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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
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FORM 10-K
Annual Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
FOR THE FISCAL YEAR ENDED MARCH 31, 2000
COMMISSION FILE NUMBER 333-33121
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LEINER HEALTH PRODUCTS INC.
(Exact name of registrant as specified in its charter)
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DELAWARE 95-3431709
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
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901 EAST 233RD STREET, CARSON, CALIFORNIA 90745
(310) 835-8400
(Address and telephone number of principal executive offices)
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Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes /X/ No / /
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. /X/
As of June 27, 2000, there were 1,000 shares of the registrant's Common
Stock, par value $1, outstanding, none of which were held by non-affiliates.
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LEINER HEALTH PRODUCTS INC.
FORM 10-K
FOR THE FISCAL YEAR ENDED MARCH 31, 2000
TABLE OF CONTENTS
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PAGE
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PART I.
Item 1. Business.................................................... 1
Item 2. Properties.................................................. 15
Item 3. Legal Proceedings and Product Liability..................... 16
Item 4. Submission of Matters to a Vote of Security Holders......... 17
PART II.
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters....................................... 18
Item 6. Selected Financial Data..................................... 18
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 21
Item 7A. Quantitative and Qualitative Disclosures about Market
Risk...................................................... 28
Item 8. Financial Statements and Supplementary Data................. 29
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.................................. 29
PART III.
Item 10. Directors and Executive Officers............................ 30
Item 11. Executive Compensation...................................... 32
Item 12. Security Ownership of Certain Beneficial Owners and
Management................................................ 34
Item 13. Certain Relationships and Related Transactions.............. 35
PART IV.
Item 14. Exhibits, Financial Statement Schedules and Reports on Form
8-K....................................................... 37
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The data contained in this Form 10-K with respect to the Company's relative
market share and competitive position are based on retail sales, and are
approximations based on Company estimates and industry sources, including
Information Resources, Inc. ("IRI Infoscan"), Multi-Sponsor Survey, Inc.
("Gallup"), and Marketing and Management Information, Inc. ("MMI Data"). The
Company believes that such data are inherently imprecise, but are generally
indicative of its relative market share and competitive position. Market share
data are for the food, drug and mass merchandisers' sector of the vitamin
industry ("Mass Market") in the U.S. only and do not include Canadian market
share information for Vita Health Products Inc.
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PART I
ITEM 1
BUSINESS
GENERAL
Leiner Health Products Inc. ("Leiner" or the "Company") is one of the
nation's leading manufacturers of vitamins, minerals, and nutritional
supplements and distributes its products primarily through Mass Market
retailers. The Company has approximately a 17.4% share of all Mass Market
vitamin sales in the United States, and an over 50% share of the Mass Market
private label segment. Leiner's U.S. vitamin sales have grown at a compound
annual rate of approximately 18% per year over the last seven years, over one
and a quarter times the industry growth rate in the U.S. Leiner is also one of
the nation's largest private label over-the-counter ("OTC") pharmaceuticals
manufacturers, with approximately 19.5% of its sales in OTC pharmaceutical and
other products.
The Company is the ultimate successor to the vitamin product division of P.
Leiner & Sons, America, Inc. The division, founded in 1973, was purchased in
1979 by management and Booker plc through Leiner, then named P. Leiner
Nutritional Products Corp. (the "Predecessor Company"). On May 4, 1992, Leiner
Health Products Group Inc. ("Leiner Group") acquired Leiner (the "LHP
Acquisition") for a total purchase price of approximately $90.9 million. On
May 22, 1992, Leiner Group acquired privately held XCEL Laboratories, Inc., a
major U.S. private label OTC pharmaceuticals manufacturer for a total purchase
price of approximately $24.7 million. On March 8, 1993, XCEL Laboratories, Inc.
was merged into Leiner. Leiner subsequently changed its name to Leiner Health
Products Inc. Leiner Group was incorporated under the laws of the State of
Delaware in 1987 by AEA Investors Inc. and did not have any significant assets,
liabilities or activities prior to the LHP Acquisition. Leiner Group is a
holding company with no significant operations or assets other than the stock of
Leiner, which it holds through its sole direct subsidiary, PLI Holdings Inc.,
itself a holding company ("PLI Holdings"). Leiner Group was recapitalized
effective June 30, 1997. See "Recapitalization."
In January 1997, the Company acquired Vita Health Company (1985) Ltd., one
of the leading manufacturers of private label and branded vitamins, minerals and
OTC pharmaceuticals in Canada, for a total purchase price of approximately
$16.0 million, including $1.1 million of direct acquisition costs. Vita Health
Company (1985) Ltd. changed its name in 1998 to Vita Health Products Inc. ("Vita
Health"). Vita Health is currently a wholly-owned indirect subsidiary of Leiner.
Vita Health is headquartered in Winnipeg, Manitoba, Canada. This location serves
as Vita Health's headquarters, manufacturing, tableting, packaging and
distribution location.
On December 17, 1999, Leiner Health Products Inc. acquired substantially all
of the assets of Granutec, Inc. ("Granutec"), a manufacturer and distributor of
private label, over-the-counter pharmaceutical drugs in the United States, and
Vita Health acquired substantially all of the assets of Stanley Pharmaceuticals
Ltd. ("Stanley"), a manufacturer and distributor of private label,
over-the-counter pharmaceutical drugs and vitamin supplement products in Canada,
both of which were subsidiaries of Novopharm Limited of Ontario, Canada
("Novopharm"). The Company also acquired certain related assets of Novopharm
(collectively, the "Acquisition"). See Item 7 "Management's Discussion and
Analysis of Financial Condition and Results of Operations--Acquisition"
The Company's fiscal year ends on March 31 of each year. References herein
to a "fiscal year" refer to the Company's fiscal year ended March 31 in the
calendar year indicated (e.g., references to fiscal year 2000 are references to
the Company's fiscal year ended March 31, 2000).
RECAPITALIZATION
On June 30, 1997, Leiner Group completed a leveraged recapitalization
transaction (the "Recapitalization"). The Recapitalization was effected pursuant
to a Stock Purchase Agreement and Plan of Merger,
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dated as of May 31, 1997 (the "Recapitalization Agreement") among Leiner Group,
North Castle Partners I, L.L.C. ("North Castle"), and LHP Acquisition Corp., a
wholly-owned subsidiary of North Castle (the "Merger Entity"). North Castle, a
Delaware limited liability company, is an investment fund formed by
Mr. Charles F. Baird, Jr., to effect the Recapitalization. Pursuant to the
Recapitalization, Leiner Group repurchased common stock from its existing
shareholders in an amount totaling (together with equity retained by such
shareholders) $211.1 million, issued $80.4 million of new shares of the
recapitalized Leiner Group to North Castle, issued $85 million of Senior
Subordinated Notes (the "Notes"), and established a $210 million senior secured
credit facility that provided for both term and revolving credit borrowings.
Immediately upon consummation of the Recapitalization, the obligations of Leiner
Group under the Notes and the $210 million senior credit facility were assigned
to and assumed by the Company. The Recapitalization was accounted for as a
recapitalization of Leiner Group which had no impact on the historical basis of
assets and liabilities as reflected in the Company's consolidated financial
statements.
Upon consummation of the Recapitalization, (i) current managers and
employees of the Company who had been existing shareholders had some of their
existing common stock exchanged for cash, but together with Mr. Baird, retained
approximately 8.3% of Leiner Group equity (consisting of approximately 58.6% of
the non-voting Leiner Group common stock and 5.6% of the voting Leiner Group
common stock) and received rights under certain circumstances to receive Leiner
Group common stock ("Equity Rights") equal to approximately 7.4% of Leiner Group
equity, as well as certain warrants to acquire Leiner Group common stock
("Warrants"), (ii) AEA Investors Inc. and certain of its co-investors (the "AEA
Group") and certain former managers of the Company, all of whom had been
existing shareholders, had most of their common stock purchased for cash, but
also retained Leiner Group common stock equal to approximately 10.1% of Leiner
Group equity (consisting of approximately 41.4% of the non-voting Leiner Group
common stock and 8.8% of the voting Leiner Group common stock), as well as
Warrants, and (iii) North Castle acquired the remainder of Leiner Group equity,
primarily through the purchase of newly issued voting Leiner Group common stock
equal to approximately 73.8% of Leiner Group equity for a cash investment of
$80.4 million. In connection with the Recapitalization, existing stock options
held by management shareholders were cashed out, exercised for common stock, or
converted into Equity Rights.
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SEASONALITY
Leiner's business is seasonal, as increased vitamin usage corresponds with
the cough, cold and flu season. A significant portion of the Company's sales and
a more significant portion of the Company's operating income occurs in the
second half of the fiscal year as shown below (in millions):
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NET SALES OPERATING INCOME (LOSS)
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Fiscal 2000
First quarter.................................. $120.9 $ --
Second quarter................................. 144.5 2.7
Third quarter(1)............................... 182.7 12.7
Fourth quarter(1).............................. 214.2 23.8
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$662.3 $ 39.2
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Fiscal 1999
First quarter.................................. $122.3 $ 5.9
Second quarter................................. 149.4 7.7
Third quarter.................................. 162.2 13.1
Fourth quarter................................. 193.0 20.3
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$626.9 $ 47.0
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Fiscal 1998
First quarter.................................. $ 94.1 $(28.2)
Second quarter................................. 112.2 5.3
Third quarter.................................. 132.5 11.5
Fourth quarter................................. 163.3 15.8
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$502.1 $ 4.4(2)
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(1) Net sales and operating income of $6.1 million and $1.1 million,
respectively, in the third quarter of fiscal year 2000 and $33.0 million and
$3.1 million, respectively, in the fourth quarter of fiscal year 2000,
relate to the Acquisition. See Note 3 of Notes to Consolidated Financial
Statements.
(2) Includes expenses of $15.6 million related to stock option compensation,
$5.2 million of management bonuses and expenses incurred by Leiner Group in
connection with its capital raising activities of $12.0 million, all of
which were incurred in connection with the Recapitalization. Without these
expenses, operating income would have been $4.1 million for the first
quarter of fiscal 1998 and $37.2 million for fiscal 1998. See Note 4 of
Notes to Consolidated Financial Statements.
PRODUCTS
The following table sets forth the net sales of the Company's vitamin, OTC
pharmaceutical and other product lines for the periods indicated (in millions):
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FISCAL YEARS ENDED MARCH 31,
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2000 1999 1998
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Vitamin products.................................... $533.1 $530.1 $424.7
OTC pharmaceuticals................................. 98.8 65.6 61.1
Other products...................................... 30.4 31.2 16.3
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Total............................................. $662.3 $626.9 $502.1
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VITAMIN PRODUCTS. The Company sells a full line of vitamin products,
including more than 500 products in more than 10,000 stock keeping units
("SKUs"). The Company's products are sold in tablet and capsule forms, and in
varying sizes with different potencies, flavors and coatings. The Company's
vitamin products include national brand equivalents which compare to the dietary
ingredients contained in CENTRUM-REGISTERED TRADEMARK-,
ONE-A-DAY-REGISTERED TRADEMARK- and GINSANA-REGISTERED TRADEMARK-, natural
vitamin products such as vitamins C and E and folic acid, minerals such as
calcium, supplements such as glucosamine and herbal products such as St. John's
wort, ginseng and ginkgo biloba. In addition, Leiner's YOUR
LIFE-REGISTERED TRADEMARK- brand is one of the nation's largest broadline
vitamin product brands. Sales of vitamins C and E, in the aggregate, accounted
for approximately 30.9% of the Company's sales in fiscal 2000.
The Company sells vitamin products under its customers' store names
("private label products"). The Company estimates that private label products
accounted for approximately 80% of Leiner's total fiscal 2000 vitamin sales.
Vita Health produces approximately 350 different types of vitamins and
minerals. However, the majority of Vita Health's sales in this segment are
concentrated in a few core product categories. The top 5 product categories,
which comprise over one-half of Vita Health's vitamin sales, are vitamin C
products, vitamin E products, multivitamins, herbal products and supplements.
OTC PHARMACEUTICALS. The Company markets approximately 400 different OTC
pharmaceutical products in approximately 3,700 SKUs, including products
comparable to most major national brands in the analgesic, cough and cold remedy
and digestive aid categories. The Company sells its OTC pharmaceuticals under
its customers' private labels as well as its own broadline brand, PHARMACIST
FORMULA-REGISTERED TRADEMARK-, first introduced in 1989.
Vita Health's OTC pharmaceutical sales are primarily analgesic products and
cough and cold products. In Canada, there are two primary classes of analgesic
products, those with codeine and those without. Vita Health produces both types
of products.
In the Acquisition, the Company acquired rights from Novopharm to market and
manufacture pharmaceutical products previously available only by prescription,
but now sold over-the-counter, ("Rx--to--OTC switch products"), including
Ranitidine and Naproxen Sodium. The Company intends to use the Chemistry,
Manufacturing and Control ("CMC") experience, (also gained in the Acquisition),
with these and other Rx-to-OTC switch products to further broaden its OTC
product line. See "Government Regulation--OTC Pharmaceuticals."
SERVICES; OTHER PRODUCTS. The Company performs contract manufacturing
services on a limited basis for selected consumer product companies. In order to
leverage further its existing distribution system and marketing expertise, the
Company markets certain niche products. For example, the Company developed and
markets the BODYCOLOGY-REGISTERED TRADEMARK- line of hair, skin and bath care
products.
CUSTOMERS
The Company's vitamin products are sold in all 50 states through more than
50,000 retail outlets, including drug store, supermarket, mass merchandising,
and warehouse club chains, as well as in convenience stores and through the
United States military outlets worldwide. Leiner is the vitamin category manager
for many leading retailers. The Company's vitamin product customers include
eight of the ten largest drug store chains (including CVS Corp., Walgreen
Company, Rite Aid Corporation, Eckerd Corporation, and Longs Drug Stores), nine
of the ten largest supermarket chains (including Kroger Co., Albertson's, Inc.,
Safeway, Ahold USA, and Winn-Dixie Stores), six of the ten largest mass
merchandising chains (including Wal-Mart, Target and Kmart), and the two largest
warehouse club chains (Sam's Club and Costco). The Company has approximately 210
active U.S. customers. In fiscal 2000, Wal-Mart Stores, Inc. and Costco
accounted for approximately 31% and 9%, respectively, of the Company's sales.
Each of the Company's other major customers accounted for less than 10% of the
Company's sales for
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fiscal 2000. The Company's top ten customers in the aggregate accounted for
approximately 68% of the Company's sales for fiscal 2000.
BACKLOG ORDERS
The Company had approximately $20.5 million in backlog orders, believed to
be firm, as of March 31, 2000. Substantially all of these orders are expected to
be shipped in fiscal 2001. The Company had $16.1 million in backlog orders,
believed to be firm, as of March 31, 1999.
PURCHASED MATERIALS
The Company purchases from third party suppliers raw materials and certain
products that the Company does not manufacture. Although the Company currently
has supply arrangements with several suppliers of these ingredients and
products, and the Company's purchased materials are generally available from
numerous sources, an unexpected interruption of supply could materially
adversely affect the Company's results of operations. Two suppliers provided
approximately 23% of the materials purchased during fiscal 2000 by the Company.
No other single supplier accounted for more than 10% of the Company's material
purchases.
COMPETITION
The markets for the Company's products are highly competitive. The Company
competes on the basis of customer service, product quality, range of products
offered, pricing and marketing support. In the Mass Market vitamin product
business, the Company believes that its major U.S. competitors are Pharmavite,
Royal Numico, and NBTY, Inc. (manufacturer of Nature's Bounty vitamin products).
In the OTC pharmaceuticals business, the Company believes its major U.S.
competitor is Perrigo Company.
In the United States, the Company sells approximately 90% of its vitamin
products to Mass Market and warehouse club retailers. The Company does not
currently participate significantly in other U.S. distribution channels such as
health food stores, direct mail and direct sales, and, therefore, may face
competition from such alternative channels as more customers utilize these
channels of distribution to obtain vitamin products.
The Company competes with other major private label and broadline brand
manufacturers, certain of which are larger and have access to greater resources
than the Company. Among other factors, competition among private label
manufacturers is based upon price. If one or more manufacturers significantly
reduce their prices in an effort to gain market share, the Company's results of
operations or market position could be adversely affected. However, the Company
believes that it competes favorably with other companies because of its (i) low
manufacturing costs, (ii) sales and marketing strategies (including the wide
range of products offered), (iii) customer service (including adaptability to
customer needs and speed of delivery), and (iv) reputation of supplying quality
products.
The Company also competes with larger manufacturers of nationally advertised
brand name products such as American Home Products Corp., Bayer Group and
Bristol-Myers Squibb Co., which have resources substantially greater than those
of the Company, and are substantially less leveraged than the Company. In the
future, one or more of these companies could seek to compete more directly with
the Company by manufacturing private label products or by significantly lowering
the prices of their national brand products. The Company believes, however, that
the mass-oriented manufacturing and marketing methods used by national brand
manufacturers are less suited to the customized packaging and marketing
requirements of private label customers, which the Company satisfies by
utilizing its packaging and graphics facilities.
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EMPLOYEES
As of March 31, 2000, the Company had 3,103 full-time employees; 947
employees were engaged in executive or administrative capacities and 2,156
employees were engaged in manufacturing, packaging or distribution. In addition,
as of March 31, 2000, the Company employed approximately 1,388 temporary
employees. The large number of temporary employees gives the Company significant
flexibility to adjust staffing levels in response to seasonal fluctuations in
demand. Certain of the Vita Health employees are represented by a collective
bargaining unit. The Company considers its relations with its employees to be
good.
GOVERNMENT REGULATION
The manufacturing, processing, formulation, packaging, labeling, advertising
and sale of the Company's products are subject to regulation by one or more
United States and Canadian federal agencies, including the United States Food
and Drug Administration ("FDA"), the United States Federal Trade Commission
("FTC"), the United States Consumer Product Safety ("CPSC") and Health Canada.
The activities are also regulated by various agencies of the states, provinces
and localities in which the Company's products are sold. In addition, the
Company manufactures and markets certain of its products in compliance with the
guidelines promulgated by voluntary standard organizations, such as the United
States Pharmacopoeia Convention, Inc. ("USP").
FDA. The United States Food and Drug Administration exercises authority
over three aspects of the Company's business: (i) the labeling and marketing of
dietary supplements, (ii) the labeling and marketing of monograph OTC,
abbreviated New Drug Application ("ANDA") and OTC pharmaceutical drug products,
and (iii) the operation of its manufacturing and packaging facilities.
DIETARY SUPPLEMENTS. The Dietary Supplement Health and Education Act of
1994 ("DSHEA") was enacted on October 25, 1994 and amends the Federal Food, Drug
and Cosmetic Act to (i) define dietary supplements, (ii) expand with certain
limitations the number of products that can be marketed as dietary supplements,
(iii) permit "structure/function" statements for all vitamin products, including
herbal products and other nutritional supplements, and (iv) permit the use of
certain published literature in the sale of vitamin products. Dietary
supplements are regulated as food products under DSHEA, and the FDA is
prohibited from regulating the dietary ingredients in supplements as food
additives, or the supplements as drugs, unless product claims trigger drug
status.
DSHEA provides for specific nutritional labeling requirements for dietary
supplements. The latest FDA labeling regulations were effective March 23, 1999.
DSHEA permits substantiated, truthful and non-misleading statements of
nutritional support to be made in labeling, including describing the positive
effects on general well-being from consumption of a dietary ingredient or the
role of a nutrient or dietary ingredient in affecting or maintaining structure
or function of the body. In addition, DSHEA authorizes the FDA to promulgate
current good manufacturing practices specific to the manufacture of dietary
supplements, to be modeled after current good manufacturing practices for food.
The Company currently manufactures its dietary supplement products pursuant to
the more detailed OTC pharmaceutical "Current Good Manufacturing Practices for
Finished Pharmaceuticals" ("cGMP").
On January 6, 2000, the FDA published a Final Rule regarding statements made
in dietary supplement labeling. Such statements cannot state expressly or
implicitly that a dietary supplement has any effect on a disease. Since the
passage of DSHEA the FDA has wavered on its definition of disease. This Final
Rule clarifies the FDA's definition of a disease. In addition, the Final Rule
opens up statements from several OTC drug monographs for use on dietary
supplements (e.g., relief of occasional sleeplessness). This gives the industry
a new level of freedom in marketing dietary supplements and providing
information to consumers about the use of dietary supplements. Effective
January 31, 2000, the Center for Food Safety and Applied Nutrition ("CFSAN")
combined the former Office of Food Labeling and the former Office of Special
Nutritionals into a single entity now known as the Office of Nutritional
Products, Labeling and
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Dietary Supplements. The merger of the two offices will maximize the resources
that, in many cases, were previously working on overlapping issues.
The Company cannot determine what effect the FDA's future regulations, when
and if promulgated, would have on its business in the future. Such regulations
could, however, among other things, require expanded documentation of the
properties of certain products, or scientific substantiation regarding
ingredients, product claims or safety. In addition, the Company cannot predict
whether new legislation regulating the Company's activities will be enacted, or
what effect any such legislation would have on the Company's business.
OTC PHARMACEUTICALS. FDA regulation of OTC pharmaceuticals takes two forms.
Most of the Company's OTC pharmaceutical products are governed by FDA monographs
covering well-known ingredients and specifying, among other things, permitted
claims, required warnings and precautions, allowable combinations of ingredients
and dosage levels. Marketing a product governed by a monograph or pending
monograph requires no prior approval of the FDA, only compliance with the
applicable monograph. Monographs may be changed from time to time, requiring
formulation, packaging or labeling changes for an affected product. While such
changes may cause the Company to incur costs to comply with such changes,
disruption of distribution or material obsolescence of inventory due to any such
changes is not likely.
The Company also markets Rx-to-OTC switch products, which have gone through
an FDA review and approval process before the products can be distributed. The
Company acquired from Novopharm, five Rx-to-OTC switch products (Naproxen Sodium
Tablets USP, Ibuprofen Tablets USP, Cimetidine Tablets USP, Loperamide Tablets,
USP, and Ranitidine Tablets, USP) that were approved through the ANDA review
process by the Office of Generic Drugs, FDA. Based on current FDA regulations,
all chemistry, manufacturing and control ("CMC") issues related to these
products are controlled by the information included in the ANDAs. Changes to the
approved ANDAs and, therefore, changes to these products, are governed by
specific regulations and guidances that determine when changes, if approved by
the FDA, can be implemented. The Drug Price Competition and Patent Term
Restoration Act of 1984 (the Hatch-Waxman Amendments to the Federal Food, Drug
and Cosmetic Act) can give a three-year period of marketing exclusivity to a
company that obtains FDA approval of an Rx-to-OTC switch product. Unless Leiner
establishes relationships with such companies having exclusive marketing rights,
the Company's ability to market Rx-to-OTC switch products and offer its
customers products comparable to the national brand products would be delayed
until the expiration of the exclusivity granted to the company initiating such a
switch. There can be no assurance that, in the event that the Company applies
for FDA approvals, the Company would obtain such approvals to market Rx-to-OTC
switch products or, alternatively, that the Company would be able to obtain such
products from other manufacturers.
The Company is also subject to the requirements of the Comprehensive
Methamphetamine Control Act of 1996, a law designed to allow the Drug
Enforcement Administration (DEA) to monitor transactions involving chemicals
that may be used illegally in the production of methamphetamine. The
Comprehensive Methamphetamine Control Act of 1996 establishes certain
registration and recordkeeping requirements for manufacturers of OTC cold,
allergy, asthma and diet medicines that contain ephedrine, pseudoephedrine or
phenylpropanolamine. While certain of the Company's OTC pharmaceutical products
contain pseudoephedrine, none of the Company's products contain ephedrine, a
chemical compound that is distinct from pseudoephedrine. Pseudoephedrine is a
common ingredient in decongestant products manufactured by the Company and other
pharmaceutical companies.
MANUFACTURING AND PACKAGING. All facilities where foods (including dietary
supplements) and pharmaceuticals are manufactured, packed, warehoused, or sold
must comply with the FDA manufacturing standards applicable to that type of
product. All of the Company's products are manufactured, packaged and
distributed according to the cGMP. The FDA performs periodic audits to ensure
that the Company's facilities remain in compliance with the cGMP regulations.
The failure of a facility to be in
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compliance may lead to a breach of representations made to private label
customers or to regulatory action against the products made in that facility,
including seizure, injunction or recall. The Company believes that its
facilities are in compliance in all material respects with the cGMPs and other
applicable requirements for each facility.
CPSC. The United States Consumer Product Safety Commission has authority,
under the Poison Prevention Packaging Act, to designate those products,
including vitamin products and OTC pharmaceuticals, that require child resistant
closures to help reduce the incidence of poisonings. The CPSC has adopted
regulations requiring numerous OTC pharmaceuticals and iron-containing dietary
supplements to have such closures, and has adopted rules on the testing of such
closures by both children and adults. The Company, working with its packaging
suppliers, believes that it is in compliance with all CPSC requirements.
FTC. The United States Federal Trade Commission exercises primary
jurisdiction over the advertising and other promotional practices of food and
OTC pharmaceuticals marketers, and has concurrent jurisdiction with the FDA over
the advertising and promotional practices of marketers of dietary supplements.
The FTC has historically applied a different standard to health-related claims
than the FDA; the FTC has applied a "substantiation standard," which is less
restrictive than the standard under the Nutritional Labeling Education Act
("NLEA"). The FTC NLEA enforcement policy uses FDA regulations as a baseline
(and safe harbor) and permits (i) nutrient content descriptions that are
reasonable synonyms of FDA-permitted terms, and (ii) qualified health claims not
approved by FDA where adequate substantiation exists for the qualified or
limited claims.
STATE REGULATION. All states regulate foods and drugs under local laws that
parallel federal statutes. Because the NLEA gave the states the authority to
enforce many labeling prohibitions of the Federal Food, Drug, and Cosmetic Act
after notification to the FDA, the Company and other dietary supplement
manufacturers may be subject to increasing state scrutiny for NLEA compliance,
as well as increasing FDA review. The Company is also subject to California
Proposition 65 and state consumer health and safety regulations which could have
a potential impact on the Company's business if any of the Company's products
were ever found not in compliance. The Company is not engaged in any enforcement
or other regulatory actions and is not aware of any products which are not in
compliance with California Proposition 65 and other similar state regulations.
USP. The United States Pharmacopoeia Convention, Inc. is a
non-governmental, voluntary standard-setting organization. Its drug standards
are incorporated by reference into the Federal Food, Drug, and Cosmetic Act as
the standards that must be met for the listed drugs, unless compliance with
those standards is specifically disclaimed. USP standards exist for most OTC
pharmaceuticals. The FDA requires USP compliance as part of cGMP.
The USP began adopting standards for vitamin and mineral dietary supplements
in 1994. These standards cover composition (nutrient ingredient potency and
combinations), disintegration, dissolution, manufacturing practices and testing
requirements. These standards are codified in the USP Monographs and the USP
Manufacturing Practices. In 1995, USP compliance included the standards for
disintegration and dissolution. While USP standards for vitamins are voluntary,
and not incorporated into federal law, customers of the Company may demand that
products they are supplied meet these standards. Label claims of compliance with
the USP may expose a company to FDA scrutiny for such claims. In addition, the
FDA may in the future require compliance, or such a requirement may be included
in new dietary supplement legislation. All of the Company's vitamin products
(excluding certain nutritional supplements products for which no USP standards
have been adopted) are formulated to comply with existing USP standards and are
so labeled.
CANADIAN REGULATION. In Canada, the Company's products are subject to
federal and provincial law, particularly federal drug legislation. Government
regulation under the Food and Drug Act and the
8
<PAGE>
regulations thereunder (the "Canadian Act") require regulatory approvals of such
products through a drug identification number ("DIN") by Health Canada--Health
Protection Branch (the "HPB"). All substances sold for ingestion by humans are
regulated either as a food or drug under the Canadian Act. In addition, certain
of the Company's products are subject to government regulation under the
Canadian Controlled Drugs and Substances Act and the regulations thereunder
("CDSA"). The Canadian Act and the CDSA are enforced by the HPB.
The Canadian Act governs the processing, formulation, packaging, labeling,
advertising and sale of the Company's products and regulates what may be
represented to the public on labels and in promotional material, in respect of
the properties of the various products. The Canadian Act also provides that any
drugs sold in Canada must have a label affixed thereto which shows certain
information such as its proper scientific or common name, the name and address
of the manufacturer, its lot number, adequate directions for use, a quantitative
list of its medical ingredients and its expiration date. In addition, no person
may sell a drug unless it has been assigned a DIN. DINs are obtained through an
application to the HPB. Regulations under the Canadian Act require all
manufacturers to pay annual fees for their DINs. HPB approval for the sale of
the Company's products may be subject to significant delays despite the
Company's best efforts.
The CDSA governs the manufacture and sale of controlled substances as
defined in the CDSA. The CDSA contains requirements for licenses of the factory,
approved security, a qualified person in charge of the factory and detailed
record keeping in connection with the manufacturing of controlled substances.
Regulations under the Canadian Act set out mandatory and rigorous
procedures, practices and standards for manufacturers. Health Canada performs
inspections of companies in the industry to ensure compliance with the Canadian
Act and the CDSA. For each of the Company's products, the development process,
the manufacturing procedures, the use of equipment, and laboratory practices and
premises must comply with Good Manufacturing Practices and Establishment
Licensing regulations under the Canadian Act.
The Company's herbal products which are being marketed with drug claims or
which contain drug substances require regulatory approval in the form of a DIN
issued by Health Canada. Approvals are based on traditional references and are
approved as Traditional Herbal Medicines. In addition, the Canadian government
has established a panel to review the regulatory framework for natural products.
If the Canadian government implements new or amended requirements for natural
products it may result in additional costs to the Company for the requisite
regulatory approval.
INTELLECTUAL PROPERTY
The Company regards its trademarks and other proprietary rights as valuable
assets and believes they are important in the marketing of the Company's
products. Among the Company's most significant trademarks are YOUR
LIFE-REGISTERED TRADEMARK-, PHARMACIST FORMULA-REGISTERED TRADEMARK-, DAILY
PAK-REGISTERED TRADEMARK-, CENTRAL-VITE-REGISTERED TRADEMARK- and
BODYCOLOGY-REGISTERED TRADEMARK-. The Company has registered its marks in the
United States and approximately 48 foreign countries. Leiner now owns 143
trademark registrations in the United States and 227 registrations abroad, as
well as 69 pending applications for registration of trademarks in the United
States and 47 pending applications in other countries. The Company intends to
maintain the foreign and domestic registrations of its trademarks so long as
they remain valuable to its business. The Company vigorously polices its marks
and protects them from infringement.
The Company does not currently have any patents on its proprietary
processes. The Company believes that it can better protect its trade secrets by
maintaining the confidentiality of the relevant information.
9
<PAGE>
ENVIRONMENTAL MATTERS
The Company is subject to various United States and Canadian federal, state,
provincial and local environmental laws and regulations. The costs of complying
with such laws and regulations have not had, and are not expected to have, a
material adverse effect on the business of the Company.
RISK FACTORS
SUBSTANTIAL LEVERAGE; ABILITY TO SERVICE INDEBTEDNESS. As a result of the
Recapitalization, the Company is highly leveraged. The Amended Credit Agreement
(as defined in Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations--Liquidity and Capital Resources) and the
indenture governing the Notes will permit the Company to incur or guarantee
certain additional indebtedness, subject to certain limitations. The Company
will be required to repay the $171.1 million in term loans outstanding as of
March 31, 2000 under the Amended Credit Agreement by December 30, 2005, with
scheduled principal payments of $1.7 million annually for fiscal 2001 and fiscal
2002, $1.8 million for fiscal year 2003, $37.1 million for fiscal 2004,
$82.4 million for fiscal 2005, and $46.4 million in fiscal 2006. All outstanding
revolving credit borrowings under the Amended Credit Agreement will become due
on June 30, 2003. The Company expects that its working capital needs will
require it to obtain replacement revolving credit facilities at that time. See
"Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations--Liquidity and Capital Resources--Financing Arrangements."
The Company's high degree of leverage could have important consequences to
holders of Notes, including, but not limited to the following: (i) the Company's
ability to obtain additional financing for working capital, capital
expenditures, acquisitions or general corporate purposes may be impaired in the
future; (ii) a substantial portion of the Company's cash flow from operations
must be dedicated to the payment of principal and interest on its indebtedness,
thereby reducing the funds available to the Company for its operations and other
purposes, including investments in research and development and capital
spending; (iii) the Company may be substantially more leveraged than certain of
its competitors, which may place the Company at a competitive disadvantage;
(iv) the Company may be hindered in its ability to adjust rapidly to changing
market conditions; and (v) the Company's substantial degree of leverage could
make it more vulnerable in the event of a downturn in general economic
conditions or its business or changing market conditions and regulations.
The Company's ability to repay or to refinance its obligations with respect
to its indebtedness will depend on its future financial and operating
performance, which, in turn, will be subject to prevailing economic and
competitive conditions and to certain financial, business, legislative,
regulatory and other factors, many of which are beyond the Company's control.
These factors could include operating difficulties, increased operating costs,
product pricing pressures, the response of competitors, regulatory developments,
and delays in implementing strategic projects. The Company's ability to meet its
debt service and other obligations may depend in significant part on the extent
to which the Company can implement successfully its business strategy. There can
be no assurance that the Company will be able to implement its strategy fully or
that the anticipated results of its strategy will be realized.
If the Company's cash flow and capital resources are insufficient to fund
its debt service obligations, the Company may be forced to reduce or delay
capital expenditures, sell assets, or seek to obtain additional equity capital,
or to refinance or restructure its debt. There can be no assurance that the
Company's cash flow and capital resources will be sufficient for the payment of
principal, premium, if any, and interest on, its indebtedness in the future, or
that any such alternative measures would be successful or would permit the
Company to meet its scheduled debt service obligations. In addition, because the
Company's obligations under the Amended Credit Agreement will bear interest at
floating rates, an increase in interest rates could adversely affect, among
other things, the Company's ability to meet its debt service obligations. The
Company entered into an interest protection arrangement effective July 30, 1997
for a period of three years with respect to $29.5 million of its indebtedness
under the Amended Credit
10
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Agreement that provides a fixed rate of 6.17% on the interest rates payable
thereon. On October 8, 1999, the Company entered into an interest protection
agreement with respect to $54.0 million of its indebtedness under the Amended
Credit Agreement, whereby the Company will not pay any lower than 5.94% on LIBOR
rates plus applicable margin. See "Item 7. Management's Discussion and Analysis
of Financial Condition and Results of Operations--Liquidity and Capital
Resources--Financing Arrangements."
In connection with the Acquisition, the Company assumed an industrial
development revenue bond loan ("IRB Loan") with an outstanding principal amount
of $7.1 million. The interest rate on the IRB Loan is variable (4.15% as of
March 31, 2000), and fluctuates on a weekly basis. Principal is due and payable
in annual installments of $0.5 million, with the remaining outstanding principal
amount due and payable on May 1, 2014.
During fiscal 2000, the Company entered into a loan agreement with the
Manitoba Industrial Opportunities Program to fund the expansion and upgrading of
the Company's manufacturing facility in Canada. As of March 31, 2000, the
Company received approximately $1.3 million in advances on the loan, which is
not to exceed a total of approximately $1.9 million. Interest on the loan will
be waived contingent upon the Company's compliance with certain obligations,
including meeting certain financial ratios. Principal repayments are scheduled
to be made in two equal payments of 50% of the final loan amount. The first
payment is to be made on the last day of the 48(th) month and the second on the
last day of the 60(th) month after the date of the final disbursement, which is
to be made no later than September 30, 2000.
SUBORDINATION OF NOTES. The Notes are unsecured, senior subordinated
obligations of Leiner, and as such, are subordinated in right of payment to all
existing and future senior debt of Leiner, including indebtedness of Leiner
under the Amended Credit Agreement and Leiner's guarantee of indebtedness of
Vita Health under the Amended Credit Agreement. The Notes rank PARI PASSU with
all senior subordinated indebtedness of Leiner, if any, and rank senior to all
subordinated indebtedness of Leiner, if any. The Notes are also effectively
subordinated to all secured indebtedness of Leiner to the extent of the value of
the assets securing such indebtedness, and to all existing and future
obligations and liabilities of Leiner's subsidiaries. The obligations of Leiner
under the Amended Credit Agreement are secured by substantially all of the
assets of Leiner and any future U.S. subsidiary of Leiner and a pledge of the
capital stock of Leiner and any such subsidiary and 65% of the capital stock of
any direct foreign subsidiary of Leiner. The obligations of Vita Health under
the Amended Credit Agreement are additionally secured by substantially all of
the assets of Vita Health and its Canadian parents and subsidiaries.
In the event of bankruptcy, liquidation, dissolution, reorganization or any
similar proceeding regarding Leiner, or any default in payment or acceleration
of any debt thereof, the assets of Leiner will be available to pay obligations
on the Notes only after the senior debt of Leiner has been paid in full, and
there may not be sufficient assets remaining to pay amounts due on all or any of
such Notes.
RESTRICTIVE FINANCING COVENANTS. The Amended Credit Agreement contains a
number of covenants that significantly restrict the operations of the Company.
In addition, the Company is required to comply with specified financial ratios
and tests, including minimum net worth requirements, maximum leverage ratios,
minimum fixed charge coverage ratios and minimum EBITDA to cash interest expense
ratios, and certain of these ratios and tests may be more restrictive in future
years. There can be no assurance that the Company will be able to comply with
such covenants or restrictions in the future. The Company's ability to comply
with such covenants and other restrictions may be affected by events beyond its
control, including prevailing economic, financial and industry conditions. The
breach of any such covenants or restrictions could result in a default under the
Amended Credit Agreement that would permit the lenders thereunder to declare all
amounts outstanding thereunder to be immediately due and payable, together with
accrued and unpaid interest, and terminate their commitments to make further
extensions of credit thereunder, and the Company could be prohibited from making
any payments on the Notes. In addition, the indenture governing the Notes
contains a number of restrictive covenants relating to the Company. These
covenants, however, are subject to a number of exceptions and limitations, and
may not afford holders of the Notes
11
<PAGE>
with protection in the event of a highly-leveraged transaction, reorganization,
restructuring, merger or similar transaction involving the Company that may
adversely affect holders of the Notes.
CHANGE OF CONTROL. Upon the occurrence of a Change of Control (as defined
in the indenture governing the Notes), the Company will be required to make an
offer to purchase all of the outstanding Notes at a price equal to 101% of the
principal amount thereof at the date of purchase plus accrued and unpaid
interest, if any, to the date of purchase. The occurrence of certain of the
events that would constitute a Change of Control under the indenture governing
the Notes would constitute a default under the Amended Credit Agreement and
might constitute a default under other indebtedness of the Company. In addition,
the Amended Credit Agreement prohibits the purchase of the Notes in the event of
a Change of Control, unless and until such time as the indebtedness under the
Amended Credit Agreement is repaid in full. The Company's failure to purchase
the Notes in such instance would result in default under each of the indentures
governing the Notes and the Amended Credit Agreement. The inability to repay the
indebtedness under the Amended Credit Agreement, if accelerated, could have
material adverse consequences to the Company and to the holders of the Notes.
Future indebtedness of the Company may also contain prohibitions of certain
events or transactions that could constitute a Change of Control or require such
indebtedness to be repurchased upon a Change of Control. In the event of a
Change of Control, there can be no assurance that the Company would have
sufficient assets to satisfy all of its obligations under the Amended Credit
Agreement and the Notes.
FRAUDULENT TRANSFER CONSIDERATIONS. The incurrence of the indebtedness
evidenced by the Notes may be subject to review under federal bankruptcy law or
relevant state fraudulent conveyance laws if a bankruptcy case or lawsuit is
commenced by or on behalf of unpaid creditors of the Company.
CONTROL OF THE COMPANY. North Castle holds approximately 57.4% of the
issued and outstanding Leiner Group voting common stock. Pursuant to the terms
of the Leiner Group Stockholders Agreement, dated as of June 30, 1997, as
amended (the "Stockholders Agreement"), and entered into in connection with the
Recapitalization, North Castle controls the Company and has the power to appoint
new management and approve any action requiring the approval of the holders of
Group common stock, including adopting amendments to Leiner Group's certificate
of incorporation and approving mergers or sales of substantially all of the
Company's assets. There can be no assurance that the interests of North Castle
will not conflict with the interests of the holders of the Notes. Under North
Castle's operating agreement, Mr. Baird has authority and discretion over the
business affairs and operations of North Castle. See "Item 10. Directors and
Executive Officers" and "Item 13. Certain Relationships and Related
Transactions."
EFFECT OF RESEARCH AND PUBLICITY ON VITAMIN PRODUCT BUSINESS. The Company
believes the growth experienced in the last several years by the vitamin product
business is based largely on national media attention regarding recent
scientific research suggesting potential health benefits from regular
consumption of certain vitamin products. Various studies published since 1992 by
researchers at major universities have suggested an association between regular
consumption of antioxidant supplements such as vitamins E and C and a reduced
risk of certain diseases, including heart disease, cancer and Alzheimer's
disease. In addition, certain other studies have reported that consumption of
folic acid (a B vitamin) can aid prevention of heart disease and neural tube
birth defects. Such research has been described in major medical journals,
magazines, newspapers and television programs. However, some recent studies
relating to certain antioxidants have produced results contrary to the favorable
indications of other prior and subsequent studies. The scientific research to
date with respect to antioxidants and certain other of the Company's products is
not conclusive, and there can be no assurance of future favorable scientific
results and media attention, or the absence of unfavorable or inconsistent
findings. In the event of future unfavorable scientific results or media
attention, the Company's sales of vitamin products could be materially adversely
affected.
12
<PAGE>
POTENTIAL FOR INCREASED GOVERNMENT REGULATION. The manufacturing,
processing, formulation, packaging, labeling, advertising and sale of the
Company's products are subject to regulation by one or more United States and
Canadian federal agencies, including the FDA, the FTC, CPSC and Health Canada.
The Company's activities are also regulated by various agencies of the states,
provinces, localities and countries in which the Company's products are sold. In
addition, the Company manufactures and markets certain of its products in
compliance with the guidelines promulgated by voluntary standard organizations,
such as the USP. See "Government Regulations."
RELIANCE ON CERTAIN CUSTOMERS AND CERTAIN PRODUCTS. The Company has
approximately 210 active U.S. customers. In fiscal 2000, Wal-Mart Stores, Inc.
and Costco accounted for approximately 31% and 9%, respectively, of the
Company's sales. Each of the Company's other major customers accounted for less
than 10% of the Company's sales for fiscal 2000. The Company's top ten
customers, in the aggregate, accounted for approximately 68% of the Company's
sales for fiscal 2000. Sales of vitamins C and E, in the aggregate, accounted
for approximately 30.9% of the Company's sales in fiscal 2000. If one or more of
the Company's major customers substantially reduced their volume of purchases
from the Company, or if sales of vitamin C or E were substantially reduced, the
Company's results of operations could be materially adversely affected.
POTENTIAL FOR INCREASED COMPETITION. The market for the Company's products
is highly competitive. The Company competes with other vitamin product and OTC
pharmaceuticals manufacturers. Among other factors, competition among these
manufacturers is based upon price. If one or more manufacturers significantly
reduce their prices in an effort to gain market share, the Company's results of
operations or market position could be adversely affected. Certain of the
Company's competitors, particularly manufacturers of nationally advertised brand
name products, are larger and have resources substantially greater than those of
the Company, and are less leveraged than the Company. In the future, one or more
of these companies could seek to compete more directly with the Company by
manufacturing private label products or by significantly lowering the prices of
their national brand products.
The Company sells substantially all of its vitamin products to Mass Market
and warehouse club retailers. The Company does not currently participate
significantly in other channels such as health food stores, direct mail and
direct sales. The Company's products may, therefore, face competition from such
alternative channels as more customers utilize these channels of distribution to
obtain vitamin products.
RELIANCE ON CERTAIN SUPPLIERS; AVAILABILITY AND COST OF PURCHASED
MATERIALS. The Company purchases from third party suppliers raw materials and
certain products that the Company does not manufacture. Although the Company
currently has supply arrangements with several suppliers of these ingredients
and products, and the Company's purchased materials are generally available from
numerous sources, an unexpected interruption of supply could materially
adversely affect the Company's results of operations. See "Purchased Materials."
POSSIBILITY OF TRADE DRESS CLAIMS. The Company's packaging of certain of
its branded products identifies nationally branded products to which the
Company's products are comparable. Although the Company designs its packaging to
avoid infringing upon any proprietary rights of national brand marketers and is
not currently the subject of any legal actions regarding infringement, there can
be no assurance that the Company will not be subject to such legal actions in
the future.
EXPOSURE TO PRODUCT LIABILITY CLAIMS. The Company, like other retailers,
distributors and manufacturers of products that are ingested, faces a risk of
exposure to product liability claims in the event that, among other things, the
use of its products results in injury. With respect to product liability
coverage, the Company currently has an aggregate of $81 million of insurance
coverage, including primary product liability and excess liability coverage with
deductibles of $.25 million per claim, subject to an annual aggregate deductible
limit of $1 million. There can be no assurance that product liability insurance
will continue to be available at an economically reasonable cost or that the
Company's insurance will be
13
<PAGE>
adequate to cover liability the Company incurs in respect to product liability
claims. See also "Item 3. Legal Proceedings and Product Liability."
RELIANCE ON KEY MANAGEMENT. The operation of the Company requires
managerial and operational expertise. Leiner does not have employment contracts
with any of its executive officers. Leiner has entered into severance benefit
agreements with certain members of Leiner senior management. See "Item 11.
Executive Compensation--Severance Arrangements." If, for any reason, key
personnel do not continue to be active in Leiner management, operations could be
adversely affected.
ACQUISITION RELATED RISKS. Part of the Company's business strategy has been
and will continue to be to acquire other businesses that will complement its
existing business. Management is unable to predict whether or when any
prospective acquisition candidates will become available or the likelihood of a
material transaction being completed should any negotiations commence. The
Company's ability to finance acquisitions may be constrained by, among other
things, its high degree of leverage. The Amended Credit Agreement and the
indenture which governs the Notes may significantly limit the Company's ability
to make acquisitions and to incur indebtedness in connection with acquisitions.
In addition, acquisitions that the Company may make or in which the Company may
enter will involve risks, including the successful integration and management of
acquired technology, operations and personnel. The integration of acquired
businesses may also lead to the loss of key employees of the acquired companies
and diversion of management attention from ongoing business concerns. There can
be no assurance that any acquisitions will be made, that the Company will be
able to obtain additional financing needed to finance such transactions and, if
any acquisitions are made, that they will be successful.
RISKS ASSOCIATED WITH INTERNATIONAL MARKETS. The Company's continued growth
is dependent in part upon its ability to expand its operations into new markets,
including international markets. The Company may experience difficulty entering
new international markets due to greater regulatory barriers, the necessity of
adapting to new regulatory systems and problems related to entering new markets
with different cultural bases and political systems. Operating in international
markets exposes the Company to certain risks, including, among other things,
(i) changes in or interpretations of foreign import, currency transfer and other
restrictions and regulations that among other things may limit the Company's
ability to sell certain products or repatriate profits to the United States,
(ii) exposure to currency fluctuations, particularly in light of the Company's
substantial interest payment obligations, which must be paid in United States
and Canadian dollars, (iii) the potential imposition of trade or foreign
exchange restrictions or increased tariffs, and (iv) economic and political
instability. As the Company continues to expand its international operations,
these and other risks associated with international operations are likely to
increase.
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ITEM 2
PROPERTIES
The following table sets forth the location, type of facility, square
footage and ownership interest in each of the Company's principal facilities.
The Company also leases certain additional office space throughout the United
States.
<TABLE>
<CAPTION>
DATE OF
APPROX. LEASED LEASE
LOCATION TYPE OF FACILITY SQUARE FEET OR OWNED EXPIRATION
-------- ----------------------------- ----------- -------- ----------
<S> <C> <C> <C> <C>
British Columbia, Canada..... Manufacturing and offices 37,000 Owned --
British Columbia, Canada..... Manufacturing and 48,000 Leased 5/31/03
distribution
British Columbia, Canada..... Distribution 38,000 Leased 6/20/01
Carson, CA................... Packaging, distribution and 471,500 Leased 3/31/04(1)
corporate offices
Carson, CA................... Distribution and offices 80,343 Leased 3/31/04
Carson, CA................... Auxiliary warehouse 85,957 Leased 3/31/01
Fort Mill, SC................ Manufacturing, packaging and 558,900 Leased 6/1/13
distribution
Garden Grove, CA............. Manufacturing 138,500 Leased 9/30/02
Garden Grove, CA............. Manufacturing 6,960 Leased 5/31/01
Kalamazoo, MI................ Manufacturing 51,250 Owned --
Kalamazoo, MI................ Auxiliary warehouse 14,040 Leased 6/29/02
Largo, FL.................... Packaging, distribution and 71,000 Leased 10/31/03
offices
Largo, FL.................... Auxiliary warehouse 42,914 Leased 11/30/03
Sherburne, NY................ Packaging and distribution 10,300 Owned --
Valencia, CA................. Manufacturing and 52,510 Leased 8/31/05
distribution
Wilson, NC................... Manufacturing, warehouse and 125,000 Owned --
offices
Winnipeg, Canada............. Manufacturing, packaging and 185,000 Owned --
distribution
</TABLE>
------------------------
(1) The Company has the option to extend by 10 years.
The Company believes that its facilities and equipment are generally well
maintained and in good operating condition.
Leiner's active manufacturing and distribution facilities consist of
approximately 2.0 million square feet of owned or leased plant and office
facilities in nine locations, in five U.S. states and two Canadian Provinces.
The Company is one of the largest manufacturers in the North American vitamin
products industry and is capable of packaging over 25 billion doses each year.
In April 1995, Leiner was the first major vitamin product manufacturer to be
certified as being in compliance with USP's vitamin manufacturing standards,
which became effective in January 1995. The Company's U.S. facilities were
audited by an independent quality assurance laboratory and received the
laboratory's highest categorical rating. All of the Company's U.S. manufacturing
facilities also have been audited by the FDA and have been found to be in
compliance with the FDA's cGMP.
Leiner has five U.S. manufacturing facilities, which are located in Garden
Grove, California, Valencia, California, Kalamazoo, Michigan, Wilson, North
Carolina and Fort Mill, South Carolina. The primary manufacturing facility for
the Company's vitamin products is its 138,500 square foot Garden Grove plant.
The primary manufacturing facilities for the Company's OTC pharmaceuticals are
the Company's 51,250 square foot Kalamazoo plant, and its 125,000 square foot
Wilson facility. In the event of a catastrophic
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<PAGE>
casualty to one of the Company's primary vitamin or OTC tableting facilities,
the Company has the ability to shift production to other facilities. The Company
operates 44 tableting machines in its Garden Grove, California facility and 15
tableting machines in its Kalamazoo, Michigan facility, 8 tableting machines in
its Fort Mill, South Carolina facility and 7 tableting machines in its Wilson,
North Carolina facility. In fiscal 2000, the Company operated three packaging
and distribution facilities in the U.S., which are located in Carson,
California, Fort Mill, South Carolina and Largo, Florida. These facilities are
equipped with a total of 32 packaging lines, and, as with tableting, products
can be shifted between facilities in the event such a need arises.
In fiscal 1999, the Company established the Fort Mill, South Carolina
manufacturing, packaging and distribution center. The center serves the
Company's retail customers throughout the eastern United States and operated at
70% capacity in fiscal 2000. The center will employ approximately 800 employees
when it becomes fully operational. The majority of these employees will be
recruited from the local labor force with a smaller percentage relocating from
the Company's other facilities.
Vita Health currently tablets, bottles and packages its products in a
modern, newly expanded 185,000 square foot facility in Manitoba of which
approximately 20,000 square feet is office space. Vita Health also has a 123,000
square foot manufacturing and distribution center in British Columbia.
ITEM 3
LEGAL PROCEEDINGS AND PRODUCT LIABILITY
On September 27, 1999, the Company filed a civil antitrust lawsuit (the
"Antitrust Lawsuit") against certain of its raw material suppliers and other
alleged co-conspirators. The complaint alleges that the defendants conspired to
fix vitamin prices and allocate vitamin production volume and vitamin customers
in the United States. The complaint seeks unspecified damages and injunctive
relief. After the lawsuit was filed, it was consolidated, for pre-trial
purposes, with other similar cases. Based on the pretrial schedule set forth by
the court, the case will not be ready for trial until approximately April 2002.
At the present time, management cannot predict the outcome of this lawsuit, nor
the estimated damages and potential recovery, if any.
In March 2000, the Company entered into a settlement agreement with one of
its suppliers named in the Antitrust Lawsuit (the "Settlement Agreement").
Pursuant to the terms of the Settlement Agreement, the Company agreed to release
all claims it may have against the supplier based on the Company's purchases of
various vitamins from the supplier and to opt out of any settlement in
connection with a pending class action lawsuit in so far as it pertains to the
supplier.
In exchange for the Company's release and agreement to opt out of any
settlement in the pending class action lawsuit, the Company received a
settlement payment of approximately $2.4 million on March 21, 2000 which is
recorded in other operating (income) charges in the accompanying Statement of
Operations for the fiscal year ended March 31, 2000. In connection with the
settlement, the Company incurred direct expenses of approximately $0.2 million
which are recorded in general and administrative expenses.
The Company is subject to other legal proceedings and claims which arise in
the normal course of business. While the outcome of these proceedings and claims
cannot be predicted with certainty, management does not believe the outcome of
any of these matters will have a material adverse effect on the Company's
consolidated financial position, results of operations or cash flows.
The Company, like other retailers, distributors and manufacturers of
products that are ingested, faces a risk of exposure to product liability claims
in the event that, among other things, the use of its products results in
injury. With respect to product liability coverage, the Company currently has an
aggregate of
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$81 million of insurance coverage, including primary product liability and
excess liability coverage with deductibles of $.25 million per claim, subject to
an annual, aggregate deductible limit of $1 million.
ITEM 4
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders during the
fourth quarter of fiscal 2000.
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PART II
ITEM 5
MARKET FOR REGISTRANT'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS
There is no trading market for the Company's Common Stock. All of the
outstanding shares of the Company's Common Stock are held by PLI Holdings. The
Company did not pay any dividends in fiscal 2000 or fiscal 1999.
ITEM 6
SELECTED FINANCIAL DATA
The following table presents selected historical financial data derived from
the consolidated financial statements of the Company. This data should be read
in conjunction with "Item 7, Management's Discussion and Analysis of Financial
Condition and Results of Operations," and "Item 8, Financial Statements and
Supplementary Data."
<TABLE>
<CAPTION>
FISCAL YEARS ENDED MARCH 31,
----------------------------------------------------
2000(1) 1999 1998 1997(2) 1996
-------- -------- -------- -------- --------
(DOLLARS IN MILLIONS)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Net sales................................................... $662.3 $626.9 $502.1 $392.8 $338.4
Cost of sales............................................... 495.7 463.6 368.6 288.6 253.3
------ ------ ------ ------ ------
Gross profit................................................ 166.6 163.3 133.5 104.2 85.1
Operating expenses.......................................... 125.0 114.3 92.1 72.7 62.6
Amortization of goodwill and other intangibles.............. 2.7 1.7 1.7 1.5 1.6
Closure of facilities and impairment of long-lived
assets(3)................................................. 0.6 0.4 1.2 1.4 4.7
Expenses related to recapitalization of parent(4)........... -- -- 32.8 -- --
Management reorganization(5)................................ -- -- -- 1.0 --
Other operating (income) charges(6)......................... (0.9) (0.1) 1.3 0.9 0.5
------ ------ ------ ------ ------
Operating income............................................ 39.2 47.0 4.4 26.7 15.8
Loss from investment in joint venture....................... 0.1 -- -- -- --
Interest expense, net....................................... 31.1 28.7 19.5 8.3 9.9
------ ------ ------ ------ ------
Income (loss) before income taxes and extraordinary item.... 8.0 18.3 (15.1) 18.4 5.9
Provision for income taxes before extraordinary item........ 3.1 8.0 1.2 8.0 4.7
------ ------ ------ ------ ------
Income (loss) before extraordinary item..................... 4.9 10.3 (16.3) 10.4 1.2
Extraordinary loss, net of taxes............................ -- -- 1.1 2.8 --
------ ------ ------ ------ ------
Net income (loss)........................................... $ 4.9 $ 10.3 $(17.4) $ 7.6 $ 1.2
====== ====== ====== ====== ======
BALANCE SHEET DATA (END OF PERIOD):
Working capital............................................. $161.6 $166.6 $106.1 $ 79.4 $ 72.3
Total assets................................................ 509.5 425.5 365.8 284.6 251.3
Total debt.................................................. 344.1 321.9 258.8 105.4 104.2
Minority interest in subsidiary............................. -- -- 1.0 4.7 --
Total common shareholder's equity (deficit)................. 5.6 (19.5) (29.9) 80.2 72.7
OTHER DATA:
Gross margin................................................ 25.2% 26.0% 26.6% 26.5% 25.2%
EBITDA(7)................................................... $ 59.3 $ 61.8 $ 27.3 $ 38.1 $ 32.9
EBITDA margin(7)............................................ 9.0% 9.9% 5.4% 9.7% 9.7%
Depreciation and amortization(8)............................ $ 19.6 $ 14.3 $ 13.3 $ 12.3 $ 12.3
Capital expenditures........................................ 15.6 17.5 14.4 3.5 3.5
Cash flows from operating activities........................ 48.9 (38.3) (18.4) 23.2 12.7
Cash flows from investing activities........................ (76.6) (21.7) (18.9) (8.5) (8.7)
Cash flows from financing activities........................ 30.7 59.0 36.1 (13.8) (2.6)
Ratio of total debt to EBITDA(7)............................ 5.8x 5.2x 9.5x 2.8x 3.2x
Ratio of EBITDA to interest expense(7)(9)................... 2.0 2.3 1.5 4.7 3.4
Ratio of earnings to fixed charges(10)...................... 1.2 1.6 -- 2.9 1.5
</TABLE>
------------------------------
18
<PAGE>
(1) On December 17, 1999, the Company acquired substantially all of the assets
of Granutec and Stanley and certain related assets of Novopharm. The
Acquisition was accounted for using the purchase method of accounting.
Accordingly, the operating results of Granutec and Stanley since the date
of acquisition to March 31, 2000 are included in the consolidated financial
results of the Company.
(2) On January 30, 1997, the Company acquired Vita Health. The Vita Health
acquisition was accounted for under the purchase method of accounting.
Consequently, the results of operations of Vita Health were included in the
consolidated financial results of the Company from the date of acquisition
to March 31, 1997.
(3) During fiscal 2000, $1.1 million of costs were incurred in connection with
the closure of the Company's Madison, Wisconsin and Sherburne, New York
facilities, which were offset by the gain on the sale of the Madison
facility in the amount of $0.2 million and the sale of the Chicago,
Illinois facility of $0.3 million. During fiscal 1999, $0.4 million of
additional costs related to the closure of the West Unity, Ohio facility
were expensed as incurred. During fiscal 1998, the Company announced the
closure of its West Unity, Ohio facility. Accordingly, the Company reserved
$1.2 million for closure costs of which $0.7 million was related to
severance costs and $0.5 million was related to other closure costs. During
fiscal 1997, the Company closed its liquid OTC manufacturing facility and
out-sourced the production to a third party. The related costs incurred of
$1.4 million included the write-off of fixed assets of $0.8 million and
closure costs including salaries in conjunction with the facility closing
of $0.6 million. During fiscal 1996, the Company decided to significantly
reduce the size of its OTC liquid pharmaceuticals manufacturing business.
Accordingly, the Company determined that certain long-lived assets with a
carrying amount of $8.3 million were impaired and wrote them down by
$4.7 million to their estimated fair value.
(4) Represents non-recurring charges relating to the Recapitalization,
consisting of (x) a compensation charge incurred by the Company for the
in-the-money value of existing stock options of $15.6 million which were
(i) converted into an equivalent value of Equity Rights at the date of the
Recapitalization, (ii) paid out in cash, or (iii) exercised for common
stock (or a combination thereof), (y) $5.2 million in transaction bonuses
which were paid to members of the Company's management subsequent to the
Recapitalization, and (z) expenses aggregating $12.0 million incurred by
Leiner Group in connection with its capital raising activities. These
non-recurring charges contributed significantly to the Company's net loss
of $17.4 million for fiscal 1998. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations--Results of
Operations--Fiscal 1999 Compared to Fiscal 1998."
(5) During fiscal 1997, the Company reorganized the management team. Expenses
of $1.0 million included severance expense for the previous Chief Financial
Officer, Vice President of Product Development and Vice President of
Corporate Development and included the hiring and relocation expenses for
the new Chief Financial Officer and other corporate officers.
(6) Other operating income in fiscal year 2000 includes a settlement involving
a dispute with a vitamin product supplier in the amount of approximately
$2.4 million. See Item 3 "Legal Proceedings and Product Liability". Other
operating charges include management fees paid to related parties in the
amount of $1.5 million for fiscal year 2000, $1.7 million in fiscal year
1999, $1.3 million in fiscal year 1998 and $0.4 million for fiscal years
1997 and 1996. Other operating income in fiscal 1999 includes a
nonrecurring settlement arising from a dispute involving a service provider
and a former employee in the amount of approximately $2.0 million.
(7) "EBITDA," as presented, represents earnings before interest expense, income
taxes, depreciation and amortization and other non-cash charges, consisting
of (i) the write off of deferred financing charges, net of income taxes,
included as an extraordinary item in the statements of operations for
fiscal 1998 and fiscal 1997, (ii) non-cash stock compensation charges,
including those recorded in
19
<PAGE>
connection with the Recapitalization (see Note 4), (iii) expenses related
to the closure of facilities (see Note 3), and (iv) other non-cash charges
in fiscal 1997.
EBITDA is calculated as follows (in thousands):
<TABLE>
<CAPTION>
FISCAL YEARS ENDED MARCH 31,
----------------------------------------------------
2000 1999 1998(A) 1997 1996
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Net income (loss)............................. $ 4,872 $10,307 $(17,417) $ 7,638 $ 1,166
Add back:
Interest expense, net(9).................... 31,123 28,732 19,494 8,281 9,924
Income taxes................................ 3,098 8,034 1,196 8,028 4,686
Depreciation and amortization(8)(9)......... 19,622 14,319 13,349 12,309 12,288
Closure of facilities and impairment of
long-lived assets......................... 608 380 1,221 1,416 4,730
Extraordinary item.......................... -- -- 1,109 295 --
Compensation related to stock options....... -- -- 8,300 99 132
Other non-cash charges...................... -- -- -- 18 --
------- ------- -------- ------- -------
Subtotal.................................... 54,451 51,465 44,669 30,446 31,760
------- ------- -------- ------- -------
EBITDA...................................... $59,323 $61,772 $ 27,252 $38,084 $32,926
======= ======= ======== ======= =======
</TABLE>
------------------------
(a) Excluding the Recapitalization-related expenses, EBITDA would have been
$51.8 million for fiscal 1998.
Although EBITDA (as well as related EBITDA ratios) is a non-GAAP
measurement, EBITDA, EBITDA margin, the ratio of total debt to EBITDA and
the ratio of EBITDA to interest expense are included because management
understands that such information is considered by certain investors to be
an additional basis for evaluating the Company's ability to pay interest,
repay debt and make capital expenditures. EBITDA should not be considered an
alternative to measures of operating performance as determined in accordance
with generally accepted accounting principles, including net income as a
measure of the Company's operating results and cash flows as a measure of
the Company's liquidity. Because EBITDA is not calculated identically by all
companies, the presentation herein may not be comparable to other similarly
titled measures of other companies.
(8) Depreciation and amortization as presented here does not include the
amortization of deferred financing fees. In the statement of cash flows in
the consolidated financial statements, the amortization of deferred
financing fees is included in depreciation and amortization.
(9) For purposes of calculating the ratio of EBITDA to interest expense,
interest expense excludes the amortization of deferred financing fees,
which is included in interest expense in the statement of operations in the
consolidated financial statements.
(10) In calculating the ratio of earnings to fixed charges, earnings consist of
income before taxes plus fixed charges. Fixed charges consist of interest
expense and amortization of deferred financing fees, whether capitalized
or expensed, plus one-third of rental expense under operating leases (the
portion that has been deemed by the Company to be representative of an
interest factor). Earnings were inadequate to cover fixed charges by
$15.1 million for the year ended March 31, 1998.
20
<PAGE>
ITEM 7
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion of the Company's financial condition and results of
operations should be read in conjunction with the consolidated financial
statements of the Company contained elsewhere in this report. The Company's
fiscal year ends on March 31 of each year. References herein to a "fiscal year"
refer to the Company's fiscal year ended March 31 in the calendar year indicated
(e.g., references to fiscal 2000 are references to the Company's fiscal year
ended March 31, 2000).
GENERAL
CURRENT TRENDS. The Company believes that overall trends in the vitamin
industry are the most significant trends affecting the Company's financial
performance. For the 52 week period ended March 26, 2000, vitamin sales for the
U.S. Mass Market increased approximately 7% versus the comparable period in the
prior year. In the recent 13 week period ended March 26, 2000, however, market
growth versus the prior year has slowed to under 2% versus the high growth
periods in the prior year. For the 52 week period ended March 28, 1999, vitamin
sales for the U.S. Mass Market had increased more than 16% over the prior 52
week period. According to industry sources, between 1992 and 2000, vitamin sales
for the Mass Market increased at a compound annual rate of approximately 14% to
$3.4 billion, as the percentage of American adults regularly using vitamins
increased from 35% to 48%.
Increasing vitamin usage among the general population is linked to three
major factors. First, research expenditures devoted to the positive effects of
vitamin products have increased dramatically. Such research has been described
in major medical journals and reported in the popular media. Second, the
national trend towards improved fitness, greater self-care and preventive
medicine has increased the general population's focus on consumption of
nutritional products. Finally, the more favorable regulatory environment
resulting from the DSHEA has generated increased new product introductions and
more effective point of sale communication of the health benefits of vitamins to
consumers. However, as has been the case in the past, adverse scientific
research or publicity concerning the health benefits of vitamin consumption
could materially impact the growth of the vitamin market.
Beginning in fiscal 1996 and continuing through fiscal 2000, the retail drug
store industry experienced several major consolidations. The Company provides
private label vitamin products to 8 of the 10 largest drug store chains in the
United States and believes it has strong relationships with the leading drug
store chains. Consequently, management believes the Company is well positioned
to benefit from this consolidation trend due to its strong relationships with
the acquiring companies in the largest consolidations and the anticipated
reduction in the number of vendors as the consolidated companies streamline
their purchasing. The Company believes that the consolidation of major drug
store chains has had a positive effect on its sales and that the increased
purchasing scale of the consolidated retailers increases the relative importance
of each of these customers to the Company's financial performance. However,
there can be no assurance that in the future such consolidations will not have
adverse impacts on the Company's sales and financial performance.
RECAPITALIZATION ACCOUNTING; FINANCIAL STATEMENT PRESENTATION; PARENT
COMPANY. The Recapitalization was accounted for as a recapitalization of Leiner
Group, which had no impact on the historical basis of assets and liabilities as
reflected in the consolidated financial statements of Leiner Group or the
Company. The Recapitalization involved significant changes to the Company's
capital structure, which resulted in higher reported interest expense. As a
result, operating results for the periods subsequent to the Recapitalization
date of June 30, 1997 are not comparable in all material respects to earlier
periods. Other than with respect to redeemable preferred stock of Leiner Group,
which was redeemed in connection with the Recapitalization, the consolidated
financial statements of Leiner Group and Leiner for the periods discussed in the
following paragraphs are not materially different.
21
<PAGE>
ACQUISITION. On December 17, 1999, Leiner Health Products Inc. acquired
substantially all of the assets of Granutec, Inc. ("Granutec"), a manufacturer
and distributor of private label, over-the-counter pharmaceutical drugs in the
United States, and Vita Health acquired substantially all of the assets of
Stanley Pharmaceuticals Ltd. ("Stanley"), a manufacturer and distributor of
private label, over-the-counter pharmaceutical drugs and vitamin supplement
products in Canada, both of which were subsidiaries of Novopharm Limited of
Ontario, Canada ("Novopharm"). The Company also acquired certain related assets
of Novopharm (collectively, the "Acquisition"). The purchase price of
approximately $60.2 million was funded in part by a $20.0 million capital
contribution from the Company's ultimate parent, Leiner Group, and borrowings on
the Company's revolving credit facility. The Acquisition was accounted for as a
purchase under Accounting Principles Board Opinion No. 16, Business Combinations
("APB 16"). In accordance with APB 16, the Company allocated the price based on
the fair value of the assets acquired and liabilities assumed. Portions of the
purchase price, including intangible assets, were identified by independent
appraisers utilizing proven valuation procedures and techniques. Acquired
intangibles totaling $10.2 million included the fair value of customer base,
acquired workforce and accelerated new drug applications. These intangibles are
being amortized over their estimated useful lives of three to five years.
Goodwill resulting from the acquisition is being amortized over 15 years.
In connection with the Acquisition, the Company has recorded approximately
$7.0 million for accrued restructuring charges. The restructuring plan includes
initiatives to integrate the operations of the Company with those of Granutec
and Stanley, and reduce overhead, primarily through the transfer of certain
manufacturing activities to lower cost facilities. The Company expects these
actions to result in a reduction in workforce. Management is in the process of
finalizing its restructuring plans and, accordingly, the amounts recorded are
based on management's current estimate of those costs. The Company will finalize
these plans during fiscal year 2001, and expects the majority of the
restructuring actions to occur in fiscal year 2001 and 2002.
The components of the purchase price and the preliminary allocation are as
follows (in millions):
<TABLE>
<S> <C>
Consideration and acquisition costs:
Cash paid to Novopharm...................................... $ 50.0
Debt assumed................................................ 7.5
Acquisition costs........................................... 2.7
------
$ 60.2
======
Preliminary allocation of purchase price:
Current assets.............................................. $ 43.1
Property, plant and equipment............................... 20.8
Acquired intangibles........................................ 10.2
Goodwill.................................................... 14.3
Debt and other liabilities assumed.......................... (28.2)
------
$ 60.2
======
</TABLE>
As previously indicated, some allocations are based on preliminary estimates
that are still being finalized. In addition, certain adjustments to the final
purchase price are currently being negotiated with Novopharm. While the ultimate
resolution of these matters may result in adjustments to the purchase price
allocation, management believes that such amounts will not be materially
different from those reflected above.
The following unaudited pro forma financial information presents the
consolidated results of operations as if the Acquisition had occurred at the
beginning of the year presented, and does not purport to be
22
<PAGE>
indicative of the results that would have occurred had the Acquisition occurred
at such date or of results which may occur in the future (in millions).
<TABLE>
<CAPTION>
MARCH 31,
-------------------
2000 1999
-------- --------
<S> <C> <C>
Net sales................................................... $760.1 $728.2
Operating income............................................ 50.6 49.4
Net income.................................................. 10.2 9.2
</TABLE>
RESULTS OF OPERATIONS
The following table summarizes the Company's historical results of
operations as a percentage of net sales for fiscal 2000, 1999 and 1998.
<TABLE>
<CAPTION>
PERCENTAGE OF NET SALES
FOR THE FISCAL YEARS
ENDED MARCH 31,
------------------------------
2000 1999 1998
-------- -------- --------
<S> <C> <C> <C>
Net sales................................................... 100.0% 100.0% 100.0%
Cost of sales............................................... 74.8 74.0 73.4
----- ----- -----
Gross profit................................................ 25.2 26.0 26.6
Marketing, selling and distribution expenses................ 12.8 12.2 12.5
General and administrative expenses......................... 6.1 6.0 5.9
Amortization of goodwill and other intangibles.............. 0.4 0.3 0.3
Closure of facilities and impairment of long-lived assets... 0.1 0.1 0.2
Expenses related to recapitalization of parent.............. -- -- 6.5
Other operating (income) charges............................ (0.1) (0.1) 0.3
----- ----- -----
Operating income............................................ 5.9 7.5 0.9
Loss from investment in joint venture....................... -- -- --
Interest expense, net....................................... 4.7 4.6 3.9
----- ----- -----
Income (loss) before income taxes and extraordinary item.... 1.2 2.9 (3.0)
Provision for income taxes before extraordinary item........ 0.5 1.3 0.2
----- ----- -----
Income (loss) before extraordinary item..................... 0.7 1.6 (3.2)
Extraordinary loss, net of income taxes..................... -- -- 0.2
----- ----- -----
Net income (loss)........................................... 0.7% 1.6% (3.5)%
===== ===== =====
</TABLE>
FISCAL 2000 COMPARED TO FISCAL 1999
Net sales for fiscal 2000 increased by $35.4 million, or 5.6% over fiscal
1999, from $626.9 million to $662.3 million. This increase was due to the
Acquisition, which provided an additional $39.1 million of sales from OTC
pharmaceutical drugs. Excluding net sales from Granutec and Stanley, the
Company's net sales decreased $3.7 million compared to the prior year. This
decrease was primarily the result of an overall slowdown in the Food, Drug and
Mass market. Management estimates that vitamin sales for the overall U.S. Mass
Market only grew by approximately 7% during the 52 week period ended March 26,
2000 compared to the 16% growth during the 52 week period ended March 28, 1999.
The market slowdown resulted in decreased sales as customers adjusted their
inventory in response to the slower rate of growth.
23
<PAGE>
Gross profit margin for fiscal 2000 was 25.2% versus 26.0% in fiscal 1999.
Gross profit increased $3.3 million, or 2.0%, from $163.3 million in fiscal 1999
to $166.6 million in fiscal 2000. The increase in gross profit is a result of
the Acquisition, which accounted for $8.8 million of the increase, which was
offset by a decrease of $5.5 million attributable to lower sales, a shift in the
product mix to lower margin products, and pricing pressures on vitamins C and E.
Marketing, selling and distribution expenses together with general and
administrative expenses (collectively, "Operating Expenses") increased
$10.7 million, or 9.3%, in fiscal 2000 when compared to fiscal 1999. Operating
Expenses for fiscal 2000 totaled $125.0 million, representing 18.9% of net
sales, showing an increase over the prior year in which Operating Expenses
totaled $114.3 million or 18.2% of net sales. This increase in Operating
Expenses for fiscal 2000 is primarily the result of higher fixed costs
associated with infrastructure development in support of advanced science and
product quality initiatives, increased spending on information systems projects,
including those related to the year 2000 issue, and an increase in marketing
expenditures related to the relaunch of the Your Life-Registered Trademark-
Brand.
Amortization of goodwill and other intangibles increased to $2.7 million in
fiscal 2000 versus $1.7 million in fiscal 1999, primarily as a result of the
Acquisition.
During fiscal 2000, the Company closed its Madison, Wisconsin and Sherburne,
New York facilities. As a result, the Company incurred $1.1 million of expenses
primarily for severance and relocation costs related to the closures which were
offset by a $0.3 million gain from the sale of the Company's Chicago, Illinois
facility and $0.2 million from the sale of the Madison facility. In fiscal 1999,
$0.4 million of additional expenses were incurred related to the West Unity,
Ohio facility, which closed in fiscal 1998.
Other operating income for fiscal 2000 was $0.9 million versus other
operating income of $0.1 million in fiscal 1999. The increase in other operating
income was due to the settlement of a supplier dispute in the amount of
$2.4 million which is offset by management fees paid in the amount of
$1.5 million. In fiscal 1999, the Company received a non recurring settlement
arising from a dispute involving a service provider and a former employee, which
was partially offset by management fees in the amount of $1.7 million and other
operating charges of $0.2 million.
The Company's operating income for fiscal 2000 was $39.2 million,
representing a $7.8 million decrease from fiscal 1999, primarily due to higher
operating expenses as described above.
Net interest expense increased by $2.4 million to $31.1 million during
fiscal 2000, compared to $28.7 million for fiscal 1999. This was due to an
increase in the indebtedness of the Company resulting from the Acquisition, and
to a lesser degree, increased interest rates.
The provision for income taxes for fiscal 2000 was $3.1 million, which
compares to $8.0 million for fiscal 1999. The Company's effective tax rate is
39% for fiscal 2000 which closely approximates the combined federal and state
rate. The effect of non-deductible goodwill is offset by the benefit of certain
tax credits.
Primarily as a result of the previously discussed factors, net income of
$4.9 million was recorded in fiscal 2000 compared to a net income of
$10.3 million recorded in fiscal 1999.
FISCAL 1999 COMPARED TO FISCAL 1998
Net sales for fiscal 1999 increased by $124.8 million, or 24.9%, over fiscal
1998, from $502.1 million to $626.9 million. This increase was due primarily to
sales growth in the U.S. vitamin market. Vitamin product sales increased by
$105.3 million, or 24.8%, compared to the prior year. Management estimates that
vitamin sales for the overall U.S. Mass Market grew by over 16% during the 52
week period ended March 28, 1999 compared to the comparable prior year period.
Sales of OTC pharmaceuticals increased by $4.5 million, or 7.4%, compared to the
prior year. This increase in sales was due primarily to the introduction of new
digestive aid products.
24
<PAGE>
Gross profit margin for fiscal 1999 was 26.0% versus 26.6% in fiscal 1998.
Gross profit increased $29.8 million, or 22.3%, from $133.5 million in fiscal
1998 to $163.3 million in fiscal 1999. The increase in gross profit is primarily
attributed to the higher sales volume.
Marketing, selling and distribution expenses together with general and
administrative expenses (collectively, "Operating Expenses") increased
$22.2 million, or 24.1%, in fiscal 1999 when compared to fiscal 1998. Operating
Expenses for fiscal 1999 totaled $114.3 million, representing 18.2% of net
sales, showing a slight improvement over the prior year in which Operating
Expenses totaled $92.1 million or 18.4% of net sales. This increase in Operating
Expenses for fiscal 1999 is primarily the result of infrastructure development
in support of new products and diversification strategies and increased costs
associated with changing all the Company's product labels to comply with the new
DSHEA regulations effective March 23, 1999. The improvement in Operating
Expenses as a percentage of net sales is the result of a cost control strategy
to maintain a lower percentage growth of Operating Expenses.
Goodwill amortization of $1.7 million in both fiscal 1999 and fiscal 1998
related to the goodwill arising from the acquisitions of Leiner, XCEL
Laboratories, Inc. and Vita Health.
During fiscal 1998, the Company announced its plans to close its West Unity,
Ohio facility in fiscal 1999. As a result, the Company incurred $1.2 million of
expenses primarily for severance and relocation costs related to the closure in
fiscal 1998. In fiscal 1999, an additional $0.4 million of expense was incurred
related to the West Unity closure.
In fiscal 1998, the Company recorded compensation expenses related to the
in-the-money value of stock options issued to certain management personnel of
$15.6 million, management bonuses of $5.2 million, and expenses incurred by
Leiner Group in connection with its capital raising activities of
$12.0 million, all of which related to the Recapitalization.
Other operating income for fiscal 1999 was $0.1 million versus other charges
of $1.3 million in fiscal 1998. The increase in other income was due primarily
to a non-recurring settlement arising from a dispute involving a service
provider and a former employee in fiscal 1999, partially offset by a full year
of management fees as a result of a consulting agreement entered into in
connection with the Recapitalization. Other charges in fiscal 1998 primarily
represented the management fees incurred in connection with the same consulting
agreement in effect in fiscal 1999. See "Item 13. Certain Relationships and
Related Transactions."
The Company's operating income for fiscal 1999 was $47.1 million,
representing a $42.7 million increase over fiscal 1998 primarily due to the
$32.8 million of Recapitalization-related expenses recorded in fiscal 1998. The
Company had operating income of only $4.4 million for fiscal 1998. Eliminating
the effect of such recapitalization-related expenses, operating income increased
$9.9 million or 26.6% from $37.2 million in fiscal 1998 to $47.1 million in
fiscal 1999 primarily due to the higher sales volumes.
Net interest expense increased by $9.2 million to $28.7 million during
fiscal 1999, compared to $19.5 million for fiscal 1998. This was due to an
increase in the indebtedness of the Company, as well as changes in the debt
structure and interest rates arising as a result of the Recapitalization taking
effect at the end of the first quarter of fiscal 1998.
The provision for income taxes for fiscal 1999 was $8.0 million, which
compares to $1.2 million for fiscal 1998. The Company's effective tax rate of
44% for fiscal 1999 was higher than the combined federal and state rate of 40%
primarily because of the nondeductability of goodwill amortization and expenses
recorded in connection with certain accrued liabilities.
The extraordinary loss recorded in fiscal 1998 represented the write-off of
$1.9 million of deferred financing charges which had been incurred by the
Company when it entered into a credit facility on January 30, 1997. The income
tax effect of that charge was a benefit of $0.8 million.
25
<PAGE>
Primarily as a result of the previously discussed factors, net income of
$10.3 million was recorded in fiscal 1999 compared to a net loss of
$17.4 million recorded in fiscal 1998.
LIQUIDITY AND CAPITAL RESOURCES
GENERAL. The Company's cash has historically been used to fund capital
expenditures, working capital requirements and debt service. As a result of the
Recapitalization effective at the end of the first quarter of fiscal 1998, the
Company's liquidity requirements were significantly increased, primarily due to
significantly increased interest expense obligations. Interest expense,
excluding amortization of deferred financing fees, totaled $29.2 million in
fiscal 2000. In addition, the Company is required to repay the $171.1 million in
term loans outstanding as of March 31, 2000 under the Amended Credit Agreement
by December 30, 2005, with scheduled principal payments of $1.7 million for
fiscal 2001 and 2002, $1.8 million for fiscal 2003, $37.1 million for fiscal
2004, $82.4 million for fiscal 2005, and $46.4 million for fiscal 2006. The
Company is also required to apply certain asset sale proceeds, as well as 50% of
its excess cash flow (as defined in the Amended Credit Agreement) unless a
leverage ratio test is met, to prepay the borrowings under the Amended Credit
Agreement. All outstanding revolving credit borrowings under the Amended Credit
Agreement will become due on June 30, 2003.
CASH FLOW. During fiscal 2000, net cash provided by operating activities
totaled $48.9 million, comprised of net income of $4.9 million combined with non
cash charges to operations aggregating $19.7 million and changes in operating
assets and liabilities, net of the effects of the Acquisition, aggregating
$24.3 million. Non cash charges consist of depreciation and amortization
aggregating $21.6 million offset by deferred tax benefits and translation
adjustments aggregating $1.9 million. Changes in operating assets and
liabilities are comprised of collections on account receivables of
$19.5 million and increases in accounts payables and accrued expenses
aggregating $6.7 million, offset by an increase in inventories of $0.5 million
and net changes in certain other operating assets and liabilities of
$1.4 million. Accounts receivables were reduced due to increased focus on
customer collections while accounts payable and accrued expenses increased
primarily due to the timing of disbursements. Management focused on optimizing
the Company's inventory levels throughout fiscal 2000 and has been successful at
managing inventory levels at a minimal growth rate.
Net cash used in investing activities was $76.6 million in fiscal 2000. This
was primarily due to the Acquisition. Upon closing of the Acquisition, the
Company used approximately $32.7 million of funds available under its Revolving
Facility and a $20.0 million capital contribution it received from its direct
parent to fund the purchase price and related expenses. The Company also assumed
approximately $7.5 million of debt and certain other liabilities in connection
with the Acquisition. Net property, plant and equipment expenditures in fiscal
2000 totaled $15.6 million. Approximately $9.8 million of capital expenditures
were related to the purchase of assets of the Valencia, California softgel
manufacturing facility in the second quarter of fiscal 2000. An additional
$6.4 million of investing activity related to the contractual payment of
customer advances and the balance of approximately $1.9 million was related to
other investing activities.
Net cash provided by financing activities was $30.7 million in fiscal 2000.
This was primarily the result of increased net borrowings under the Credit
Agreement and a $20.0 million capital contribution from Leiner Group, in
connection with the Acquisition.
FINANCING ARRANGEMENTS. On May 15, 1998, the Company entered into an
Amended and Restated Credit Agreement (the "Credit Agreement" and together with
the amendments described below, the "Amended Credit Agreement"), which was
amended (i) on June 30, 1999 to include an additional U.S. term loan in the
amount of $30.0 million as described below, (ii) on December 16, 1999 to waive
certain limitations that would have prohibited the Acquisition and to raise the
applicable margins (as defined in the Amended Credit Agreement), and (iii) on
February 11, 2000, effective December 16, 1999, principally to modify the
calculations of the Company's covenant requirements to properly account for the
financial
26
<PAGE>
statement impact of the Acquisition. The Amended Credit Agreement provides for
one U.S. term loan due December 30, 2004 in the amount of $68.0 million, two
U.S. term loans due December 30, 2005 in the amounts of $65.0 million and
$30.0 million, respectively, a Canadian dollar denominated term loan due
December 30, 2004 in the amount of approximately U.S. $12.0 million
(collectively, the "Term Facility"), and a revolving credit facility in the
amount of U.S. $125.0 million (the "Revolving Facility"), a portion of which is
made available to Vita Health in Canadian dollars. The unpaid principal amount
outstanding on the Revolving Facility is due and payable on June 30, 2003. As of
June 20, 2000, the Company's unused availability under the Amended Credit
Agreement was approximately $29.3 million.
The Revolving Facility includes letter of credit and swingline facilities.
Borrowings under the Amended Credit Agreement bear interest at floating rates
that are based on LIBOR or on the applicable alternate base rate (as defined in
the Amended Credit Agreement) plus defined margins, and accordingly the
Company's financial condition and performance is and will continue to be
affected by changes in interest rates. The Company entered into an interest
protection arrangement effective July 30, 1997 with respect to $29.5 million of
its indebtedness under the Amended Credit Agreement that provides a fixed rate
of 6.17% on LIBOR rates plus applicable margin on the interest rates payable
thereon. On October 8, 1999, the Company entered into an interest protection
agreement, with respect to $54.0 million of its indebtedness under the Amended
Credit Agreement, whereby the Company will not pay any lower than 5.94% on LIBOR
rates plus applicable margin on the interest payable thereon. In connection with
this transaction, the Company received approximately $0.2 million that is being
recorded as a reduction of interest expense over the period of the agreement,
which terminates October 8, 2001. The Amended Credit Agreement imposes certain
restrictions on the Company, including restrictions on its ability to incur
additional debt, enter into sale-leaseback transactions, incur contingent
liabilities, pay dividends or make distributions, incur or grant liens, sell or
otherwise dispose of assets, make investments or capital expenditures,
repurchase or prepay the Notes or other subordinated debt, or engage in certain
other activities. The Company must also comply with certain financial ratios and
tests, including a minimum net worth requirement, a maximum leverage ratio, a
minimum interest coverage ratio and a minimum cash flow coverage ratio.
A portion of the outstanding borrowings under the Amended Credit Agreement,
amounting to approximately U.S. $27.0 million as of March 31, 2000, is
denominated in Canadian dollars. All other outstanding borrowings under the
Amended Credit Agreement, and all of the borrowings under the Notes, are
denominated in U.S. dollars. At March 31, 2000, borrowings under the Amended
Credit Agreement bore interest at a weighted average rate of 8.34% per annum.
In 1997, the Company assumed $85.0 million of Senior Subordinated Notes
issued in connection with the Recapitalization. The Notes may be required to be
purchased by the Company upon a Change of Control (as defined) and in certain
circumstances with the proceeds of asset sales. The Notes are subordinated to
the indebtedness under the Amended Credit Agreement. The indenture governing the
Notes imposes certain restrictions on the Company and its subsidiaries,
including restrictions on its ability to incur additional debt, make dividends,
distributions or investments, sell or otherwise dispose of assets, or engage in
certain other activities. The Notes bear interest at a fixed rate of 9.63% per
annum and are due on June 30, 2007.
In connection with the Acquisition, the Company assumed an industrial
development revenue bond loan ("IRB Loan") with an outstanding principal amount
of $7.1 million. The IRB Loan bore interest at the rate of 4.15% as of
March 31, 2000. The interest rate on the IRB Loan is variable and fluctuates on
a weekly basis. The principal amount of the IRB Loan is due and payable in
annual installments of $0.5 million, with the remaining outstanding principal
amount due and payable on May 1, 2014.
During fiscal 2000, the Company entered into a loan agreement with the
Manitoba Industrial Opportunities Program to fund the expansion and upgrading of
the Company's manufacturing facility in Canada. As of March 31, 2000, the
Company received approximately $1.3 million in advances on the loan
27
<PAGE>
which is not to exceed a total of approximately $1.9 million. Interest on the
loan will be waived contingent upon the Company's compliance with certain
obligations, including meeting certain financial ratios. Principal repayments
are scheduled to be made in two equal payments of 50% of the final loan amount.
The first payment is to be made on the last day of the 48(th) month and the
second on the last day of the 60(th) month after the date of the final
disbursement, which is to be made no later than September 30, 2000.
The Company currently believes that cash flow from operating activities,
together with revolving credit borrowings available under the Amended Credit
Agreement, will be sufficient to fund the Company's currently anticipated
working capital, capital spending and debt service requirements until the
maturity of the Revolving Facility (June 30, 2003), but there can be no
assurance in this regard. The Company expects that its working capital needs
will require it to obtain new revolving credit facilities at the time that the
Revolving Facility matures, whether by extending, renewing, replacing or
otherwise refinancing the Revolving Facility. No assurance can be given that any
such extension, renewal, replacement or refinancing can be successfully
accomplished.
FORWARD-LOOKING STATEMENTS AND ASSOCIATED RISKS
Certain of the statements contained in this report (other than the financial
statements and other statements of historical fact) are forward-looking
statements, including statements regarding, without limitation, (i) the
Company's growth strategies, (ii) trends in the Company's business and
(iii) the Company's future liquidity requirements and capital resources.
Forward-looking statements are made based upon management's current
expectations and beliefs concerning future developments and their potential
effects upon the Company. There can be no assurance that future developments
will be in accordance with management's expectations or that the effect of
future developments on the Company will be those anticipated by management. The
important factors described elsewhere in this report (including, without
limitation, those factors discussed in "Item 1. Business--Risk Factors") could
affect (and in some cases have affected) the Company's actual results and could
cause such results to differ materially from estimates or expectations reflected
in such forward-looking statements. In light of these factors, there can be no
assurance that events anticipated by the forward-looking statements contained in
this report will in fact transpire.
While the Company periodically reassesses material trends and uncertainties
affecting the Company's results of operations and financial condition in
connection with its preparation of management's discussion and analysis of
results of operations and financial condition contained in its periodic reports,
the Company does not intend to review or revise any particular forward-looking
statement referenced in this report in light of future events.
ITEM 7A
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company does not believe that it has material exposure to interest rate,
foreign currency exchange rate or other relevant market risks.
28
<PAGE>
INTEREST RATE RISK. The Company's exposure to market risk for changes in
interest rates relates primarily to the Company's debt obligations. The table
below provides information about the Company's debt obligations and interest
rate swap agreements:
<TABLE>
<CAPTION>
MARCH 31, 2000
EXPECTED MATURITY DATE
---------------------------------------------------------------------------------------
FAIR
2001 2002 2003 2004 2005 THEREAFTER TOTAL VALUE
-------- -------- -------- -------- -------- ---------- -------- --------
(DOLLARS IN MILLIONS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Liabilities
Long-term Debt:
Fixed Rate ($US)...................... $ 2.0 $ 1.4 $ 0.6 $ 0.3 $ 0.1 $85.0 $ 89.4 $ 89.4
Average interest rate............... 9.67% 9.67% 9.67% 9.67% 9.67% 9.67%
Variable Rate ($US)................... $ 3.1 $ 3.7 $ 2.2 $110.5 $83.6 $51.6 $254.7 $254.7
Average interest rate............... 8.41% 8.41% 8.41% 8.41% 8.41% 8.41%
Fixed Rate ($CAN)..................... $ 0.1 $ 0.1 $ 0.2 $ 0.2 $ 0.1 -- $ 0.7 $ 0.7
Average Interest Rate............... 10.95% 10.95% 10.95% 10.95% 10.95% -- -- --
Variable Rate ($CAN).................. $ 0.2 $ 0.2 $ 0.2 $ 30.1 $ 9.5 $ 1.0 $ 41.2 $ 41.2
Average Interest Rate............... 7.70% 7.70% 7.70% 7.70% 7.70% 7.70% -- --
Interest Rate Derivatives
Interest Rate Swaps:
Variable to Fixed ($US)............... $29.5 -- -- -- -- -- $ 29.5 --
Average pay rate.................... 6.17% -- -- -- -- -- -- --
Average receive rate................ 6.29% -- -- -- -- -- -- --
Variable to Variable with floor
($US)............................... -- $54.0 -- -- -- -- $ 54.0 --
Average pay rate.................... -- 8.31% -- -- -- -- -- --
Average receive rate................ -- 8.31% -- -- -- -- -- --
</TABLE>
FOREIGN CURRENCY RISK. The Company transacts business in various foreign
currencies, primarily in Canada. The Company does not have hedging or similar
foreign currency contracts. Approximately 8.6% of the revenues are denominated
in foreign currencies. Significant currency fluctuations could adversely impact
foreign revenues; however, the Company does not expect any significant changes
in foreign currency exposure in the near future.
ITEM 8
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements of the Company, including an index
thereto and the report of Ernst & Young LLP, the Company's independent auditors,
begin on page F-1.
ITEM 9
CHANGES IN AND DISAGREEMENTS WITH
ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
29
<PAGE>
PART III
ITEM 10
DIRECTORS AND EXECUTIVE OFFICERS
Management of the business of Leiner is vested in its Board of Directors
(the "Board"). Currently, Leiner does not pay any compensation for services as a
director on its Board. The Board is currently comprised of Messrs. Baird,
Kaminski, and Bensussen. The Board of Directors of Leiner Group, the Company's
indirect corporate parent, is currently comprised of Mr. Baird, who serves as
Chairman, Messrs. Kaminski and Bensussen, and Messrs. Bruce Gorchow and Alan
Colner, who were appointed as members of such Board in September 1997, Mr. John
Heine, who was appointed as a member of such Board in December 1997 and
Mr. Peter Carnwath, who was appointed as a member of such Board in March 1999.
The following table sets forth with respect to each of the directors and
executive officers of the Company, their respective years of employment with the
Company, ages and positions.
<TABLE>
<CAPTION>
YEARS WITH
NAME COMPANY AGE POSITION
---- ---------- -------- -----------------------------------------
<S> <C> <C> <C>
Robert M. Kaminski..................... 22 49 Chief Executive Officer and Director
Gale K. Bensussen...................... 26 53 President and Director
Robert J. La Ferriere.................. 3 51 Executive Vice President--Marketing
Kevin J. Lanigan....................... 27 53 Executive Vice President and Corporate
General Manager
Eric P. Schick......................... 19 40 Executive Vice President--Sales and
Merchandising
Robert O. Cavenah...................... 19 47 Senior Vice President--Strategic Cost
Management
Juan A. Guerrero....................... 1 40 Senior Vice President and Chief
Operations Officer
Robert A. Kay.......................... 4 48 Senior Vice President and Chief Science
Officer
John L. Kelly.......................... 3 56 Senior Vice President--Human Resources
Stephen P. Miller...................... 3 41 Senior Vice President and Chief Financial
Officer
Michael S. Yusko....................... 2 42 Vice President and Acting Chief Financial
Officer
Charles F. Baird, Jr................... 3 47 Director
</TABLE>
Robert M. Kaminski has been the Chief Executive Officer of Leiner since
May 1992, and a Director of Leiner since June 1992. He has been Chief Executive
Officer of Leiner Group since March 1994 and Vice Chairman of Leiner Group since
July 1996. From 1988 to 1992, Mr. Kaminski was Chief Operating Officer of the
Predecessor Company and from 1982 to 1988, he was Vice President--Sales of the
Predecessor Company. Mr. Kaminski joined the Predecessor Company in 1978.
Gale K. Bensussen has been a Director of Leiner since June 1992 and
President of Leiner since May 1992. He has been a Director of Leiner Group since
June 1992 and President of Leiner Group since March 1994. Mr. Bensussen was
Senior Vice President--Marketing and Corporate Development of the Predecessor
Company from May 1991 to May 1992. From July 1988 to May 1991, Mr. Bensussen was
Senior Vice President--Sales and Marketing of the Predecessor Company.
Mr. Bensussen joined the Predecessor Company in 1974.
Robert J. La Ferriere became Senior Vice President--Marketing of Leiner in
February 1997 and was a consultant to Leiner from 1996 to 1997. From 1992 to
1996, Mr. La Ferriere was President and Chief
30
<PAGE>
Executive Officer of Slim Fast Foods and was a Vice President, then Senior Vice
President--Purchasing, at Thrifty Drug and Discount Stores from 1984 until 1990.
Kevin J. Lanigan became Corporate General Manager and Executive Vice
President of Leiner in January 2000. Mr. Lanigan served as Executive Vice
President and Chief Operations Officer of Leiner from 1992 to 1999, and of
Leiner Group from 1994 to 1999. From 1986 to 1992, Mr. Lanigan was Senior Vice
President--Operations Planning of the Predecessor Company, and from 1979 to
1986, was Vice President--Operations. Before joining the Predecessor Company in
1973, he held various engineering positions in the aerospace industry.
Eric P. Schick became Executive Vice President--Sales and Merchandising in
January, 2000. Mr. Schick served as Executive Vice President--Sales from
June 1999 to December 1999. From December 1997 to June 1999, Mr. Schick was
Senior Vice President--Sales, and from April 1997 to December 1997, he was Vice
President--Sales. From 1994 to 1997 Mr. Schick was National Sales Manager of the
Predecessor Company. Mr. Schick joined the Predecessor Company in 1981.
Robert O. Cavenah became Senior Vice President--Strategic Cost Management in
March 1999. From 1992 to 1999, Mr. Cavenah was Vice President--Supply Chain
Management. From 1986 to 1992, Mr. Cavenah was Vice President--Operations for
the Predecessor Company. Prior to joining the Predecessor Company in 1981,
Mr. Cavenah held several operational positions within the pharmaceutical
industry.
Juan A. Guerrero became Chief Operations Officer and Senior Vice
President--Supply Chain Management in April 2000. Mr. Guerrero became Senior
Vice President, Purchasing in July 1999 after joining Leiner in December 1998,
as Vice President, Purchasing. From 1981 until November 1998, Mr. Guerrero held
various engineering and purchasing positions with Merck & Co., Inc.
Robert A. Kay joined Leiner in 1996 as Director of Nutritional Research and
was promoted to Vice President--Science Center in 1997. Mr. Kay became Senior
Vice President and Chief Science Officer in July 1997. From 1995 to 1996, he
served as Vice President for Metagenics, Inc. From 1992 to 1995, Mr. Kay served
as Chief Operations and Senior Vice President--Research and Development for
Earthrise Company.
John L. Kelly became Senior Vice President--Human Resources of Leiner in
November 1998. Mr. Kelly joined Leiner in March 1997 from Eveready Battery
Company. From 1990 to 1997, Mr. Kelly was Area Chairman for Eveready Battery
Company, subsidiary of Ralston Purina, with responsibilities for the commercial
and manufacturing, packaging and distribution operations in Latin America and
the Caribbean. From 1969 to 1990, Mr. Kelly worked for Ralston Purina Company
where he held key international positions in finance, operations, human
resources and business development.
Stephen P. Miller became Senior Vice President and Chief Financial Officer
in January 2000. Mr. Miller joined Leiner in 1997, as Vice President
Finance--Planning. Prior to joining Leiner, Mr. Miller worked for PepsiCo from
1985 to 1997, where he held various key finance positions within its domestic
and international divisions. Mr. Miller served as Director of
Finance--Florida/South Georgia, Director of Planning--Pepsi Cola International,
Austria, Area Finance Director--Pepsi Cola International, Chile and Area Chief
Financial Officer, Indiana.
Michael S. Yusko became Vice President and Acting Chief Financial Officer in
August 1999 after joining the Company in 1998 as Vice President--Treasurer.
Mr. Yusko is no longer employed with the Company effective April 18, 2000.
Charles F. Baird, Jr. has been a Director of Leiner since October 1997 and
was elected Chairman in June 1998. He is the managing member of Baird Investment
Group, L.L.C., the managing member of North Castle. From 1989 until May 1997,
Mr. Baird served as a Managing Director of AEA Investors Inc. From 1979 to 1989,
Mr. Baird worked as a management consultant with Bain & Company.
31
<PAGE>
ITEM 11
EXECUTIVE COMPENSATION
The following table sets forth the compensation of each of the Company's
chief executive officer and the four most highly paid executive officers (other
than the chief executive officer) (collectively, the "named executive officers")
for the fiscal year ended March 31, 2000.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
ANNUAL COMPENSATION
COMPENSATION(1) ---------------------
------------------- SECURITIES UNDERLYING ALL OTHER
NAME AND PRINCIPAL POSITION SALARY BONUS OPTIONS (#)(2) COMPENSATION(3)
--------------------------- -------- -------- --------------------- ---------------
<S> <C> <C> <C> <C>
Robert M. Kaminski
Chief Executive Officer..................... $467,308 $ -- $ -- $56,164
Gale K. Bensussen
President................................... $317,308 -- -- $14,230
Kevin J. Lanigan
Executive Vice President.................... $264,424 -- -- $12,245
Robert J. La Ferriere
Senior Vice President....................... $259,632 -- -- $10,894
John L. Kelly
Senior Vice President....................... $229,167 -- -- $78,732
</TABLE>
--------------------------
(1) The compensation described in this table does not include medical and group
life insurance received by the named executive officers which are available
generally to all salaried employees of the Company and certain perquisites
and other personal benefits received by the named executive officers, the
value of which does not exceed the lesser of $50,000 or 10% of any such
officer's total salary and bonus disclosed in this table.
(2) All options are for Leiner Group common stock and they generally vest on a
pro rata basis at a rate of 25% per year, with 25% immediate vesting on the
date of grant.
(3) Represents Company contributions to its defined contribution retirement
plans, the dollar value of term life and income replacement insurance
premiums, and tax affected relocation expenses paid by the Company on behalf
of the executive.
There were no stock options granted during fiscal year ended March 31, 2000.
The following table sets forth the stock option exercises for the fiscal
year ended March 31, 2000 and the stock option values as of March 31, 2000, in
each case, for each of the named executive officers.
AGGREGATED OPTION EXERCISE IN LAST FISCAL YEAR
AND OPTION VALUES AS OF MARCH 31, 2000(1)
<TABLE>
<CAPTION>
NUMBER OF SECURITIES
UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED OPTIONS IN-THE-MONEY OPTIONS AT
AT FISCAL YEAR END FISCAL YEAR END(2)
SHARES ACQUIRED VALUE --------------------------- ---------------------------
NAME ON EXERCISE REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
---- --------------- -------- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Robert M. Kaminski...................... -- -- 17,117 5,705 398,635 132,863
Gale K. Bensussen....................... -- -- 11,125 3,708 259,088 86,355
Kevin J. Lanigan........................ -- -- 5,242 1,747 122,080 40,686
Robert J. La Ferriere................... -- -- 4,321 1,679 92,200 30,718
John L. Kelly........................... -- -- 2,126 841 44,854 14,928
</TABLE>
------------------------------
(1) All options are for Leiner Group common stock.
(2) Sets forth values for "in-the-money" options that represent the positive
spread between the respective exercise prices of outstanding stock options
and the value of Leiner Group's common stock as of March 31, 2000.
32
<PAGE>
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Board of Directors of Leiner Group established a Compensation Committee
to review all compensation arrangements for executive officers of Leiner Group
and its subsidiaries. The individuals serving on the Leiner Group Compensation
Committee during the fiscal year ended March 31, 2000 were Mr. Baird,
Mr. Colner and Mr. Heine.
SEVERANCE ARRANGEMENTS
In November 1991, the Predecessor Company entered into certain severance
agreements with certain members of Leiner's senior management, pursuant to which
Leiner will pay severance benefits if the individual's employment is terminated
by Leiner other than for cause or if the individual resigns his or her
employment with Leiner for good reason.
The severance benefits that the Company has agreed to provide to each of
Robert M. Kaminski and Gale K. Bensussen include (a) a lump-sum severance
payment equal to the sum of (i) one year's base salary, plus (ii) any annual
individual performance bonus or targeted commission, both as in effect at the
time of the termination or resignation; (b) outplacement assistance at the
Company's expense, up to a maximum cost to the Company of $20,000; and (c) any
rights under applicable Company plans or programs, including but not limited to
stock option and incentive plans, as may be determined pursuant to the terms of
such plans or programs. The severance benefits provided to Kevin J. Lanigan
include a lump-sum severance payment equal to three times the sum of one year's
base salary plus any annual individual performance bonus or targeted commission,
both as in effect at the time of termination or resignation, as well as the
benefits described in clauses (b) and (c) above, subject to certain limitations
to the extent that the Company determines that the foregoing benefits would not
be deductible by the Company because such payments constitute an "excess
parachute payment" (as defined in section 280G of the Internal Revenue Code of
1986, as amended, (the "Internal Revenue Code").
In March 1997, the Company entered into a non-competition and retirement
agreement with Mr. David F. Brubaker, former Chairman of Leiner, pursuant to
which, among other things, the Company has agreed to pay Mr. Brubaker an amount
equal to approximately $1 million spread across several installments through
February 2000. The agreement provides that under certain circumstances all of
the Company's payment obligations to Mr. Brubaker would accelerate.
In August 1999, the Company entered into a non-competition and severance
agreement with William B. Towne, former Executive Vice President and Chief
Financial Officer, pursuant to which, among other things, the Company agreed to
pay Mr. Towne: (a) salary and benefits through and including August 1, 2001;
(b) bonus for the fiscal year 2000 in the amount of $125,000 to be paid on or
about July 1, 2000; and (c) outplacement assistance up to a maximum cost to the
company of $20,000.
STOCK OPTION PLAN
Leiner Group has authorized options for issuance to members of management
and employees ("Management Options") representing the right to acquire an
additional 10% of Leiner Group's common stock on a fully-diluted basis
immediately after the Recapitalization (giving effect to the exercise of such
options but without giving effect to the exercise of the Warrants referred to
under "The Recapitalization" in Item 1. Business), exercisable at a price equal
to the greater of the purchase price paid by North Castle in the
Recapitalization or the fair market value of such shares at the time of grant. A
total of 88,300 of these Management Options were granted as of June 30, 1997,
22,556 of these Management Options were granted as of November 1, 1997, 2,950 of
these Management Options were granted as of December 31, 1997 and 9,666 of these
Management Options were granted as of June 11, 1998. Generally, options vest on
a pro rata basis at a rate of 25% per year, with 25% immediate vesting on the
date of grant.
33
<PAGE>
Additionally, Management Options totaling 1,400, 1,500, 1,000 and 500 were
granted as of August 1, 1998, August 3, 1998, December 1, 1998 and January 4,
1999, respectively.
ITEM 12
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
All of the shares of common stock of Leiner are owned by PLI Holdings and
all of the shares of common stock of PLI Holdings are owned by Leiner Group.
The following table sets forth information regarding beneficial ownership of
common stock of Leiner Group as of June 16, 2000, by (i) each person who is
known by the Company to beneficially own more than 5% of voting Group Common
Stock, (ii) each director of Leiner Group, (iii) each named executive officer of
the Company listed on the Summary Compensation Table previously, and (iv) by all
directors and executive officers as a group.
<TABLE>
<CAPTION>
SHARES OF SHARES OF PERCENTAGE OF
VOTING GROUP NON-VOTING GROUP CLASS
COMMON STOCK COMMON STOCK ---------------------
NAME BENEFICIALLY OWNED BENEFICIALLY OWNED VOTING NON-VOTING
---- ------------------ ------------------ -------- ----------
<S> <C> <C> <C> <C>
North Castle Partners I, L.L.C.(1).............. 96,998 712,000 26.8% 91.7%
North Castle Partners II, L.P.(1)............... 56,931 -- 15.7% --
North Castle Partners I-A(1).................... 49,697 -- 13.7% --
Baird Investment Group, L.L.C.(2)............... 208,110 712,000 57.4% 91.7%
Charles F. Baird, Jr.(2)........................ 232,980(3) 712,000 64.2% 91.7%
AEA Investors Inc............................... 76,831(4) 26,793(4) 21.2% 3.5%
Alan Colner..................................... -- -- -- --
Bruce Gorchow................................... -- -- -- --
John Heine...................................... 1,000 563 0.3% 0.1%
Peter Carnwath.................................. -- -- -- --
Robert M. Kaminski.............................. 4,146(5) 21,822 1.1% 2.7%
Gale K. Bensussen............................... 8,490(5) 14,333(5) 2.3% 1.8%
Kevin J. Lanigan................................ 1,000(5) 23,321(5) 0.3% 3.0%
Robert J. LaFerriere............................ 1,000(5) 5,570(5) 0.3% 0.7%
John L. Kelly................................... --(5) 2,653(5) -- 0.3%
Executive officers and directors as a group
(15 persons).................................. 255,545(5) 788,541(5) 70.4% 94.3%
</TABLE>
------------------------
(1) The address for North Castle is 60 Arch Street, Suite 1A, Greenwich,
Connecticut 06830.
(2) North Castle is an investment fund formed as a limited liability company.
Baird Investment Group, L.L.C. ("Baird Investment") is the sole managing
member of North Castle. Mr. Charles F. Baird, Jr. is the sole managing
member of Baird Investment. The address for Baird Investment is 60 Arch
Street, Suite 1A, Greenwich, Connecticut 06830.
(3) Includes 24,870 shares of voting Leiner Group common stock owned by
Mr. Baird and the shares of Leiner Group common stock owned by North Castle
which Mr. Baird may be deemed to have beneficial ownership of by virtue of
his status as the managing member of Baird Investment. Mr. Baird expressly
disclaims such beneficial ownership. Does not include 3,255 shares of voting
Leiner Group common stock held by a trust in favor of Mr. Baird's children.
Mr. Baird expressly disclaims beneficial ownership of such shares.
(4) Pursuant to an agreement between AEA and the other members of the AEA Group,
AEA has voting power over the shares of Leiner Group common stock held by
the members of the AEA Group, and accordingly may be deemed to beneficially
own such shares.
(5) Does not reflect Equity Rights owned by Messrs. Kaminski, Bensussen, and
Lanigan reflecting the right to receive 24,067 shares, 18,484 shares, and
4,938 shares of Leiner Group common stock, respectively, as such Equity
Rights are not exercisable within 60 days of the date hereof.
34
<PAGE>
ITEM 13
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
EXCHANGE AGREEMENT: In order to become eligible for pooling accounting
treatment in merger and acquisition transactions, on November 13, 1998, Leiner
Group entered into an Exchange Agreement with North Castle, pursuant to which
North Castle exchanged 712,000 shares of voting Leiner Group common stock for an
equal number of shares of non-voting Leiner Group class B common stock (the
"Pooling Restructuring").
STOCKHOLDERS AGREEMENT. On June 30, 1997 (the "Recapitalization Closing
Date"), Leiner Group and the stockholders of Leiner Group entered into the
stockholders agreement, which was subsequently amended on September 28, 1998,
and again on December 17, 1999 (the "Stockholders Agreement"), which contains,
among other terms and conditions, provisions relating to corporate governance,
certain restrictions with respect to transfers of Recapitalized Common Stock (as
defined) by certain parties thereunder, certain rights and obligations with
respect to transfers of Recapitalized Common Stock and certain registration
rights granted by the Company with respect to shares of Recapitalized Common
Stock. The Stockholders Agreement gives the AEA Group the power to elect one
member of Leiner Group's Board of Directors, and for as long as North Castle,
North Castle Partners I-A, L.P. ("NCP I-A") and North Castle Partners II, L.P.
("NCP-II") collectively own at least 40% of the common stock of Leiner Group,
each of NCP I-A and NCP-II shall be entitled to nominate one person for election
of the Board of Directors of Leiner Group and North Castle shall be entitled to
nominate all other persons for election to the Board of Directors. If North
Castle ownership of Leiner Group equity falls below 40%, it may elect the number
of directors that is proportionate to its shareholdings. Accordingly, North
Castle controls the Company and has the power to appoint new management and
approve any action requiring the approval of the holders of Leiner Group common
stock, including adopting amendments to Leiner Group's certificate of
incorporation and approving mergers or sales of substantially all of the
Company's assets.
The Stockholders Agreement also restricts the ability of existing
shareholders to transfer their Leiner Group equity to third parties prior to
June 30, 2002, and gives certain of these shareholders a right of first refusal
after that date. These restrictions either do not apply or change if there is a
public offering, or if North Castle sells more than 5% of all outstanding Leiner
Group equity. If North Castle seeks to sell more than 5% of the outstanding
Leiner Group equity, other existing shareholders have the right to sell their
shares at the same time. The Agreement also gives North Castle rights to require
Leiner Group to register Leiner Group equity under the Securities Act, subject
to certain limitations and conditions.
MANAGEMENT AGREEMENTS. Following its acquisition of Leiner on May 4, 1992,
AEA entered into a management agreement with Leiner Group, pursuant to which AEA
provided management, consulting and financial services to the Company for an
annual fee of $0.35 million plus expenses. In connection with the Vita Health
Acquisition in fiscal 1997, the Company paid to AEA an additional transaction
fee of $0.3 million for services in arranging, structuring, and negotiating the
terms of the Vita Health Acquisition and related refinancing, and reimbursed it
for certain related expenses. AEA received a transaction fee of $3.5 million for
similar services rendered in connection with the Recapitalization.
Upon consummation of the Recapitalization, Leiner Group's management
agreement with AEA was terminated, and Leiner Group and Leiner entered into a
consulting agreement with North Castle Partners, L.L.C. (the "Sponsor"), an
affiliate of North Castle, to provide the Company with certain business,
financial and managerial advisory services. Mr. Baird acts as the managing
member of the Sponsor through Baird Investment. In exchange for such services,
Leiner Group and Leiner have agreed to pay the Sponsor an annual fee of
$1.5 million, payable semi-annually in advance, plus the Sponsor's reasonable
out-of-pocket expenses, and to indemnify the Sponsor and certain affiliates
against certain liabilities. This fee may be reduced upon completion of an
initial public offering of Leiner's shares. The agreement also terminates on
June 30, 2007, unless Baird Investment Group ceases to be the managing member of
North Castle or North Castle terminates before that date. Leiner Group and
Leiner also paid the Sponsor a
35
<PAGE>
transaction fee of $3.5 million for services relating to arranging, structuring
and financing the Recapitalization in fiscal 1998.
MANAGEMENT. As part of the Recapitalization, the current managers and
employees of the Company were afforded the opportunity to choose the amount of
their existing equity they wished to retain in Leiner Group in the form of
Leiner Group equity. Managers and employees who retained their equity in Leiner
Group as a result of the increased leverage on the Company incurred as part of
the Recapitalization, acquired a greater percentage equity ownership. Under the
Stockholders Agreement, current managers have the right, upon their death or
permanent disability, to require Leiner Group to purchase their Leiner Group
common stock for its then fair market value.
In connection with the Recapitalization, the Company paid senior managers
transaction bonuses of $5.2 million in the aggregate in fiscal 1998. In
addition, Leiner Group amended the stock option plan which currently provides
for the Board of Leiner Group to grant options to acquire 127,222 shares of
Leiner Group common stock. A total of 65,023 of these options were granted to
executive officers as of June 30, 1997 and an additional 11,456, 750 and 722 of
these Management Options were granted to executive officers on November 1, 1997,
December 31, 1997 and June 11, 1998, respectively, in each case subject to a
vesting schedule.
The Board of Leiner Group and management of the Company instituted a stock
purchase plan pursuant to which certain managers and employees of the Company
were afforded the opportunity to purchase Leiner Group common stock. The gross
proceeds of such offering were $1.9 million, recorded in fiscal 1998.
On June 25, 1997, Baird Investment, the managing member of North Castle,
entered into separate agreements with three of the principal investors in North
Castle, Electra Fleming Inc. ("Electra"), Moore Capital Management, Inc.
("Moore") and PPM America, Inc. ("PPM"). As part of these agreements, Baird
Group caused North Castle to exercise its rights under the Stockholders
Agreement to nominate one person designated by Electra, Moore and PPM to serve
on the Board of Directors of Leiner Group. In connection with these agreements,
Leiner Group paid Electra, Moore and PPM a one-time board representation fee of
$100,000, $75,000 and $75,000, respectively, in fiscal 1998.
CAPITAL CONTRIBUTION. In connection with the Acquisition, as of
December 17, 1999, the Company received $20.0 million, which was funded by a
subscription by affiliates of certain shareholders to the capital of Leiner
Group. Leiner Group made a capital contribution in the same amount to the
Company through PLI Holdings. Leiner Group issued 111,112 shares of common stock
to certain affiliates.
36
<PAGE>
PART IV
ITEM 14
EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Documents filed as part of this Report:
1. FINANCIAL STATEMENTS. The following financial statements of the
Company are included in a separate section of this Annual Report on
Form 10-K commencing on the pages referenced below:
<TABLE>
<CAPTION>
PAGE
--------
<S> <C>
Index to Consolidated Financial Statements.................. F-1
Report of Independent Auditors.............................. F-2
Consolidated Balance Sheets as of March 31, 2000 and 1999... F-3
Consolidated Statements of Operations for the years ended
March 31, 2000, 1999 and 1998............................. F-4
Consolidated Statements of Shareholder's Equity (Deficit)
for the years ended March 31, 2000, 1999 and 1998......... F-5
Consolidated Statements of Cash Flows for the years ended
March 31, 2000, 1999 and 1998............................. F-6
Notes to Consolidated Financial Statements.................. F-7
</TABLE>
2. FINANCIAL STATEMENT SCHEDULES. The following financial statement
schedule of the Company is included in a separate section of this Annual
Report on Form 10-K commencing on the page referenced below. All other
schedules have been omitted because they are not applicable, not required,
or the information is included in the Consolidated Financial Statements or
notes thereto.
<TABLE>
<S> <C>
Schedule II--Consolidated Valuation and Qualifying
Accounts.................................................. S-1
</TABLE>
3. LIST OF EXHIBITS.
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT DESCRIPTION CROSS REFERENCE
--------------------- ------------------- ---------------
<C> <S> <C>
2.1 Stock Purchase Agreement and Agreement Filed as Exhibit 2.1 to the Registration
and Plan of Merger, dated as of Statement on Form S-4 (Registration
May 31, 1997, by and among Leiner No. 333-33121) of Leiner Health
Group, North Castle Partners I, L.L.C. Products Inc. under the Securities Act
and LHP Acquisition Corp. of 1933, as amended (the "Registration
Statement on Form S-4"), and
incorporated herein by reference.
2.2 Amendment No. 1 to Stock Purchase Filed as Exhibit 2.2 to the Registration
Agreement and Agreement and Plan of Statement on Form S-4 and incorporated
Merger, dated as of June 30, 1997, by herein by reference.
and among Leiner Group, North Castle
Partners I, L.L.C. and LHP Acquisition
Corp.
</TABLE>
37
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT DESCRIPTION CROSS REFERENCE
--------------------- ------------------- ---------------
<C> <S> <C>
2.3 Amended and Restated Asset Purchase Filed as Exhibit 2.1 to the Report on
Agreement, dated as of December 17, Form 8-K dated December 30, 1999, and
1999, among Leiner Health Products incorporated herein by reference.
Inc., Granutec Acquirco, Inc., Vita
Health Products Inc., and Granutec,
Inc., Granutec Holding Corporation,
Stanley Pharmaceuticals Ltd., and
Novopharm Limited.
3.1 Amended and Restated Certificate of Filed as Exhibit 3.1 to the Registration
Incorporation of Leiner Health Products Statement on Form S-4 and incorporated
Inc. ("LHP"). herein by reference.
3.2 Amended and Restated By-Laws of LHP Filed as Exhibit 3.2 to the Registration
(formerly known as Amended and Restated Statement on Form S-4 and incorporated
By-Laws of LHP Funding Corp.). herein by reference.
4.1 Indenture, dated as of June 30, 1997, Filed as Exhibit 4.1 to the Registration
between Leiner Group and United States Statement on Form S-4 and incorporated
Trust Company of New York (the herein by reference.
"Trustee").
4.2 First Supplemental Indenture, dated as of Filed as Exhibit 4.2 to the Registration
June 30, 1997, among Leiner Group, LHP Statement on Form S-4 and incorporated
and the Trustee. herein by reference.
4.3 Purchase Agreement, dated as of June 19, Filed as Exhibit 4.3 to the Registration
1997, among Leiner Group, LHP, Merrill Statement on Form S-4 and incorporated
Lynch & Co., Salomon Brothers Inc and herein by reference.
Scotia Capital Markets (USA) Inc. (the
"Initial Purchasers").
4.4 Registration Rights Agreement, dated as Filed as Exhibit 4.4 to the Registration
of June 30, 1997, among Leiner Group, Statement on Form S-4 and incorporated
LHP and the Initial Purchasers. herein by reference.
4.5 Amended and Restated Credit Agreement, Filed as Exhibit 4.5 to the Company's
dated as of May 15, 1998 (the "Credit annual report on Form 10-K for the year
Agreement"), among LHP, Vita Health ended March 31, 1998.
Products Inc. (formerly Vita Health
Company (1985) Ltd.), a Canadian
corporation ("Vita Health"), the banks
and other financial institutions party
thereto, as lenders, The Bank of Nova
Scotia, as U.S. Agent and Canadian
Agent (the "Agents"), Merrill Lynch
Capital Corporation, as documentation
agent, and Salomon Brothers Holding
Company Inc, as syndication agent.
</TABLE>
38
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT DESCRIPTION CROSS REFERENCE
--------------------- ------------------- ---------------
<C> <S> <C>
4.6 Affirmation and Consent, dated May 15, Filed as Exhibit 4.6 to the Company's
1998, by PLI Holdings Inc., VH Holdings annual report on Form 10-K for the year
Inc., 64804 Manitoba Ltd. and Westcan ended March 31, 1998.
Pharmaceuticals Ltd. to the Bank of
Nova Scotia as U.S. Agent under the
Credit Agreement and each of the
lenders party to the Credit Agreement.
4.7 Assumption Agreement, dated as of Filed as Exhibit 4.7 to the Registration
June 30, 1997, between Leiner Group Statement on Form S-4 and incorporated
and LHP and accepted and acknowledged herein by reference.
by the Agents on behalf of the lenders
that are party to the Credit Agreement.
4.8 U.S. Borrower Security Agreement, dated Filed as Exhibit 4.8 to the Registration
as of June 30, 1997, between LHP and Statement on Form S-4 and incorporated
The Bank of Nova Scotia, as collateral herein by reference.
agent.
4.9 U.S. Borrower Pledge Agreement, dated as Exhibit 4.9 to the Registration Statement
of June 30, 1997, made by LHP in favor on Form S-4 and incorporated herein by
of the Agents for the secured parties, reference.
as defined therein. Filed as
4.10 Parent Pledge Agreement, dated as of Filed as Exhibit 4.10 to the Registration
June 30, 1997, made by PLI Holdings Statement on Form S-4 and incorporated
Inc. in favor of the Agents for the herein by reference.
secured parties, as defined therein.
4.11 Canadian Holdings Pledge Agreement, dated Filed as Exhibit 4.11 to the Registration
as of June 30, 1997, made by VH Statement on Form S-4 and incorporated
Holdings Inc. in favor of The Bank of herein by reference.
Nova Scotia, as agent for each of the
secured parties, as defined therein.
4.12 Canadian Borrower Pledge Agreement, dated Filed as Exhibit 4.12 to the Registration
as of June 30, 1997, made by Vita Statement on Form S-4 and incorporated
Health in favor of The Bank of Nova herein by reference.
Scotia, as agent for each of the
secured parties, as defined therein.
4.13 U.S. Borrower Guaranty, dated as of Filed as Exhibit 4.13 to the Registration
June 30, 1997, made by LHP in favor of Statement on Form S-4 and incorporated
the Agents for the secured parties, as herein by reference.
defined therein.
4.14 Parent Guaranty, dated as of June 30, Filed as Exhibit 4.14 to the Registration
1997, made by PLI Holdings in favor of Statement on Form S-4 and incorporated
the Agents for the secured parties, as herein by reference.
defined therein.
4.15 Canadian Holdings Guaranty, dated as of Filed as Exhibit 4.15 to the Registration
June 30, 1997, made by VH Holdings Inc. Statement on Form S-4 and incorporated
in favor of The Bank of Nova Scotia as herein by reference.
agent for the secured parties, as
defined therein.
</TABLE>
39
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT DESCRIPTION CROSS REFERENCE
--------------------- ------------------- ---------------
<C> <S> <C>
4.16 Canadian Subsidiary Guaranties, each Filed as Exhibit 4.16 to the Registration
dated as of June 30, 1997, made by each Statement on Form S-4 and incorporated
of 64804 Manitoba Ltd. and Westcan herein by reference.
Pharmaceuticals Ltd. in favor of The
Bank of Nova Scotia as agent for the
secured parties, as defined therein.
4.17 Canadian Borrower Debenture, each dated Filed as Exhibit 4.17 to the Registration
as of June 30, 1997, made by Vita Statement on Form S-4 and incorporated
Health in favor of The Bank of Nova herein by reference.
Scotia on its own behalf and as agent
for the Canadian secured parties as
defined therein in the amount of
$75,000,000.
4.18 Canadian Holdings Debenture, dated as of Filed as Exhibit 4.18 to the Registration
June 30, 1997, made by VH Holdings Inc. Statement on Form S-4 and incorporated
in favor of The Bank of Nova Scotia, on herein by reference.
its own behalf and as agent for the
Canadian secured parties, as defined
therein in the amount of $75,000,000.
4.19 Canadian Subsidiary Debenture, dated as Filed as Exhibit 4.19 to the Registration
of June 30, 1997, made by 64804 Statement on Form S-4 and incorporated
Manitoba Ltd. in favor of The Bank of herein by reference.
Nova Scotia, on its own behalf and as
agent for the Canadian secured parties,
as defined therein in the amount of
$75,000,000.
4.20 Canadian Subsidiary Debenture, dated as Filed as Exhibit 4.20 to the Registration
of June 30, 1997, made by Westcan Statement on Form S-4 and incorporated
Pharmaceuticals Ltd. in favor of The herein by reference.
Bank of Nova Scotia, on its own behalf
and as agent for the Canadian secured
parties, as defined therein in the
amount of $75,000,000.
4.21 Mortgage, Assignment of Leases and Rents, Filed as Exhibit 4.21 to the Registration
Security Agreement and Fixture Filing, Statement on Form S-4 and incorporated
dated as of June 30, 1997 from LHP, as herein by reference.
Mortgagor, to The Bank of Nova Scotia,
as agent, relating to the property
located at 3532 West 47th Place,
Chicago, Illinois, as amended by the
First Amendment to the Mortgage,
Assignment of Leases and Rents,
Security Agreement and Fixture Filing
dated as of July 31, 1997.
4.22 Mortgage, Assignment of Leases and Rents, Filed as Exhibit 4.22 to the Registration
Security Agreement and Fixture Filing, Statement on Form S-4 and incorporated
dated as of August 20, 1997 from LHP, herein by reference.
as Mortgagor, to The Bank of Nova
Scotia, as agent, relating to the
property located at 3308 Covington,
Kalamazoo, Michigan.
</TABLE>
40
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT DESCRIPTION CROSS REFERENCE
--------------------- ------------------- ---------------
<C> <S> <C>
4.23 Mortgage, Assignment of Leases and Rents, Filed as Exhibit 4.23 to the Registration
Security Agreement and Fixture Filing, Statement on Form S-4 and incorporated
dated as of June 30, 1997 from LHP, as herein by reference.
Mortgagor, to The Bank of Nova Scotia,
as agent, relating to the property
located at 2300 Badger Lane, Madison,
Wisconsin.
4.24 Leasehold Deed of Trust, Assignment of Filed as Exhibit 4.24 to the Registration
Leases and Rents, Security Agreement Statement on Form S-4 and incorporated
and Fixture Filing, dated June 30, 1997 herein by reference.
from LHP, as Trustor, in favor of
Lawyers Title Company of California as
Trustee, for the benefit of The Bank of
Nova Scotia, as agent, relating to the
property located at 7366 Orangewood
Avenue, Garden Grove, California.
4.25 Trademark Security Agreement, dated as of Filed as Exhibit 4.25 to the Registration
June 30, 1997, between LHP and The Bank Statement on Form S-4 and incorporated
of Nova Scotia as collateral agent for herein by reference.
the secured parties.
4.26 First Amendment, dated June 30, 1999 to Filed as Exhibit 4.1 to the Quarterly
the Amended and Restated Credit Report on Fort 10-Q of Leiner Health
Agreement, among Leiner Health Products Products Inc. for the quarter ended
Inc., Vita Health Products Inc., and June 30, 1999 and incorporated herein
the banks and other financial by reference.
institutions party thereto, as Lenders.
4.27 Second Amendment, dated December 16, Filed Exhibit 4.1 to the Quarterly Report
1999, to the Restated Credit Agreement, on Form 10-Q of Leiner Health Products
among Leiner Health Products Ind., Vita Inc. for the Quarter ended
Health Products Inc., and the banks and December 31, 1999 and incorporated
other financial institutions party herein by reference.
thereto, as lenders.
4.28 Third Amendment, dated February 11, 2000 Filed as Exhibit 4.3 to the Quarterly
to the Existing Credit Agreement among Report on Form 10-Q of Leiner Health
Leiner Health Products Inc., Vita Products Inc. for the Quarter ended
Health Products Inc., and the bank and December 31, 1999 and incorporated
other financial institutions party herein by reference.
thereto, as Lenders.
4.29 Loan Agreement, dated May 1, 1994 by and Filed as Exhibit 4.2 to the Quarterly
between The Wilson County Industrial Report on Form 10-Q of Leiner Health
Facilities and Pollution Control Products Inc. for the Quarter ended
Financing Authority, and Granutec, Inc. December 31, 1999 and incorporated
herein by reference.
10.1 Consulting Agreement, dated as of Filed as Exhibit 10.1 to the Registration
June 30, 1997, among Leiner Group, LHP Statement on Form S-4 and incorporated
and North Castle. herein by reference.
</TABLE>
41
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT DESCRIPTION CROSS REFERENCE
--------------------- ------------------- ---------------
<C> <S> <C>
10.2 Restated Standard Indemnity Agreement, Filed as Exhibit 10.2 to the Registration
dated September 1, 1992 between Showa Statement on Form S-4 and incorporated
Denko America Inc. and LHP Holdings herein by reference.
Corp. (now LHP).
10.3 Guaranty Agreement, dated September 1, Filed as Exhibit 10.3 to the Registration
1992, between Showa Denko K.K. and LHP Statement on Form S-4 and incorporated
Holdings Corp. (now LHP). herein by reference.
10.4 Leiner Group Stock Option Plan (formerly Filed as Exhibit 10.4 to the Registration
known as PLI Investors Inc. Stock Statement on Form S-4 and incorporated
Option Plan). herein by reference.
10.5 First Amendment to the Leiner Group Stock Filed as Exhibit 10.5 to the Registration
Option Plan, effective as of June 30, Statement on Form S-4 and incorporated
1997. herein by reference.
10.6 Leiner Group Stock Incentive Plan, Filed as Exhibit 10.6 to the Registration
adopted and effective as of June 30, Statement on Form S-4 and incorporated
1997. herein by reference.
10.9 Lease, dated as of October 4, 1993, by Filed as Exhibit 10.9 to the Registration
and between Watson Land Company Statement on Form S-4 and incorporated
("Watson") and LHP, related to a herein by reference.
premise located at 810 East 233rd
Street, Carson, California.
10.10 Lease, dated as of October 4, 1993, by Filed as Exhibit 10.10 to the
and between Watson and LHP, related to Registration Statement on Form S-4 and
a premise located at 901 East 233rd incorporated herein by reference.
Street, Carson, California.
10.11 Sublease, dated as of October 8, 1993 by Filed as Exhibit 10.11 to the
and between Teledyne, Inc. and LHP, Registration Statement on Form S-4 and
related to a premise located at 901 incorporated herein by reference.
East 233rd Street, Carson, California.
10.12 Standard Industrial Lease, dated Filed as Exhibit 10.12 to the
February 19, 1988 between Richard F. Registration Statement on Form S-4 and
Burns, J. Grant Monahan and Lawrence W. incorporated herein by reference.
Doyle, as Trustees of AEW #113 Trust
established under Declaration of Trust
dated January 19, 1988 and Vita-Fresh
Vitamin Co. Inc. and Vital Industries,
Inc., as amended by the First Lease
Amendment, dated as of June 12, 1997,
between Sierra Pacific California LP
and LHP, related to a premise located
in Garden Grove, California.
10.14 Severance Benefit Agreement, dated as of Filed as Exhibit 10.14 to the
November 21, 1991, by and between LHP Registration Statement on Form S-4 and
and Robert M. Kaminski. incorporated herein by reference.
</TABLE>
42
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT DESCRIPTION CROSS REFERENCE
--------------------- ------------------- ---------------
<C> <S> <C>
10.15 Severance Benefit Agreement, dated as of Filed as Exhibit 10.15 to the
November 21, 1991, by and between LHP Registration Statement on Form S-4 and
and Gale K. Bensussen. incorporated herein by reference.
10.16 Severance Benefit Agreement, dated as of Filed as Exhibit 10.16 to the
May 30, 1997, by and between LHP and Registration Statement on Form S-4 and
William B. Towne. incorporated herein by reference.
10.18 Non-Competition and Severance Benefit Filed as an exhibit.
Agreement, dated as of August 26, 1999,
by and between LHP and William B.
Towne.
10.19 Net Lease, dated as of October 14, 1997, Filed as Exhibit 10.19 to the
by and between MIT Unsecured, L.P. and Registration Statement on Form S-4 and
LHP, related to a premise located in incorporated herein by reference.
York County, South Carolina.
10.20 Stockholders Agreement, dated as of Filed as Exhibit 10.1 to the Quarterly
June 30, 1997, among Leiner Health Report on Form 10-Q of Leiner Health
Products Group Inc., North Castle Products Inc. for the Quarter Ended
Partners I, L.L.C., AEA Investors Inc., December 31, 1997, and incorporated
and each other person who is or becomes herein by reference.
a party thereto.
10.21 Amended and Restated Stockholders Filed as an exhibit.
Agreement, dated as of September 28,
1998, among Leiner Health Products
Group Inc., North Castle Partners I,
L.L.C., AEA, and each other person who
is or becomes a party thereto.
10.22 Amended and Restated Stockholders Filed as an exhibit.
Agreement, dated as of December 17,
1999, among Leiner Health Products
Group Inc., North Castle Partners I,
L.L.C., North Castle Partners I-A,
L.P., North Castle Partners II, L.P.,
AEA, NCP Co-Investment Fund, L.P.,
Squam Lake Investors IV, L.P., and each
other person who is or becomes a party
thereto.
10.23 Stock Purchase Plan of Leiner Health Filed as Exhibit 10.2 to the Quarterly
Products Group Inc. as adopted by the Report on Form 10-Q of Leiner Health
Board of Directors of Leiner Health Products Inc. for the Quarter Ended
Products Group Inc. on November 17, December 31, 1997, and incorporated
1997. herein by reference.
12.1 Computation of Ratio of Earnings to Fixed Filed as an exhibit.
Charges.
12.2 Computation of EBITDA to Interest Filed as an exhibit.
Expense.
21 List of Subsidiaries of the Registrant. Filed as an exhibit.
27 Financial Data Schedule--March 31, 1999 Filed as an exhibit.
</TABLE>
(b) Reports on Form 8-K: None
43
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, Leiner Health Products Inc. has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized, in the
City of Carson, State of California, on the 29th day of June, 2000.
<TABLE>
<S> <C> <C>
LEINER HEALTH PRODUCTS INC.
By: /s/ STEPHEN P. MILLER
-----------------------------------------
Name: Stephen P. Miller
Title: Senior Vice President and
Chief Financial Officer
</TABLE>
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
<C> <S> <C>
/s/ ROBERT M. KAMINSKI Chief Executive Officer,
------------------------------------------- Director (Principal Executive June 29, 2000
Robert M. Kaminski Officer)
Senior Vice President, Chief
/s/ STEPHEN P. MILLER Financial Officer (Principal
------------------------------------------- Financial and Accounting June 29, 2000
Stephen P. Miller Officer)
/s/ GALE K. BENSUSSEN
------------------------------------------- President and Director June 29, 2000
Gale K. Bensussen
</TABLE>
44
<PAGE>
LEINER HEALTH PRODUCTS INC.
INDEX TO
CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Report of Independent Auditors.............................. F-2
Consolidated Balance Sheets as of March 31, 2000 and 1999... F-3
Consolidated Statements of Operations for the years ended
March 31, 2000, 1999 and 1998............................. F-4
Consolidated Statements of Shareholder's Equity (Deficit)
for the years ended March 31, 2000, 1999 and 1998......... F-5
Consolidated Statements of Cash Flows for the years ended
March 31, 2000, 1999 and 1998............................. F-6
Notes to Consolidated Financial Statements.................. F-7
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Shareholder
Leiner Health Products Inc.
We have audited the accompanying consolidated balance sheets of Leiner
Health Products Inc. as of March 31, 2000 and 1999, and the related consolidated
statements of operations, shareholder's equity (deficit) and cash flows for each
of the three years in the period ended March 31, 2000. Our audits also included
the financial statement schedule listed in the Index at Item 14(a). These
financial statements and schedule are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements and schedule based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. 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 audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Leiner Health
Products Inc. at March 31, 2000 and 1999, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
March 31, 2000, in conformity with accounting principles generally accepted in
the United States. Also, in our opinion, the related financial statement
schedule, when considered in relation to the basic financial statements taken as
a whole, presents fairly in all material respects the information set forth
therein.
/s/ ERNST & YOUNG LLP
Orange County, California
May 26, 2000
F-2
<PAGE>
LEINER HEALTH PRODUCTS INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
MARCH 31,
-------------------
2000 1999
-------- --------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents................................. $ 3,008 $ 77
Accounts receivable, net of allowances of $4,566 and
$4,722 at March 31, 2000 and 1999, respectively......... 127,881 127,127
Inventories............................................... 175,529 151,605
Prepaid expenses and other current assets................. 15,049 10,738
-------- --------
Total current assets.................................... 321,467 289,547
Property, plant and equipment, net.......................... 87,093 61,241
Goodwill and other intangibles, net......................... 76,744 54,444
Other noncurrent assets..................................... 24,156 20,306
-------- --------
Total assets............................................ $509,460 $425,538
======== ========
LIABILITIES AND SHAREHOLDER'S EQUITY (DEFICIT)
Current liabilities:
Bank checks outstanding, less cash on deposit............. $ 13,581 $ 6,539
Accounts payable.......................................... 103,815 82,244
Accrued compensation and benefits......................... 15,380 11,120
Customer allowances payable............................... 7,085 9,603
Other accrued expenses.................................... 15,018 9,350
Current portion of long-term debt......................... 5,006 4,068
-------- --------
Total current liabilities............................... 159,885 122,924
Long-term debt.............................................. 339,066 317,859
Other noncurrent liabilities................................ 4,894 4,253
Commitments and contingencies
Shareholder's equity (deficit):
Common stock, $1 par value: 1,000 shares authorized,
issued and outstanding.................................. 1 1
Capital in excess of par value............................ 21,851 1,851
Accumulated deficit, including charges from
recapitalization of parent of $31,543................... (16,425) (21,297)
Accumulated other comprehensive income (loss)............. 188 (53)
-------- --------
Total shareholder's equity (deficit).................... 5,615 (19,498)
-------- --------
Total liabilities and shareholder's equity (deficit).... $509,460 $425,538
======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
F-3
<PAGE>
LEINER HEALTH PRODUCTS INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEARS ENDED MARCH 31,
------------------------------
2000 1999 1998
-------- -------- --------
<S> <C> <C> <C>
Net sales................................................... $662,259 $626,916 $502,110
Cost of sales............................................... 495,693 463,607 368,599
-------- -------- --------
Gross profit................................................ 166,566 163,309 133,511
Marketing, selling and distribution expenses................ 84,982 76,895 62,626
General and administrative expenses......................... 39,980 37,419 29,462
Amortization of goodwill and other intangibles.............. 2,666 1,670 1,663
Closure of facilities and impairment of long-lived assets... 608 380 1,221
Expenses related to recapitalization of parent.............. -- -- 32,808
Other operating (income) charges............................ (918) (128) 1,349
-------- -------- --------
Operating income............................................ 39,248 47,073 4,382
Loss from investment in joint venture....................... 155 -- --
Interest expense, net....................................... 31,123 28,732 19,494
-------- -------- --------
Income (loss) before income taxes and extraordinary item.... 7,970 18,341 (15,112)
Provision for income taxes before extraordinary item........ 3,098 8,034 1,196
-------- -------- --------
Income (loss) before extraordinary item..................... 4,872 10,307 (16,308)
Extraordinary loss on the early extinguishment of debt, net
of income taxes of $761................................... -- -- 1,109
-------- -------- --------
Net income (loss)........................................... $ 4,872 $ 10,307 $(17,417)
======== ======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
LEINER HEALTH PRODUCTS INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDER'S EQUITY (DEFICIT)
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
ACCUMULATED
COMMON STOCK CAPITAL OTHER TOTAL
------------------- IN EXCESS ACCUMULATED COMPREHENSIVE SHAREHOLDER'S
SHARES AMOUNT OF PAR VALUE DEFICIT INCOME (LOSS) EQUITY (DEFICIT)
-------- -------- ------------ ----------- ------------- ----------------
<S> <C> <C> <C> <C> <C> <C>
Balance at March 31, 1997........... 1,000 $1 $ 62,966 $ 17,356 $(173) $ 80,150
Net loss............................ -- -- -- (17,417) -- (17,417)
Translation adjustment.............. -- -- -- -- 35 35
--------
Comprehensive loss................ (17,382)
Recapitalization of parent.......... -- -- (62,966) (31,543) -- (94,509)
Capital contribution from parent.... -- -- 1,825 -- -- 1,825
----- -- -------- -------- ----- --------
Balance at March 31, 1998........... 1,000 1 1,825 (31,604) (138) (29,916)
Net income.......................... -- -- -- 10,307 -- 10,307
Translation adjustment.............. -- -- -- -- 85 85
--------
Comprehensive income.............. 10,392
Capital contribution from parent.... -- -- 26 -- -- 26
----- -- -------- -------- ----- --------
Balance at March 31, 1999........... 1,000 1 1,851 (21,297) (53) (19,498)
Net income.......................... -- -- -- 4,872 -- 4,872
Translation adjustment.............. -- -- -- -- 241 241
--------
Comprehensive income.............. 5,113
Capital contribution from parent.... -- -- 20,000 -- -- 20,000
----- -- -------- -------- ----- --------
Balance at March 31, 2000........... 1,000 $1 $ 21,851 $(16,425) $ 188 $ 5,615
===== == ======== ======== ===== ========
</TABLE>
See accompanying notes to consolidated financial statements.
F-5
<PAGE>
LEINER HEALTH PRODUCTS INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEARS ENDED MARCH 31,
-------------------------------
2000 1999 1998
-------- -------- ---------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income (loss)........................................... $ 4,872 $ 10,307 $ (17,417)
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation.............................................. 10,910 8,281 7,666
Amortization.............................................. 10,650 7,896 7,014
Deferred income taxes..................................... (1,638) 123 (4,722)
Stock option compensation expense......................... -- -- 8,300
Extraordinary loss on the early extinguishment of debt.... -- -- 1,870
Translation adjustment.................................... (241) (85) (35)
Changes in operating assets and liabilities, net of
effects of acquisition:
Accounts receivable..................................... 19,527 (37,990) (11,992)
Inventories............................................. (531) (14,390) (51,205)
Bank checks outstanding, less cash on deposit........... 6,961 2,868 (6,654)
Accounts payable........................................ 3,613 (10,791) 31,766
Customer allowances payable............................. (2,521) (4,438) 7,431
Accrued compensation and benefits....................... (3,949) 1,015 4,232
Other accrued expenses.................................. 2,643 (488) 4,055
Other................................................... (1,413) (649) 1,236
-------- -------- ---------
Net cash provided by (used in) operating activities......... 48,883 (38,341) (18,455)
INVESTING ACTIVITIES
Additions to property, plant and equipment, net............. (15,629) (17,491) (14,427)
Acquisition of business, net of cash acquired............... (52,681) -- --
Increase in other noncurrent assets......................... (8,259) (4,161) (4,513)
-------- -------- ---------
Net cash used in investing activities....................... (76,569) (21,652) (18,940)
FINANCING ACTIVITIES
Net (payments) borrowings under bank revolving credit
facility.................................................. (16,252) 4,114 65,316
Borrowings under bank term credit facility.................. 30,000 59,763 85,000
Payments under bank term credit facility.................... (1,672) (1,444) (638)
Net payments under former bank line of credit............... -- -- (100,405)
Capital contribution from parent............................ 20,000 26 1,825
Repurchase of minority interest............................. -- (947) (3,599)
Increase in other long-term debt............................ 1,340 -- --
Payments on other long-term debt............................ (1,066) (1,511) (1,143)
Increase in deferred financing charges...................... (1,614) (995) (10,238)
-------- -------- ---------
Net cash provided by financing activities................... 30,736 59,006 36,118
Effect of exchange rate changes............................. (119) 38 237
-------- -------- ---------
Net increase (decrease) in cash and cash equivalents........ 2,931 (949) (1,040)
Cash and cash equivalents at beginning of year.............. 77 1,026 2,066
-------- -------- ---------
Cash and cash equivalents at end of year.................... $ 3,008 $ 77 $ 1,026
======== ======== =========
</TABLE>
See accompanying notes to consolidated financial statements.
F-6
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. FORMATION AND OPERATIONS
Leiner Health Products Inc. (the "Company") is primarily involved in a
single business segment, the manufacture and distribution of vitamins,
over-the-counter drugs and other health and beauty aid products to mass market
retailers and through other channels, primarily in the United States and Canada.
The Company is a wholly owned subsidiary of PLI Holdings Inc. ("PLI Holdings"),
which operates solely as a holding company and which is itself a wholly owned
subsidiary of Leiner Health Products Group Inc. ("Leiner Group"). These
consolidated financial statements include the accounts of the Company and its
subsidiaries, including VH Holdings Inc., a holding company which owns Vita
Health Products Inc. ("Vita Health").
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
The accompanying consolidated financial statements include the accounts of
the Company and its direct and indirect subsidiaries. All significant
intercompany accounts and transactions have been eliminated in consolidation.
USE OF ESTIMATES
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of sales and expenses during the reporting
periods. Actual results could differ from those estimates. Significant estimates
made in preparing the consolidated financial statements include the allowance
for uncollectible accounts, product returns, sales allowances and inventory
reserves.
CASH EQUIVALENTS
The Company considers all highly liquid investments with a maturity of three
months or less when purchased to be cash equivalents.
FAIR VALUES OF FINANCIAL INSTRUMENTS
Fair values of cash and cash equivalents, short-term borrowings and the
current portion of long-term debt approximate cost due to the short period of
time to maturity. Fair values of long-term debt, which have been determined
based on borrowing rates currently available to the Company for loans with
similar terms or maturity, approximate the carrying amounts in the consolidated
financial statements.
REVENUE RECOGNITION
The Company recognizes revenue from product sales at the time of shipment.
Provisions are made currently for estimated returns and allowances.
INVENTORIES
Inventories are stated at the lower of cost or market, with cost being
determined by the first-in, first-out method.
F-7
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost, net of accumulated
depreciation and amortization. Depreciation and amortization are provided using
the straight-line method, at rates designed to distribute the cost of assets
over their estimated service lives or, for leasehold improvements, the shorter
of their estimated service lives or their remaining lease terms. Amortization of
assets recorded under capital leases is included in depreciation expense.
GOODWILL AND OTHER INTANGIBLES
Goodwill represents the excess of the purchase price over the fair values of
the net assets of acquired entities. Other intangibles are comprised principally
of the estimated fair value of the customer lists, assembled workforce and
accelerated new drug applications acquired in December 1999 (Note 3). Goodwill
and other intangibles are being amortized on the straight-line method at rates
designed to distribute the cost of the assets over their estimated lives.
OTHER NONCURRENT ASSETS
Deferred financing charges are being amortized based on the principal
balance outstanding using the effective interest method. Incentives provided to
customers to secure long-term sales agreements (primarily cash advances and
credit memos to be applied against purchases under the contract) are amortized
over the terms of the agreements or as related sales are recognized. Amounts
deferred under such agreements totaled $7,484,000 and $6,488,000 as of
March 31, 2000 and 1999, respectively.
RECOVERABILITY OF LONG-LIVED ASSETS
The Company reviews for impairment of long-lived assets and certain
intangibles held and used whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable. The recoverability
test is performed at the lowest level at which undiscounted net cash flows can
be directly attributable to long-lived assets. Goodwill that is not associated
with specific assets that are impaired is assessed for impairment when
impairment indicators are present and reduced to its estimated fair value if
less than its carrying value.
INVESTMENT IN JOINT VENTURE
The Company owns a 40% interest in HerbaLife Leiner, LLC, a joint venture
engaged in selling health products to the Chinese market. The Company's
investment in the joint venture is accounted for using the equity method of
accounting. At March 31, 2000, the amount at which the investment is carried on
the books of the Company is equal to the Company's portion of the underlying
equity in the net assets of the joint venture.
FOREIGN CURRENCY TRANSLATION
The Company translates the foreign currency financial statements of its
Canadian subsidiary by translating balance sheet accounts at the year-end
exchange rates and income statement accounts at the weighted monthly average
exchange rate for the year. Translation gains and losses are recorded in
shareholder's equity, and realized gains and losses are reflected in income.
Transaction gains and losses were immaterial in the years ended March 31, 2000,
1999 and 1998.
F-8
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
STOCK-BASED COMPENSATION
The Company has elected to account for its stock-based compensation plans
using the intrinsic value method in accordance with Accounting Principles Board
Opinion No. 25 ("APB 25"), "Accounting for Stock Issued to Employees", and
related interpretations. Under the provisions of APB 25, compensation expense is
measured at the grant date for the difference between the estimated fair value
of the stock, less the exercise price of the option.
ADVERTISING COSTS
Advertising costs are expensed as incurred. Advertising expense for the
years ended March 31, 2000, 1999 and 1998 was $13,566,000, $8,127,000 and
$8,150,000, respectively.
COMPREHENSIVE INCOME
Total comprehensive income represents the net change in shareholder's equity
during a period from sources other than transactions with shareholders and as
such, includes net earnings. For the Company, the only other component of total
comprehensive income is the change in the cumulative foreign currency
translation adjustments recorded in shareholder's equity.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
The Financial Accounting Standards Board has issued Statement No. 133,
ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES ("Statement 133"),
which is required to be adopted in years beginning after June 15, 2000 for all
fiscal quarters of all fiscal years. The Company has not yet determined the
impact of the adoption of the Statement 133 on its consolidated financial
position or consolidated results of operations. The Company will adopt Statement
133 in its fiscal year beginning April 1, 2001.
In March 2000, the Financial Accounting Standards Board issued
Interpretation No. 44, ACCOUNTING FOR CERTAIN TRANSACTIONS INVOLVING STOCK
COMPENSATION--AN INTERPRETATION OF APB OPINION NO. 25 ("FIN 44"). FIN 44
clarifies the definition of employee for purposes of applying Accounting
Practice Board Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES, the
criteria for determining whether a plan qualifies as a noncompensatory plan, the
accounting consequence of various modifications to the terms of a previously
fixed stock option or award, and the accounting for an exchange of stock
compensation awards in a business combination. FIN 44 is effective July 1, 2000,
but certain conclusions cover specific events that occur after either
December 15, 1998, or January 12, 2000. The Company believes that FIN 44 will
not have a material effect on its consolidated financial position or results of
operations.
RECLASSIFICATIONS
Certain reclassifications have been made to the fiscal 1999 and 1998
consolidated financial statements to conform with the fiscal 2000 presentation.
3. ACQUISITION
On December 17, 1999, Leiner Health Products Inc. acquired substantially all
of the assets of Granutec, Inc. ("Granutec"), a manufacturer and distributor of
private label, over-the-counter pharmaceutical drugs in the United States, and
Vita Health acquired substantially all of the assets of Stanley
F-9
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. ACQUISITION (CONTINUED)
Pharmaceuticals Ltd. ("Stanley"), a manufacturer and distributor of private
label, over-the-counter pharmaceutical drugs and vitamin supplement products in
Canada, both of which were subsidiaries of Novopharm Limited of Ontario, Canada
("Novopharm"). The Company also acquired certain related assets of Novopharm
(collectively, the "Acquisition"). The purchase price of approximately
$60,177,000 which included the assumption of debt of $7,496,000, was funded in
part by a $20,000,000 capital contribution from the Company's ultimate parent,
Leiner Group, and borrowings on the Company's revolving credit facility. The
Acquisition was accounted for as a purchase under Accounting Principles Board
Opinion No. 16, Business Combinations ("APB 16"). In accordance with APB 16, the
Company allocated the price based on the fair value of the assets acquired and
liabilities assumed. Portions of the purchase price, including intangible
assets, were identified by independent appraisers utilizing proven valuation
procedures and techniques. Acquired intangibles totaling $10,172,000 included
the fair value of customer base, acquired workforce and accelerated new drug
applications. These intangibles are being amortized over their estimated useful
lives of three to five years. Goodwill resulting from the Acquisition is being
amortized over 15 years.
In connection with the Acquisition, the Company has recorded approximately
$7,015,000 for accrued restructuring charges. The restructuring plan includes
initiatives to integrate the operations of the Company with those of Granutec
and Stanley, and reduce overhead, primarily through the transfer of certain
manufacturing activities to lower cost facilities. The Company expects these
actions to result in a reduction in workforce. Management is in the process of
finalizing its restructuring plans and, accordingly, the amounts recorded are
based on management's current estimate of those costs. The Company will finalize
these plans during fiscal year 2001, and expects the majority of the
restructuring actions to occur in fiscal year 2001 and 2002.
The components of the purchase price and the preliminary allocation are as
follows (in thousands):
<TABLE>
<S> <C>
Consideration and acquisition costs:
Cash paid to Novopharm.................................... $ 50,000
Debt assumed.............................................. 7,496
Acquisition costs......................................... 2,681
--------
$ 60,177
========
Preliminary allocation of purchase price:
Current assets............................................ $ 43,083
Property, plant and equipment............................. 20,805
Acquired intangibles...................................... 10,172
Goodwill.................................................. 14,274
Debt and other liabilities assumed........................ (28,157)
--------
$ 60,177
========
</TABLE>
As previously indicated, some allocations are based on preliminary estimates
that are still being finalized. In addition, certain adjustments to the final
purchase price are currently being negotiated with Novopharm. While the ultimate
resolution of these matters may result in adjustments to the purchase price
allocation, management believes that such amounts will not be materially
different from those reflected above.
F-10
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. ACQUISITION (CONTINUED)
The following unaudited pro forma financial information presents the
consolidated results of operations as if the Acquisition had occurred at the
beginning of the year presented, and does not purport to be indicative of the
results that would have occurred had the Acquisition occurred at such date or of
results which may occur in the future (in thousands).
<TABLE>
<CAPTION>
MARCH 31,
-------------------
2000 1999
-------- --------
<S> <C> <C>
Net sales............................................... $760,079 $728,165
Operating income........................................ 50,574 49,362
Net income.............................................. 10,233 9,203
</TABLE>
4. RECAPITALIZATION
On June 30, 1997, Leiner Group completed a leveraged recapitalization
transaction ("Recapitalization"). This transaction was effected through receipt
of an equity investment from North Castle Partners I, L.L.C. ("North Castle"),
an investment fund formed by Mr. Charles F. Baird, Jr. to effect the
Recapitalization. Pursuant to the Recapitalization, Leiner Group repurchased
common stock from its existing shareholders in an amount totaling (together with
equity retained by such shareholders) $211,100,000, issued $80,400,000 of new
shares of the recapitalized Leiner Group to North Castle, issued $85,000,000 of
Senior Subordinated Notes (the "Notes"), and established a $210,000,000 senior
secured credit facility (the "Credit Facility") that provided for both term and
revolving credit borrowings. Immediately upon consummation of the
Recapitalization, the obligations of Leiner Group under the Notes and the Credit
Facility were assigned to and assumed by the Company. The Recapitalization was
accounted for as a recapitalization of Leiner Group which had no impact on the
historical basis of assets and liabilities as reflected in the Company's
consolidated financial statements.
In connection with the Recapitalization, the Company wrote off $1,109,000 of
deferred financing charges, net of income taxes of $761,000, as an extraordinary
loss on the early extinguishment of debt in the year ended March 31, 1998.
Additionally in connection with the Recapitalization, the Company incurred
expenses of $32,808,000 consisting of $11,954,000 related to Leiner Group's
capital raising activities, transaction bonuses granted to certain management
personnel in the aggregate amount of approximately $5,199,000 and compensation
expense related to the in-the-money value of stock options of approximately
$15,655,000. The compensation expense represented the excess of the fair market
value of the underlying common stock over the exercise price of the options
canceled in connection with the Recapitalization.
The assumption of debt and the transfer of excess funds from Leiner Group
related to the Recapitalization totaled approximately $102,809,000 and consisted
of the following (in thousands):
<TABLE>
<S> <C> <C>
Assumption of debt from Leiner Group:
New Credit Facility................................. $(149,736)
Notes............................................... (85,000) $(234,736)
---------
Excess funds transferred from Leiner Group............ 131,927
---------
$(102,809)
=========
</TABLE>
F-11
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
4. RECAPITALIZATION (CONTINUED)
Of this amount, $8,300,000 is reflected in expenses related to
Recapitalization of parent in the accompanying consolidated statement of
operations for fiscal 1998, with the remainder first applied against capital in
excess of par value until that was exhausted and then against accumulated
deficit.
5. CLOSURE OF FACILITIES, LONG-LIVED ASSET IMPAIRMENT
In the second and third quarters of fiscal 2000, the Company closed its
Madison, Wisconsin and Sherburne, New York facilities, respectively. The Company
incurred approximately $1,179,000 in fiscal year 2000 for severance and other
costs related to the closures, which were offset by a gain of approximately
$230,000 from the sale of the Madison facility. Additionally, the Company
recorded a gain of approximately $341,000 from the sale of its Chicago facility,
which the Company had previously closed and written down to estimated fair value
in fiscal year 1999.
During the year ended March 31, 1998, the Company's Board of Directors
approved a plan to close the West Unity, Ohio facility during the summer of
1998. Estimated closure costs of $1,221,000 were recorded in the year ended
March 31, 1998, of which $754,000 related to severance costs and $467,000
related to other closure costs. Such costs were paid in fiscal year 1999 and
additional related closure costs totaling $380,000 were expensed in fiscal year
1999 as incurred.
F-12
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6. COMPOSITION OF CERTAIN BALANCE SHEET ITEMS
<TABLE>
<CAPTION>
MARCH 31,
-------------------
2000 1999
-------- --------
(IN THOUSANDS)
<S> <C> <C>
Inventories:
Raw materials, bulk vitamins and packaging
materials........................................... $ 55,819 $ 52,244
Work-in-process....................................... 48,604 41,732
Finished products..................................... 71,106 57,629
-------- --------
$175,529 $151,605
======== ========
</TABLE>
Property, plant and equipment:
<TABLE>
<CAPTION>
DEPRECIABLE LIVES
-----------------
(YEARS)
<S> <C> <C> <C>
Land................................... -- $ 786 $ 713
Buildings and improvements............. 31-40 12,538 5,006
Leasehold improvements................. 7-40 26,701 20,352
Machinery and equipment................ 3-20 99,376 62,870
Furniture and fixtures................. 3-10 5,686 5,764
-------- --------
145,087 94,705
Less accumulated depreciation and
amortization......................... (57,994) (33,464)
-------- --------
$ 87,093 $ 61,241
======== ========
<CAPTION>
DEPRECIABLE LIVES
-----------------
(YEARS)
<S> <C> <C> <C>
Goodwill and other intangibles:
Goodwill............................... 15-40 $ 79,630 $ 64,776
Other intangibles:
Assembled workforce.................. 3 4,023 --
Accelerated new drug applications.... 3 3,800 --
Customer lists....................... 5 1,706 --
Other................................ 3-15 922 303
-------- --------
90,081 65,079
Less accumulated amortization.......... (13,337) (10,635)
-------- --------
$ 76,744 $ 54,444
======== ========
</TABLE>
7. SUPPLEMENTARY CASH FLOW INFORMATION
<TABLE>
<CAPTION>
YEARS ENDED MARCH 31,
------------------------------
2000 1999 1998
-------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
Cash paid during the year for:
Interest....................................... $29,220 $27,188 $17,990
Income taxes, net of refunds received.......... 3,843 6,845 2,942
</TABLE>
F-13
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
8. LONG-TERM DEBT
Long-term debt consists of (in thousands):
<TABLE>
<CAPTION>
MARCH 31,
-------------------
2000 1999
-------- --------
<S> <C> <C>
Credit Facility:
Revolving facility.................................... $ 72,918 $ 88,786
Term facility......................................... 171,107 142,319
-------- --------
Total credit facility................................. 244,025 231,105
Senior subordinated notes............................... 85,000 85,000
Capital lease obligations............................... 6,607 5,822
Industrial development revenue bond loan................ 7,100 --
Industrial opportunities program loan................... 1,340 --
-------- --------
344,072 321,927
Less current portion.................................... (5,006) (4,068)
-------- --------
Total long-term debt.................................. $339,066 $317,859
======== ========
</TABLE>
CREDIT FACILITY
On May 15, 1998, the Company entered into an Amended and Restated Credit
Agreement ("Credit Agreement", and together with the amendments described below,
the "Amended Credit Agreement"), which was amended, (i) on June 30, 1999, to
include an additional U.S. term loan in the amount of $30,000,000 as described
below, (ii) on December 16, 1999, to waive certain limitations that would have
prohibited the Acquisition and to raise the applicable margins (as defined in
the Amended Credit Agreement), and (iii) on February 11, 2000, effective
December 16, 1999, principally to modify the Company's covenant requirements to
reflect the financial statement impact of the Acquisition. The Amended Credit
Agreement provides for one U.S. term loan due December 30, 2004 in the amount of
$68,000,000, two U.S. term loans due December 30, 2005 in the amounts of
$65,000,000 and $30,000,000, respectively, and a Canadian dollar denominated
term loan due December 30, 2004 in the amount of approximately U.S. $12,000,000
(collectively, the "Term Facility"), and a revolving credit facility in the
amount of U.S. $125,000,000 (the "Revolving Facility"), a portion of which is
made available to Vita Health in Canadian dollars. The unpaid principal amount
outstanding on the Revolving Facility is due and payable on June 30, 2003.
Borrowings under the Amended Credit Agreement bear interest at floating
rates that are based on the lender's base rate (9.0% at March 31, 2000), the
lender's Canadian prime rate (7.0% at March 31, 2000), LIBOR (6.29% at
March 31, 2000) or the lender's banker's acceptance rate (5.46% at March 31,
2000), as the case may be, plus an applicable margin that is itself based on the
Company's leverage ratio (as defined in the Amended Credit Agreement). The
leverage ratio is defined generally as the ratio of total funded indebtedness to
the consolidated earnings before interest, taxes, depreciation, amortization
expense and other special charges and its effect on the applicable margin and
varies as follows: (a) for U.S. and Canadian revolving credit borrowings, from
1.0% to 2.5% for LIBOR- or banker's acceptance-based loans, and from zero to
1.5% for alternate base rate- or Canadian prime rate-based loans, (b) for the
loans under the Term Facility, from 2.625% to 3.25% for LIBOR-based loans, and
from 1.625% to 2.25% for alternate-base rate loans. As of March 31, 2000, the
Company's weighted average interest rates were 8.65% for U.S.
F-14
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
8. LONG-TERM DEBT (CONTINUED)
CREDIT FACILITY (CONTINUED)
borrowings and 8.09% for Canadian borrowings. In addition to certain agent and
up-front fees, the Amended Credit Agreement requires a commitment fee of up to
0.5% of the average daily unused portion of the revolving credit facility based
on the Company's leverage ratio.
The obligations of the Company under the U.S. portion of the Revolving
Facility and Term Facility are guaranteed by the direct parent of the Company,
PLI Holdings, and by any direct or indirect U.S subsidiaries of the Company. The
obligations of Vita Health under the Canadian portion of the Revolving Facility
and Term Facility are guaranteed by the Company, PLI Holdings, the Company's
direct or indirect U.S. subsidiaries and direct or indirect subsidiaries of Vita
Health. The Amended Credit Agreement is also secured by substantially all the
assets of the Company and any of its direct or indirect U.S. subsidiaries, all
of the stock of the Company and any such direct or indirect U.S. subsidiaries,
and 65% of the common stock of any direct non-U.S. subsidiaries of the Company
and its U.S. subsidiaries. The Canadian portion of the Revolving Facility and
Term Facility is also secured by substantially all the assets of Vita Health,
its direct and indirect Canadian parents and any direct or indirect non-U.S.
subsidiaries of the Company, and all of the common stock of any such direct or
indirect non-U.S. subsidiaries. The Revolving Facility also allows the Company
to issue up to $35,000,000 in letters of credit in lieu of borrowing on the
Revolving Facility. As of March 31, 2000, the Company had $13,997,000 of letters
of credit outstanding, and had $38,085,000 available for borrowing under the
Revolving Facility.
In order to manage its interest rate risk under the Amended Credit
Agreement, the Company has entered into two interest protection agreements. On
July 30, 1997, the Company entered into an interest protection arrangement
covering $29,460,000 of its borrowings under the Amended Credit Agreement. Under
this arrangement, the Company obtained a fixed interest rate of 6.17% on LIBOR,
instead of the fluctuating rate as described above and pays a fee of
approximately $25,596 per annum. This agreement expires July 30, 2000. On
October 8, 1999, the Company entered into an interest protection agreement with
respect to $54,000,000 of its indebtedness under the Amended Credit Agreement,
whereby the Company will not pay any lower than 5.94% on LIBOR rates plus
applicable margin on the interest payable thereon. In connection with this
agreement, which terminates October 8, 2001, the Company received $229,500.
Amounts paid or received under these agreements are recorded as an adjustment of
interest expense over the period of the agreement.
SENIOR SUBORDINATED NOTES
The Company assumed the Notes issued by Leiner Group upon the consummation
of the Recapitalization. The Notes accrue interest at the rate of 9 5/8% per
annum and are due on June 30, 2007. Interest on the Notes is payable
semiannually on January 1 and July 1 of each year. Upon the occurrence of a
Change of Control (as defined in the indenture governing the Notes), the Company
will be required to make an offer to purchase all of the outstanding Notes at a
price equal to 101% of the principal amount thereof at the date of purchase plus
accrued and unpaid interest, if any, to the date of purchase.
CAPITAL LEASE OBLIGATIONS
The capital lease obligations are payable in variable monthly installments
through November 2004, bear interest at effective rates ranging from 4.42% to
17.19% and are secured by equipment with a net book value of approximately
$8,031,000 and $6,805,000 at March 31, 2000 and 1999, respectively.
F-15
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
8. LONG-TERM DEBT (CONTINUED)
INDUSTRIAL DEVELOPMENT REVENUE BOND LOAN
In connection with the Acquisition, the Company assumed an industrial
development revenue bond loan ("IRB Loan"), with an outstanding principal amount
of $7,100,000. The interest on the IRB Loan is variable (4.15% as of March 31,
2000), and fluctuates on a weekly basis. Principal is due and payable in annual
installments of $500,000, with the remaining outstanding principal amount due
and payable on May 1, 2014.
INDUSTRIAL OPPORTUNITIES PROGRAM LOAN
During fiscal 2000, the Company entered into a loan agreement with the
Manitoba Industrial Opportunities Program to fund the expansion and upgrading of
the Company's manufacturing facility in Canada. As of March 31, 2000, the
Company received approximately $1,340,000 in advances on the loan which is not
to exceed a total of $1,863,000. Interest on the loan will be waived contingent
upon the Company's compliance with certain obligations, including meeting
certain financial ratios. Principal repayments are scheduled to be made in two
equal payments of 50% of the final loan amount. The first payment is to be made
on the last day of the 48(th) month and the second on the last day of the 60(th)
month after the date of the final disbursement, which is to be made no later
than September 30, 2000.
COVENANTS AND MINIMUM PAYMENTS
The Amended Credit Agreement imposes certain restrictions on the Company,
including restrictions on its ability to incur additional debt, enter into
sale-leaseback transactions, incur contingent liabilities, pay dividends or make
distributions, incur or grant liens, sell or otherwise dispose of assets, make
investments or capital expenditures, repurchase or prepay the Notes or other
subordinated debt, or engage in certain other activities. The Company must also
comply with certain financial ratios and tests, including a minimum net worth
requirement, a maximum leverage ratio, a minimum interest coverage ratio and a
minimum cash flow coverage ratio. As of March 31, 2000, the Company was in
compliance with the covenants and conditions of the Amended Credit Agreement as
well as its other long-term debt.
Principal payments on long-term debt through fiscal 2005 and thereafter are
(in thousands):
<TABLE>
<CAPTION>
FISCAL YEAR PRINCIPAL
----------- ---------
<S> <C>
2001........................................................ $ 5,006
2002........................................................ 5,194
2003........................................................ 2,806
2004........................................................ 110,759
2005........................................................ 83,649
Thereafter.................................................. 136,658
--------
Total..................................................... $344,072
========
</TABLE>
RETIREMENT OF DEBT
In connection with the establishment of a new credit agreement on June 30,
1997, the previous borrowings were retired and unamortized debt issuance costs
of $1,870,000 were written off and included in the consolidated statement of
operations as an extraordinary loss on the early extinguishment of debt in the
year ended March 31, 1998.
F-16
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. INCOME TAXES
The Company is included in the consolidated Federal income tax return of
Leiner Group. Under a tax sharing agreement, the Federal income tax provision is
computed on a consolidated return basis and provides that the Company, by
participating in the consolidated filing, shall be liable and make payment to
Leiner Group for its proportionate share of the total tax liability. The
agreement also provides that the Company shall receive benefit to the extent
that its losses and other credits result in a reduction of the consolidated tax
liability. In the event that a combined or consolidated state, local or foreign
tax return is filed, the tax sharing arrangement for the Federal provision shall
apply in a similar manner in computing the state, local and foreign tax
liability or benefit.
Deferred income taxes are computed using the liability method and reflect
the effects of temporary differences between the carrying amounts of assets and
liabilities for financial reporting purposes and the amounts used for income tax
purposes. Valuation allowances are established, when necessary, to reduce
deferred tax assets to estimated realizable amounts. The provision for income
taxes reflects the taxes to be paid for the period and the change during the
period in the deferred tax assets and liabilities.
Significant components of the Company's deferred tax assets and liabilities
are (in thousands):
<TABLE>
<CAPTION>
MARCH 31,
-------------------
2000 1999
-------- --------
<S> <C> <C>
Deferred tax assets:
Compensation accruals................................... $ 4,956 $ 4,637
Allowances for doubtful accounts and sales returns...... 996 1,696
Inventory obsolescence reserves......................... 2,276 1,656
Inventory capitalization................................ 674 608
------- -------
Total deferred tax assets................................. 8,902 8,597
Deferred tax liabilities:
Fixed assets book versus tax basis difference........... (1,040) (2,133)
Other................................................... (368) (609)
------- -------
Total deferred tax liabilities............................ (1,408) (2,742)
------- -------
Deferred tax assets, net of deferred tax liabilities...... $ 7,494 $ 5,855
======= =======
</TABLE>
At March 31, 2000 and 1999, prepaid expense and other current assets in the
accompanying consolidated balance sheets include deferred tax assets of
$8,841,000 and $7,988,000, respectively, and other noncurrent liabilities
include deferred tax liabilities of $1,347,000 and $2,133,000, respectively.
F-17
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. INCOME TAXES (CONTINUED)
The following is a reconciliation of the statutory Federal income tax rate
to the Company's effective income tax rate before extraordinary item:
<TABLE>
<CAPTION>
YEARS ENDED MARCH 31,
------------------------------------
2000 1999 1998
-------- -------- --------
<S> <C> <C> <C>
Tax at U.S. statutory rates............................. 35% 35% (35)%
Goodwill amortization................................... 6 3 3
State income taxes, net of federal tax benefit.......... 3 5 --
Tax credits............................................. (5) -- --
Higher effective income taxes of other countries........ -- 1 2
Recapitalization expense................................ -- -- 28
Tax contingency reserve................................. -- -- 10
-- -- ---
39% 44% 8%
== == ===
</TABLE>
United States and foreign income (loss) before taxes and extraordinary item
are as follows (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED MARCH 31,
------------------------------
2000 1999 1998
-------- -------- --------
<S> <C> <C> <C>
U.S.............................................. $5,883 $16,133 $(17,171)
Foreign.......................................... 2,087 2,208 2,059
------ ------- --------
$7,970 $18,341 $(15,112)
====== ======= ========
</TABLE>
Significant components of the provision for income taxes are (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED MARCH 31,
------------------------------
2000 1999 1998
-------- -------- --------
<S> <C> <C> <C>
Current:
Federal......................................... $ 3,448 $5,641 $ 4,344
State........................................... 648 1,306 592
Foreign......................................... 640 964 982
------- ------ -------
Total current................................. 4,736 7,911 5,918
Deferred:
Federal......................................... (1,402) 147 (4,071)
State........................................... (321) 3 (681)
Foreign......................................... 85 (27) 30
------- ------ -------
Total deferred................................ (1,638) 123 (4,722)
------- ------ -------
Provision for income taxes before extraordinary
item.......................................... 3,098 8,034 1,196
Tax benefit from extraordinary loss:
Federal......................................... -- -- (663)
Foreign......................................... -- -- (98)
------- ------ -------
Total tax benefit from extraordinary loss..... -- -- (761)
------- ------ -------
Total provision for income taxes............ $ 3,098 $8,034 $ 435
======= ====== =======
</TABLE>
F-18
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
10. EMPLOYEE BENEFITS
STOCK OPTION PLAN
Leiner Group's Stock Option Plan, as amended in 1997, provides for the
issuance of nonqualified stock options to certain key employees and directors to
purchase up to 127,222 shares of Leiner Group's common stock. Options granted
are at exercise prices as determined by Leiner Group's Board of Directors, but
not less than $100 per share. Options generally vest on a pro rata basis at a
rate of 25% per year, with 25% immediate vesting on the date of grant, and
expire no later than ten years from the date of grant.
Pro forma information regarding net income (loss) is required by SFAS
No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION, which also requires that the
information be determined as if Leiner Group accounted for its employee stock
options granted subsequent to March 31, 1995 under the fair value method per
that Statement. The fair value for these options was estimated at the date of
grant using the Black-Scholes option-pricing model. The Black-Scholes model was
developed for use in estimating the fair value of traded options which have no
vesting restrictions and are fully transferable. In addition, option valuation
models require the input of highly subjective assumptions, including the
expected stock price volatility. Leiner Group's employee stock options have
characteristics significantly different from those of traded options, and
changes in the subjective input assumptions can materially affect the fair value
estimate, therefore, in management's opinion, the existing models do not
necessarily provide a reliable single measure of the fair value of its employee
stock options.
In calculating pro forma information regarding net income (loss), the fair
value of the stock options granted during the years presented was determined
using the Black-Scholes option pricing model and the following weighted average
assumptions:
<TABLE>
<CAPTION>
2000 1999 1998
-------- -------- --------
<S> <C> <C> <C>
Risk free interest rate.................................. N/A 6.0% 5.8%
Expected option life..................................... N/A 8.4 9.3
Volatilty................................................ N/A 0.0 0.0
Dividend yield........................................... N/A 0.0 0.0
</TABLE>
The pro forma net income (loss) for the years ended March 31, 2000, 1999 and
1998 were $3,330,000, $9,734,000 and $(18,571,000), respectively.
F-19
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
10. EMPLOYEE BENEFITS (CONTINUED)
STOCK OPTION PLAN (CONTINUED)
Activity under the Stock Option Plan for the years ended March 31, 2000,
1999 and 1998 is set forth below:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING
--------------------------------------------------
SHARES WEIGHTED
AVAILABLE NUMBER PRICE AVERAGE
FOR GRANT OF SHARES PER SHARE EXERCISE PRICE
--------- --------- --------- --------------
<S> <C> <C> <C> <C>
Balance at March 31, 1997......................... 75,000 100,000 $100-175 $111
Common shares reserved for issuance............... 122,222 -- -- --
Common shares cancelled for issuance.............. (75,000) -- -- --
Options granted................................... (113,806) 113,806 100 100
Options exercised................................. -- (100,000) 100-175 111
Options canceled.................................. 3,288 (3,288) 100 100
-------- -------- -------- ----
Balance at March 31, 1998......................... 11,704 110,518 100 100
Common shares reserved for issuance............... 5,000 -- -- --
Options granted................................... (14,066) 14,066 140 140
Options canceled.................................. 1,103 (1,103) 100-140 108
-------- -------- -------- ----
Balance at March 31, 1999......................... 3,741 123,481 100-140 104
Options canceled.................................. 3,414 (3,414) 100-140 101
-------- -------- -------- ----
Balance at March 31, 2000......................... 7,155 120,067 $100-140 $105
======== ======== ======== ====
</TABLE>
Options exercisable at March 31, 2000, 1999 and 1998 were 90,502, 58,352 and
27,992, respectively. The weighted-average fair values of options granted during
the years ended March 31, 1999 and 1998 were $74 and $41, respectively. The
weighted average remaining contractual life was 7.4 years as of March 31, 2000.
CONTRIBUTORY RETIREMENT PLANS
The Company has contributory retirement plans that cover substantially all
of the Company's employees who meet minimum service requirements. The Company's
contributions to the plans are discretionary and are determined and funded
annually by Leiner Group's Board of Directors. The Company's contributions
totaled $2,186,000, $1,541,000 and $1,304,000 for the plan years ended
March 31, 2000, 1999 and 1998, respectively.
11. RELATED PARTY TRANSACTIONS
Upon consummation of the Recapitalization, Leiner Group and the Company
entered into a consulting agreement with North Castle Partners, L.L.C. (the
"Sponsor"), an affiliate of North Castle, to provide the Company with certain
business, financial and managerial advisory services. Mr. Baird acts as the
managing member of the Sponsor through Baird Investment Group, L.L.C. ("Baird
Investment"). In exchange for such services, Leiner Group and the Company have
agreed to pay the Sponsor an annual fee of $1,500,000, payable semi-annually in
advance, plus the Sponsor's reasonable out-of-pocket expenses. This fee may be
reduced upon completion of an initial public offering of Leiner Group's shares.
The agreement also terminates on June 30, 2007, unless Baird Investment ceases
to be the managing member of North Castle, or upon the earliest of June 30, 2007
or the date that North Castle terminates before that
F-20
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
11. RELATED PARTY TRANSACTIONS (CONTINUED)
date. During each of the three years ended March 31, 2000, management fees and
expenses paid to the Sponsor, totaled $1,500,000, $1,735,000 and $1,197,000,
respectively, and are included in other charges in the accompanying consolidated
statement of operations. Leiner Group and the Company also paid the Sponsor a
transaction fee of $3,500,000 for services relating to arranging, structuring
and financing the Recapitalization during the year ended March 31, 1998.
In connection with the Acquisition (Note 3), the Company received a capital
contribution of approximately $20,000,000 from Leiner Group, through its direct
parent, PLI Holdings Inc.
12. COMMITMENTS
The Company leases certain real estate for its manufacturing facilities,
warehouses, corporate and sales offices, as well as certain equipment under
operating leases (noncancelable) that expire at various dates through June 2013
and contain renewal options. Total rents charged to operations were $12,915,000,
$9,212,000 and $5,244,000 for the years ended March 31, 2000, 1999 and 1998,
respectively.
Minimum future obligations on noncancelable operating leases in effect at
March 31, 2000 are (in thousands):
<TABLE>
<CAPTION>
FISCAL YEAR
-----------
<S> <C>
2001........................................................ $14,893
2002........................................................ 13,345
2003........................................................ 11,973
2004........................................................ 10,701
2005........................................................ 7,537
Thereafter.................................................. 25,458
-------
Total minimum lease payments................................ $83,907
=======
</TABLE>
13. CONTINGENCIES
On September 27, 1999, the Company filed a civil antitrust lawsuit (the
"Antitrust Lawsuit") against certain of its raw material suppliers and other
alleged co-conspirators. The complaint alleges that the defendants conspired to
fix vitamin prices and allocate vitamin production volume and vitamin customers
in the United States. The complaint seeks unspecified damages and injunctive
relief. After the lawsuit was filed, it was consolidated, for pre-trial
purposes, with other similar cases. Based on the pretrial schedule set forth by
the court, the case will not be ready for trial until approximately April 2002.
At the present time, management cannot predict the outcome of this lawsuit, nor
the estimated damages and potential recovery, if any.
In March 2000, the Company entered into a settlement agreement with one of
its suppliers named in the Antitrust Lawsuit (the "Settlement Agreement").
Pursuant to the terms of the Settlement Agreement, the Company agreed to release
all claims it may have against the supplier based on the Company's purchases of
various vitamins from the supplier and to opt out of any settlement in
connection with a pending class action lawsuit in so far as it pertains to the
supplier.
In exchange for the Company's release and agreement to opt out of any
settlement in the pending class action lawsuit, the Company received a
settlement payment of approximately $2.4 million on
F-21
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
13. CONTINGENCIES (CONTINUED)
March 21, 2000 which is recorded in other operating (income) charges in the
accompanying Statement of Operations for the fiscal year ended March 31, 2000.
In connection with the settlement, the Company incurred direct expenses of
approximately $0.2 million which are recorded in general and administrative
expenses.
The Company is subject to other legal proceedings and claims which arise in
the normal course of business. While the outcome of these proceedings and claims
cannot be predicted with certainty, management does not believe the outcome of
any of these matters will have a material adverse effect on the Company's
consolidated financial position, results of operations or cash flows.
14. CONCENTRATION OF CREDIT RISK AND SIGNIFICANT CUSTOMERS, SUPPLIERS AND
PRODUCTS
Financial instruments which potentially subject the Company to
concentrations of credit risk consist principally of trade receivables. The
Company sells its products to a geographically diverse customer base in the drug
store, supermarket and discount chain industries. The Company performs ongoing
credit evaluations of its customers and maintains reserves for potential losses.
For the years ended March 31, 2000, 1999 and 1998, two customers represented
approximately 31% and 9%, 30% and 11%, and 26% and 10%, respectively, of net
sales. The Company's top ten customers in the aggregate accounted for
approximately 68%, 70% and 67% of the Company's net sales for fiscal 2000, 1999
and 1998, respectively. For the years ended March 31, 2000, 1999, and 1998, two
suppliers provided approximately 23%, 25% and 27% respectively, of the materials
purchased. No other supplier accounted for more than 10% of the Company's
purchases. Sales of vitamins C and E, in the aggregate, accounted for
approximately 31%, 31% and 36% of the Company's sales in fiscal 2000, 1999 and
1998, respectively. If one or more of the Company's major customers
substantially reduced their volume of purchases from the Company, or if sales of
vitamin C or E were substantially reduced, the Company's results of operations
could be materially adversely affected.
15. BUSINESS SEGMENT INFORMATION
The Company operates in two reportable segments. One represents the
Company's U.S. Operations ("Leiner U.S.") and the other represents the Company's
Canadian operations ("Vita Health"). The Company's operating segments
manufacture a range of vitamins, minerals and nutritional supplements and
distribute their products primarily through mass-market retailers. The
accounting policies between the reportable segments are the same as those
described in the summary of significant accounting policies. The Company
evaluates segment performance based on operating profit, before the effect of
non-recurring charges and gains, and intersegment profit.
F-22
<PAGE>
LEINER HEALTH PRODUCTS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
15. BUSINESS SEGMENT INFORMATION (CONTINUED)
Selected financial information for the Company's reportable segments for the
years ended March 31, 2000, 1999 and 1998 is as follows (in thousands):
<TABLE>
<CAPTION>
LEINER VITA INTERSEGMENT CONSOLIDATED
U.S. HEALTH ELIMINATIONS(1) TOTALS
-------- -------- --------------- ------------
<S> <C> <C> <C> <C>
YEAR ENDED MARCH 31, 2000(2):
Net sales....................................... $606,721 $57,372 $(1,834) $662,259
Depreciation and amortization................... 20,081 1,479 -- 21,560
Segment operating income........................ 35,390 3,845 13 39,248
Interest expense, net........................... 29,299 1,824 -- 31,123
Income tax expense.............................. 2,373 725 -- 3,098
Segment assets.................................. 448,187 61,284 (11) 509,460
Expenditures for long-lived assets.............. 12,120 3,509 -- 15,629
YEAR ENDED MARCH 31, 1999:
Net sales....................................... $590,345 $39,160 $(2,589) $626,916
Depreciation and amortization................... 15,387 790 -- 16,177
Segment operating income........................ 43,558 3,528 (13) 47,073
Interest expense, net........................... 27,344 1,388 -- 28,732
Income tax expense.............................. 7,098 936 -- 8,034
Segment assets.................................. 397,948 28,808 (1,218) 425,538
Expenditures for long-lived assets.............. 16,118 1,373 -- 17,491
YEAR ENDED MARCH 31, 1998:
Net sales....................................... $471,444 $32,767 $(2,101) $502,110
Depreciation and amortization................... 13,999 681 -- 14,680
Segment operating income........................ 1,524(3) 2,891 (33) 4,382
Interest expense, net........................... 18,597 897 -- 19,494
Income tax expense.............................. 237 980 (21) 1,196
Segment assets.................................. 343,663 24,908 (2,745) 365,826
Expenditures for long-lived assets.............. 13,860 567 -- 14,427
</TABLE>
------------------------
(1) Intersegment eliminations relate to the intersegment sales and profit.
(2) Leiner U.S. and Vita Health include the activity of Granutec and Stanley,
respectively, from December 17, 1999 to March 31, 2000.
(3) Includes the effect of the Recapitalization-related expenses.
F-23
<PAGE>
SCHEDULE II
LEINER HEALTH PRODUCTS INC.
VALUATION AND QUALIFYING ACCOUNTS
(IN THOUSANDS)
<TABLE>
<CAPTION>
BEGINNING CHARGED TO
OF COSTS BALANCE AT
PERIOD AND EXPENSES DEDUCTIONS END OF PERIOD
--------- ------------ ---------- -------------
<S> <C> <C> <C> <C>
Year ended March 31, 1998:
Accounts receivable allowances $3,840 $ 8,278 $ 7,405 $4,713
Year ended March 31, 1999:
Accounts receivable allowances 4,713 10,022 10,013 4,722
Year ended March 31, 2000:
Accounts receivable allowances $4,722 $ 8,788 $ 8,944 $4,566
</TABLE>
S-1
