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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 25, 1998
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ________ TO ________.
COMMISSION FILE NUMBER 333-56135
RIVER HOLDING CORP.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 95-4674065
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
599 LEXINGTON AVENUE, 18TH FLOOR 10022
NEW YORK, NEW YORK (Zip Code)
(Address of Principal Executive Offices)
(212) 958-2555
(Registrant's telephone number, including area code)
Securities Registered Pursuant to Section 12(b) of the Act: NONE
Securities Registered Pursuant to Section 12(g) of the Act: NONE
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 ((S)229.405 of this chapter) is not contained herein, and
will not be contained, to the best of registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K. [_] Not Applicable.
As of March 25, 1999, the number of shares of Common Stock, $.01 par value,
outstanding (the only class of common stock of the registrant outstanding) was
6,312,500. The registrant's Common Stock is not traded in a public market.
Aggregate market value of the registrant's voting and nonvoting Common
Stock: Not Applicable.
Documents Incorporated by Reference: NONE
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PART I
ITEM 1. BUSINESS.
This Annual Report on Form 10-K contains "forward-looking statements"
within the meaning of Section 27-A of the Securities Act of 1933, as amended,
and Section 21E of the Securities Exchange Act of 1934, as amended. These
statements include without limitation the words "believes," "anticipates,"
"estimates," "intends," "expects," and words of similar import. All statements
other than statements of historical fact included in statements under "Item 1.
Business," "Item 2. Properties," "Item 3. Legal Proceedings" and "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operation" include forward-looking information and may reflect certain
judgements by management. Such forward-looking statements involve known and
unknown risks, uncertainties and other factors that may cause the actual
results, performance or achievements of River Holding Corp. and Hudson
Respiratory Care Inc. or the respiratory care and anesthesia products industries
to be materially different from any future results, performance or achievements
expressed or implied by such forward-looking statements. These potential risks,
uncertainties include, but are not limited to, those identified in the Company's
Registration Statement on Form S-4, as amended, effective August 26, 1998. The
Company disclaims any obligation to update any such factors or to publicly
announce the results of any revisions to any of the forward-looking statements
contained herein to reflect future events or developments.
GENERAL
River Holding Corp. ("Holding") conducts all of its operations through its
majority-owned subsidiary, Hudson Respiratory Care Inc. ("Hudson RCI" or the
"Company"). The Company is a leading manufacturer and marketer of disposable
medical products utilized in the respiratory care and anesthesia segments of the
domestic and international health care markets. The Company offers one of the
broadest respiratory care and anesthesia product lines in the industry,
including such products as oxygen masks, humidification systems, nebulizers,
cannulae and tubing. In the United States, the Company markets its products to
a variety of health care providers, including hospitals and alternate site
service providers such as outpatient surgery centers, long-term care facilities,
physician offices and home health care agencies. Internationally, the Company
sells its products to distributors that market to hospitals and other health
care providers. The Company's products are sold to over 3,000 distributors and
alternate site service providers throughout the United States and in more than
75 countries worldwide. The Company has supplied the disposable respiratory
care market for over 50 years and enjoys strong brand name recognition and
leading market positions.
The Company manufactures and markets over 1,500 respiratory care and
anesthesia products. The Company believes that its broad product offering
represents a competitive advantage over suppliers with more limited product
offerings, as health care providers seek to reduce medical supply costs and
concentrate purchases among fewer vendors. The Company also benefits
competitively from its extensive relationships with leading group purchasing
organizations or GPOs, as large purchasing organizations play an increasingly
important role in hospitals' purchasing decisions.
The Company maintains two manufacturing facilities and two distribution
facilities in the United States and an assembly operation in Mexico. The
Company has reduced its manufacturing and assembly costs through cost reduction
programs, process improvement, equipment automation and upgrades and increased
utilization of its Ensenada, Mexico facility for labor-intensive operations.
Hudson Oxygen Therapy Sales Company ("Hudson Oxygen"), Hudson RCI's
predecessor, was founded in 1945. In 1988, Hudson Oxygen formed Industrias
Hudson, a subsidiary that oversees the Company's assembly operation in Mexico.
In 1989, Hudson Oxygen merged with Respiratory Care Inc. to form Hudson RCI. In
April 1998, the Company consummated a recapitalization, pursuant to which it
became a majority-owned subsidiary of Holding. Hudson RCI's principal executive
offices are located at 27711 Diaz Road, P.O. Box 9020, Temecula, California
92589, and its telephone number is (909) 676-5611. Holding was incorporated in
Delaware in January 1998. Holding's principal executive offices are located at
599 Lexington Avenue, 18th Floor, New York, New York 10022, and its telephone
number is (212) 758-2555.
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RECAPITALIZATION
In April 1998, Hudson RCI consummated its recapitalization pursuant to an
Agreement and Plan of Merger pursuant to which River Acquisition Corp., a
wholly-owned subsidiary of Holding merged with and into Hudson RCI, with Hudson
RCI surviving as a majority-owned subsidiary of Holding (the "Merger").
Pursuant to the Recapitalization, Holding contributed approximately $93.0
million in equity capital into Hudson RCI (the "Holding Equity Investment") and
a shareholder of Hudson RCI (the "Continuing Shareholder") retained common stock
of Hudson RCI with a value of approximately $15.0 million. In the Merger, a
portion of the Hudson RCI common stock was converted into the right to receive
approximately $131.1 million in cash, and management received $88.3 million
pursuant to the Company's Equity Participation Plan. Upon consummation of the
Recapitalization, Holding owned 80.8% of the outstanding common stock of Hudson
RCI and the Continuing Shareholder owned 19.2% of the outstanding common stock
of Hudson RCI.
The Holding Equity Investment was comprised of $63.0 million of common
equity (the "Common Stock Investment") and $30.0 million of preferred equity
(the "Preferred Stock Investment"). The Common Stock Investment was funded with
a $55.0 million investment by affiliates of Freeman Spogli & Co. Incorporated
("Freeman Spogli"), and an $8.0 million investment by management of Hudson RCI.
The Preferred Stock Investment was funded with proceeds from the sale of 11 1/2%
Senior Exchangeable PIK Preferred Stock due 2010 (the "Holding Preferred Stock")
with an aggregate liquidation preference of $30.0 million offered by Holding
(the "Preferred Stock Offering"). Immediately following consummation of the
Recapitalization, Freeman Spogli beneficially owned approximately 87.3% of the
outstanding common stock of Holding and management owned the remaining 12.7%.
In connection with the Recapitalization and concurrently with the Preferred
Stock Offering, Hudson RCI offered $115.0 million aggregate principal amount of
91/8% Senior Subordinated Notes due 2008 (the "Subordinated Notes") (the
"Subordinated Notes Offering," and together with the Preferred Stock Offering,
the "Offerings").
In addition, in April 1998, Hudson RCI entered into an agreement (the
"Credit Facility") providing for a $40.0 million secured term loan facility (the
"Term Loan Facility"), which was funded in connection with the consummation of
the Recapitalization, and a $60.0 million revolving loan facility (the
"Revolving Loan Facility") which will be available for Hudson RCI's future
capital requirements and to finance acquisitions.
The Offerings and the application of the net proceeds therefrom, repayment
of existing Hudson RCI debt payments to the Continuing Shareholder under the
Recapitalization Agreement and to management, the Holding Equity Investment and
the related borrowings under the Credit Facility are collectively referred to
herein as the "Recapitalization."
INDUSTRY OVERVIEW
The worldwide market for disposable respiratory care and anesthesia
products consists of the domestic hospital market, the alternate site market and
the international market. Respiratory care and anesthesia principally involve
the delivery of oxygen and anesthesia from a gas source, such as a mechanical
ventilator or respirator, to the patient's pulmonary system. The gas is
typically delivered to the patient through specialized tubing connecting to a
cannula, mask or endotracheal tube. In addition, it is often necessary to
humidify or medicate the gas. The market for respiratory care and anesthesia
products, including disposable products, is expected to be positively impacted
by demographic trends, both domestically and internationally. In the United
States, changes in demographics, including an aging population, increased
incidence and awareness of respiratory illnesses and heightened focus on cost-
efficient treatment, have had a positive impact on the domestic respiratory care
and anesthesia markets. There has been an increasing incidence of respiratory
illnesses (such as asthma and emphysema), due in part to an increasingly
susceptible aging population, environmental pollution, smoking-related illnesses
and communicable diseases with significant respiratory impact, such as
tuberculosis, HIV and influenza. The Company believes that the international
respiratory care and anesthesia markets will experience many of the trends
currently affecting domestic markets. In addition, many
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international markets have high incidences of communicable respiratory diseases
and are becoming increasingly aware of the value of single-use, disposable
products.
The market for respiratory care and anesthesia products is also affected by
trends involving the health care market generally. In particular, the overall
trend towards cost containment has increased the desirability of disposable
products relative to reusable products, and has influenced pricing, distribution
channels, purchasing decisions and health care delivery methods.
Efforts to contain rising health care costs have increased the preference
for disposable medical products that improve the productivity of health care
professionals and reduce overall provider costs. Health care organizations are
evaluating modes of treatment that are less labor and/or technology intensive as
a means of decreasing the cost of care, which can often result in increased
disposable usage. In particular, increased utilization of disposable products
can decrease labor and other costs associated with sterilizing reusable
products. In addition, the risks of transmission of infectious diseases such as
HIV, hepatitis and tuberculosis, and related concerns about the occupational
safety of health care professionals, have also contributed to an increased
preference for disposable single-use medical products.
Cost containment has caused consolidation throughout the health care
product supply channel, which has favored manufacturers with large product
offerings and competitive pricing. In an effort to contain costs, service
providers have consolidated to form GPOs, which take advantage of group buying
power to obtain lower supply prices. This, in turn, has led to consolidation
among distributors, who seek to provide "one-stop shopping" for these large
buying groups. Distributors have also sought to concentrate purchases among
fewer vendors in an effort to reduce supply costs. Since selection as a GPO
provider and strong relationships with distributors are critical to many health
care manufacturers, they have responded to these trends by providing a broad
range of integrated products, combined with reliable delivery and strong after-
sales support.
Cost containment has also caused a migration of the decision making
function with respect to supply acquisition from the clinician to the
administrator. As clinicians lose influence and purchasing agents, materials
managers and upper level management become more involved in the purchasing
decision, a greater emphasis is placed on price relative to product features and
clinical benefits.
As a result of cost containment, health care is increasingly provided
outside of traditional hospital settings through alternate health care sites,
such as outpatient surgery centers, long-term care facilities, physician offices
and patients' homes. Growth of the alternate site market is also attributable
to advances in technology that have facilitated the delivery of care outside of
the hospital, an increased number of illnesses and diseases considered to be
treatable outside of the hospital and increased acceptance by the medical
community of, and patient preference for, non-hospital treatment.
PRODUCTS
The Company manufactures and markets products for use in respiratory care
and anesthesia. The products for each market are similar and often overlap, as
do the distribution channels.
The Company groups its products into nine categories: (i) oxygen delivery;
(ii) aerosol therapy; (iii) active and passive humidification; (iv) ventilatory
support; (v) adaptors, connectors and filters; (vi) resuscitation; (vii) airway
management; (viii) electronic monitoring; and (ix) durable equipment.
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<TABLE>
<CAPTION>
CATEGORY/PRODUCTS DESCRIPTION
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OXYGEN DELIVERY: Oxygen Masks, Oxygen Used to deliver therapeutic, supplemental oxygen to a
Cannulae, Oxygen Tubing patient. Oxygen masks cover the nose and mouth. Nasal
cannulae fit inside the nostrils. Both masks and cannulae
are connected to an oxygen source via small diameter
tubing through which oxygen flows.
AEROSOL THERAPY: AQUAPAK(R) Large Volume, Used to create and deliver aerosolized particles of liquid
Prefilled Nebulizers; Non-Prefilled Large water, sodium chloride or medication to the patient's
Volume Nebulizer; UPDRAFT(R), UPDRAFT II(R), airways to dilute and mobilize secretions and/or dilate
AVA-NEB(R) and MICRO MIST(R) Small Volume, constricted breathing passages. The peak flow meter is used
Medication Nebulizers; Aerosol Tubing; to monitor the patient's respiratory status before and after
AQUATHERM(R) and THERMAGARD(R) Nebulizer an aerosolized medication treatment.
Heaters; AQUAPAK Prefilled Ultrasonic Cups;
ADDIPAK(R) Prefilled Unit Dose Solutions;
POCKETPEAK(R) Peak Flow Meter
ACTIVE AND PASSIVE HUMIDIFICATION: Heated humidification systems actively heat and humidify
CONCHATHERM(R) Heated Humidifiers, oxygen/air mixtures or anesthetic gases provided by a
AQUA+(R) Hygroscopic Condenser Humidifiers, mechanical ventilator or anesthesia gas machine.
AQUAPAK Prefilled Humidifiers, Non-Prefilled, Hygroscopic condenser humidifiers passively conserve the
Reusable Humidifier, Non-Prefilled Disposable heat and humidity in the patient's exhaled breath for use
Humidifier during inspiration. Prefilled and non-prefilled humidifiers
are used to add water vapor to oxygen being provided to a
patient via a mask or cannula.
VENTILATORY SUPPORT: Conventional Ventilator Used to convey an oxygen/air mixture and/or anesthetic gas
Circuits, Heated-Wire Ventilator Circuits, from a mechanical ventilator or anesthesia gas machine to
Anesthesia Breathing Circuits, Air Cushion a patient during the temporary or long-term support of
Anesthesia Masks, Infant CPAP Systems ventilation. The infant CPAP system provides non-invasive
respiratory support to premature infants with under-
developed, immature lungs.
ADAPTORS, CONNECTORS AND FILTERS: A wide variety The adaptors and connectors are frequently used in
of adaptors and connectors; Main Flow Bacterial/ respiratory care and anesthesia to add accessories, modify
Viral Filters; Pulmonary Function Filter configurations, and/or customize other related products to
meet specific needs. Filters are used to protect patients,
caregivers, and medical equipment from cross-
contamination with bacteria and viruses.
RESUSCITATION: LIFESAVER(R) Reusable and Used during cardiopulmonary resuscitation ("CPR") to
Disposable Resuscitation Bags, Isolation Valves adequately support and/or maintain the patient's
ans Kits, LIFESAVER Tubes and Kits ventilatory function.
</TABLE>
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<TABLE>
<CAPTION>
CATEGORY/PRODUCTS DESCRIPTION
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AIRWAY MANAGEMENT: SOFTECH(R) Cuffed and Assist in securing and maintaining an open airway and
Uncuffed Endotracheal Tubes; CATH-GUIDE(R), unobstructed breathing passage. They also can assure that
Color-Coded and DUAL-CHANNEL Oral the patient's ventilation can be maintained and that
Pharyngeal Airways; BITEGARD Oral Bite respiratory secretions can be adequately removed from the
Block; CATH-GUIDE Closed Suction Catheters lungs.
ELECTRONIC MONITORING: Replacement oxygen The oxygen sensors, monitors and analyzers are used to
sensors, Oxygen Monitors and Analyzers, analyze and monitor the amount of oxygen being
VENTILARM II(R) Low-Pressure Alarms administered to a patient. The low-pressure alarm is used
to detect a patient disconnect or a leak in the breathing
circuit during mechanical ventilation.
DURABLE EQUIPMENT: Oxygen Regulators; Cylinder Used to regulate oxygen flow from cylinders, stabilize or
Carts, Trucks and Stands; Portable Oxygen Units transport oxygen or other gas cylinders, and provide a
portable oxygen supply for emergency use.
</TABLE>
SALES, MARKETING AND DISTRIBUTION
While substantially all of the Company's domestic hospital sales are made
to distributors, the Company's marketing efforts are focused on the health care
service provider. In the alternate site market, the Company both sells and
markets directly to the service provider. The Company's five largest alternate
site accounts are Gulf South Medical Supply, Inc., Medline Industries, Inc.,
Moore Medical Corp., Redline Healthcare Corp. and VGM & Associates.
Internationally, the Company sells its products to distributors that market to
hospitals and other health care providers. See Note 10 to "Item 8. Financial
Statements" for information with respect to international sales. The Company's
sales personnel currently call on approximately 2,800 health care providers, 50
hospital distributors and 1,500 alternate site customers. Due to consolidation
and cost pressures among the Company's customer base, the Company's target call
point at the health care provider has been moving away from the clinician to
include a purchasing manager or corporate executive. As of December 25, 1998,
the Company had a sales backlog of approximately $2.5 million.
In the current market environment, GPO relationships are an essential part
of access to the Company's target markets and the Company has entered into
preferred supplier arrangements with 11 national GPOs. The Company is typically
positioned as either a sole supplier of respiratory care disposables to the GPO,
or as one of two suppliers. While these arrangements set forth pricing and terms
for various levels of purchasing, they do not obligate either party to purchase
or sell a specific amount of product. In addition, GPO affiliated hospitals
often purchase products from other suppliers notwithstanding the existence of
sole or dual source GPO arrangements. Further, these arrangements are
terminable at any time, but in practice usually run for two to three years. The
Company enjoys longer terms with two of its major GPOs, Novation LLC (which
represents the 1998 consolidation of VHA, Inc. and University HealthSystem
Consortium) and Columbia/HCA Healthcare Corporation. The Company's most
significant GPO relationships are with AmeriNet Inc., Columbia/HCA Healthcare
Corporation, Health Services Corporation of America, MedEcon Medical Services,
Novation LLC and Purchase Connection Limited.
Health care providers have responded to pressures to reduce their costs by
merging with other members of their industry. The acquisition of a customer of
the Company often results in the renegotiation of contracts, the granting of
price concessions or in the loss of the customer. Alternatively, to the extent
a customer of the Company grows through acquisition activity, the Company may
benefit from increased sales to the larger entity.
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The Company markets its products primarily through consultative dialogue
with health care providers, targeted print advertising, trade shows, selective
promotional arrangements with distributors and the Company's heater lease
program. To support sales of the entire line of humidification and ventilation
products, the Company leases heaters to domestic customers without charge. The
revenues from the sale of products used in connection with the operation of the
heaters covers the amortization of the heater cost under the leases. The Company
has heaters with a net book value of approximately $1.1 million placed at
service provider locations under this program.
The Company utilizes a network of over 3,000 hospital distributors, as well
as additional alternate site distributors, to reach its markets. A number of
these distributors carry competing product lines, but many are moving to select
single supply sources for particular product groups. The Company has been
selected as the FOCUS preferred vendor of respiratory disposables for Owens &
Minor Inc., and is seeking similar status with other national vendors. Such
status gives preference to the shipping of the Company's products versus
competing lines. Owens & Minor Inc. is the Company's largest distributor,
accounting for approximately $23 million or approximately 23% of total 1998 net
sales. The Company provides a price list to its distributors which details base
acquisition prices. Distributors receive orders from the service providers and
charge the contract pricing (which is determined by their GPO affiliation or
individual contract price) plus their service margin. As is customary within the
industry, the Company rebates the difference between base acquisition price and
the specific contract price to the distributor. The Company offers select large
health care providers a reward for purchasing a broader selection of the
Company's product lines. The program allows a rebate in the form of merchandise
credit for purchasing minimum volumes from a selected group of products. The
Company's international distributors place their orders directly with dedicated
international customer service representatives based in Temecula. Customer
orders are shipped from one of two warehouse locations. Sales strategies and
marketing plans are tailored to each market with involvement of the distributor.
Region and territory sales managers are responsible for the launch of products
into their regions, including related support and training. The Company utilizes
a network of 100 international distributors, typically on an exclusive basis
within each market.
MANUFACTURING AND ASSEMBLY
The Company operates two manufacturing facilities and two distribution
facilities in the United States and an assembly facility in Ensenada, Mexico.
While the Company believes that it is operating at a high utilization rate,
existing facilities could support increased capacity with additional machinery
and workers.
The Company's manufacturing facility in Temecula, California houses 65
injection molding machines, 57 of which are automated. During the past five
years, 33 out of the 65 machines have been replaced, which has increased
capacity, as the new machines are more efficient. Tubing is produced on 10
extrusion lines: 6 corrugated, 3 oxygen or "spaghetti," and 1
repellitizer/regrinder. The Temecula facility uses 10-12 million pounds of over
30 different kinds of resin annually; the most prominent are PVC, polyethylene
and polypropylene. Sterile prefilled humidification and nebulization products
and electronics are manufactured using 7 blow/fill/seal machines in the
Company's facility in Arlington Heights, Illinois.
The Company's facility located in Ensenada, Mexico is primarily used for
the assembly of certain products molded at the Temecula facility. The facility
is a maquiladora, and therefore there are minimal tariffs associated with the
transport of products and components across the United States-Mexico border.
The Company occasionally outsources production of certain products while it
establishes its ability to penetrate a target market. Having achieved an
acceptable level of penetration, the Company internalizes the manufacturing
function in order to increase margins and improve quality control.
The Company monitors the quality of its products at the Temecula, Arlington
Heights and Ensenada facilities by statistical sampling and visual and
dimensional inspection. The Company also inspects incoming raw materials for
inconsistencies, rating its vendors on quality and delivery time. The Company is
routinely audited by the FDA and has received no significant regulatory actions.
The Company is in substantial compliance with the GMP/QSR regulations of the FDA
and has qualified for an "advanced notification" program allowing the Company to
be informed of FDA
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inspections in advance. The Company utilizes outside facilities for
sterilization of products produced in Temecula and Ensenada. The Arlington
Heights products are manufactured in a sterile environment and are certified
sterile as a result of the production process. The Ensenada and Arlington
Heights facilities are certified as ISO 9002 compliant and the Temecula facility
is certified as ISO 9001 compliant.
SUPPLIERS AND RAW MATERIALS
The Company's primary raw materials are various resins, which are formed
into the Company's products. The top 10 purchased products in 1998 were Tubing
Grade PVC, Clear PVC, LDPE-EVA, Polypropylene, Aluminum Cylinder, Pre-Cut
Elastic, Non-Tubing Grade PVC, Cannula Blanks, Acrylic Resin and Hose-End Grade
PVC. The Company believes that it is able to purchase materials at a cost no
higher than its competitors. The Company does not have long-term supply
contracts for any of its purchased raw materials. The Company believes that
sufficient availability exists for its raw materials, as they consist of mainly
readily available plastic resins.
RESEARCH AND DEVELOPMENT
The Company's research and development department consists of 18 people,
including 13 engineers. The Company's research and development efforts are split
between developing new products and process improvements to its manufacturing
operations. The Company develops new products to expand its product line in
anticipation of changes in demand. The Company has invested heavily in the
anesthesia product line, as the Company continues to penetrate this market. The
Company makes several new product introductions every year. Significant products
introduced in the last five years include the line of heat-moisture exchangers,
POCKETPEAK peak flow meter, SOFTECH endotracheal tubes, MICRO MIST small volume
nebulizer and CONCHA IV heated humidification system. The Company constantly
works to reduce costs through improved continued process improvements. Over the
past several years, approximately 50% of total research and development expenses
have been to improve operational efficiency. The Company incurred research and
development expenses of approximately $2.3 million, $1.8 million and $1.9
million in 1996, 1997 and 1998, respectively.
COMPETITION
The medical supply industry is characterized by intense competition. The
Company's primary competitor in the respiratory care sector is Allegiance
Corporation and its primary competitors in the anesthesia sector include
Allegiance Corporation, The Kendall Company, Smiths Industries Medical Systems,
Inc. and Vital Signs, Inc. Many of the products manufactured by the Company are
available from several sources, and many of the Company's customers tend to have
relationships with several manufacturers. The Company competes on the basis of
brand name, product quality, breadth of product line, service and price.
PATENTS AND TRADEMARKS
The Company has historically relied primarily on its technological and
engineering abilities and on its design and production capabilities to gain
competitive business advantages, rather than on patents or other intellectual
property rights. However, the Company does file patent applications on concepts
and processes developed by the Company's personnel. The Company has 20 patents
in the U.S. Many of the U.S. patents have corresponding patents issued in
Canada, Europe and various Asian countries. The Company is currently preparing
several patent applications covering intellectual property associated with the
closed suction catheter product and advanced humidification devices. The
Company's success will depend in part on its ability to maintain its patents,
add to them where appropriate, and develop new products and applications without
infringing the patent and other proprietary rights of third parties and without
breaching or otherwise losing rights in technology licenses obtained by the
Company for other products. There can be no assurance that any patent owned by
the Company will not be circumvented or challenged, that the rights granted
thereunder will provide competitive advantages to the Company or that any of the
Company's pending or future patent applications will be issued with claims of
the scope sought by the Company, if at all. If challenged, there can be no
assurance that the Company's patents (or patents under which it licenses
technology) will be held valid or enforceable.
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In addition, there can be no assurance that the Company's products or
proprietary rights do not infringe the rights of third parties. If such
infringement were established, the Company could be required to pay damages,
enter into royalty or licensing agreements on onerous terms and/or be enjoined
from making, using or selling the infringing product. Any of the foregoing could
have a material adverse effect upon the Company's business, financial condition
or results of operations.
GOVERNMENT REGULATION AND ENVIRONMENTAL MATTERS
The Company and its customers and suppliers are subject to extensive
Federal and state regulation in the United States, as well as regulation by
foreign governments, and the Company cannot predict the extent to which future
legislative and regulatory developments concerning its practices and products
for the health care industry may affect the Company. Most of the Company's
products are subject to government regulation in the United States and other
countries. In the United States, the FDC Act and other statutes and regulations
govern or influence the testing, manufacture, safety, labeling, storage, record
keeping, marketing, advertising and promotion of such products. Failure to
comply with applicable requirements can result in fines, recall or seizure of
products, total or partial suspension of production, withdrawal of existing
product approvals or clearances, refusal to approve or clear new applications or
notices and criminal prosecution. Under the FDC Act and similar foreign laws,
the Company, as a marketer, distributor and manufacturer of health care
products, is required to obtain the clearance or approval of Federal and foreign
governmental agencies, including the FDA, prior to marketing, distributing and
manufacturing certain of those products. The Company may also need to obtain FDA
clearance before modifying marketed products or making new promotional claims.
Delays in receipt of or failure to receive required approvals or clearances, the
loss of previously received approvals or clearances, or failures to comply with
existing or future regulatory requirements in the United States or in foreign
countries could have a material adverse effect on the Company's business.
Foreign sales are subject to similar requirements.
The Company is required to comply with the FDA's GMP/QSR Regulations, which
set forth requirements for, among other things, the Company's manufacturing
process, design control and associated record keeping, including testing and
sterility. Further, the Company's plants and operations are subject to review
and inspection by local, state, Federal and foreign governmental entities. The
distribution of the Company's products may also be subject to state regulation.
The impact of FDA regulation on the Company has increased in recent years as the
Company has increased its manufacturing operations. The Company's suppliers,
including the sterilizer facilities, are also subject to similar governmental
requirements. There can be no assurance that changes to current regulations or
additional regulations imposed by the FDA will not have an adverse impact on the
Company's business and financial condition in the future. The FDA also has the
authority to issue special controls for devices manufactured by the Company,
which it has not done to date. In the event that such special controls were
issued, the Company's products would be required to conform, which could result
in significant additional expenditures for the Company.
The Company is also subject to numerous federal, state and local laws and
regulations relating to such matters as safe working conditions, manufacturing
practices, fire hazard control and the handling and disposal of hazardous or
infectious materials or substances and emissions of air pollutants. The Company
owns and leases properties which are subject to environmental laws and
regulations. There can be no assurance that the Company will not be required to
incur significant costs to comply with such laws and regulations in the future
or that such laws or regulations will not have a material adverse effect upon
the Company's business, financial condition or results of operations. In
addition, the Company cannot predict the extent to which future legislative and
regulatory developments concerning its practices and products for the health
care industry may affect the Company.
EMPLOYEES
As of March 11, 1999, the Company employed 1,252 employees, substantially
all of whom were full-time employees. None of the Company's employees is
represented by unions and the Company considers its employee relations to be
good.
8
<PAGE>
ITEM 2. PROPERTIES.
The Company owns approximately 30 acres of land in Temecula, California on
which its headquarters, one of two principal manufacturing centers and three
other buildings totaling approximately 245,000 square feet are located. Plastic
and vinyl components and corrugated tubing are manufactured in Temecula and
assembled into finished goods at a 77,000 square foot facility in Ensenada,
Mexico. The Company owns the Ensenada facility and the underlying land is held
in a 30-year trust that expires in 2019. The Company leases an 86,000 square
foot manufacturing facility in Arlington Heights, Illinois under a lease that
expires in 2000. Prefilled sterile solutions and electronics are manufactured in
Arlington Heights. The Company also leases a 73,000 square foot distribution
warehouse in Elk Grove, Illinois under a lease that expires in 2000. The Company
believes that its current facilities are adequate for its present level of
operations. Management expects that the Arlington Heights and Elk Grove leases
will be renewed on favorable terms.
ITEM 3. LEGAL PROCEEDINGS.
The Company is party to lawsuits and other proceedings, including suits
relating to product liability and patent infringement. While the results of such
lawsuits and other proceedings cannot be predicted with certainty, management
does not expect that the ultimate liabilities, if any, will have a material
adverse effect on the financial position or results of operations of the
Company.
ITEM 4. SUBMISSIONS OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
9
<PAGE>
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
There is no established public trading market for the Company's Common
Stock. Holding has 15 record holders of its Common Stock.
Holding has not paid cash dividends to its shareholders in the past two
years, and does not intend to pay cash dividends in the foreseeable future. See
"Item 7. Management's Discussion and Analysis of Financial Condition and Results
Operations--Liquidity and Capital Resources" for a discussion of restrictions on
Holding's ability to pay cash dividends.
ITEM 6. SELECTED FINANCIAL DATA.
The selected fiscal year end historical financial data has been derived
from the audited financial statements of the Company and Holding. The
information contained in this table should be read in conjunction with the
Company's audited consolidated financial statements and notes thereto.
<TABLE>
<CAPTION>
RIVER
HOLDING
CORP.(a) HUDSON RESPIRATORY CARE
---------- ------------------------------------------------------------------------
INCEPTION FISCAL YEAR
TO ------------------------------------------------------------------------
12/25/98 1994 1995 1996 1997 1998
----------- ----------- ------------ ------------ ----------- ---------
<S> <C> <C> <C> <C> <C> <C>
OPERATING DATA:
Net sales ............................ $ 76,232 $82,772 $ 86,825 $ 93,842 $ 99,509 $100,498
Cost of sales......................... 42,188 47,631 47,582 49,405 51,732 53,520
---------- ------- --------- -------- -------- --------
Gross profit.......................... 34,044 35,141 39,243 44,437 47,777 46,978
Operating expenses:
Selling expenses...................... 8,032 7,499 8,283 8,961 9,643 10,350
Distribution expenses................. 4,265 4,543 4,595 4,829 5,240 5,714
General and administrative............
expenses............................. 7,129 10,426 9,769 11,277 11,456 10,284
Research and development
expenses............................. 1,406 1,983 2,064 2,253 1,845 1,880
Amortization of goodwill.............. 3,785 -- -- -- -- --
Provision for equity
participation plan................... -- -- 11,415 8,249 6,954 63,939
Provision for retention payments...... -- -- -- -- -- 4,754(b)
--------- ------- --------- -------- -------- --------
Operating income (loss)............... $ 9,427 $10,690 $ 3,117 $ 8,868 $ 12,639 $(49,943)
OTHER (INCOME) AND EXPENSES:..........
Interest expense...................... 10,273 2,299 2,424 2,177 1,834 10,692
Other (income) expense................ 728 546 811 (463) (638) 1,041
--------- ------- --------- -------- -------- --------
Total other expense................... 11,001 2,845 3,235 1,714 1,196 11,733
--------- ------- --------- -------- -------- --------
Income (loss) before provision
(benefit) for income taxes........... (1,574) 7,845 (118) 7,154 11,443 (61,676)
Provision (benefit) for income taxes.. (614) 175 280 73 150 (68,659)
--------- ------- --------- -------- -------- --------
Income (loss) before
extraordinary item................... (960) 7,670 (398) 7,081 11,293 6,983
Extraordinary item (loss on
extinguishment of debt).............. -- -- -- -- -- 104(c)
--------- ------- --------- -------- -------- --------
Net income (loss)..................... $ (960) $ 7,670 $ (398) $ 7,081 $ 11,293 $ 6,879
========= ======= ========== ======== ======== ========
</TABLE>
10
<PAGE>
<TABLE>
<CAPTION>
RIVER
HOLDING
COPR.(A) HUDSON REPIRATORY CARE
------------ ------------------------------------------------------------------------------
INCEPTION
TO FISCAL YEAR
------------------------------------------------------------------------------
12/25/98 1994 1995 1996 1997 1998
------------ ------------- -------------- ---------- --------- ------------
<S> <C> <C> <C> <C> <C> <C>
OTHER FINANCIAL DATA:
Net cash provided by (used in). $ 3,854 $ 12,017 $ 15,939 $ 16,133 $ 19,269 $ (83,024)
operating activities
Net cash used in investing..... $ (254,472) $ (2,607) $ (6,088) $ (11,354) $ (3,673) $ (6,444)
activities
Net cash provided by (used in). $ 251,125 $ (9,653) $ (11,880) $ (3,668) $ (16,398) $ 89,624
financing activities
EBITDA before EPP and.......... $ 17,934 $ 17,354 $ 21,205 $ 23,194 $ 25,440 $ 24,851
Retention Payments(d)
EBITDA before EPP and.......... 23.5% 21.0% 24.4% 24.7% 25.6% 24.7%
Retention Payments margin(e)
Operating margin before EPP.... 12.4% 12.9% 16.7% 18.2% 19.7% 18.7%
and Retention Payments(f)
Depreciation and............... $ 8,507 $ 7,033 $ 6,820 $ 6,133 $ 5,847 $ 6,101
amortization(g)
Capital expenditures........... $ 3,120 $ 4,898 $ 5,850 $ 6,395 $ 4,659 $ 3,111
Ratio of EBITDA before EPP and. 2.1 x 7.5 x 8.7 x 10.7 x 13.9 x 2.3 x
Retention Payments to cash
interest expense
Ratio of total debt to EBITDA.. 8.9 x 1.8 x 1.2 x 1.2 x 0.8 x 6.4 x
before EPP and Retention
Payments
Ratio of earnings to fixed..... (0.1) x 3.6 x 1.0 x 3.7 x 6.0 x (5.1) x
charges(h)
Deficiency of earnings to...... $ (12,852) -- -- -- -- $ (73,694)
cover fixed charges
Ratio of earnings to fixed..... (0.1) x 3.6 x 1.0 x 3.7 x 6.0 x (4.2) x
charges and preferred stock
dividends(i)
Deficiency of earnings to...... $ (15,364) -- -- -- -- $ (76,206)
cover fixed charges and
preferred stock dividends
BALANCE SHEET DATA:
Working capital................ $ 29,865 $ 18,926 $ 18,641 $ 24,188 $ 6,430 $ 29,533
Working capital as adjusted(j). 32,358 20,588 22,461 26,768 29,960 32,026
Total assets................... 262,709 66,576 64,387 76,910 77,554 165,321
Total debt..................... 159,000 31,607 25,364 28,146 20,250 159,000
Shareholders' equity (deficit). 59,653 25,269 19,112 19,872 22,515 (37,735)
</TABLE>
______________________
(a) Holding was formed to effect the Recapitalization. Accordingly, operating
data for 1998 presented for Holding is for the period from April 7, 1998 to
December 25, 1998. Holding accounted for the acquisition of the Company
using the purchase method of accounting, which was not pushed down to the
accounts of the Company. Accordingly, the carrying amounts of certain assets
and liabilities on the financial statements of Holding differ substantially
when compared to those of the Company. All financial covenants are
calculated using the Company's accounts, and, accordingly, no such
comparative amounts for Holding are presented.
(b) Reflects retention payments made to substantially every employee of the
Company in connection with the Recapitalization. These payments were
intended to ensure the continued employment of all employees after the
Recapitalization and no future payments are anticipated.
(c) Reflects the write-off of deferred financing fees related to the payoff of
outstanding debt under the Company's previous credit agreement.
(d) EBITDA before EPP and Retention Payments represents income before
depreciation and amortization, interest expense, income tax expense and
charges related to the Equity Participation Plan, which was terminated upon
consummation of the Recapitalization. The Company has excluded payments
under the Equity Participation Plan to present comparable figures for all
historical periods presented. EBITDA before EPP and Retention Payments is
not a measure of performance under generally accepted accounting principles,
and should not be considered as a substitute for net income, cash flows from
operating activities and other income or cash flow statement data prepared
in accordance with generally accepted accounting principles, or as a measure
of profitability or liquidity. The Company has included information
concerning EBITDA before EPP and Retention Payments as one measure of an
issuer's historical ability to service debt. In addition, certain covenants
in the Indenture are based upon a calculation analogous to EBITDA before EPP
and Retention Payments. EBITDA before EPP and Retention
11
<PAGE>
Payments should not be considered as an alternative to, or more meaningful
than, income from operations or cash flow as an indication of the Hudson
RCI's operating performance. For purposes of compliance with the Indenture,
the Company's Consolidated Net Income and EBITDA will not be reduced by
retention payments, payments made pursuant to the Equity Participation Plan
or by the amount of any contingent payments made by the Company to former
participants in the Equity Participation Plan. See "Certain Relationships
and Related Transactions."
(e) Represents ratio of EBITDA before EPP and Retention Payments to net sales.
(f) Represents ratio of Operating income before EPP and retention payments to
net sales.
(g) Includes amortization of deferred financing fees of $0.4 million in 1994,
$0.1 million in 1995 and $0.1 million in 1996, which should be excluded from
depreciation and amortization in calculating EBITDA before EPP and Retention
Payments since such fees are reflected below the operating income line.
(h) For the purpose of determining the ratio of earnings to fixed charges,
earnings consist of earnings before income taxes and fixed charges. Fixed
charges consist of interest on indebtedness, the amortization of debt issue
costs and that portion of operating rental expense representative of the
interest factor.
(i) For the purpose of determining the ratio of earnings to fixed charges and
preferred stock dividends, earnings consist of earnings before income taxes
and fixed charges. Fixed charges consist of interest on indebtedness, the
amortization of debt issue costs and that portion of operating rental
expense representative of the interest factor. Preferred stock dividends,
consisting of amounts to be paid-in-kind, are also included in the pro forma
fixed charge amounts. Preferred stock dividends have been "grossed up" to a
pre-income tax basis to provide comparability to other components of the
ratio.
(j) Working capital as adjusted represents current assets, excluding cash, less
current liabilities, excluding the current portion of long-term debt.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION.
Because Holding is a holding company with no operations, the following
discussion relates primarily to the Company. The following discussion of the
Company's consolidated historical results of operations and financial condition
should be read in conjunction with the consolidated financial statements of the
Company and the notes thereto included elsewhere in this Form 10-K. The
following discussion and analysis includes periods before completion of the
Recapitalization.
GENERAL
The Company has increased its net sales and improved its position within
the disposable health care products market in recent years by increasing its
respiratory care product offering, introducing disposable products for the
anesthesia health care market, expanding its presence in international markets
and establishing a position in the growing alternate site market.
The Company's results of operations may fluctuate significantly from
quarter to quarter as a result of a number of factors, including, among others,
the buying patterns of the Company's distributors, GPOs and other purchasers of
the Company's products, forecasts regarding the severity of the annual cold and
flu season, announcements of new product introductions by the Company or its
competitors, changes in the Company's pricing of its products and the prices
offered by the Company's competitors, rate of overhead absorption due to
variability in production levels and variability in the number of shipping days
in a given quarter.
During fiscal 1998, the Company acquired certain assets of Gibeck, Inc.
("Gibeck") for approximately $3.35 million. Prior to the transaction, Gibeck
was engaged primarily in the business of manufacturing, marketing and selling
disposable anesthesia supplies. In addition to the sale of its self-
manufactured products, Gibeck was the exclusive North American distributor of
its parent company's, Louis Gibeck AB ("LGAB"), Heat Moisture Exchange ("HME")
product line. As a result of the transaction, Hudson RCI is now the exclusive
North American distributor for the LGAB HME products. In its fiscal year 1997,
Gibeck reported net sales of approximately $12.3 million.
12
<PAGE>
Results for fiscal 1998 were adversely impacted because of, among other
things, the decrease in demand from hospitals affiliated with the Premier GPO,
as the Premier contract for respiratory supplies was awarded in 1997 to a
competitor of the Company, and the discontinuance of a distribution-related
strategic alliance in Germany with an international health care provider. As a
result, the Company was not in compliance with certain covenants under the
Credit Facility, so certain of the financial covenants in the Credit Facility
were amended in 1998.
In April 1998, the Company consummated the Recapitalization. See "Item 1.
Business" and Note 1 to "Item 8. Financial Statements" for a detailed discussion
of the Recapitalization. The Company and the shareholders that received
distributions in the Recapitalization made an election under Section 338(h)(10)
of the Internal Revenue Code of 1986, as amended, to treat the Recapitalization
as an asset purchase for tax purposes, which has the effect of significantly
increasing the tax basis of the Company's assets, thus increasing depreciation
and amortization expenses and other deductions for tax purposes and reducing the
Company's taxable income in 1998 and subsequent years. The Recapitalization
resulted in no change in the basis of the Company's assets and liabilities for
financial reporting purposes. A deferred tax asset was recorded upon the
Company's conversion from a Subchapter S corporation to a Subchapter C
corporation.
RESULTS OF OPERATIONS
The following tables set forth, for the periods indicated, certain income
and expense items expressed in dollars and as a percentage of the Company's net
sales.
<TABLE>
<CAPTION>
FISCAL YEAR
---------------------------------
1996 1997 1998
-------- ------- ---------
<S> <C> <C> <C>
(dollars in thousands)
Net sales....................................................... $ 93,842 $ 99,509 $ 100,498
Cost of sales................................................... 49,405 51,732 53,520
---------- -------- ---------
Gross profit................................................. 44,437 47,777 46,978
---------- -------- ---------
Selling expenses................................................ 8,961 9,643 10,350
Distribution expenses........................................... 4,829 5,240 5,714
General and administrative expenses............................. 11,277 11,456 10,284
Research and development expenses............................... 2,253 1,845 1,880
Provision for equity participation plan......................... 8,249 6,954 63,939
Provision for retention payments................................ -- -- 4,754
---------- -------- ---------
Total operating expenses........................................ 35,569 35,138 96,921
---------- -------- ---------
Operating income (loss)......................................... 8,868 12,639 (49,943)
Add back: Provision for equity participation plan............... 8,249 6,954 63,939
Add back: Provision for retention payments...................... -- -- 4,754
---------- -------- ---------
Operating income before provision for equity participation plan $ 17,117 $ 19,593 $ 18,750
and provision for retention payments......................... ========== ======== =========
</TABLE>
13
<PAGE>
<TABLE>
<CAPTION>
FISCAL YEAR
---------------------------------
1996 1997 1998
---------- -------- --------
<S> <C> <C> <C>
Net sales.......................................................... 100.0% 100.0% 100.0%
Cost of sales...................................................... 52.6 52.0 53.3
---------- -------- --------
Gross profit.................................................... 47.4 48.0 46.7
---------- -------- --------
Selling expenses................................................... 9.5 9.7 10.3
Distribution expenses.............................................. 5.1 5.3 5.7
General and administrative expenses................................ 12.0 11.5 10.2
Research and development expenses.................................. 2.4 1.9 1.9
Provision for equity participation plan............................ 8.8 7.0 63.6
Provision for retention payments................................... -- -- 4.7
---------- -------- --------
Total operating expenses........................................... 37.9 35.3 96.4
---------- -------- --------
Operating income (loss)............................................ 9.4 12.7 (49.7)
Add back: Provision for equity participation plan.................. 8.8 7.0 63.6
Add back: Provision for retention payments......................... -- -- 4.7
---------- -------- --------
Operating income before provision for equity participation plan and
provision for retention payments 18.2% 19.7% 18.7%
========== ======== ========
</TABLE>
Year Ended December 25, 1998 Compared to Year Ended December 26, 1997
Net sales, reported net of accrued rebates, were $100.5 million in 1998, an
increase of $1.0 million or 1.0% over 1997. Domestic hospital sales declined by
$3.1 million or 4.8%, due primarily to the decreased demand of $5.0 million from
hospitals affiliated with the Premier GPO, as the Premier contract for
respiratory supplies was awarded to a competitor in February 1997. This decline
was partially offset by Gibeck sales of approximately $2.3 million. Average
selling price of certain domestic hospital sales also declined slightly from
1997 to 1998 due to pricing terms of a contract entered into in 1997. Alternate
site sales increased by $2.1 million or 14.4% as the Company continued to focus
its efforts on this growing market. International sales increased by $1.1
million or 5.8%. Although good growth was experienced in Japan (approximately
35.0%), this was partially offset by general weakness in other parts of
Southeast Asia. There is continued uncertainty in the outlook for sales in
Southeast Asia in the near term. Sales in Europe were essentially flat as
compared to 1997. Approximately 33% of the Company's 1998 total net sales were
to two distributors.
The Company's gross profit for 1998 was $47.0 million, a decline of $0.8
million or 1.7% from 1997. As a percentage of net sales, the Company's gross
profit was 46.7% for 1998 as compared to 48.0% for 1997. This decline was
primarily due to an unfavorable mix variance caused by increased sales of
products at lower gross margins. This trend is expected to continue in the
future if the preference for passive humidification products over higher margin
active humidification products continues. This trend was partially offset by
manufacturing cost reductions realized by the Company.
Selling expenses were $10.4 million for 1998, an increase of $0.7 million
or 7.3% over 1997. This increase is primarily the result of higher fees paid to
certain GPOs due to higher sales to their facilities. As a percentage of net
sales, selling expenses increased to 10.3% as compared to 9.7% in 1997.
Distribution expenses were $5.7 million for 1998, an increase of $0.5
million or 9.0% over 1997. As a percentage of sales, distribution expenses
increased to 5.7% as compared to 5.3% in 1997. The increase is primarily the
result of increased freight rates from carriers.
14
<PAGE>
General and administrative expenses for 1998 were $10.3 million, a decrease
of $1.8 million or 10.2% over 1997. This decrease is primarily the result of
the elimination of certain costs associated with the Recapitalization and lower
management bonuses. These declines were partially offset by legal expenses of
approximately $300,000 relating to the successful defense of a patent
infringement lawsuit. As a percentage of net sales, general and administrative
expenses were 10.2% in 1998 as compared to 11.5% in 1997.
Research and development expenses were $1.9 million in 1998 and were
virtually unchanged from 1997. The Company expects research and development
expenses to remain constant for 1999.
The provision for equity participation plan consists of accrued expenses
and payments made to executives under the Equity Participation Plan. The Equity
Participation Plan was terminated upon consummation of the Recapitalization and
replaced with an executive stock purchase plan. See "Item 11. Executive
Compensation--Stock Purchase Plan." In 1998, the provision for equity
participation plan was $63.9 million, which included approximately $1.3 million
in employer taxes relating to the distribution made under the Equity
Participation Plan.
The provision for retention payments, including related employer payroll
taxes, was $4.8 million in 1998. These payments were made to substantially every
employee in the Company and were intended to ensure the continued employment of
all employees after the Recapitalization. No future retention payments are
anticipated.
Interest expense was $10.7 million for 1998, an increase of $8.9 million
over 1997. The increase was due to higher debt levels during 1998 as a result
of the Recapitalization. Interest expense is expected to increase in 1999
reflecting a full year of interest expense at the higher debt level.
Income tax benefit reflects the effects of the termination of the Company's
S corporation status upon the Recapitalization. The Company now provides for
federal and state income taxes as a C corporation. Actual tax payments are
expected to be substantially less than provided amounts due to the increased tax
basis in assets provided by the Section 338(h)(10) election made in connection
with the Recapitalization.
Year Ended December 26, 1997 Compared to Year Ended December 27, 1996
Net sales, reported net of accrued rebates, were $99.5 million in 1997, an
increase of $5.7 million or 6.0% over 1996. The increase in net sales was
primarily due to increased international and alternate site sales due to
increases in unit volume, which was partially offset by a slight decrease in
average selling price. For the year, international sales were $19.0 million, an
increase of $2.9 million or 18.2% over 1996, and alternate site sales were $14.6
million, an increase of $1.7 million or 13.1% over 1996. Sales to Southeast
Asia were adversely affected in 1997 due to economic conditions in the region.
Approximately 30% of the Company's 1997 total net sales were to a single
distributor.
The Company's gross profit for 1997 was $47.8 million, an increase of $3.3
million or 7.5% over 1996. As a percentage of net sales, the Company's gross
profit increased to 48.0% in 1997 from 47.4% in 1996. The Company has been able
to improve its gross profit margin primarily by transferring additional assembly
operations to its lower cost operation in Ensenada, Mexico, automating and
upgrading the manufacturing process for the Company's products, particularly
oxygen masks, and continued cost containment efforts relating to the Company's
overhead structure.
Selling expenses were $9.6 million for 1997, an increase of $0.7 million or
7.6% over 1996. As a percentage of net sales, selling expense increased to 9.7%
in 1997 from 9.5% in 1996. Selling expenses increased primarily as a result of
increased employee compensation related to increased sales commissions and
performance compensation in connection with the increase in net sales. In
particular, sales commissions increased in connection with sales of selected
products targeted by the Company's commission incentive program. Selling
expenses also increased as a result of fees paid to certain distributors in
connection with special promotional programs.
15
<PAGE>
Distribution expense was $5.2 million for 1997, an increase of $0.4 million
or 8.5% over 1996. This increase was due to increased sales volume. As a
percentage of net sales, distribution expense increased to 5.3% in 1997 from
5.1% in 1996. Freight charges relating to international sales are generally
paid by the distributor.
General and administrative expenses for 1997 were $11.5 million, an
increase of $0.2 million or 1.6% over 1996. As a percentage of net sales,
general and administrative expenses decreased to 11.5% in 1997 from 12.0% in
1996 as a result of the Company's continued cost containment efforts. General
and administrative expenses increased in absolute terms as a result of salary
and facility maintenance expense increases and upgrade of the Company's
management information systems.
Research and development expenses for 1997 were $1.8 million, a decrease of
$0.4 million or 18.1% from 1996. This decrease was the result of reduced head
count and outside consulting fees. The Company's research and development
efforts include expenditures intended to provide improved products to its
customers and to upgrade its manufacturing processes.
The provision for equity participation plan consisted of accrued expense of
$7.0 million in 1997, as compared with $8.2 million in 1996, reflecting the
total termination liability under the Equity Participation Plan at the end of
1997 and 1996, respectively.
Interest expense for 1997 was $1.8 million, a decrease of $0.3 million or
15.8% from 1996, primarily as a result of lower average outstanding debt
balances during 1997 as compared to 1996.
Prior to the Recapitalization, the Company was a Subchapter S corporation
and was not subject to federal income tax. Effective with the Recapitalization
the Company terminated S corporation status and is taxed as a Subchapter C
corporation.
SEASONALITY
The Company's results of operations exhibit some measure of seasonality.
Generally, the Company's sales and EBITDA before EPP and Retention Payments are
higher in the first and fourth quarters and lower in the second and third
quarters. This is due primarily to the higher incidence of breathing ailments,
such as colds and flu, during the winter months, which results in increased
hospitalization and respiratory care, especially among higher-risk individuals,
such as infants and the elderly. Fourth quarter sales are generally the
Company's highest, as distributors increase inventory in anticipation of the
cold and flu seasons. First quarter results are generally affected by the
length and severity of flu seasons. For example, management believes that the
first half of 1997 benefitted from an unusually strong flu season.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary sources of liquidity are cash flow from operations
and borrowings under its working capital bank facility. Cash provided by
operations totaled $16.1 million and $19.3 million in 1996 and 1997,
respectively, and cash provided by operations before EPP payments and retention
bonuses totaled $11.3 million in 1998. The increase from 1996 to 1997 reflects
the Company's increased sales volumes and improved operating margins, while the
decline in 1998 is primarily attributable to increased interest expense due to
higher debt levels. The Company had operating working capital, excluding cash
and short-term debt, of $26.8 million, $10.0 million and $32.0 million as of the
end of fiscal 1996, 1997 and 1998, respectively. Inventories were $14.0
million, $16.6 million and $18.0 million as of the end of fiscal 1996, 1997 and
1998, respectively. In order to meet the needs of its customers, the Company
must maintain inventories sufficient to permit same-day or next-day filling of
most orders. Such inventories are higher than those that would be required for
delayed filling of orders, thus adversely impacting liquidity. Over time, the
Company expects its level of inventories to increase as the Company's sales in
the international market increase. Accounts receivable, net of allowances, were
$20.7 million, $21.3 million and $25.8 million at the end of fiscal 1996, 1997
and 1998, respectively. The average number of days sales in accounts receivable
outstanding was approximately 84 days
16
<PAGE>
for 1998, compared to 77 days for 1997 and 74 days for 1996. The Company offers
30 day credit terms to its U.S. hospital distributors. Alternate site and
international customers typically receive 60 to 90 day terms and, as a result,
as the Company's alternate site and international sales have increased, the
amount and aging of its accounts receivable have increased. As a result, the
Company anticipates that the amount and aging of its accounts receivable will
continue to increase. The Company is planning to establish in 1999 a
distribution warehouse and sales office outside of the United States. While this
will have the effect of increasing the Company's investment in inventories, it
may also result in lower international accounts receivable than would otherwise
be the case because customers will receive products, and consequently pay for
them, more quickly.
In connection with the Recapitalization, the Company made cash payments
under the Equity Participation Plan of $89.3 million in the year ended December
25, 1998, which it funded with the proceeds of the debt and equity transactions
that were part of the Recapitalization.
Net cash used in investing activities was $11.4 million, $3.7 million and
$6.4 million in 1996, 1997 and 1998, respectively. These funds were primarily
used to finance the acquisition of the passive humidification product line in
1996 and the custom anesthesia circuit product line in 1998 and for capital
expenditures. Capital expenditures, consisting primarily of new manufacturing
equipment purchases and expansion of the Ensenada facility, totaled $6.4
million, $4.7 million and $3.1 million in 1996, 1997 and 1998, respectively.
The decrease in 1997 and 1998 resulted from temporary delays in projects that
the Company completed in 1998 and anticipates will be completed in 1999. The
Company currently estimates that capital expenditures will be approximately $7.0
million in each of 1999 and 2000, consisting primarily of additional and
replacement manufacturing equipment and new heater placements.
Net cash used in financing activities was $3.7 million and $16.4 million in
1996 and 1997, respectively, which consisted primarily of repayment of debt and
shareholder distributions principally to pay taxes on income passed through by
the Company. During the year ended December 25, 1998, net cash provided by
financing was $89.6 million, reflecting net borrowings by the Company.
The Company has outstanding $159.0 million of indebtedness, consisting of
$115.0 million of Subordinated Notes issued in connection with the
Recapitalization and borrowings of $44.0 million under the Company's Credit
Facility entered into in connection with the Recapitalization.
The Credit Facility consists of a $40.0 million Term Loan Facility (all of
which was funded in connection with the Recapitalization) and a $60.0 million
Revolving Loan Facility. The Revolving Loan Facility has a letter of credit
sublimit of $7.5 million. The Term Loan Facility matures on the sixth
anniversary of the initial borrowing and, commencing June 30, 1999, requires
quarterly principal installments of $3.0 million in 1999, $4.0 million in 2000,
$7.0 million in 2001, $9.0 million in 2002, $11.0 million in 2003, and $10.0
million in 2004. The Revolving Loan Facility matures on the sixth anniversary of
the initial borrowing. The interest rate under the Credit Facility is based, at
the option of the Company, upon either a Eurodollar rate plus 2.50% per annum or
a base rate (as defined) plus 1.50% per annum, each less an applicable pricing
adjustment (as defined). Borrowings under the Credit Facility are required to be
prepaid, subject to certain exceptions, with (i) 75% (or 50% for years when the
Company's ratio of Debt to EBITDA (as defined) is less than 5:1) of Excess Cash
Flow (as defined), (ii) 50% of the net cash proceeds of an equity issuance by
the Company in connection with an initial public offering or 100% of the net
cash proceeds of an equity issuance by the Company other than in connection with
an initial public offering, (iii) 100% of the net cash proceeds of the sale or
other disposition of any properties or assets of Holding and its subsidiaries
(subject to certain exceptions), (iv) 100% of the net proceeds of certain
issuances of debt obligations of Hudson RCI and its subsidiaries and (v) 100% of
the net proceeds from insurance recoveries and condemnations. The Revolving Loan
Facility must be prepaid upon payment in full of the Term Loan Facility.
The Credit Facility is guaranteed by Holding and all existing and
subsequently acquired or organized domestic and, to the extent no adverse tax
consequences would result, foreign, subsidiaries of the Company. The Credit
Facility is secured by a first priority lien in substantially all of the
properties and assets of the Company and the guarantors now owned or acquired
later, including a pledge of all of the capital stock of the Company owned by
Holding and all of the
17
<PAGE>
shares held by the Company of its existing and future subsidiaries; provided,
that such pledge is limited to 65% of the shares of any foreign subsidiary to
the extent a pledge of a greater percentage would result in adverse tax
consequences to the Company.
The Credit Facility contains covenants restricting the ability of Holding,
the Company and the Company's subsidiaries to, among others, (i) incur
additional debt, (ii) declare dividends or redeem or repurchase capital stock,
(iii) prepay, redeem or purchase debt, (iv) incur liens, (v) make loans and
investments, (vi) make capital expenditures, (vii) engage in mergers,
acquisitions and asset sales, (viii) engage in transactions with affiliates.
Hudson RCI is also required to comply with financial covenants with respect to
(a) limits on annual aggregate capital expenditures, (b) a fixed charge coverage
ratio, (c) a maximum leverage ratio, (d) a minimum EBITDA test and (e) an
interest coverage ratio.
The Subordinated Notes bear interest at the rate of 91/8%, payable
semiannually on each April 15 and October 15, and will require no principal
repayments until maturity. The Subordinated Notes are general unsecured
obligations of the Company. The Subordinated Notes contain covenants that place
limitations on, among other things, (i) the ability of the Company, any
subsidiary guarantors and other restricted subsidiaries to incur additional
debt, (ii) the making of certain restricted payments including investments,
(iii) the creation of certain liens, (iv) the issuance and sale of capital stock
of restricted subsidiaries, (v) asset sales, (vi) payment restrictions affecting
restricted subsidiaries, (vii) transactions with affiliates, (viii) the ability
of the Company and any subsidiary guarantor to incur layered debt, (ix) the
ability of Holding to engage in any business or activity other than those
relating to ownership of capital stock of the Company and (x) certain mergers,
consolidations and transfers of assets by or involving the Company.
In connection with the Recapitalization, the Company issued to Holding
300,000 shares of its 11 1/2% Senior PIK Preferred Stock due 2010 with an
aggregate liquidation preference of $30.0 million, which has terms and
provisions materially similar to those of the Holding Preferred Stock (the
"Mirror Preferred Stock"). At the election of the Company, dividends may be
paid in kind until April 15, 2003 and thereafter must be paid in cash.
Holding is a holding company and will rely on dividends from Hudson RCI as
its primary source of liquidity. Holding does not have and in the future will
not have any assets other than the capital stock of Hudson RCI. The ability of
Hudson RCI to pay cash dividends to Holding when required is restricted by law
and restricted or prohibited under the terms of Hudson RCI's debt instruments,
including the Credit Facility. No assurance can be made that Hudson RCI will be
able to pay cash dividends to Holding when required on the Mirror Preferred
Stock.
The Company believes that after giving effect to the Recapitalization and
the incurrence of indebtedness related thereto, based on current levels of
operations and anticipated growth, its cash from operations, together with other
available sources of liquidity, including $54.0 million in borrowings available
under the Revolving Loan Facility, will be sufficient over the next twelve
months to fund anticipated capital expenditures and acquisitions and to make
required payments of principal and interest on its debt, including payments due
on the Subordinated Notes and obligations under the Credit Facility. The
Company intends to selectively pursue strategic acquisitions, both domestically
and internationally, to expand its product line, improve its market share
positions and increase cash flows. Financing for such acquisitions is
available, subject to limitations, under the Credit Facility. Any significant
acquisition activity by the Company in excess of such amounts would require
additional capital, which could be provided through capital contributions or
debt financing. The Company has no commitments for such acquisition financing
and to the extent financing is unavailable, acquisitions may be delayed or not
completed.
YEAR 2000 COMPLIANCE
The following discussion about the implementation of the Company's Year
2000 program, the costs expected to be associated with the program and the
results the Company expects to achieve constitute forward-looking information.
As noted below, there are many uncertainties involved in the Year 2000 issue,
including the extent to which the Company will be able to adequately provide for
contingencies that may arise, as well as the broader scope of the Year 2000
issue as it may affect third parties and the Company's key trading partners.
Accordingly, the costs and results of the Company's Year 2000 program and the
extent of any impact on the Company's results of operations could vary
materially from that stated herein.
18
<PAGE>
A significant percentage of software that runs on most computers relies on
two-digit date codes to perform computations and decision-making functions.
Commencing on January 1, 2000, these computer programs may fail from an
inability to interpret date codes properly, misinterpreting "00" as the year
1900 rather than 2000. The Company has completed the identification of all
necessary internal software changes to ensure that it does not experience any
loss of critical business functionality due to the Year 2000 issue. The Company
has already completed an assessment of all internal software, hardware and
operating systems and has made all necessary hardware and software changes as a
result of such assessment. The Company does not believe that its systems will
encounter any material "Year 2000" problems. Since the internal Year 2000 issues
identified by the Company do not require any significant changes to hardware or
software, the Company does not believe that the cost to correct them will be
material. The Company's products are not subject to Year 2000 problems.
The Company also relies, directly and indirectly, on the external systems
of various independent business enterprises, such as its customers, suppliers,
creditors, financial organizations, and of governments, for the accurate
exchange of data and related information. The Company could be affected as a
result of any disruption in the operation of the various third-party enterprises
with which the Company interacts. The Company is in the process of implementing
a program to assess and monitor the progress of these third parties in resolving
Year 2000 issues, and to determine whether any Year 2000 issues encountered by a
third party would pose a business risk to the Company. Toward this goal, the
Company is contacting its key trading partners to assess its Year 2000 risk
based upon the Year 2000 issues of its partners. The Company expects the
assessment will be completed by mid-year 1999. The Company does not expect the
cost of this program to be material.
The Company believes the worst case scenario in the event of a Year-2000
related failure would be its inability to communicate via computer transmission
with its key trading partners. The Company has begun to develop contingency
plans in the event such a business interruption caused by Year 2000 problems
should occur, including investigating back-up suppliers who are Year 2000
compliant. The Company cannot provide any assurance that Year 2000 related
systems issues of third parties will be corrected in a timely manner or that the
failure of these third parties to correct these issues would not have a material
adverse effect on the Company.
The total costs of the Year 2000 program are anticipated to be less than
$100,000, some of which has been expended to date. The costs and time estimates
of the Year 2000 project are based on the Company's best estimates. There can be
no assurance that these estimates will be achieved and that planned results will
be achieved. Risk factors include, but are not limited to, the retention of
internal resources dedicated to the project and the successful completion of key
business partners' Year 2000 projects.
RECENT ACCOUNTING PRONOUNCEMENTS
Statement of Financial Accountings Standards ("SFAS") No. 129 Disclosure of
Information about Capital Structure was issued in February 1997 and was adopted
by the Company as of December 26, 1997. SFAS No. 130 Reporting Comprehensive
Income and SFAS No. 131 Disclosures about Segments of an Enterprise and Related
Information were issued in June 1997. SFAS No. 130 was adopted by the Company in
the first quarter of fiscal 1998. SFAS No. 131 has been adopted in the Company's
1998 year-end financial statements. SFAS No. 133 Accounting for Derivative
Instruments and Hedging Activities was issued in June 1998. Because the Company
has no derivative instruments and does not engage in hedging activities, SFAS
No. 133 will not impact the Company.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK.
Quantitative Disclosures. The Company is exposed to certain market risks
associated with interest rate fluctuations on its debt. All debt arrangements
are entered into for purposes other than trading. Because the Company's sales
are U.S.-dollar denominated, the Company is not subject to risks from currency
rate fluctuations. In addition, the Company does not utilize hedging contracts
or similar instruments with respect to the commodities it purchases for
manufacturing.
19
<PAGE>
The Company's exposure to interest rate risk arises from financial
instruments entered into in the normal course of business that, in some cases,
relate to the Company's acquisitions of related businesses. Certain of the
Company's financial instruments are fixed rate, short-term investments which are
held to maturity. The Company's fixed rate debt consists primarily of
outstanding balances on the Subordinated Notes and its variable rate debt
relates to borrowings under the Credit Facility (see "Item 7. Management's
Discussion and Analysis and Results of Operations--Liquidity and Capital
Resources"). With respect to the Company's fixed rate debt, changes in interest
rates generally affect the fair value of such debt, but do not have an impact on
earnings or cash flows. Because the Company generally cannot prepay its fixed
rate debt prior to maturity, interest rate risk and changes in fair value should
not have a significant impact on this debt until the Company is required to
refinance. With respect to variable rate debt, changes in interest rates affect
earnings and cash flows, but do not impact fair value. The impact on the
Company's interest expense in the upcoming year of a one-point interest rate
change on the outstanding balance of the Company's variable rate debt would be
approximately $440,000.
The following table presents the future principal cash flows and weighted-
average interest rates expected on the Company's existing long-term debt
instruments. The fair value of the Company's fixed rate debt is estimated based
on quoted market prices.
EXPECTED MATURITY DATE
(AS OF DECEMBER 25, 1998)
<TABLE>
<CAPTION>
FISCAL FISCAL FISCAL FISCAL FISCAL THERE- FAIR
1999 2000 2001 2002 2003 AFTER TOTAL VALUE
-------- -------- -------- -------- -------- ---------- --------- ---------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Fixed Rate Debt $ -- $ -- $ -- $ -- $ -- $115,000 $115,000 $92,000
Average Interest Rate -- -- -- -- -- 9.125%
Variable Rate Debt $3,000 $4,000 $7,000 $9,000 $11,000 $ 10,000 $ 44,000 $44,000
Average Interest Rate 8.06% 7.81% 7.81% 7.81% 7.81% 7.81%
</TABLE>
Qualitative Disclosures. The Company's primary exposure relates to (1)
interest rate risk on long-term and short-term borrowings, (2) the Company's
ability to pay or refinance long-term borrowings at maturity at market rates,
(3) the impact of interest rate movements on the Company's ability to meet
interest expense requirements and exceed financial covenants and (4) the impact
of interest rate movements on the Company's ability to obtain adequate financing
to fund future acquisitions. The Company manages interest rate risk on its
outstanding long-term and short-term debt through the use of fixed and variable
rate debt. While the Company can not predict or manage its ability to refinance
existing debt or the impact interest rate movements will have on its existing
debt, management evaluates the Company's financial position on an ongoing basis.
ITEM 8. FINANCIAL STATEMENTS.
See the Index included at "Item 14. Exhibits, Financial Statement Schedules
and Reports on Form 8-K."
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
20
<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The following individuals are the executive officers and directors of
Holding and Hudson RCI:
<TABLE>
<CAPTION>
NAME AGE POSITION
- ---------------------------------- --- -------------------------------------------------
<S> <C> <C>
Richard W. Johansen............... 47 President, Chief Executive Officer and Director
Lougene Williams.................. 54 Senior Vice President
Jay R. Ogram...................... 43 Chief Financial Officer
Brian W. Morgan................... 59 Vice President, Human Resources
Helen Hudson Lovaas............... 60 Director
Jon D. Ralph...................... 34 Director
Charles P. Rullman................ 50 Director
Ronald P. Spogli.................. 51 Director
</TABLE>
Richard W. Johansen is President, Chief Executive Officer and Director of
the Company and assumed the same positions with Holding after consummation of
the Recapitalization. Mr. Johansen became President of the Company in 1993 and
assumed the additional responsibilities of Chief Executive Officer in May 1997.
From 1989 to 1993, he served as Vice President, Marketing and Sales for the
Company following the 1989 acquisition of Respiratory Care Inc. by Hudson RCI.
He held the same position with Respiratory Care Inc. as well as prior executive
positions in the area of business development with its parent company, The
Kendall Company.
Lougene Williams is a Senior Vice President of the Company responsible for
its product development, quality assurance and manufacturing operations, having
served in this capacity since 1996, and assumed the same position with Holding
after consummation of the Recapitalization. Prior to 1996, he was the Company's
Vice President, Manufacturing, having held a similar position with Respiratory
Care Inc. From 1976 to 1987, he held manufacturing management positions of
increasing responsibility at various manufacturing plants of The Kendall
Company.
Jay R. Ogram is the Company's Chief Financial Officer, having served in
this capacity since 1996, and assumed the same position with Holding after
consummation of the Recapitalization. From 1984 until his assumption of Chief
Financial Officer responsibilities, Mr. Ogram held prior positions as Accounting
Manager and Vice President and Controller of the Company. Prior to joining the
Company, he had held executive positions in financial management with a major
health care company.
Brian W. Morgan is Vice President, Human Resources, having held this
position since 1989, and assumed the same position with Holding after
consummation of the Recapitalization. Mr. Morgan held similar positions in
human resources at Respiratory Care Inc. since 1978.
Helen Hudson Lovaas is a director of the Company and became a director of
Holding after consummation of the Recapitalization. Mrs. Lovaas began her
career at the Company in 1961. She has been Chairman since 1987, when she
inherited ownership of the Company and served as Chief Executive Officer from
1987 until May 1997. Mrs. Lovaas had served previously as the Vice President of
Administration of Hudson Oxygen for 15 years.
Jon D. Ralph became a director of Hudson RCI and of Holding in connection
with the Recapitalization. Mr. Ralph joined Freeman Spogli in 1989 and became a
Principal in January 1998. Prior to joining Freeman Spogli, Mr. Ralph spent
three years at Morgan Stanley & Co. Incorporated where he served as an analyst
in the Investment Banking Division. Mr. Ralph is also a director of Century
Maintenance Supply, Inc., Envirosource, Inc. and The Pantry, Inc.
21
<PAGE>
Charles P. Rullman became a director of Hudson RCI and of Holding in
connection with the Recapitalization. Mr. Rullman joined Freeman Spogli as a
Principal in 1995. From 1992 to 1995, Mr. Rullman was a General Partner of
Westar Capital, a private equity investment firm specializing in middle-market
transactions. Prior to joining Westar, Mr. Rullman spent twenty years at
Bankers Trust Company and its affiliate BT Securities Corporation where he was a
Managing Director and Partner. Mr. Rullman is also a director of The Pantry,
Inc.
Ronald P. Spogli became a director of Hudson RCI and of Holding in
connection with the Recapitalization. He is a founding Principal of Freeman
Spogli, which was founded in 1983. Mr. Spogli is also a director of Advance
Holding Corporation, Advance Stores Company, Incorporated, AFC Enterprises,
Inc., Century Maintenance Supply, Inc. and Envirosource, Inc.
Directors of Hudson RCI and of Holding are elected annually and hold office
until the next annual meeting of stockholders and until their successors are
duly elected and qualified.
ITEM 11. EXECUTIVE COMPENSATION.
The following table sets forth the compensation earned by the Company's
Chairman and Chief Executive Officer and the three executive officers who earned
salary and bonus in excess of $100,000 for services rendered in all capacities
to the Company and its subsidiaries for the fiscal year ended December 25, 1998
(collectively, the "Named Executive Officers"). The Company has no other
executive officers.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
ANNUAL COMPENSATION
----------------------------------
OTHER ANNUAL ALL OTHER
FISCAL COMPENSATION COMPENSATION
NAME AND PRINCIPAL POSITION YEAR SALARY BONUS (1) (2)
- ------------------------------------------------ ------ ---------- --------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Richard W. Johansen............................. 1998 $265,500 $131,567 $14,853,967 $ 9,000
President and Chief Executive Officer 1997 256,535 141,101 1,350,000 9,000
Lougene Williams................................ 1998 $182,000 $ 64,257 $ 6,116,222 $ 9,000
Senior Vice President 1997 180,005 70,475 556,000 9,000
Jay R. Ogram.................................... 1998 $142,000 $ 43,228 $ 6,116,222 $ 8,520
Chief Financial Officer 1997 140,250 48,357 556,000 8,394
Brian W. Morgan................................. 1998 $127,320 $ 38,506 $ 4,527,873 $ 7,634
Vice President, Human Resources 1997 127,368 42,984 238,000 7,477
</TABLE>
_____________________
(1) Reflects amounts earned by the Named Executive Officers during 1997 and
1998 and paid in 1998 under the Equity Participation Plan. During 1998, no
executive officer named above received perquisites and other personal
benefits, securities or property in an aggregate amount in excess of the
lesser of $50,000 or 10% of the total of such officer's salary and bonus
nor did any such officer receive any restricted stock award or stock
appreciation right.
(2) Represents payments by the Company under its defined contribution plan.
EXECUTIVE EMPLOYMENT AGREEMENTS
On April 7, 1998, the Company entered into employment agreements with each
of the Named Executive Officers. Each Named Executive Officer receives a base
salary in an amount and on substantially the same terms and conditions as was
being paid by the Company on that date and an annual cash bonus in accordance
with the Company's existing incentive programs. Pursuant to the employment
agreements, in the event that employment is terminated by the Company other than
for cause (as such term is defined in the employment agreements), or if the
Named Executive
22
<PAGE>
Officer resigns pursuant to a "qualifying resignation" (as such term is defined
in the employment agreements), the Company will be required to pay such Named
Executive Officer's base salary for a period of between 12 and 24 months. The
employment agreements also provide for nondisclosure of confidential
information, that the Named Executive Officer shall not engage in any prohibited
activity (as such term is defined in the employment agreement) during the term
of employment and that the Named Executive Officer will refrain from interfering
with the Company's contractual relationships or soliciting the Company's
employees for 12 months following the Named Executive Officer's termination.
COMPENSATION OF DIRECTORS
Directors of the Company receive no compensation as directors. Directors
are reimbursed for their reasonable expenses in attending meetings.
MANAGEMENT BONUS PLANS
The Company offers two management bonus plans for its executives, one for
senior management and one for executive management. The plan for senior
management is based on a combination of the financial goals of the Company and
goals set for individual employees. The plan has minimum goals of 70%
attainment for operating income before EPP and 75% attainment of the individual
plan. The payout is based 70% on attainment of Company financial performance
and 30% attainment of individual performance goals. The plan for executive
management is based on the financial goals of the Company. The payout to an
individual is based on his or her bonus level and the percentage attainment of
the operating income before EPP goal for the Company. In order to participate,
70% of operating income before EPP must be achieved.
RETIREMENT PLANS
The Company sponsors two programs that assist its employees in planning for
retirement. The Company offers a defined contribution pension plan that is
funded by the Company. Employees must be at least 21 years of age and have
completed two years of service to be eligible to participate in the pension
plan. The Company annually contributes an amount equal to 6% of a participating
employee's base earnings to a participant's account, prorated for any part of a
year that a participant was ineligible for a contribution. The funding also
includes a proportionate share of any increase or decrease in the fair market
value of the assets in the trust fund as of the immediately preceding last day
of the plan year. In addition, employees may contribute to a 401(k) plan that
has no matching contributions by the Company. Employees must have six months of
service to be eligible to participate in the 401(k) plan and may contribute up
to 10% of their annual compensation, or 6% if the employee is a highly
compensated participant.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Board of Directors of the Company determines the compensation of the
executive officers. During fiscal 1998, Mr. Rullman determined the compensation
of the Company's Chief Executive Officer and Mr. Rullman and Mr. Johansen
participated in deliberations regarding the compensation of the Company's other
executive officers.
STOCK SUBSCRIPTION PLANS
In April 1998, Holding adopted an Employee Stock Subscription Plan and an
Executive Stock Subscription Plan (collectively, the "Stock Subscription Plans")
pursuant to which executives of the Company purchased 800,000 shares of common
stock of Holding valued at $10.00 per share. The Stock Subscription Plans
provide for a repurchase option in favor of Holding upon termination of
employment at stated repurchase prices. In addition, the Stock Subscription
Plans provide for restrictions on the transferability of shares prior to the
fifth anniversary of the Recapitalization or Hudson RCI's initial public
offering. The shares are also subject to a right of first refusal in favor of
Holding as well as obligations to sell at the request of Freeman Spogli and co-
sale rights if Freeman Spogli sells its shares to a third party.
23
<PAGE>
The following table sets forth, for the Chief Executive Officer and the
Named Executive Officers, the number of shares purchased pursuant to the Stock
Purchase Plans:
<TABLE>
<CAPTION>
NAME NUMBER OF SHARES
- -------------------------------- ----------------
<S> <C>
Richard W. Johansen............. 300,000(1)
Lougene Williams................ 100,000
Jay R. Ogram.................... 100,000
Brian W. Morgan................. 15,000
</TABLE>
________________
(1) Represents shares held of record by the Johansen Family Trust U/D/T dated
8/16/91, of which Mr. Johansen and his wife, Barbara L. Johansen, are the
trustees.
24
<PAGE>
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
RIVER HOLDING CORP.
The following table sets forth certain information, as of March 25, 1999,
with respect to the beneficial ownership of capital stock of Holding by (i) each
person who beneficially owns more than 5% of such shares, (ii) each of the Named
Executive Officers, (iii) each director of Holding and (iv) all Named Executive
Officers and directors of Holding as a group. The following table should be
read in conjunction with the security ownership table for Hudson RCI.
<TABLE>
<CAPTION>
SHARES OF PERCENT SHARES OF PERCENT
COMMON OF PREFERRED OF
NAME OF BENEFICIAL OWNER STOCK CLASS STOCK CLASS
- ------------------------------------------------------------ -------- ------- --------- ------
<S> <C> <C> <C> <C>
Freeman Spogli & Co. Incorporated(1)........................ 5,500,000 87.1% - -
Ronald P. Spogli(1)
Charles P. Rullman(1)
Jon D. Ralph(1)
Richard W. Johansen(2)(3)................................... 300,000 4.8% - -
Lougene Williams(3)......................................... 100,000 1.6% - -
Jay R. Ogram(3)............................................. 100,000 1.6% - -
Brian W. Morgan(3).......................................... 15,000 0.2% - -
Helen Hudson Lovaas(3)...................................... -- -- - -
All named Executive Officers and directors of Holding as a
group (8 individuals)...................................... 6,015,000 95.3% - -
</TABLE>
__________________
(1) 1,441,251 shares, 58,749 shares and 4,000,000 shares of common stock are
held of record by FS Equity Partners III, L.P. ("FSEP III"), FS Equity
Partners International, L.P. ("FSEP International") and FS Equity Partners
IV, L.P. ("FSEP IV"), respectively. As general partner of FS Capital
Partners, L.P. ("FS Capital"), which is general partner of FSEP III, FS
Holdings, Inc. ("FSHI") has the sole power to vote and dispose of the
shares owned by FSEP III. As general partner of FS&Co. International, L.P.
("FS&Co. International"), which is the general partner of FSEP
International, FS International Holdings Limited ("FS International
Holdings") has the sole power to vote and dispose of the shares owned by
FSEP International. As general partner of FSEP IV, FS Capital Partners LLC
("FS Capital LLC") has the sole power to vote and dispose of the shares
owned by FSEP IV. Messrs. Spogli and Rullman and Bradford M. Freeman,
William M. Wardlaw, J. Frederick Simmons and John M. Roth are the sole
directors, officers and shareholders of FSHI, FS International Holdings and
Freeman Spogli & Co. Incorporated and such individuals, in addition to Mr.
Ralph and Todd W. Halloran and Mark J. Doran, are the sole managing members
of FS Capital LLC, and as such may be deemed to be the beneficial owners of
the shares of the common stock and rights to acquire the common stock owned
by FSEP III, FSEP International and FSEP IV. The business address of
Freeman Spogli & Co. Incorporated, FSEP III, FSEP IV, FS Capital, FSHI, FS
Capital LLC, and its sole directors, officers, shareholders and managing
members is 11100 Santa Monica Boulevard, Suite 1900, Los Angeles,
California 90025 and the business address of FSEP International, FS&Co.
International and FS International Holdings is c/o Padget-Brown & Company,
Ltd., West Winds Building, Third Floor, Grand Cayman, Cayman Islands,
British West Indies.
(2) Represents shares held of record by the Johansen Family Trust U/D/T dated
8/16/91 (the "Trust"), of which Mr. Johansen and his wife, Barbara L.
Johansen, are the trustees.
(3) The business address of these individuals is River Holding Corp., 599
Lexington Avenue, 18th Floor, New York, New York 10022.
25
<PAGE>
HUDSON RCI
The following table sets forth certain information, as of March 25, 1999,
with respect to the beneficial ownership of capital stock of the Company by (i)
each person who beneficially owns more than 5% of such shares, (ii) each of the
Named Executive Officers, (iii) each director of Hudson RCI and (iv) all Named
Executive Officers and directors of Hudson RCI as a group. The following table
should be read in conjunction with the security ownership table for Holding.
<TABLE>
<CAPTION>
SHARES OF SHARES OF
COMMON PERCENT PREFERRED PERCENT
NAME OF BENEFICIAL OWNER STOCK OF CLASS STOCK OF CLASS
- ------------------------------------------------------ --------- -------- --------- --------
<S> <C> <C> <C> <C>
River Holding Corp.(1)................................ 6,312,500 80.8% 318,014 100%
Jon D. Ralph(1).....................................
Charles P. Rullman(1)...............................
Ronald P. Spogli(1).................................
Helen Hudson Lovaas(2)................................ 1,500,000 19.2% -- --
Richard W. Johansen(3)................................ -- -- -- --
Lougene Williams(3)................................... -- -- -- --
Jay R. Ogram(3)....................................... -- -- -- --
Brian W. Morgan(3).................................... -- -- -- --
All Named Executive Officers and directors of the
Company as a group (8 individuals)................... 7,812,500 100.0% -- --
</TABLE>
________________
(1) As beneficial owner of 87.1% of the common stock of Holding, Freeman Spogli
will have the power to vote and dispose of the shares held by Holding. See
footnote (i) at "--River Holding Corp." Holding has pledged all shares of
the Company's capital stock held by it to secure its guarantee of the
Company's obligations under the New Credit Facility.
(2) Represents shares held of record by the Helen Lovaas Separate Property
Trust U/D/T dated 7/17/97 (the "Trust"). As sole trustee of the Trust, Mrs.
Lovaas has the sole power to vote and dispose of the shares owned by the
Trust. The address of the Trust is c/o Hudson Respiratory Care Inc., 27711
Diaz Road, P.O. Box 9020, Temecula, California 92589.
(3) The business address of these individuals is Hudson Respiratory Care Inc.,
27711 Diaz Road, P.O. Box 9020, Temecula, California 92589.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
SHAREHOLDERS' AGREEMENT
The Continuing Shareholder and Holding have entered into a Shareholders'
Agreement, as amended (the "Shareholders' Agreement"). Under the Shareholders'
Agreement, Holding and the Continuing Shareholder have the right to purchase
their pro rata share of certain new issuances of capital stock by Hudson RCI.
In addition, the Shareholders' Agreement provides that upon certain issuances of
common stock of Holding to employees of the Company, and contribution of the
consideration received for such issuance to Hudson RCI, an equivalent number of
shares of Hudson RCI's common stock will be issued to Holding. The
Shareholders' Agreement provides for restrictions on the transferability of the
shares held by the Continuing Shareholder for a period of two years following
the consummation of the Recapitalization, and provides for a right of first
offer on the Continuing Shareholder's common stock. In addition, the agreement
provides that upon sales by Holding of common stock of Hudson RCI or by Freeman
Spogli of common stock of Holding, the Continuing Shareholder is obligated to
sell all its shares of
26
<PAGE>
common stock at the request of Holding and the Continuing Shareholder has the
right to participate in such sale on a pro rata basis. If Hudson RCI engages in
an initial public offering with respect to its common stock, the Shareholders'
Agreement provides that Holding will exchange all of the common stock of Hudson
RCI it holds for newly issued common stock of Hudson RCI and the Mirror
Preferred Stock (as defined below) will be exchanged, at Holding's option, into
Company Preferred Stock or Company Exchange Debentures, which in turn will be
exchanged for Exchange Preferred Stock. Holding will then liquidate and
distribute Hudson RCI's common stock to its common holders. Hudson RCI will
grant unlimited piggyback registration rights (after an initial public offering)
to Freeman Spogli and the Continuing Shareholder and, commencing six (6) months
after the initial public offering, three (3) demand registrations to Freeman
Spogli, and one demand registration to the Continuing Shareholder. The
Shareholders' Agreement provides that the parties thereto will vote their shares
to elect Helen Hudson Lovaas to the Board of Directors.
PAYMENTS RELATING TO THE RECAPITALIZATION
In connection with the Recapitalization, two trusts of which Mrs. Lovaas
is the sole trustee received payments of an aggregate of $131.1 million. In
addition, Freeman Spogli received a transaction fee of $4.0 million. Under the
Equity Participation Plan, upon consummation of the Recapitalization, certain
employees of the Company received an aggregate of $89.6 million, a substantial
portion of which was received by the Named Executive Officers.
27
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) Documents filed as part of this Report:
<TABLE>
<CAPTION>
PAGE
<S> <C>
(1) Index to Financial Statement Schedules:
Report of Independent Accountants on Financial Statement Schedule of Arthur
Andersen LLP................................................................. S-1
Schedule I--Valuation and Qualifying Accounts for Hudson Respiratory
Care Inc..................................................................... S-2
(2) Index to the Consolidated Financial Statements:
FINANCIAL STATEMENTS - RIVER HOLDING CORP. AND SUBSIDIARIES
Report of Independent Public Accountants.................................................. F-1
Consolidated Balance Sheets as of December 25, 1998....................................... F-2
Consolidated Statements of Operations for the Period from April 7, 1998
(Inception) to December 25, 1998................................................... F-4
Consolidated Statements of Stockholder's Equity for the Period from April 7, 1998
(Inception) to December 25, 1998................................................... F-5
Consolidated Statement of Cash Flows for the Period from April 7, 1998
(Inception) to December 25, 1998............................................... F-6
Notes to Consolidated Financial Statements................................................ F-8
FINANCIAL STATEMENTS - HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
Report of Independent Public Accountants.................................................. F-17
Consolidated Balance Sheets as of December 26, 1997 and December 25, 1998................. F-18
Consolidated Statements of Operations for the Years Ended December 27, 1996,
December 26, 1997 and December 25, 1998............................................ F-20
Consolidated Statements of Common Stockholders' Equity for Years Ended
December 27, 1996, December 26, 1997 and December 25, 1998......................... F-22
Consolidated Statements of Cash Flows for Years Ended December 27, 1996,
December 26, 1997 and December 25, 1998............................................ F-23
Notes to Consolidated Financial Statements................................................ F-25
</TABLE>
(3) Exhibits.
Exhibit
Number Description
------- -----------
1.1(2) Purchase Agreement dated April 2, 1998 among Hudson
Respiratory Care Inc. ("Hudson RCI"), River Holding
Corp. ("Holding"), Salomon Brothers Inc and BT
Alex. Brown Incorporated.
2.1(2) Amended and Restated Merger Agreement dated March
15, 1998 among Holding, River Acquisition Corp.,
Hudson RCI and the shareholders of Hudson RCI.
3.1(1) Certificate of Incorporation of Holding, as
amended to date.
3.2(1) Amended and Restated Bylaws of Holding.
3.3(3) Amended and Restated Articles of Incorporation of
Hudson RCI.
3.4(4) Amended and Restated Bylaws of Hudson RCI.
4.1(2) Indenture dated as of April 7, 1998 among Hudson
RCI, Holding and United States Trust Company of New
York, as Trustee, with respect to the 9 1/8% Senior
Subordinated Notes due 2008 (including form of 9
1/8% Senior Note due 2008).
28
<PAGE>
Exhibit
Number Description
-------- -----------
4.2(2) Exchange Indenture dated as of April 7, 1998 among
Hudson RCI, Holding and United States Trust Company
of New York, as Trustee, with respect to the 11
1/2% Subordinated Exchange Debentures due 2010
(including form of 11 1/2% Senior Subordinated
Exchange Debenture due 2010).
4.3(2) Registration Agreement dated April 7, 1998 among
Hudson RCI, Holding, Salomon Brothers Inc and BT
Alex. Brown Incorporated.
10.1(2) Credit Agreement dated as of April 7, 1998 among
Hudson RCI, Holding, the lenders party thereto,
Salomon Brothers Inc. and Bankers Trust Company
("Bankers Trust").
10.2(2) Security Agreement dated as of April 7, 1998
between Hudson RCI and Bankers Trust.
10.3(2) Pledge Agreement dated as of April 7, 1998 between
Holding and Bankers Trust.
10.4(2) Deed of Trust, Security Agreement, Fixture Filing
and Assignment of Leases and Rents dated April 7,
1998 between Hudson RCI and Chicago Title Insurance
Company fbo Bankers Trust.
10.5(2) Holding Guarantee Agreement dated as of April 7,
1998 between Holding and Bankers Trust.
10.6(2) Indemnity, Subrogation and Contribution Agreement
dated as of April 7, 1998 among Hudson RCI, Holding
and Bankers Trust.
10.7(2) Shareholders Agreement dated April 7, 1998 among
Holding, The Helen Hudson Lovaas Separate Property
Trust U/D/T dated July 17, 1997 (the "Hudson
Trust"), FS Equity Partners III, L.P. ("FSEP III"),
FS Equity Partners International, L.P. ("FSEP
International"), FS Equity Partners IV, L.P. ("FSEP
IV"), and Hudson RCI.
10.8(1) 1998 Employee Stock Subscription Plan dated April
7, 1998.
10.9(1) 1998 Executive Stock Subscription Plan dated April
7, 1998.
10.10(1) Form of Stock Subscription Agreement for 1998
Employee Stock Purchase Plan.
10.11(1) Form of Stock Subscription Agreement for 1998
Executive Stock Subscription Plan.
10.12(1) Stock Subscription Agreement dated April 7, 1998
among Holding, FSEP III, FSEP IV, and FSEP
International.
10.13(5) Stock Subscription Agreement dated April 7, 1998
between Holding and River Acquisition Corp.
10.14(6) Form of Amendment No. 1 to Credit Agreement dated
as of July 30, 1998 among Hudson RCI, Holding, the
lenders party thereto, Salomon Brothers Inc. and
Bankers Trust.
10.15(1) Form of Exchange Preferred Stock Certificate.
10.16(5) Amendment No. 1 to Shareholders Agreement dated
April 8, 1998 among Holding, the Hudson Trust, FSEP
III, FSEP IV and Hudson RCI.
10.17(8) Form of Amendment No. 2 to Credit Agreement dated
as of March 12, 1999 among Hudson RCI, Holding, the
lenders party thereto, Salomon Brothers Inc. and
Bankers Trust.
12.1 Statement re Computation of Earnings to Fixed
Charges Ratio.
18.1(9) Letter re Change in Accounting Principles.
21.1(1) Subsidiaries of Holding.
21.2(1) Subsidiaries of Hudson RCI
24.1(1) Power of Attorney (included in the signature pages
hereof).
27.1 Financial Data Schedule.
29
A
<PAGE>
________________________
(1) Incorporated by reference to the exhibit designated by the same number
in the Form S-4 filed by River Holding Corp. on June 5, 1998 (File No.
333-56135).
(2) Incorporated by reference to the exhibit designated by the same number
in the Form S-4 filed by Hudson RCI on June 5, 1998 (File No. 333-
56097) (the "Hudson RCI S-4").
(3) Incorporated by reference to the exhibit designated by exhibit number
3.1 in the Hudson RCI S-4.
(4) Incorporated by reference to the exhibit designated as exhibit number
3.2 in the Hudson RCI S-4.
(5) Incorporated by reference to the exhibit designated as exhibit number
10.8 in the Hudson RCI S-4.
(6) Incorporated by reference to the exhibit designated as exhibit number
10.13 in Amendment No. 1 to Form S-4 filed by Hudson RCI on August 3,
1998 (File No. 333-56097).
(7) Incorporated by reference to the exhibit designated as exhibit 10.14
in the Annual Report on Form 10-K of Hudson RCI dated March 25, 1999
(the "Hudson RCI 1998 Form 10-K").
(8) Incorporated by reference to the exhibit designated as exhibit 10.15
in the Hudson RCI 1998 Form 10-K.
(9) Incorporated by reference to the exhibit designated by the same number
in the Hudson RCI 1998 Form 10-K.
(b) Current Reports on Form 8-K.
None.
30
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
----------------------------------------
To the Board of Directors of
River Holding Corp.:
We have audited the accompanying consolidated balance sheet of RIVER HOLDING
CORP. (a Delaware corporation) and subsidiaries as of December 25, 1998, and the
related consolidated statements of operations, stockholders' equity and cash
flows for the period from April 7, 1998 (inception) to December 25, 1998. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of River Holding Corp. and
subsidiaries as of December 25, 1998, and the results of their operations and
their cash flows for the period from April 7, 1998 (inception) to December 25,
1998 in conformity with generally accepted accounting principles.
/s/ ARTHUR ANDERSEN LLP
Orange County, California
March 1, 1999
<PAGE>
RIVER HOLDING CORP. AND SUBSIDIARIES
------------------------------------
CONSOLIDATED BALANCE SHEET - DECEMBER 25, 1998
----------------------------------------------
ASSETS
------
($000's)
<TABLE>
<S> <C>
CURRENT ASSETS:
Cash $ 507
Accounts receivable, less allowance for
doubtful accounts of $635 25,829
Inventories 18,024
Other assets 1,049
--------
Total current assets 45,409
--------
PROPERTY, PLANT AND EQUIPMENT, net 46,857
--------
OTHER ASSETS:
Deferred tax asset 9,634
Deferred financing costs, net 11,917
Other assets 235
Goodwill, net 148,657
--------
170,443
--------
$262,709
========
</TABLE>
The accompanying notes are an integral part of
this consolidated balance sheet.
<PAGE>
RIVER HOLDING CORP. AND SUBSIDIARIES
------------------------------------
CONSOLIDATED BALANCE SHEET - DECEMBER 25, 1998
----------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
($000's)
<TABLE>
<S> <C>
CURRENT LIABILITIES:
Notes payable to bank $ 3,000
Accounts payable 6,324
Accrued liabilities 6,219
---------
Total current liabilities 15,543
SENIOR SUBORDINATED NOTES PAYABLE 115,000
NOTES PAYABLE TO BANK, net of current
portion 41,000
---------
Total liabilities 171,543
---------
MINORITY INTEREST -
---------
MANDATORILY-REDEEMABLE PREFERRED STOCK,
$100 par value: Authorized--1,800,000
shares, issued and outstanding--318,014
shares at December 25, 1998; liquidation
preference: $31,802 (Note 5) 30,802
Accrued preferred stock dividend, payable in kind 711
---------
31,513
---------
STOCKHOLDERS' EQUITY:
Common stock, no par value:
Authorized--15,000,000 shares, issued and
outstanding--6,312,500 shares 63,125
Accumulated deficit (3,472)
---------
59,653
---------
$ 262,709
=========
</TABLE>
The accompanying notes are an integral part of
this consolidated balance sheet.
<PAGE>
RIVER HOLDING CORP. AND SUBSIDIARIES
------------------------------------
CONSOLIDATED STATEMENT OF OPERATIONS
------------------------------------
FOR THE PERIOD FROM APRIL 7, 1998 (INCEPTION) TO DECEMBER 25, 1998
------------------------------------------------------------------
($000's)
<TABLE>
<S> <C>
NET SALES $ 76,232
COST OF SALES 42,188
--------
Gross profit 34,044
--------
OPERATING EXPENSES:
Selling 8,032
Distribution 4,265
General and administrative 7,129
Research and development 1,406
Amortization of goodwill 3,785
--------
24,617
--------
Income from operations 9,427
--------
OTHER EXPENSES:
Interest expense (10,273)
Other, net (728)
--------
(11,001)
--------
Loss before benefit for
income taxes (1,574)
BENEFIT FOR INCOME TAXES (Note 3) 614
--------
Net loss (960)
PREFERRED STOCK DIVIDENDS 2,512
--------
Net loss to common shareholders $ (3,472)
========
</TABLE>
The accompanying notes are an integral part of
this consolidated statement.
<PAGE>
RIVER HOLDING CORP. AND SUBSIDIARIES
------------------------------------
CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY
----------------------------------------------
FOR THE PERIOD FROM APRIL 7, 1998 (INCEPTION) TO DECEMBER 25, 1998
------------------------------------------------------------------
($000's)
<TABLE>
<CAPTION>
Common Stock
------------------
Number of Accumulated
Shares Amount Deficit Total
--------- ------- --------- --------
<S> <C> <C> <C> <C>
BALANCE, April 7, 1998
(inception) - $ - $ - $ -
Sale of common stock 6,312,500 63,125 - 63,125
Pay-in-kind preferred
stock dividends - - (2,512) (2,512)
Net loss - - (960) (960)
--------- ------- -------- -------
BALANCE, December 25, 1998 6,312,500 $63,125 $(3,472) $59,653
========= ======= ======== =======
</TABLE>
The accompanying notes are an integral part of
this consolidated statement.
<PAGE>
RIVER HOLDING CORP. AND SUBSIDIARIES
------------------------------------
CONSOLIDATED STATEMENT OF CASH FLOWS
------------------------------------
FOR THE PERIOD FROM APRIL 7, 1998 (INCEPTION) TO DECEMBER 25, 1998
------------------------------------------------------------------
($000's)
<TABLE>
<S> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (960)
Adjustments to reconcile net income to net cash
provided by operating activities-
Depreciation and amortization 8,507
Changes in assets and liabilities, net of amounts
acquired or assumed:
Increase in accounts receivable (7,089)
Increase in inventories (1,215)
Decrease in other current assets 316
Decrease in other assets 526
Increase in accounts payable 3,243
Increase in accrued liabilities 526
---------
Net cash provided by operating activities 3,854
---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of majority interest in
Hudson Respiratory Care Inc. (248,000)
Acquisition of certain assets of Gibeck, Inc. (Note 9) (3,351)
Purchases of property, plant and equipment (3,121)
---------
Net cash used in investing activities (254,472)
---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of notes payable to bank (2,000)
Proceeds from senior subordinated notes 115,000
Proceeds from borrowing of bank credit facility 46,000
Sale of common and preferred stock, net of
transaction costs 92,125
---------
Net cash provided by financing activities 251,125
---------
NET INCREASE IN CASH 507
CASH, at April 7, 1998 (inception) -
---------
CASH, at December 25, 1998 $ 507
=========
</TABLE>
<PAGE>
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period from April 7, 1998
(inception) to December 25, 1998:
Interest $ 8,742
========
Income taxes $ 1,699
========
NON-CASH FINANCING ACTIVITIES-
The Company satisfies its preferred dividend requirements by the
issuance of additional shares of preferred stock. Such accrued dividend
requirements totaled $2,512,00 for the period from the date of issuance
of the preferred stock; preferred stock with a face value of $1,801,00
was issued in 1998 and the remainder of $711,000 will be issued in 1999.
The accompanying notes are an integral part of
this consolidated statement.
<PAGE>
RIVER HOLDING CORP. AND SUBSIDIARIES
------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
DECEMBER 25, 1998
-----------------
1. Company Background
------------------
River Holding Corp. ("Holding") is a Delaware corporation formed to purchase and
hold a majority interest in Hudson Respiratory Care Inc. ("Hudson" or the
"Company"), a California corporation founded in 1945. Hudson is a manufacturer
and marketer of disposable medical products utilized in the respiratory care and
anesthesia segments of the domestic and international health care markets. The
Company's respiratory care and anesthesia product lines include such products as
oxygen masks, humidification systems, nebulizers, cannulae and tubing. In the
United States, the Company markets its products to a variety of health care
providers, including hospitals and alternate site service providers such as
outpatient surgery centers, long-term care facilities, physician offices and
home health care agencies. Internationally, the Company sells its products to
distributors that market to hospitals and other health care providers. The
Company's products are sold to distributors and alternate site service providers
throughout the United States and internationally. The Company's operations are
conducted from its primary facility in Temecula, California, facilities in
Arlington Heights and Elk Grove, Illinois, and a facility in Ensenada, Mexico.
Recapitalization
In April 1998, the Company consummated a plan pursuant to which a majority
interest in the Company was sold in accordance with an agreement and plan of
merger (the Recapitalization).
Key components of the Recapitalization included:
(1) Common and preferred equity investments by Holding in consideration for an
80.8 percent ownership in the Company's common stock and preferred stock
with an initial liquidation preference of $30.0 million
(2) Issuance of 9-1/8 percent senior subordinated notes with a par value of
$115.0 million, maturing in 2008 (see Note 4)
(3) Execution of a new term loan facility and revolving loan facility (see Note
4)
(4) Repayment of existing indebtedness
(5) Payment of amounts due under the Equity Participation Plan
(6) Payment for common shares acquired from the existing shareholder; this
shareholder retained a 19.2 percent interest in the common shares
outstanding.
(7) Potential contingent payments based on 1998 performance, payable to the
continuing shareholder and former participants in the Equity Participation
Plan; however, as a result of the Company's 1998 performance, no additional
amounts are due.
<PAGE>
The Company has terminated the Equity Participation Plan and plans to adopt an
executive stock purchase plan and a stock option plan. Additionally, Hudson's
sole shareholder, who owned the remaining 21 percent of Industrias Hudson,
transferred this interest to the Company in consideration of one dollar. Because
of the commonality of ownership, the 21 percent minority interest has been
included in the financial statements for all periods presented.
On April 7, 1998, Holding acquired a majority interest in Hudson, as discussed
above. The investment in Hudson by Holding was accounted for as a purchase and
the purchase price has been allocated as follows based upon management's
estimate of relative fair value of assets and liabilities acquired (amounts in
thousands):
Assets:
Current assets and other $ 33,044
Property, plant and equipment 47,821
Deferred tax asset 9,020
Deferred financing costs 12,917
Goodwill 152,442
--------
255,244
Less liabilities:
Current liabilities 7,244
--------
Total purchase price paid $248,000
========
Goodwill is being amortized using a 30-year life.
Holding has no operations apart from those conducted by Hudson. The
accompanying consolidated statement of operations includes the results of Hudson
for the period from March 27, 1998 to December 25, 1998 (Hudson's fiscal second,
third and fourth quarters). Management believes that the impact of including
Hudson's results of operations for the period from March 27, 1998 to April 7,
1998 is not material to the accompanying consolidated financial statements.
The minority interest in the Company was initially recorded at zero and the
Company's losses for the period ended December 25, 1998 have been solely
allocated to Holding.
2. Summary of Significant Accounting Policies
------------------------------------------
a. Principles of Consolidation
---------------------------
The consolidated financial statements include the accounts of River Holding
Corp. and subsidiaries, Hudson, IH Holding and Industrias Hudson. River
owns 89.2 percent of Hudson. Hudson owns 100 percent and 99 percent of IH
Holding and Industrias Hudson, respectively. IH Holding owns 1 percent of
Industrias Hudson as its sole asset. Industrias Hudson is the Company's
Mexican subsidiary whose assets consist of an assembly facility located in
that country.
<PAGE>
b. Use of Estimates in the Financial Statements
--------------------------------------------
The preparation of 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 revenues and expenses
during the reporting period. Actual results could differ from those
estimates.
c. Inventories
-----------
Inventories are stated at the lower of cost (first-in, first-out ("FIFO")
method) or market. Inventories consisted of the following at December 25,
1998 (amounts in thousands):
Raw materials $ 5,127
Work-in-process 5,926
Finished goods 6,971
-------
$18,024
=======
Raw materials principally consist of bulk resins. Work-in-process and
finished goods include raw materials, labor and overhead costs. Certain
finished goods are purchased for resale and are not manufactured.
As of December 25, 1998, the Company changed its method for allocating
manufacturing overhead costs for all domestic production. The Company now
allocates such costs based on machine hours rather than direct labor hours.
As the Company has increased the automation of its processes, management
believes this method is preferable to its prior method. Under APB Opinion
No. 20, "Accounting Changes," this change is considered to be a change in
estimate indistinguishable from a change in method. Accordingly, the effect
of $1,085,000 at December 25, 1998 is reflected in operating income as a
reduction of cost of sales.
d. Property, Plant and Equipment
-----------------------------
The following is a summary of property, plant and equipment as of December
25, 1998 (amounts in thousands):
Land $ 4,007
Buildings 10,898
Leasehold improvements 296
Machinery and equipment 31,979
Furniture and fixtures 1,243
Construction in progress 2,732
-------
51,155
Less--Accumulated depreciation and
amortization (4,298)
-------
$46,857
=======
<PAGE>
Depreciation of property, plant and equipment is provided using both
straight-line and declining-balance methods over the following estimated
remaining useful lives:
Buildings 31.5 years
Leasehold improvements 31.5 years
Machinery and equipment 5 to 7 years
Furniture and fixtures 7 years
Heaters 5 years
Upon retirement or disposal of depreciable assets, the cost and related
accumulated depreciation are removed and the resulting gain or loss is
reflected in income from operations. Major renewals and betterments are
capitalized while maintenance costs and repairs are expensed in the year
incurred.
e. Accrued Liabilities
-------------------
The following is a summary of the components of accrued liabilities as of
December 25, 1998 (amounts in thousands):
Accrued pension plan $ 809
Accrued vacation 1,176
Accrued interest 2,315
Other 1,919
------
$6,219
======
f. Foreign Currency Translation
----------------------------
The Company follows the principles of Statement of Financial Accounting
Standards (SFAS) No. 52, "Foreign Currency Translation", generally using
the local currency as the functional currency of its operating
subsidiaries. Accordingly, all assets and liabilities outside the United
States are translated into U.S. dollars at the rate of exchange in effect
at the balance sheet date. Income and expense items are translated at the
weighted average exchange rate prevailing during the period. Beginning in
the second quarter of 1998, the Company commenced using the U.S. dollar as
the functional currency of its Mexican operations since Mexico is
considered a highly-inflationary economy.
g. Fiscal Year-End
---------------
The Company and Holding report their operations on a 52-53 week fiscal year
ending on the Friday closest to December 31. Hudson's fiscal year ended
December 25, 1998 was a 52 week year.
h. Post-employment and Post-retirement Benefits
---------------------------------------------
The Company and Holding do not provide post-employment or post-retirement
benefits to employees. Accordingly, SFAS No. 112, "Employers' Accounting
for Post-employment Benefits", and SFAS No. 106, "Employers' Accounting for
Post-retirement Benefits", have no impact on the accompanying consolidated
financial statements.
<PAGE>
i. New Accounting Pronouncements
-----------------------------
In June 1997, FASB issued SFAS No. 130, "Reporting Comprehensive Income".
This Statement requires that all items that meet the definition of
components of comprehensive income be reported in a financial statement for
the period in which they are recognized. Components of comprehensive
income include revenues, expenses, gains, and losses that under generally
accepted accounting principles are included in comprehensive income but
excluded from net income. Holding had no comprehensive income adjustments
for 1998.
In June 1997, FASB also issued SFAS No. 131, "Disclosures about Segments of
an Enterprise and Related Information". This Statement requires that a
public business enterprise report financial and descriptive information
about its reportable operating segments. Financial information is required
to be reported on the same basis that it is used internally for evaluating
segment performance and deciding how to allocate resources to segments.
This Statement was adopted as of December 25, 1998. Management believes
that it operates in only one operating segment, as defined.
j. Revenue Recognition
-------------------
The Company recognizes revenue when product is shipped. The Company
establishes reserves for sales returns and other allowances based on
historical experience.
3. Income Taxes
------------
Holding is a C corporation and the Company became a C corporation upon the
occurrence of the Recapitalization discussed in Note 1. Holding's effective
income tax rate for 1998 approximates the combined federal and state statutory
rates of 39 percent.
The current income tax benefit results from net operating losses since
inception. The net deferred tax asset at December 25, 1998 consisted of the
following:
Basis differences arising from the
Recapitalization (see Note 1) $10,442
Net operating loss carryforwards 4,085
Liabilities and allowances not currently
deductible for tax purposes (4,266)
Accelerated tax depreciation (627)
-------
$ 9,634
=======
Net operating loss carryforwards expire on various dates through 2018. In
management's opinion, the net deferred tax asset is more likely than not to be
realized.
<PAGE>
4. Long-Term Debt
--------------
New Credit Facility
In connection with the Recapitalization, the Company entered into a new credit
agreement with a bank which provides for borrowings of up to $100,000,000. This
agreement consists of two separate facilities as follows:
Revolving credit- maximum borrowings of $60,000,000 with a letter of credit
sublimit of $7,500,000. This facility must be prepaid upon payment in full
of the Term Loan facility.
Term loan- maximum borrowings of $40,000,000, with quarterly installments
to be made through maturity.
Interest on the New Credit Facility is based, at the option of the Company, upon
either a eurodollar rate (as defined) plus 2.25 percent, or a base rate (as
defined) plus 1.25 percent per annum. A commitment fee of 0.50 percent per annum
will be charged on the unused portion of the New Credit Facility. As of
December 25, 1998 the eurodollar and base rates were 5.1875 percent and 7.4375
percent, respectively. As of December 25, 1998 borrowings under the Term Loan
Facility bear interest at 7.4375 percent per annum and borrowings under the
Revolving Credit Facility bear interest at 7.8125 and 9.00 percent per annum.
The agreement provides the bank a first security interest in substantially all
of the properties and assets of the Company and a pledge of 65 percent of the
stock of Industrias Hudson, the Company's principal subsidiary. The agreement
also requires the Company to maintain certain financial ratios and financial
covenants, as defined in the agreement, the most restrictive of which prohibit
additional indebtedness and limit dividend payments to the Company's
stockholders.
Total borrowings as of December 25, 1998 were $38,000,000 and $6,000,000 under
the Term Loan Facility and Revolving Credit Facility, respectively. The New
Credit Facility will mature on April 7, 2004.
The Company is required under restrictive covenants of the New Credit Facility
Agreement to maintain certain financial ratios, and meet certain operating cash
flow tests for which the Company was not in total compliance as of December 25,
1998. Subsequently, the Company has amended its New Credit Facility Agreement so
that under the amended terms it was in compliance at December 25, 1998.
Senior Subordinated Notes
Also related to the Recapitalization, the Company issued under an Indenture
$115,000,000 of senior subordinated notes (the "Notes"). The Notes are fully
transferable and are unsecured obligations of the Company, subordinated in right
of payment to all existing and future Senior Debt, as defined, of the Company.
The Notes bear interest at a rate equal to 9-1/8 percent per annum from the date
of issuance of the Notes. Interest is payable semi-annually on April 15 and
October 15 of each year, commencing October 15, 1998. The Notes will mature on
April 15, 2008 and will be redeemable at the option of the Company, in whole or
in part, on or after April 15, 2003.
The fair value of the Company's senior subordinated notes at December 25, 1998
was approximately $92,000,000. The fair value is determined based on the quoted
market prices for issues listed on exchanges and is not intended to, and does
not, represent the underlying fair value of the Company.
<PAGE>
As of December 25, 1998, future minimum payments on the aforementioned debt are
as follows (amounts in thousands):
<TABLE>
<CAPTION>
Fiscal
Year Ending
-----------
<S> <C>
1999 $ 3,000
2000 4,000
2001 7,000
2002 9,000
2003 11,000
Thereafter 125,000
--------
$159,000
========
</TABLE>
5. Preferred Stock
---------------
Upon consummation of the Recapitalization, Holding issued 300,000 shares of
Series B Senior Exchangeable Payable-In-Kind (PIK) Preferred Stock subject to
mandatory redemption at a liquidation preference of $100 per share, plus
accumulated and unpaid dividends, if any, on April 15, 2010. Net proceeds from
the original issuance were $29,000,000.
Dividends on the preferred stock accrue at the rate per share of 11-1/2
percent per annum. Amounts due are payable in cash, except that on each dividend
payment date occurring on or prior to April 15, 2003, dividends may be paid at
Holding's option, by the issuance of additional shares of preferred stock
(including fractional shares). Dividends will be payable semi-annually on April
15 and October 15 of each year commencing October 15, 1998. The preferred stock
ranks junior in right of payment to all obligations of Holding and its
subsidiaries.
Holding issued PIK preferred stock with a liquidation preference of $1,801,000
to satisfy the dividend requirements in 1998. As of December 25, 1998 Holding
accrued for PIK preferred stock dividends in the amount of $711,000. The
ability of Holding to pay cash dividends on its preferred stock is dependent
upon Hudson's ability to pay cash dividends to Holding. There can be no
assurance that Hudson will make such dividend payments.
6. Commitments and Contingencies
-----------------------------
The Company leases certain facilities, automobiles and office equipment under
noncancellable leases, with the majority of the automobile leases having a term
of one year with annual renewal provisions. All of these leases have been
classified as operating leases. As of December 25, 1998, the Company had future
obligations under operating leases as follows (amounts in thousands):
<TABLE>
<CAPTION>
Fiscal
Year Ending
-----------
<S> <C>
1999 $ 923
2000 384
------
$1,307
======
</TABLE>
<PAGE>
Rental expense was approximately $1,110,000 in the period from March 27, 1998 to
December 25, 1998.
7. Deferred Compensation and Benefit Plans
---------------------------------------
a. Pension Plan
The Company has a defined-contribution pension plan covering substantially
all its employees. Amounts charged to expense relating to this plan
totaled approximately $599,000 for the period from March 27, 1998 to
December 31, 1998.
b. Deferred Compensation
Effective December 1, 1994, the Company established a deferred compensation
plan for certain key employees. As of December 25, 1998 no material amount
of compensation has been deferred.
8. Major Customers and Sales by Geographic Region
----------------------------------------------
Although the information below reflects full twelve-month activity for Hudson,
management does not believe that the corresponding percentage relationships in
the nine-month activity for Holding would be materially different.
Hudson sells respiratory care products to distributors and medical facilities
throughout the United States and internationally. All sales are denominated in
U.S. dollars. During the period from December 27, 1997 to December 25, 1998,
Hudson had foreign sales which constituted approximately 20 percent of total
sales. Hudson's percentage of sales by geographic region for the 12 month
period ended December 25, 1998 were as follows:
Domestic 79.9%
Europe 7.8
Pacific Rim (Japan, Southeast
Asia, Australia/New Zealand) 6.2
Canada 2.0
Other international 4.1
-----
Total 100.0%
=====
For the 12 month period ended December 25, 1998, Hudson had sales to one
domestic distributor which represented approximately 23 percent of sales.
Additionally, Hudson had sales to another domestic distributor which accounted
for approximately 10 percent of sales for the period from December 27, 1997 to
December 25, 1998.
The Company maintains a manufacturing facility in Ensenada, Mexico which has
fixed assets with a net book value of approximately $1,060,000 as of December
25, 1998.
<PAGE>
9. Acquisitions
------------
During 1998, the Company acquired certain assets of Gibeck Inc. ("Gibeck") for a
cash purchase price of $3,351,000. Gibeck engages primarily in the business of
manufacturing, marketing, and selling custom anesthesia circuits. The
acquisition was accounted for as a purchase and the purchase price was allocated
as follows (amounts in thousands):
Goodwill $ 1,817
Inventory 871
Machinery and equipment 663
-------
$ 3,351
=======
10. Condensed Consolidated Quarterly Data (unaudited)
-------------------------------------------------
<TABLE>
<CAPTION>
1998 Quarter Ended
------------------
June 26 September 25 December 25
------- ------------ -----------
($000's)
<S> <C> <C> <C>
Net sales $22,432 $22,130 $31,670
Gross profit 9,751 10,017 14,276
Net income (loss) (650) (1,296) 986
</TABLE>
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
----------------------------------------
To the Board of Directors of
Hudson Respiratory Care Inc.:
We have audited the accompanying consolidated balance sheets of HUDSON
RESPIRATORY CARE INC. (a California corporation) and subsidiaries as of December
25, 1998 and December 26, 1997, and the related consolidated statements of
operations, stockholders' equity and cash flows for the years ended December 25,
1998, December 26, 1997, and December 27, 1996. These financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Hudson Respiratory Care Inc.
and subsidiaries as of December 25, 1998 and December 26, 1997, and the results
of their operations and their cash flows for the years ended December 25, 1998,
December 26, 1997 and December 27, 1996 in conformity with generally accepted
accounting principles.
/s/ ARTHUR ANDERSEN LLP
Orange County, California
March 1, 1999
<PAGE>
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
---------------------------------------------
CONSOLIDATED BALANCE SHEETS - DECEMBER 26, 1997 AND DECEMBER 25, 1998
---------------------------------------------------------------------
<TABLE>
<CAPTION>
ASSETS
------
($000's)
1997 1998
------- --------
<S> <C> <C>
CURRENT ASSETS:
Cash $ 470 $ 507
Accounts receivable, less allowance
for doubtful accounts of $258
and $635 at December 26, 1997
and December 25, 1998, respectively 21,282 25,829
Inventories 16,613 18,024
Other current assets 1,151 716
------- --------
Total current assets 39,516 45,076
------- --------
PROPERTY, PLANT AND EQUIPMENT, net 33,043 32,732
------- --------
OTHER ASSETS:
Intangible assets, net 4,436 4,955
Deferred financing costs, net - 11,917
Deferred tax asset - 70,329
Other assets 559 312
------- --------
Total other assets 4,995 87,513
------- --------
$77,554 $165,321
======= ========
</TABLE>
The accompanying notes are an integral part of
these consolidated balance sheets.
<PAGE>
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
---------------------------------------------
CONSOLIDATED BALANCE SHEETS - DECEMBER 26, 1997 AND DECEMBER 25, 1998
---------------------------------------------------------------------
<TABLE>
<CAPTION>
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
($000's)
1997 1998
------- ---------
<S> <C> <C>
CURRENT LIABILITIES:
Notes payable to bank $ 4,000 $ 3,000
Accounts payable 3,842 6,324
Accrued liabilities 5,244 6,219
Management bonus 20,000 -
------- ---------
Total current liabilities 33,086 15,543
NOTES PAYABLE TO BANK, net of current portion 16,250 41,000
SENIOR SUBORDINATED NOTES PAYABLE - 115,000
ACCRUED EQUITY PARTICIPATION PLAN 5,703 -
------- ---------
Total liabilities 55,039 171,543
------- ---------
MANDATORILY-REDEEMABLE PREFERRED STOCK,
$0.01 par value: Authorized--1,800,000
shares; issued and outstanding--318,014
shares at December 25, 1998; liquidation
preference: $31,802 (Note 3) - 30,802
Accrued preferred stock dividend,
payable in kind - 711
------- ---------
- 31,513
------- ---------
STOCKHOLDERS' EQUITY (DEFICIT):
Common stock, no par value:
Authorized--15,000,000 shares; issued and
outstanding--14,468,720 and 7,812,500 shares
at December 26, 1997 and December 25, 1998 3,789 63,535
Cumulative translation adjustment (345) (464)
Retained earnings (accumulated deficit) 19,071 (100,806)
------- ---------
22,515 (37,735)
------- ---------
$77,554 $ 165,321
======= =========
</TABLE>
The accompanying notes are an integral part of
these consolidated balance sheets.
<PAGE>
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
---------------------------------------------
CONSOLIDATED STATEMENTS OF OPERATIONS
-------------------------------------
FOR THE YEARS ENDED DECEMBER 27, 1996, DECEMBER 26, 1997 AND
------------------------------------------------------------
DECEMBER 25, 1998
-----------------
($000's)
<TABLE>
<CAPTION>
1996 1997 1998
------- ------- --------
<S> <C> <C> <C>
NET SALES $93,842 $99,509 $100,498
COST OF SALES 49,405 51,732 53,520
------- ------- --------
Gross profit 44,437 47,777 46,978
------- ------- --------
OPERATING EXPENSES:
Selling 8,961 9,643 10,350
Distribution 4,829 5,240 5,714
General and administrative 11,277 11,456 10,284
Research and development 2,253 1,845 1,880
------- ------- --------
27,320 28,184 28,228
------- ------- --------
PROVISION FOR EQUITY PARTICIPATION
PLAN AND BONUSES (8,249) (6,954) (63,939)
PROVISION FOR RETENTION BONUSES - - (4,754)
------- ------- --------
Income (loss) from operations 8,868 12,639 (49,943)
------- ------- --------
OTHER INCOME AND (EXPENSES):
Interest expense (2,177) (1,834) (10,692)
Other, net 463 638 (1,041)
------- ------- --------
(1,714) (1,196) (11,733)
------- ------- --------
Income (loss) before provision (benefit)
for income taxes 7,154 11,443 (61,676)
PROVISION (BENEFIT) FOR INCOME TAXES 73 150 (68,659)
------- ------- --------
Income before extraordinary item 7,081 11,293 6,983
EXTRAORDINARY ITEM-loss on extinguishment
of debt (Note 9) - - 104
------- ------- --------
Net income 7,081 11,293 6,879
</TABLE>
<PAGE>
- 2 -
<TABLE>
<CAPTION>
1996 1997 1998
------- ------- -------
<S> <C> <C> <C>
Preferred stock dividends - - 2,512
------- ------- -------
Net income available to common
shareholders $ 7,081 $11,293 $ 4,367
======= ======= ========
Pro forma net income (loss) assuming
conversion to C corporation for
income tax purposes (Note 6) $ 4,292 $ 6,866 $(37,006)
======= ======= ========
</TABLE>
The accompanying notes are an integral part of
these consolidated statements.
<PAGE>
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
---------------------------------------------
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
---------------------------------------------------------
FOR THE YEARS ENDED DECEMBER 27, 1996, DECEMBER 26, 1997 AND
------------------------------------------------------------
DECEMBER 25, 1998
-----------------
($000's)
<TABLE>
<CAPTION>
Common Stock Retained
------------ Cumulative Earnings
Number of Translation (Accumulated
Shares Amount Adjustment Deficit) Total
------------ -------- ------------ ------------- ----------
<S> <C> <C> <C> <C> <C>
BALANCE, December 29, 1995 14,468,720 $ 3,789 $ (326) $ 15,649 $ 19,112
Stockholder distributions - - - (6,450) (6,450)
Foreign currency
translation gain - - 129 - 129
Net income - - - 7,081 7,081
----------- ------- ----------- --------- ---------
BALANCE, December 27, 1996 14,468,720 3,789 (197) 16,280 19,872
Stockholder distributions - - - (8,502) (8,502)
Foreign currency
translation loss - - (148) - (148)
Net income - - - 11,293 11,293
----------- ------- ----------- --------- ---------
BALANCE, December 26, 1997 14,468,720 3,789 (345) 19,071 22,515
Stockholder redemption (12,968,720) (3,379) - (124,244) (127,623)
Foreign currency
translation loss - - (119) - (119)
Recapitalization investment 6,300,000 63,000 - - 63,000
Issuance of common stock 12,500 125 - - 125
Pay-in-kind preferred
stock dividends - - - (2,512) (2,512)
Net income - - - 6,879 6,879
----------- ------- ----------- --------- ---------
BALANCE, December 25, 1998 7,812,500 $63,535 $ (464) $(100,806) $ (37,735)
=========== ======= =========== ========= =========
</TABLE>
The accompanying notes are an integral part of
these consolidated statements.
<PAGE>
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
---------------------------------------------
CONSOLIDATED STATEMENTS OF CASH FLOWS
-------------------------------------
FOR THE YEARS ENDED DECEMBER 27, 1996, DECEMBER 26, 1997 AND
-------------------------------------------------------------
DECEMBER 25, 1998
-----------------
($000's)
<TABLE>
<CAPTION>
1996 1997 1998
-------- -------- --------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 7,081 $ 11,293 $ 6,879
Adjustments to reconcile net income to net cash
provided by (used in) operating activities-
Depreciation and amortization 6,133 5,847 6,101
Amortization of deferred financing costs - - 1,015
(Gain) loss on disposal of equipment (872) (618) 14
Write-off of deferred financing costs - - 104
Deferred tax asset arising from
Recapitalization - - (70,329)
Increase in accounts receivable (3,503) (550) (4,547)
Increase in inventories (1,223) (2,596) (1,411)
(Increase) decrease in other current assets (311) 96 437
(Increase) decrease in other assets (152) (100) 247
Increase (decrease) in accounts payable 564 (12) 2,482
Increase (decrease) in accrued liabilities 167 (130) 1,687
Increase (decrease) in management bonus
accrual - 20,000 (20,000)
Increase (decrease)in accrued equity
participation plan (EPP) 8,249 (13,961) 83,939
Payment of EPP liabilities - - (89,642)
-------- -------- --------
Net cash provided by (used in) operating
activities 16,133 19,269 (83,024)
-------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment (6,395) (4,659) (3,111)
Proceeds from sale of property, plant
and equipment 1,058 1,068 18
Increase in notes receivable (2) (67) -
Increase in cash surrender value of life insurance (5) (5) -
Additions of intangible assets (10) (10) -
Purchase of certain assets of Artema (Note 11) (6,000) - -
Purchase of certain assets of Gibeck (Note 11) - - (3,351)
-------- -------- --------
Net cash used in investing activities (11,354) (3,673) (6,444)
-------- -------- --------
</TABLE>
<PAGE>
- 2 -
<TABLE>
<CAPTION>
1996 1997 1998
------- -------- ---------
<S> <C> <C> <C>
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of notes payable to bank $(4,000) $(14,396) $ (43,250)
Proceeds from bank borrowings 6,782 6,500 67,000
Stockholder distributions (6,450) (8,502) -
Additions to deferred financing costs - - (12,918)
Stockholder redemption - - (127,623)
Proceeds from senior subordinated notes payable - - 115,000
Net proceeds from sale of common and mandatorily-
redeemable preferred stock - - 91,415
------- -------- ---------
Net cash (used in) provided by financing
activities (3,668) (16,398) 89,624
------- -------- ---------
Effect of exchange rate changes on cash 129 (148) (119)
------- -------- ---------
NET INCREASE (DECREASE) IN CASH 1,240 (950) 37
CASH, beginning of year 180 1,420 470
------- -------- ---------
CASH, end of year $ 1,420 $ 470 $ 507
======= ======== =========
SUPPLEMENTAL DISCLOSURE OF CASH
FLOW INFORMATION:
Cash paid during the year for-
Interest $ 1,688 $ 1,969 $ 8,742
======= ======== =========
Income taxes $ 94 $ 243 $ 1,699
======= ======== =========
</TABLE>
NON-CASH FINANCING ACTIVITIES-
The Company satisfies its preferred dividend requirements by the issuance of
additional shares of preferred stock. Such accrued dividend requirements
totaled $2,512,000 for the period from the date of issuance of the preferred
stock; preferred stock with a face value of $1,801,000 was issued in 1998
and the remainder of $711,000 will be issued in 1999.
The accompanying notes are an integral part of
these consolidated statements.
<PAGE>
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
---------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
DECEMBER 25, 1998
-----------------
1. Company Background
------------------
Hudson Respiratory Care Inc. ("Hudson" or the "Company"), a California
corporation founded in 1945, is a manufacturer and marketer of disposable
medical products utilized in the respiratory care and anesthesia segments of the
domestic and international health care markets. The Company's respiratory care
and anesthesia product lines include such products as oxygen masks,
humidification systems, nebulizers, cannulae and tubing. In the United States,
the Company markets its products to a variety of health care providers,
including hospitals and alternate site service providers such as outpatient
surgery centers, long-term care facilities, physician offices and home health
care agencies. Internationally, the Company sells its products to distributors
that market to hospitals and other health care providers. The Company's products
are sold to distributors and alternate site service providers throughout the
United States and internationally. The Company's operations are conducted from
its primary facility in Temecula, California, facilities in Arlington Heights
and Elk Grove, Illinois, and a facility in Ensenada, Mexico.
Recapitalization
In April 1998, the Company consummated a plan pursuant to which a majority
interest in the Company was sold in accordance with an agreement and plan of
merger (the Recapitalization).
Key components of the Recapitalization included:
(1) Common and preferred equity investments in consideration for an 80.8
percent ownership in the Company's common stock and preferred stock with an
initial liquidation preference of $30.0 million
(2) Issuance of 9-1/8 percent senior subordinated notes with a par value of
$115.0 million, maturing in 2008 (see Note 4)
(3) Execution of a new term loan facility and revolving loan facility (see Note
4)
(4) Repayment of existing indebtedness
(5) Payment of amounts due under the Equity Participation Plan (see Note 8)
(6) Payment for common shares acquired from the existing shareholder; this
shareholder retained a 19.2 percent interest in the common shares
outstanding
(7) Potential contingent payments based on 1998 performance, payable to the
continuing shareholder and former participants in the Equity Participation
Plan; however, as a result of the Company's 1998 performance, no additional
amounts are due
<PAGE>
- 2 -
The Company has terminated the Equity Participation Plan and plans to adopt an
executive stock purchase plan and a stock option plan. Additionally, Hudson's
sole shareholder, who owned the remaining 21 percent of Industrias Hudson,
transferred this interest to the Company in consideration of one dollar. Because
of the commonality of ownership, the 21 percent minority interest has been
included in the financial statements for all periods presented.
The Company effected a 245:1 stock split concurrent with the Recapitalization.
The stock split has been reflected in the stock amounts shown herein.
The Recapitalization resulted in no change to the carrying amounts of the
Company's existing assets and liabilities. The Company has recorded a deferred
tax asset due to the conversion from S to C corporation status and a tax
election to revalue the basis of assets and liabilities for tax purposes.
2. Summary of Significant Accounting Policies
------------------------------------------
a. Principles of Consolidation
---------------------------
The consolidated financial statements include the accounts of Hudson and
subsidiaries, IH Holding and Industrias Hudson. Hudson owns 100 percent and
99 percent of IH Holding and Industrias Hudson, respectively. IH Holding
owns the remaining one percent of Industrias Hudson as its sole asset.
Industrias Hudson is the Company's Mexican subsidiary whose assets consist
of an assembly facility located in that country.
All significant intercompany accounts and transactions have been
eliminated. Hudson and subsidiaries are collectively referred to herein as
the Company.
b. Use of Estimates in the Financial Statements
--------------------------------------------
The preparation of 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 revenues and expenses
during the reporting period. Actual results could differ from those
estimates.
c. Inventories
-----------
Inventories are stated at the lower of cost(first-in, first-out (FIFO)
method) or market. At December 26, 1997 and December 25, 1998, inventories
consisted of the following (amounts in thousands):
<PAGE>
- 3 -
<TABLE>
<CAPTION>
1997 1998
------- -------
<S> <C> <C>
Raw materials $ 4,802 $ 5,127
Work-in-process 4,681 5,926
Finished goods 7,130 6,971
------- -------
$16,613 $18,024
======= =======
</TABLE>
Raw materials principally consist of bulk resins. Work-in-process and
finished goods include raw materials, labor and overhead costs. Certain
finished goods are purchased for resale and are not manufactured.
As of December 25, 1998, the Company changed its method for allocating
manufacturing overhead costs for all domestic production. The Company now
allocates such costs based on machine hours rather than direct labor hours.
As the Company has increased the automation of its processes, management
believes this method is preferable to its prior method. Under APB Opinion
No. 20, "Accounting Changes," this change is considered to be a change in
estimate indistinguishable from a change in method. Accordingly, the effect
of $1,085,000 for the year ended December 25, 1998 is reflected in
operating income as a reduction to cost of sales.
d. Property, Plant and Equipment
-----------------------------
The following is a summary as of December 26, 1997 and December 25, 1998
(amounts in thousands):
<TABLE>
<CAPTION>
1997 1998
-------- --------
<S> <C> <C>
Land $ 2,044 $ 2,044
Buildings 13,369 14,899
Leasehold improvements 1,322 1,322
Machinery and equipment 57,891 60,691
Furniture and fixtures 2,128 2,205
Construction in progress 5,017 2,732
-------- --------
81,771 83,893
Less--Accumulated depreciation and
amortization (48,728) (51,161)
-------- --------
$ 33,043 $ 32,732
======== ========
</TABLE>
Depreciation of property, plant and equipment is provided using both
straight-line and declining-balance methods over the following estimated
useful lives:
Buildings 31.5 years
Leasehold improvements 31.5 years
Machinery and equipment 5 to 7 years
Furniture and fixtures 7 years
Heaters 5 years
<PAGE>
- 4 -
Upon retirement or disposal of depreciable assets, the cost and related
accumulated depreciation are removed and the resulting gain or loss is
reflected in income from operations. Major renewals and betterments are
capitalized while maintenance costs and repairs are expensed in the year
incurred.
e. Deferred Financing Costs and Intangible Assets, net
---------------------------------------------------
Amortization of intangible assets is provided using the straight-line
method over the applicable amortization period. The following is a summary
of the components of intangible assets as December 26, 1997 and December
25, 1998 (amounts in thousands):
<TABLE>
<CAPTION>
Amortization
Period 1997 1998
--------------- -------- -------
<S> <C> <C> <C>
Covenant not-to-compete 5 to 7 years $ 3,500 $ 3,500
Patents 10 years 3,183 3,183
Deferred financing costs Loan term 268 12,917
Goodwill 15 to 20 years 1,920 3,737
Other 5 to 20 years 133 133
------- -------
9,004 23,470
Less--Accumulated amortization (4,568) (6,598)
------- -------
$ 4,436 $16,872
======= =======
</TABLE>
f. Accrued Liabilities
-------------------
The following is a summary of the components of accrued liabilities as of
December 26, 1997 and December 25, 1998 (amounts in thousands):
<TABLE>
<CAPTION>
1997 1998
------ ------
<S> <C> <C>
Accrued pension plan $ 836 $ 809
Accrued vacation 1,058 1,176
Accrued interest 376 2,315
Other 2,974 1,919
------ ------
$5,244 $6,219
====== ======
</TABLE>
g. Foreign Currency Translation
----------------------------
The Company follows the principles of Statement of Financial Accounting
Standards (SFAS) No. 52, "Foreign Currency Translation", generally using
the local currency as the functional currency of its operating
subsidiaries. Accordingly, all assets and liabilities outside the United
States are translated into U.S. dollars at the rate of exchange in effect
at the balance sheet date. Income and expense items are translated at the
weighted average exchange rate prevailing during the
<PAGE>
- 5 -
period. Beginning in the second quarter of 1998, the Company commenced
using the U.S. dollar as the functional currency of its Mexican operations
since Mexico is considered a highly-inflationary economy.
h. Fiscal Year-End
---------------
The Company reports its operations on a 52-53 week fiscal year ending on
the Friday closest to December 31. The fiscal years ended December 27,
1996, December 26, 1997, and December 25, 1998, were all comprised of 52
week years.
i. Post-employment and Post-retirement Benefits
---------------------------------------------
The Company does not provide post-employment or post-retirement benefits to
employees. Accordingly, SFAS No. 112, "Employers' Accounting for Post-
employment Benefits", and SFAS No. 106, "Employers' Accounting for Post-
retirement Benefits", have no impact on the Company's financial statements.
j. New Accounting Pronouncements
-----------------------------
In June 1997, FASB issued SFAS No. 130, "Reporting Comprehensive Income".
This Statement requires that all items that meet the definition of
components of comprehensive income be reported in a financial statement for
the period in which they are recognized. Components of comprehensive income
include revenues, expenses, gains, and losses that under generally accepted
accounting principles are included in comprehensive income but excluded
from net income.
The company had comprehensive income for 1996, 1997 and 1998 as follows
(amounts in thousands):
<TABLE>
<CAPTION>
1996 1997 1998
------ -------- -------
<S> <C> <C> <C>
Net income $7,081 $11,293 $6,879
Other comprehensive income--
Foreign currency translation
gain (loss) 129 (148) (119)
------ ------- ------
Comprehensive income $7,210 $11,145 $6,760
====== ======= ======
</TABLE>
In June 1997, FASB also issued SFAS No. 131, "Disclosures about Segments of
an Enterprise and Related Information". This Statement requires that a
public business enterprise report financial and descriptive information
about its reportable operating segments. Financial information is required
to be reported on the same basis that it is used internally for evaluating
segment performance and deciding how to allocate resources to segments.
This Statement is effective for fiscal years beginning after December 15,
1997. Management believes that it operates in only one operating segment,
as defined.
<PAGE>
- 6 -
k. Revenue Recognition
-------------------
The Company recognizes revenue when product is shipped. The Company
establishes reserves for sales returns and other allowances based on
historical experience.
l. Reclassifications
-----------------
Certain reclassifications have been made in the 1996 and 1997 statements to
conform with the 1998 presentation.
3. Preferred Stock
---------------
In connection with the Recapitalization, the Company issued 300,000 shares of
mandatorily-redeemable 11 1/2 percent senior exchangeable pay in kind (PIK)
preferred stock due 2010. Net proceeds from the original issuance were
$29,000,000. Dividends are payable semi-annually in arrears on April 15 and
October 15 each year. Dividends will be payable in cash, except on dividend
payment dates occurring on or prior to April 15, 2003, for which the Company has
the option to issue additional shares of preferred stock (including fractional
shares) having an aggregate liquidation preference equal to the amount of such
dividends. The preferred stock will rank junior in right of payment to all
obligations of the Company and its subsidiaries.
The Company issued PIK preferred stock with a liquidation preference of
approximately $1,801,000 to satisfy the dividend requirements in 1998. As of
December 25, 1998 the Company accrued for PIK preferred stock dividends in the
amount of $711,000.
4. Long-Term Obligations
---------------------
New Credit Facility
In connection with the Recapitalization, the Company entered into a new credit
agreement with a bank group which provides for borrowings of up to $100,000,000.
This agreement consists of two separate facilities as follows:
Revolving credit- maximum borrowings of $60,000,000 with a letter of credit
sublimit of $7,500,000. This facility must be prepaid upon payment in full
of the Term Loan facility.
Term loan- maximum borrowings of $40,000,000, with quarterly installments
to be made through maturity.
Interest on the New Credit Facility is based, at the option of the Company, upon
either a eurodollar rate (as defined) plus 2.25 percent, or a base rate (as
defined) plus 1.25 percent per annum. A commitment fee of 0.50 percent per annum
will be charged on the unused portion of the New Credit Facility. As of December
25, 1998 the eurodollar and base rates were 5.1875 percent and 7.75 percent,
respectively. As of December 25, 1998 borrowings under the Term Loan Facility
bear interest at 7.4375 percent per annum and borrowings under the Revolving
Credit Facility bear interest at 7.8125 and 9.00 percent per annum.
<PAGE>
- 7 -
The agreement provides the bank a first security interest in substantially all
of the properties and assets of the Company and a pledge of 65 percent of the
stock of Industrias Hudson, the Company's principal subsidiary. The agreement
also requires the Company to maintain certain financial ratios and financial
covenants, as defined in the agreement, the most restrictive of which prohibit
additional indebtedness and limit dividend payments to the Company's
stockholders.
Total borrowings as of December 25, 1998 were $38,000,000 and $6,000,000 under
the Term Loan Facility and Revolving Credit Facility, respectively. The New
Credit Facility will mature on April 7, 2004.
The Company is required under restrictive covenants of the New Credit Facility
Agreement to maintain certain financial ratios, and meet certain operating cash
flow tests for which the Company was not in total compliance as of December 25,
1998. Subsequently, the Company has amended its New Credit Facility Agreement so
that under the amended terms it was in compliance at December 25, 1998.
Senior Subordinated Notes
Also related to the Recapitalization, the Company issued under an Indenture
$115,000,000 of senior subordinated notes (the "Notes"). The Notes are fully
transferable and are general unsecured obligations of the Company, subordinated
in right of payment to all existing and future senior debt, as defined, of the
Company.
The Notes bear interest at a rate equal to 9-1/8 percent per annum from the date
of issuance of the Notes. Interest is payable semi-annually on April 15 and
October 15 of each year, commencing October 15, 1998. The Notes will mature on
April 15, 2008 and will be redeemable at the option of the Company, in whole or
in part, on or after April 15, 2003.
The fair value of the Company's senior subordinated notes at December 25, 1998
was approximately $92,000,000. The fair value is estimated based on the quoted
market prices for issues listed on exchanges and is not intended to, and does
not, represent the underlying fair value of the Company.
As of December 25, 1998, future minimum payments on the aforementioned debt are
as follows (amounts in thousands):
<TABLE>
<CAPTION>
Fiscal
Year Ending
-----------
<S> <C>
1999 $ 3,000
2000 4,000
2001 7,000
2002 9,000
2003 11,000
Thereafter 125,000
--------
$159,000
========
</TABLE>
<PAGE>
- 8 -
5. Commitments and Contingencies
-----------------------------
The Company leases certain facilities, automobiles and office equipment under
noncancellable leases, with the majority of the automobile leases having a term
of one year with annual renewal provisions. All of these leases have been
classified as operating leases. As of December 25, 1998, the Company had future
obligations under operating leases as follows (amounts in thousands):
<TABLE>
<CAPTION>
Fiscal
Year Ending
-----------
<S> <C>
1999 $ 923
2000 384
------
$1,307
======
</TABLE>
Rental expense was approximately $1,106,000, $1,132,000 and $1,506,000 in fiscal
1996, 1997 and 1998, respectively.
The Company self-insures the majority of its medical benefit programs. Reserves
for losses are established currently based upon estimated obligations. The
Company maintains excess coverage on an aggregate claim basis.
The Company is party to lawsuits and other proceedings, including suits relating
to product liability and patent infringement. While the results of such lawsuits
and other proceedings cannot be predicted with certainty, management does not
expect that the ultimate liabilities, if any, will have a material adverse
effect on the financial position or results of operations of the Company.
6. Income Taxes
------------
Effective November 1, 1987, the stockholder of Hudson elected S corporation
status under the Internal Revenue Code, such that income of the Company is taxed
directly to the stockholder for both federal and state income tax purposes.
Hudson's provision for income taxes and income taxes payable was limited to the
California S corporation tax of 1.5 percent.
The Company became a C corporation upon consummation of the transaction
discussed in Note 1. Accordingly, the Company has presented pro forma net income
(loss) amounts to reflect a provision for income taxes at a combined effective
rate of approximately 39 percent, after consideration of permanent differences
between financial reporting and income tax amounts. The pro forma amounts
presented do not include the one-time effect of the conversion to C corporation
status reflected in the June 1998 financial statements.
The actual provision for income taxes for 1998 reflects that the Company was a C
corporation for a portion of the period presented. The conversion from S
corporation to C corporation resulted in a one-time benefit of $78,526,000 in
the quarter ended June 26, 1998 which was reduced to $68,659,000 based on
further analysis in the fourth quarter.
<PAGE>
- 9 -
The tax provision (benefit) for 1998 consists of the following (amounts in
thousands):
<TABLE>
<CAPTION>
<S> <C>
Income taxes at combined statutory rate of 39 percent $(24,094)
Effect of earnings during S corporation period and S
corporation state income tax liability arising from
Section 338(h)(10) election 25,484
Benefit of recordation of deferred tax asset upon
conversion to C corporation status (70,049)
--------
$(68,659)
========
</TABLE>
The provision (benefit) for income taxes consists of the following (amounts in
thousands):
<TABLE>
<CAPTION>
1996 1997 1998
----- ----- -----
<S> <C> <C> <C>
Current $ 200 $ 74 $ 1,462
Deferred (127) 76 (70,121)
----- ----- --------
$ 73 $ 150 $(68,659)
===== ===== ========
</TABLE>
Current taxes payable result from state taxes applicable during the period in
which the Company operated as an S corporation. As of December 25, 1998, the
Company has recorded a net deferred tax asset of $70,329,000 primarily related
to basis differences between financial reporting and tax purposes arising from
the Recapitalization(see Note 1), which in management's opinion is more likely
than not to be realized.
7. Related-Party Transactions
--------------------------
Amounts included in the consolidated financial statements with respect to
transactions with companies controlled by officers, the stockholder or members
of their immediate families are as follows (amounts in thousands):
<TABLE>
<CAPTION>
1996 1997 1998
----- ------ -----
<S> <C> <C> <C>
Purchases $ 557 $1,465 $ 128
===== ====== =====
Notes receivable $ 91 $ 157 $ 91
===== ====== =====
</TABLE>
<PAGE>
- 10 -
8. Deferred Compensation and Benefit Plans
---------------------------------------
a. Pension Plan
The Company has a defined-contribution pension plan covering substantially
all its employees. Amounts charged to expense relating to this plan totaled
approximately $767,000, $836,000 and $810,000 for the fiscal years ended
1996, 1997 and 1998, respectively.
b. Deferred Compensation
Effective December 1, 1994, the Company established a deferred compensation
plan for certain key employees. As of December 26, 1997 and December 25,
1998 no material amount of compensation has been deferred.
c. Equity Participation Plan
Effective January 1, 1994, the Company's Board of Directors adopted the
Equity Participation Plan, as amended (the "Plan"). This Plan provided
certain key employees and independent contractors deferred compensation
based upon the Company's value, as defined in the agreement. Benefits
earned by participants are based upon a formula with a specified minimum
benefit accruing each year for each participant. Benefits are accrued and
charged to compensation in the year earned. As of fiscal year ended 1996,
1997 and 1998 the Company has recorded $19,664,000, $5,703,000 and
$63,940,000, respectively, related to amounts earned by the Plan
participants.
In fiscal 1998, the Company declared bonuses totaling $20 million which
resulted in a corresponding decrease in amounts payable under the Plan. The
effect of the bonuses was to accelerate the timing of payments to the
participants.
Effective with the Recapitalization, all amounts owed to participants were
paid out and the plan was terminated. Total amounts paid in 1998 were
$89,642,000.
9. Extraordinary Item
------------------
In accordance with the Recapitalization, the Company recorded an extraordinary
loss on the extinguishment of the existing debt related to the write-off of
unamortized deferred finance fees of $104,000.
10. Major Customers and Sales by Geographic Region
----------------------------------------------
The Company sells respiratory care products to distributors and medical
facilities throughout the United States and internationally. During 1996, 1997
and 1998, the Company had foreign sales of approximately $16,077,000,
$19,008,000 and $20,148,000, respectively, which constituted approximately 17
percent, 19 percent and 20 percent of total sales, respectively. The Company's
percentage of sales by geographic region for the fiscal years ended 1996, 1997
and 1998 were as follows:
<PAGE>
- 11 -
<TABLE>
<CAPTION>
1996 1997 1998
------ ------ ------
<S> <C> <C> <C>
Domestic 82.8% 80.9% 79.9%
Europe 6.6 7.5 7.8
Pacific Rim (Japan, Southeast
Asia, Australia/New Zealand) 5.7 5.7 6.2
Canada 1.9 1.8 2.0
Other international 3.0 4.1 4.1
----- ----- -----
Total 100.0% 100.0% 100.0%
===== ===== =====
</TABLE>
For the fiscal years ended 1996, 1997 and 1998, the Company had sales to one
domestic distributor in the amount of $30,029,000, $29,852,000 and $23,085,000
which represented approximately 32 percent, 30 percent and 23 percent of sales,
respectively. Additionally, the Company had sales of $10,265,000 in 1998 to
another domestic distributor that accounted for approximately 10 percent of
sales during the year.
The Company maintains a manufacturing facility in Ensenada, Mexico which has
fixed assets with a net book value of approximately $1,060,000 as of December
25, 1998.
11. Acquisitions
------------
a. Artema Medical
--------------
During 1996, the Company acquired substantially all the assets of the
Artema Medical AB corporation ("Artema") for a cash purchase price of
$6,000,000. Artema engaged primarily in the business of manufacturing,
marketing, and selling hygroscopic condenser humidifiers. The acquisition
was accounted for as a purchase and the purchase price was allocated as
follows (amounts in thousands):
<TABLE>
<CAPTION>
<S> <C>
Covenant not-to-compete $ 3,500
Goodwill 1,743
Machinery and equipment 757
------
$ 6,000
=======
</TABLE>
b. Gibeck Inc.
-----------
During 1998, the Company acquired certain assets of Gibeck Inc. ("Gibeck")
for a cash purchase price of $3,351,000. Gibeck engages primarily in the
business of manufacturing, marketing, and selling custom anesthesia
circuits. The acquisition was accounted for as a purchase and the purchase
price was allocated as follows (amounts in thousands):
<TABLE>
<S> <C>
Goodwill $ 1,817
Inventory 871
Machinery and equipment 663
------
$ 3,351
=======
</TABLE>
<PAGE>
- 12 -
12. Condensed Consolidated Quarterly Data (unaudited)
-------------------------------------------------
<TABLE>
<CAPTION>
1998 Quarter Ended (unaudited)
------------------------------
March 27 June 26 September 25 December 25
-------- ------- ------------- ------------
($000's)
<S> <C> <C> <C> <C>
Net sales $24,265 $22,432 $22,130 $31,671
Gross profit 11,239 10,316 10,582 14,841
Income (loss) before
extraordinary items 1,498 10,441 (243) (4,713)
Net income 1,498 10,337 (243) (4,713)
</TABLE>
<TABLE>
<CAPTION>
1997 Quarter Ended (unaudited)
------------------------------
March 28 June 27 September 26 December 26
-------- ------- ------------ -----------
($000's)
<S> <C> <C> <C> <C>
Net Sales $23,987 $25,106 $21,813 $28,603
Gross profit 12,017 11,958 10,697 13,105
Net income 3,195 2,929 1,962 3,207
</TABLE>
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this Report on Form 10-K to
be signed on its behalf by the undersigned, thereunto duly authorized.
RIVER HOLDING CORP.
Date: March 25, 1999 By: /s/ Jay R. Ogram
_____________________________________
Jay R. Ogram
Chief Financial Officer and Secretary
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Jay R. Ogram his true and lawful attorney-in-fact
with full power of substitution and resubstitution, for him or her and in his or
her name, place and stead, in and any all capacities, to sign any and all
amendments to this Report on Form 10-K and to file same, with all exhibits
thereto, and other documents in connection therewith, with the Securities and
Exchange Commission, granting unto said attorney-in-fact and agents, and each of
them, full power and authority to do and perform each and every act and thing
requisite and necessary to be done in and about the premises, as fully to all
intents and purposes as he or she might or could do in person, hereby ratifying
and confirming all that said attorney-in-fact and agent, or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report on Form 10-K has been signed by the following persons on behalf of the
Registrant in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<S> <C> <C>
/s/ Richard W. Johansen Chief Executive Officer and Director March 25, 1999
___________________________
Richard W. Johansen (Principal Executive Officer)
/s/ Jay R. Ogram Chief Financial Officer and Secretary March 25, 1999
___________________________
Jay R. Ogram (Principal Financial Officer)
/s/ Helen Hudson Lovaas Director March 25, 1999
___________________________
Helen Hudson Lovaas
/s/ Ronald P. Spogli Director March 25, 1999
___________________________
Ronald P. Spogli
/s/ Charles P. Rullman Director March 25, 1999
___________________________
Charles P. Rullman
/s/ Jon D. Ralph Director March 25, 1999
___________________________
Jon D. Ralph
</TABLE>
II-1
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report on Form 10-K to
be signed on its behalf by the undersigned, thereunto duly authorized.
HUDSON RESPIRATORY CARE INC.
Date: March 25, 1999 By: /s/ Jay R. Ogram
________________________________________
Jay R. Ogram
Chief Financial Officer and Secretary
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Jay R. Ogram his true and lawful attorney-in-fact
with full power of substitution and resubstitution, for him or her and in his or
her name, place and stead, in and any all capacities, to sign any and all
amendments to this Report on Form 10-K and to file same, with all exhibits
thereto, and other documents in connection therewith, with the Securities and
Exchange Commission, granting unto said attorney-in-fact and agents, and each of
them, full power and authority to do and perform each and every act and thing
requisite and necessary to be done in and about the premises, as fully to all
intents and purposes as he or she might or could do in person, hereby ratifying
and confirming all that said attorney-in-fact and agent, or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report on Form 10-K has been signed by the following persons on behalf of the
Registrant in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<S> <C> <C>
/s/ Richard W. Johansen Chief Executive Officer and Director March 25, 1999
___________________________
Richard W. Johansen (Principal Executive Officer)
/s/ Jay R. Ogram Chief Financial Officer and Secretary March 25, 1999
___________________________
Jay R. Ogram (Principal Financial Officer)
/s/ Helen Hudson Lovaas Director March 25, 1999
___________________________
Helen Hudson Lovaas
/s/ Ronald P. Spogli Director March 25, 1999
___________________________
Ronald P. Spogli
/s/ Charles P. Rullman Director March 25, 1999
___________________________
Charles P. Rullman
/s/ Jon D. Ralph Director March 25, 1999
________________________
Jon D. Ralph
</TABLE>
II-2
<PAGE>
SUPPLEMENTAL INFORMATION TO BE FURNISHED WITH REPORTS FILED PURSUANT TO
SECTION 15(D) OF THE ACT BY REGISTRANTS WHICH HAVE NOT REGISTERED SECURITIES
PURSUANT TO SECTION 12 OF THE ACT
No annual report or proxy material has been sent to security holders.
II-3
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
----------------------------------------
To the Board of Directors of
River Holding Corp.
We have audited in accordance with generally accepted accounting standards, the
financial statements of RIVER HOLDING CORP. (a Delaware corporation)
and subsidiaries included in this Form 10-K and have issued our report thereon
dated March 1, 1999. Our audit was made for the purpose of forming an opinion on
the basic financial statements taken as a whole. The schedule listed in the
index above is the responsibility of the company's management and is presented
for purposes of complying with Securities and Exchange Commission's rules and is
not part of the basic financial statements. This schedule has been subjected to
the auditing procedures applied in the audit of the basic financial statements
and, in our opinion, fairly states in all material respects the financial data
required to be set forth therein in relation to the basic financial statements
taken as a whole.
/s/ ARTHUR ANDERSEN LLP
Orange County, California
March 1, 1999
S-1
<PAGE>
RIVER HOLDING CORP.
SCHEDULE I -- VALUATION AND QUALIFYING ACCOUNTS
(Amounts in thousands)
<TABLE>
<CAPTION>
BALANCE AT BALANCE AT
BEGINNING OF CHARGES TO END OF
PERIOD EXPENSES WRITE-OFFS PERIOD
------------- ------------ ------------ ---------------
<S> <C> <C> <C> <C>
Description
- -----------
For the Period from Inception (April 7,
1998) to December 25, 1998:
Allowance for doubtful accounts
receivable .......................... $ (258) $ (427) $ 50 $ 635
============= ============ ============ ===============
</TABLE>
S-2
<PAGE>
EXHIBIT 12.1
RATIO SUPPORT
RATIO OF EARNINGS TO FIXED CHARGES
<TABLE>
<CAPTION>
Holding
Hudson RC1 -------
------------------------------------------ Inception to
1994 1995 1996 1997 1998 12/25/98
---- ---- ---- ---- ---- --------
<S> <C> <C> <C> <C> <C> <C>
Earnings:
Pre-tax Income 7,845 (118) 7,154 11,443 (61,676) (1,574)
Fixed Charges:
Interest Expense 2,299 2,424 2,177 1,834 10,692 10,273
Amort. of Debt Expense 386 147 59 62 824 635
Interest Factor of Rental
Expense 321 355 369 377 502 370
------ ------ ----- ------ ------ ------
Total Fixed Charges 3,006 2,926 2,605 2,273 12,018 11,278
------ ------ ----- ------ ------ ------
Total Earnings 10,851 2,808 9,759 13,716 (61,676) (1,574)
Total Fixed Charges 3,006 2,926 2,605 2,273 12,018 11,278
------ ------ ----- ------ ------ ------
Ratio of earnings to 3.6 1.0 3.7 6.0 (5.1) (0.1)
fixed charges
Deficiency of earnings to
cover fixed charges (73,694) (12,852)
</TABLE>
<PAGE>
RATIO OF EARNINGS TO FIXED CHARGES AND PREFERRED STOCK DIVIDENDS
<TABLE>
<CAPTION>
Holding
Hudson RCI ------------
-------------------------------------------------------- Inception to
1994 1995 1996 1997 1998 12/25/98
---- ---- ---- ---- ---- --------
<S> <C> <C> <C> <C> <C> <C>
Earnings:
Pre-Tax Income 7,845 (118) 7,154 11,443 (61,676) (1,574)
Fixed Charges:
Interest Expense 2,299 2,424 2,177 1,834 10,692 10,273
Amort. of Debt Expense 386 147 59 62 824 635
Interest Factor of Rental
Expense 321 355 369 377 502 370
Preferred Stock Dividend
Expense -- -- -- -- 2,512 2,512
------ ------ ------ ------ ------ ------
Total Fixed Charges 3,006 2,926 2,605 2,273 14,530 13,790
------ ------ ------ ------ ------ ------
Total Earnings 10,851 2,808 9,759 13,716 (61,676) (1,574)
Total Fixed Charges 3,006 2,926 2,605 2,273 14,530 13,790
------ ------ ------ ------ ------ ------
Ratio of earnings to 3.6 1.0 3.7 6.0 (4.2) (0.1)
fixed charges and
preferred stock
dividends
Deficiency of earnings to (76,206) (15,364)
cover fixed charges and
preferred stock dividends
</TABLE>
Page 2
<PAGE>
<TABLE>
<CAPTION>
Computation if Interest Factor of Rental
- ----------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Operating rental expense 963 1,065 1,106 1,132 1,506 1,110
Interest Factor 33% 33% 33% 33% 33% 33%
---- ----- ----- ----- ----- -----
Total 321 355 369 377 502 370
==== ===== ===== ===== ===== =====
</TABLE>
Page 3
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM RIVER
HOLDING CORPORATION AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-25-1998
<PERIOD-START> APR-07-1998
<PERIOD-END> DEC-25-1998
<EXCHANGE-RATE> 1
<CASH> 507
<SECURITIES> 0
<RECEIVABLES> 25,195
<ALLOWANCES> 635
<INVENTORY> 18,024
<CURRENT-ASSETS> 45,409
<PP&E> 51,155
<DEPRECIATION> (4,298)
<TOTAL-ASSETS> 262,709
<CURRENT-LIABILITIES> (15,544)
<BONDS> (115,000)
(31,512)
0
<COMMON> (63,125)
<OTHER-SE> 0
<TOTAL-LIABILITY-AND-EQUITY> (59,653)
<SALES> (76,232)
<TOTAL-REVENUES> (76,232)
<CGS> 42,188
<TOTAL-COSTS> 24,617
<OTHER-EXPENSES> 728
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 10,273
<INCOME-PRETAX> 1,574
<INCOME-TAX> (614)
<INCOME-CONTINUING> 960
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 960
<EPS-PRIMARY> 0.0
<EPS-DILUTED> 0.0
</TABLE>
