996, all of
which is due within the next fiscal year.
(8) SUBSEQUENT EVENT
As of October 1, 1996, the Company was acquired by HealthCare Hearing
Clinics, Inc., a Washington corporation and a wholly-owned subsidiary of
HealthCare Capital Corp., a corporation organized under the laws of the
province of Alberta, Canada.
As of September 30, 1996, the Company declared a bonus to a clinic manager
in the amount of $236,000. The bonus was payable upon the completion of the
acquisition of the Company by HealthCare Hearing Clinics, Inc.
- F-31 -
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Shareholders and Board of Directors
HealthCare Capital Corp.:
We have audited the accompanying balance sheet of the Midwest Division of
Hearing Health Services, Inc. dba Sonus as of June 30, 1996, and the related
statements of operations and accumulated earnings and cash flows for each of the
years in the two years then ended. 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 audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of the Midwest Division of Hearing
Health Services, Inc. dba Sonus as of June 30, 1996, and the results of its
operations and cash flows for each of the years in the two year period then
ended in conformity with generally accepted accounting principles.
KPMG Peat Marwick LLP
Portland, Oregon
January 16, 1997
- F-32 -
<PAGE>
<TABLE>
THE MIDWEST DIVISION OF HEARING
HEALTH SERVICES, INC. DBA SONUS
BALANCE SHEETS
June 30, October 31,
1996 1996
----------- -----------
(Unaudited)
ASSETS
Current Assets
<S> <C> <C>
Cash and cash equivalents $ 139,396 $ 108,240
Trade accounts receivable, net of allowance
for doubtful accounts of $57,297 313,614 301,567
Accounts receivable - other 965 512
Inventory 62,619 43,161
Prepaid expenses and other current assets 11,049 35,808
------------- -------------
Total current assets 527,643 489,288
Equipment and fixtures, net 389,523 364,879
Deferred taxes 39,179 39,179
Other assets, net 25,628 24,212
------------- -------------
454,330 428,270
------------- -------------
Total assets $ 981,973 $ 917,558
============= =============
LIABILITIES AND RETAINED EARNINGS
Current liabilities:
Accounts payable $ 221,399 $ 224,238
Accrued payroll and related costs 127,164 101,433
Patient deposits 23,927 36,330
Other accrued expenses 23,538 27,937
Capital lease obligations 8,875 1,775
------------- -------------
Total current liabilities 404,903 391,713
Related party payable 277,923 279,126
------------- -------------
Total liabilities 682,826 670,839
------------- -------------
Retained earnings 299,147 246,719
------------- -------------
Total liabilities and retained earnings $ 981,973 $ 917,558
============= =============
See accompanying notes to financial statements.
</TABLE>
- F-33 -
<PAGE>
<TABLE>
THE MIDWEST DIVISION OF HEARING
HEALTH SERVICES, INC. DBA SONUS
STATEMENTS OF OPERATIONS AND ACCUMULATED EARNINGS
Four Months
Years Ended June 30 Ended October 31
-------------------------- --------------------------
1996 1995 1996 1995
---- ---- ---- ----
(Unaudited)
<S> <C> <C> <C> <C>
Product sales $ 2,983,955 $ 2,878,986 $ 930,926 $ 1,147,596
Product cost of sales 934,038 1,031,409 337,488 355,090
------------- ------------- -------------- ------------
2,049,917 1,847,577 593,438 792,506
Net patient service revenue 478,702 463,383 174,913 166,412
Expenses:
Selling expenses 1,981,736 1,827,201 709,106 687,539
General and administrative
expenses 424,943 356,999 142,957 126,731
------------- ------------- -------------- ------------
2,406,679 2,184,200 852,063 814,270
------------- ------------- -------------- ------------
Income (loss) from operations 121,940 126,760 (83,712) 144,648
------------- ------------- ------------- ------------
Interest income 1,593 - 485 -
------------- ------------- -------------- ------------
1,593 - 485 -
------------- ------------- -------------- ------------
Net income (loss) before
income taxes 123,533 126,760 (83,227) 144,648
------------- ------------- ------------- ------------
Income tax expense (benefit) 47,687 41,024 (30,799) 57,298
------------- ------------- ------------- ------------
Net income (loss) 75,846 85,736 (52,428) 87,350
Accumulated earnings,
beginning of period 223,301 137,565 299,147 223,301
------------- ------------- -------------- ------------
Accumulated earnings, end of period $ 299,147 $ 223,301 $ 246,719 $ 310,651
============= ============= ============== ============
</TABLE>
See accompanying notes to financial statements.
- F-34 -
<PAGE>
THE MIDWEST DIVISION OF HEARING
HEALTH SERVICES, INC. DBA SONUS
STATEMENTS OF CASH FLOWS
<TABLE>
Four Months
Years Ended June 30 Ended October 31
------------------------ ------------------------
1996 1995 1996 1995
---- ---- ---- ----
(Unaudited)
Cash flows from operating activities:
<S> <C> <C> <C> <C>
Net income (loss) $ 75,846 $ 85,736 $ (52,428) $ 87,350
Adjustments to reconcile net income
(loss) to net cash provided by
(used in) operations:
Depreciation 108,430 90,677 41,200 16,218
Deferred taxes (13,471) 7,226 - -
Changes in current assets and liabilities:
(Increase) decrease in accounts receivable (18,170) (199,543) 12,047 53,717
Decrease (increase) in inventory 49,179 (9,676) 19,458 46,672
Decrease (increase) in prepaids and
other assets 11,302 (27,126) (22,890) 1,144
(Decrease) increase in accounts payable (80,598) 94,897 2,839 (117,433)
Increase (decrease) in accrued liabilities 15,918 (2,906) (25,731) (3,536)
(Decrease) increase in patient deposits (20,926) 18,439 12,403 8,897
(Decrease) increase in other liabilities (1,037) 58,974 (26,400) 43,115
------------- ------------ ------------ ------------
Net cash provided by (used in)
operating activities 126,473 116,698 (39,502) 136,144
------------- ------------ ------------ ------------
Cash flows from investing activities:
Purchases of equipment and fixtures (103,853) (202,904) (16,556) (41,243)
------------- ------------ ------------ ------------
Net cash used in investing activities (103,853) (202,904) (16,556) (41,243)
------------- ------------ -------------- -------------
Cash flows from financing activities:
Net payments on capital leases (24,556) - (7,100) (10,356)
Net (repayments to) proceeds from
related parties (6,188) 180,497 32,002 (19,799)
------------- ------------ ------------ ------------
Net cash (used in) provided by
financing activities (30,744) 180,497 24,902 (30,155)
------------- ------------ ------------ ------------
Net (decrease) increase in cash and cash
equivalents (8,124) 94,291 (31,156) 64,746
Cash and cash equivalents at
beginning of period 147,520 53,229 139,396 147,520
Cash and cash equivalents at
end of period $ 139,396 $ 147,520 $ 108,240 $ 212,266
============= ============ ============ ============
Supplemental disclosures of cash flow
information:
Interest paid $ 4,068 $ 14,437 $ 820 $ 1,025
============= ============ ============= ============
Income taxes paid $ 61,158 $ 33,798 $ 0 $ 57,298
============= ============ ============= ============
Schedule of non cash investing and financing
activities:
Capital lease obligation $ - $ 33,431 $ - $ -
============= ============ ============ ===========
</TABLE>
See accompanying notes to financial statements.
- F-35 -
<PAGE>
THE MIDWEST DIVISION OF HEARING
HEALTH SERVICES, INC. DBA SONUS
NOTES TO FINANCIAL STATEMENTS
(1) ORGANIZATION AND OPERATIONS
The Midwest Division of Hearing Health Services, Inc. dba Sonus (the
Company) consists of the Michigan and Illinois operations of Hearing Health
Services, Inc., a Delaware corporation. The Company provides diagnostic,
rehabilitation and preventative hearing health care products and services to
patients through 14 clinics located in Michigan and Illinois.
The Michigan and Illinois operations of Hearing Health Services, Inc.
operated under separate management independent from other Hearing Health
Services, Inc., locations. The accompanying financial statements reflect all
significant costs of operations for the Midwest Division of Hearing Health
Services, Inc.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) CASH AND CASH EQUIVALENTS
For purposes of reporting cash flows, cash and cash equivalents include
cash on-hand and short-term investments with original maturities of 90
days or less.
(b) NET REVENUES
Revenues from the sale of hearing instrument products are recognized at
the time of delivery. Revenues from the provision of hearing care
diagnostic services are recognized at the time that such services are
performed.
(c) INVENTORY
Inventory is stated at the lower of cost, determined on the first-in,
first-out method, or market value. Inventory consists of hearing
instruments and batteries, which have been purchased from vendors for
resale to customers.
(d) EQUIPMENT AND FIXTURES
Equipment and fixtures are stated at cost less accumulated depreciation
and amortization. Additions and betterments are capitalized, and
maintenance and repairs are charged to current operations as incurred. The
cost of assets retired or otherwise disposed of and the related
accumulated depreciation and amortization are removed from the accounts,
and the gain or loss on such dispositions is reflected in current
operations. Amortization of leasehold improvements is provided on the
straight-line method over the term of the lease or estimated useful lives
of the assets, whichever is less. Depreciation is provided on the
straight-line method. Estimated useful lives of the assets are:
Professional equipment 7 years
Furniture and fixtures 5 years
Office equipment 5 years
Leasehold improvements 1 - 5 years
(Continued)
- F-36 -
<PAGE>
(e) INCOME TAXES
The Company accounts for income taxes under the asset and liability
method. Under the asset and liability method, deferred tax assets and
liabilities are recognized for the future tax consequences attributable to
differences between the financial statement carrying amounts of existing
assets and liabilities and their respective tax bases and operating loss
and tax credit carryforwards. Deferred tax assets and liabilities are
measured using enacted tax rates expected to apply to taxable income in
the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of
a change in tax rates is recognized in income in the period that includes
the enactment date.
(f) CONCENTRATIONS OF CREDIT RISK
Financial instruments, which potentially subject the Company to
concentration of credit risk, consist principally of cash and trade
receivables. The Company places its cash with high credit quality
financial institutions. At times such amounts may be in excess of the FDIC
insurance limits. The Company's trade accounts receivable are derived from
numerous private payors, insurance carriers, health maintenance
organizations and government agencies. Concentration of credit risk
relating to trade accounts receivable is limited due to the diversity and
number of patients and payors.
(g) FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying value of financial instruments such as cash and cash
equivalents, trade receivables, notes payable and trade payables,
approximate their fair value.
(h) USE OF ESTIMATES
Management of the Company has made a number of estimates and assumptions
relating to the reporting of assets and liabilities and the disclosure of
contingent assets and liabilities to prepare these financial statements in
conformity with generally accepted accounting principles. Actual results
could differ from those estimates.
(i) INTERIM FINANCIAL STATEMENTS
In the opinion of management, the interim financial statements include all
adjustments, consisting only of normal recurring adjustments, necessary
for a fair statement of the results for the interim periods presented.
(3) EQUIPMENT AND FIXTURES
Equipment and fixtures consist of the following at June 30, 1996:
Professional equipment $ 329,453
Office equipment 194,327
Furniture and fixtures 74,445
Leasehold improvements 64,480
-------------
662,705
Less accumulated depreciation and amortization (273,182)
---------
$ 389,523
=============
(Continued)
- F-37 -
<PAGE>
Property and equipment at June 30, 1996 includes assets acquired under
capital leases of $23,402, net of accumulated depreciation of $10,029.
Depreciation expense for fiscal years 1996 and 1995 was $108,430 and
$90,677, respectively.
(4) INCOME TAXES
The Company is a division of, and its operations are included in the tax
return for, Hearing Health Services, Inc. Income taxes on the accompanying
financial statements are provided on a stand-alone basis as if the Company
filed its own tax return.
The components of the 1996 and 1995 provision (benefit) for income taxes are
as follows:
Year Ended June 30,
---------------------------
1996 1995
---- ----
Current:
Federal $ 51,492 $ 28,456
State 9,666 5,342
------------- ------------
61,158 33,798
------------- ------------
Deferred:
Federal (11,342) 6,083
State (2,129) 1,143
------------- ------------
(13,471) 7,226
------------- ------------
Total $ 47,687 $ 41,024
============= ============
(Continued)
- F-38 -
<PAGE>
The difference between the total income tax expense and the income tax expense
computed using the statutory federal income tax rate for the years ended June
30, 1996 and 1995 is as follows:
1996 1995
---- ----
Computed tax expense at
statutory rate 34.0% 34.0%
State tax expense, net of
federal taxes 4.0% 2.1%
Nondeductible expenses 0.6% 4.2%
--- ---
Total 38.6% 40.3%
===== ====
The deferred income tax asset of $39,179 at June 30, 1996 relates primarily to
certain reserves not currently deductible for tax purposes. No valuation
allowance was deemed necessary and there was no change in the valuation
allowance from the prior year. It is more likely than not that the entire amount
of the deferred tax asset will be realized due to the taxable income from the
carryback availability in prior years.
(5) LEASES
(a) OPERATING LEASES
The Company leases office and equipment under noncancellable operating
leases which require future minimum annual rentals as follows:
Year ending June 30
1997 $ 171,811
1998 152,483
1999 101,023
2000 54,387
2001 50,156
Thereafter 89,090
------
$ 618,950
=========
Certain of the leases contain renewal options and escalation clauses
which require payments of additional rent to the extent of increases in
related operating costs. Rent expense for fiscal 1996 and 1995 was
$195,369 and $194,821, respectively.
(Continued)
- F-39 -
<PAGE>
(b) CAPITAL LEASES
The Company leases certain professional equipment under capital leases
expiring through 1996. Future minimum lease payments related to capital
leases at June 30, 1996 are as follows:
Total minimum lease payments
(payable in fiscal year 1997) $ 9,900
Amounts representing interest 1,025
Present value of net minimum
lease payments $ 8,875
=======
(6) RELATED PARTY TRANSACTIONS
The Company receives advances to fund operations from related
partnerships managed by Foster Management. The balance due from
the Company to these partnerships is $277,923 at June 30, 1996.
The balance of the related party payable was not assumed by
HealthCare Hearing Clinics, Inc., in its acquisition of the
Company subsequent to year-end (see note 8). Therefore, the
related party payable balance is reflected as a non-current
liability on the accompanying financial statements.
The Company also leases corporate office space from a related
party under an agreement which expires in February, 2003. Rent
expense recorded for fiscal 1996 was $12,528.
(7) DEFINED CONTRIBUTION PLAN
The Company sponsors a defined contribution plan that provides
eligible employees (employees that have been employed for 12
months from their date of hire) the opportunity to accumulate
funds for their retirement. The plan does not require Company
contributions, nor have any contributions been made by the Company
for the years ended June 30, 1996 and 1995.
(8) SUBSEQUENT EVENT
As of October 31, 1996, the Company was acquired by HealthCare
Hearing Clinics, Inc., a Washington corporation and a wholly-owned
subsidiary of HealthCare Capital Corp., a corporation organized
under the laws of the Province of Alberta, Canada.
- F-40 -
