SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.
FORM 10-KSB/A1
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended: September 30, 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: 0-8632
MEDICAL DYNAMICS, INC.
----------------------------------------------------
(Exact name of Registrant as specified in its charter)
Colorado 84-0631765
- ------------------------------- ---------------------
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification Number)
99 Inverness Drive East
Englewood, Colorado 80112
- --------------------------------------- --------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (303) 790-2990
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.001 Par Value
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, and (2) has been subject to such filing requirements
for the past 90 days.
(1) Yes X No
----- -----
(2) Yes X No
----- -----
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B, and no disclosure will 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-KSB or any amendments to this Form
10-KSB.[XX]
<PAGE>
The issuer's revenues for its most recent fiscal year were $7,846,700.
The aggregate market value of the voting stock held by nonaffiliates computed by
reference to the price at which the stock was sold, or the average bid and asked
prices of such stock, as of December 15, 1998 was approximately $22,615,195.
Class Outstanding at December 15 , 1998
- ----- ---------------------------------
Common Stock 10,301,667 shares
Documents incorporated by reference: None
2
<PAGE>
MEDICAL DYNAMICS, INC.
FORM 10-KSB
PART I
Item 1. Business.
--------
(a) Business Development
--------------------
Medical Dynamics, Inc., a Colorado corporation ( NASDAQ Small Cap - MEDY)
incorporated in March 1971 ("MEDY" or the "Company"), is engaged in the design,
development, manufacture and marketing of dental intra oral cameras, disposable
products for the dental and medical professions, and practice management
products for the dental profession. MEDY's principal products are small color
dental intra oral camera systems for use in patient diagnosis and education,
practice management software, multi-operatory imaging systems, patient education
systems, digital x-ray systems and a wide variety of ancillary products utilized
by the dental profession. MEDY has been manufacturing some form of medical or
dental cameras since August of 1981.
During fiscal 1998, MEDY changed its business focus significantly through
three acquisitions.
Effective October 1, 1997 MEDY acquired 100% of the outstanding capital
stock Computer Age Dentist, Inc. (CADI), a California corporation based in
Los Angeles, California. CADI is engaged in the development and sale of
Practice Management Software and related electronic services to the dental
industry.
Effective on February 1, 1998, CADI merged with Information Presentation
Systems, Inc. (IPS) of Marietta, Georgia. IPS is an eight year old company
supplying customized multimedia systems for use in a variety of dental
operatory environments. IPS's product line included the sales of MEDY's
intra oral camera, video and computer image storage systems, patient
management systems, digital radiography and micro-abrasion instruments.
Effective April 1, 1998, CADI purchased 100% of the outstanding common
stock of Command Dental Systems, Inc. of Farmington Hills, Michigan.
Command's primary business is the development, marketing and installation
of dental practice management systems. Command has an in house staff of
programmers, sales professionals, installers, trainers, and support
technicians along with 550 clients ranging from small dental offices to
large clinics.
As a result of the acquisitions, MEDY is now operating through CADI, and
CADI is operating the businesses previously operated by IPS and Command, both of
which were merged into CADI. As a result of the CADI, IPS and Command
acquisitions, MEDY has integrated the hardware and software necessary to manage
a dental practice. Since MEDY and CADI's products being offered for sale are all
3
<PAGE>
Year 2000 (Y2k) compliant, MEDY intends to market CADI's products to the dental
practices with MS-DOS and UNIX based software that may not be Y2K compliant.
MEDY has one inactive subsidiary, MedPacific Corporation, a Washington state
corporation. MEDY's principal executive offices and manufacturing facilities are
at 99 Inverness Drive East, Englewood, Colorado, 80112. Its telephone number at
that address is (303) 790-2990.
During the fiscal year ended September 30, 1998, MEDY was not involved in
any bankruptcy, receivership or similar proceeding nor did it engage in any
material reclassification, or consolidation. During that period, MEDY did not
dispose of any material amounts of its assets other than in the ordinary course
of its business.
During the fiscal year 1995 MEDY entered into a distribution agreement with
Micro-Medical Devices, Inc. (MMD), of Castle Rock, Colorado. MMD is a
corporation formed by and 100% wholly-owned by MEDYs Chairman. MMD manufactures
and sells minimal quantities of various medical products to MEDY. See Item 12 -
"Certain Relationships and Related Transactions, Distribution Agreement."
As discussed in Note 2 to the financial statements, the Company has
suffered recurring losses and negative cash flows from operations. This raises
substantial doubt about the Company's ability to continue as a going concern.
During fiscal 1998, MEDY sold convertible debentures to The Tailwind Fund, Ltd.,
an unaffiliated entity, pursuant to Regulation D. MEDY sold convertible
debentures in the amount of $1,100,000 on October 31, 1997, $1,100,000 on July
31, 1998 and $400,000 subsequent to fiscal year end on November 16, 1998.
Management's further plans in regard to these matters are also described in Note
2 and in Item 6 - "Management's Discussion and Analysis of Financial Condition
and Results of Operations". The financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
(b) Business of the Issuer
--------------------------
As a result of the acquisition of CADI, IPS and Command during fiscal 1998
MEDY has two principal business segments:
(i) The design, development, manufacture and marketing of medical cameras
and related disposable products for the medical markets ("The Medical Products
Segment"). These products are used in surgical, diagnostic, research and
teaching applications by physicians and other health care professionals and has
historically been the business of MEDY.
(ii) The design, development, manufacture and marketing of dental intra
oral cameras, practice management software, related electronic services and
other technology products to be integrated into those software systems("The
Dental Products Segment"). MEDY entered this business segment as a result of its
acquisition of CADI, IPS and Command.
4
<PAGE>
The Medical Products Segment
During the current fiscal year, MEDY has significantly changed its
corporate emphasis. While MEDY is still outsourcing manufacturing of disposable
drapes for use in medical operations, MEDY has greatly expanded its operations
and has entered into the dental product segment as a result of acquisitions
completed in fiscal 1998. Consequently, as described below, medical cameras and
other medical products have become insignificant to MEDY's operations and
financial condition as a whole. Annual sales of Medical Products (including
ancillary camera equipment and related disposable products) in fiscal years
ending 1997 and 1998 were $297,900 (30%)and $271,800 (3%), respectively. The
principal reasons why medical sales volumes have declined over the past years
are fluctuating OEM revenue, the limited product line previously offered by
MEDY, a limited amount of capital available to promote the products through
successful marketing efforts and distribution channels and the consolidation of
hospitals coupled with less influence over buying decisions by physicians. Such
limitations have proven detrimental to the ongoing medical product operations of
MEDY to date. MEDY's medical cameras and other products are fully Y2K compliant.
If the Medical Products segment does not become more significant in the future,
MEDY will cease accounting for it as a separate segment.
Distribution Methods. MEDY's medical products are sold principally to physicians
and hospitals, either directly or through one of MEDY's independent sales
representatives.
Inventory and Raw Materials. With the decreased sales volumes generated by the
Medical Products segment, MEDY's inventory requirements for this segment are an
insignificant percentage of total inventory held.
Government Regulation. The requirements of the FDA regarding the manufacture and
sale of Medical Products continues regardless of sales volumes. MEDY's
requirements under those regulations are described in detail below in the Dental
segment.
CMOS Imaging Chips. MEDY is also currently exploring the development of a
Complementary Metal Oxide Sensor (CMOS) imaging chip for its medical and dental
cameras and endoscopes which, if successful, is expected to reduce component
costs from $700 to less than $50 per unit and allow MEDY's reentry into the
endoscopic capital equipment market. Low cost CMOS imaging chips coupled with
MEDY's "Rotatable Chip" technology would allow MEDY to create disposable
electronic endoscopes or cameras for the medical and dental markets at a
substantially lower transfer price to the market, while at the same time
maintaining gross margins and raising unit volume. MEDY acquired the "Rotatable
Chip" technology in 1993 via a non exclusive license agreement, expiring June
30, 2009, from a non affiliated company, High Tech Medical Instrumentation, Inc.
on U.S. Patent No. 4,858,001 entitled Modular Endoscopic Apparatus With Image
Rotation. The license agreement was obtained by payment of $10,000 and issuance
of 30,000 shares of the Company's restricted common stock along with the
obligation to pay 2% royalties on any products sold. To date, royalties paid to
HTMI have been less than $1,000 during the term of the agreement. Depending on
the availability
5
<PAGE>
of CMOS imaging chips, and continuing research and development, these devices
could be ready for market during calendar 1999, although there can be no
assurance of that fact.
The Dental Products Segment
During fiscal years 1996 and 1997 MEDY applied it's surgical camera
expertise to the development of intra oral dental cameras for use as a
diagnostic and patient education tool for the dental profession. MEDY believes
that the True Vision(TM) and CadCam family of cameras it has created represents
the state-of-the-art for this camera technology, with high resolution surgical
camera picture quality coupled with competitive pricing. MEDY believes that its
products are in compliance with applicable governmental regulations, if any, in
the United States and in other countries in which such products are sold. MEDY's
dental cameras and accessories are fully Y2k compliant.
Existing Products and New Products. MEDY's principal dental products and their
markets, and new products which are under development, are as follows. MEDY's
intraoral dental camera and multi-operatory video systems, practice management
software and hardware, third party software, digital x-ray systems and patient
education systems are primarily sold through CADI's direct sales force. To a
lesser extent, the intra oral camera is sold through a select dealer
distribution network or on an OEM distributor basis. MEDY has engaged in
marketing and advertising its products at dental conventions and through direct
sales representatives or a distributor network. During the years ended September
30, 1998 and 1997, MEDY spent $2,078,900 and $144,600, respectively, on sales
promotions, conventions and advertising expenses relating to its dental
products.
True Vision 2(TM) and CadCam Intra Oral Dental Camera. MEDY currently
manufactures and markets dental intra oral cameras which are designed for most
common dental applications. These camera models contain a high performance video
sensor coupled with a 1/4" lens and camera system which management believes
provides superior high resolution picture quality compared to other cameras used
in the dental profession. The cameras' state-of-the-art technology consists of
easy angle, high resolution viewing, a single lens format providing anatomically
correct images, and the smallest and lightest hand piece available on the market
today. Production and sales of these cameras began in September of 1996. Sales
of these cameras increased from $684,900 in fiscal 1997 to $1,040,000 in fiscal
1998. The principal market for the True Vision and CadCam cameras are dentists.
Intra Oral Dental Cameras incorporating CMOS imaging chips. Due to the lower
costs of the CMOS imaging chips discussed above, MEDY is pursuing this project
as a way in which to substantially lower the cost of the Intra Oral Camera to
the market. The time frame for potential introduction to the market is calendar
1999, although the Company's ability to meet this time frame is dependant on a
number of factors, such as identification of suppliers of CMOS chips and the
design and development of a new intra oral camera incorporating the CMOS
technology, some of which are beyond the Company's control and no assurance of
the Company meeting that time frame can be given.
6
<PAGE>
Practice Management Software. With its October 1997 purchase of Computer Age
Dentist, Inc. (CADI), and the subsequent acquisitions of IPS and Command, MEDY
now offers software for the dental office that provides patient scheduling,
patient education, graphical charting, image capture, word processing,
accounting, camera and digital x-ray integration, and insurance benefits
database. In addition to its own brand of intra oral camera integrated with
multi operatory video systems, the Company also offers third party products that
it resells and integrates with the practice management software it sells. These
products consist of computer hardware, digital x-ray systems, image capture
software and patient education systems.
The software allows the scheduling of patients and dental professionals,
and ties scheduled patients directly to their dental records; integrates with
all intra oral dental cameras, allowing the dentist to include intra-oral
pictures directly on the patient's computerized chart; provides for computer
based charting and digitized x-rays to be automatically attached to the
patient's chart for easy viewing and printing; integrates the patient's chart
directly with word processor, spreadsheet, and database functions, allowing the
dentist and his or her staff to create correspondence, charts, and reports based
on the patient's information; and provides the ability to submit claims to
insurance companies electronically, tracks laboratory requests and results, and
many other services useful to the modern dental office.
CADI's current product is a Windows 95/98/NT based application and is a
flexible open architecture design and can be used either through a computer
keyboard, mouse, or light pen. Charts, reports, statements, x-rays, and pictures
can be printed on plain paper laser printers. This product is fully Y2k
compliant.
No Principal Customers. CADI has over 4,500 customer installations throughout
the United States serving in excess of 7,000 dental professionals and,
therefore, it is not dependent on sales to any principal customer.
Inventory and Raw Materials Requirements. In the intra oral camera product
category, MEDY is required to carry significant quantities of raw material
inventory to meet rapid delivery requirements of customers or to assure itself
of a continuous allotment of raw materials from suppliers. The finished goods
segment of intra oral cameras is much less significant due to the Company's
efforts to produce only sufficient quantities of finished goods to satisfy one
current months demand for product. In cases where CADI provides the dental
office with the computer hardware to support its software applications, the
Company is required to inventory those computer hardware components. Currently
the inventory is ordered on a "just in time basis" and is only ordered on a
custom basis for each sales order received. As sales revenues increase, the
inventory component required will increase proportionately..
MEDY is able to obtain the raw materials for its camera products from a
large number of suppliers. MEDY does not believe that it is dependent on any
single supplier for its raw materials. For a number of years, MEDY had purchased
cameras exclusively from Panasonic Industrial Company - Audio Video Systems
Group ("Panasonic"). Although Panasonic is still the primary supplier of
cameras, MEDY now procures cameras from additional sources without sacrificing
product or picture quality.
7
<PAGE>
Distribution Methods. Distribution for CADI's software, intra oral camera and
related third party products is conducted with direct sales professionals
employed by the Company. The Windows 95/98/NT based multi-user product sells for
approximately $7,000 each. Upgrades to CADI's most recent CadWin product are
provided to customers at no charge provided the customer is under a technical
support contract. Activities by CADI, IPS and Command Dental during the period
before their fiscal 1998 acquisition by MEDY are useful in understanding MEDY's
proposed distribution methods.
In CADI's previous fiscal year ended September 30, 1997, prior to its
acquisition by MEDY, it had approximately $2.9 million of revenue.
In IPS's previous fiscal year ended December 31, 1997, prior to its
acquisition by MEDY, it had approximately $3 million of revenue.
In Command Dental's previous fiscal year ended September 30, 1997, prior to
its acquisition by MEDY, it had approximately $1.4 million of revenue.
It is Management's intention to increase those revenues over time with the
addition of capital for future R&D, marketing, additional acquisitions of
companies in similar businesses and an expanded national sales and distribution
system. It is Management's intention to pursue all of those strategies in
attempting to profitably grow that business, but no assurances can be made as to
the success of that effort. Utilizing the previous years sales of each of those
acquisitions taken from the point in time of their acquisition and applying the
commensurate percentage of the year in which they contributed to total revenue
in fiscal 1998, totals approximately $5.6 million in aggregate sales revenue.
With total sales of $7.6 million exclusive of medical products in fiscal 1998,
then the combined entities generated an approximate internal growth rate of 36%.
Competition. Principal competitors in the dental camera field are Patterson
Dental, Dentsply and Dental/Medical Diagnostic Systems. Principal competitors in
the dental software business are Dentrix, Softdent and Practice Works. In
addition, there are a large number of small companies which offer dental
practice management software and related electronic services of their own
design. MEDY believes that CADI's software is among the more highly integrated
and easier to use software available to the dental office. Management believes
CADI's software and related hardware products are equitably priced in comparison
to that of its primary competitors which offer similar features. Furthermore,
the software offered by some smaller competitors may not be Y2k compliant,
whereas the dental practice management software offered by CADI is believed to
be fully Y2k compliant.
Research and Development. During the fiscal years ended September 30, 1998 and
1997, MEDY spent approximately $46,700 and $200,300, respectively, on
company-sponsored research and development activities related primarily to the
dental intra oral camera product line. CADI is continually seeking to improve
its dental practice management software and related electronic services. The
software industry is characterized by continual changes and improvements and, in
some cases, startling new designs (such as the changes from DOS-based
8
<PAGE>
applications to Windows, and from Windows 3.1 to Windows 95). CADI must keep its
software current for new versions of software being published by third parties,
as well as maintain existing software which may be running on older computers.
CADI has spent approximately $268,200 on research and development, in the form
of programming salaries in the fiscal year ended September 30, 1998.
Warranty. MEDY's medical and dental cameras are warranted for a one-year period
with respect to parts and labor required as a result of defects in material and
workmanship. Defects or malfunctions are corrected by MEDY at MEDY's cost, if
the applicable conditions to the warranty are satisfied. Failures normally occur
during the early life of the cameras, and repair expenses usually occur in the
same year in which the camera is initially placed in service. MEDY estimates
future warranty costs and records the estimated cost into its results of
operations based upon historical experience and revenues currently reported. The
estimated warranty reserve for medical and dental camers at fiscal year end
September 30, 1998 and 1997 was $31,000 and $11,000, respectively.
Government Regulation. The United States Food and Drug Administration (the
"FDA"), pursuant to the Medical Device Amendments of 1976 to the Food, Drug and
Cosmetic Act (the "Act") and regulations promulgated thereunder, regulates the
testing, manufacturing, packaging, distribution and marketing of medical devices
in the United States, including the medical and dental products manufactured by
MEDY.
The Act requires manufacturers of medical devices to register annually and,
semi-annually, to list new devices being produced by the manufacturer for
commercial distribution.
The Act also classifies medical devices and requires compliance with
specific manufacturing and quality assurance standards. The FDA has published
regulations defining good manufacturing practices to provide that each step of
the manufacturing process for any device is controlled to maximize the
probability that the finished product meets all quality and design
specifications. The regulations also require that each manufacturer establish a
quality assurance program by which the manufacturer monitors the manufacturing
process and maintains records which show compliance with the FDA regulations and
the manufacturer's written specifications and procedures relating to the
devices.
MEDY's facilities and records are subject to periodic unannounced
inspections by the FDA for compliance with the applicable FDA regulations. The
FDA may issue reports or citations where the manufacturer has failed to comply
with all appropriate regulations and procedures. If the FDA finds a manufacturer
not to be in such compliance, the FDA may prohibit a manufacturer from selling
the products for which the manufacturer is not in compliance, until such time as
the manufacturer complies with the applicable FDA regulations with respect to
those products. Compliance with the provisions of the Act and the FDA's
regulations is time consuming and expensive due to the extensive record keeping
required. MEDY currently has only two products, the dental intra oral camera and
CamWrap that fall under the purview of the FDA regulations. With the shift in
the Company's focus to non regulated products, the percentage of revenue from
FDA regulated products will continue to become less significant.
9
<PAGE>
MEDY's last inspection by the FDA was in December 1997. While some adverse
practices/conditions were observed during the inspection, according to the FDA,
they did not warrant consideration of any regulatory follow-up by the agency at
that time.
There is no governmental regulation which impacts the development and sale
of CADI's dental practice management software. Because the dental industry is so
dependent on government and private insurance company oversight, however, it is
important for the CADI software to be able to allow dentists and their offices
to show compliance with governing rules and regulations. Consequently, CADI has
developed its dental practice management software to allow dentists and dental
offices to maintain accountability in accordance with these requirements.
Other Information
Principal Customers. MEDY had no customer who contributed 10% or more of total
revenues during the fiscal year ended September 30, 1998 and one who contributed
more than 10% in the 1997 fiscal year. Gross billings to Information
Presentation Systems, Inc.(IPS) of Marietta, GA. during the 1997 fiscal year was
$599,500 or 61% of Company's revenues. IPS markets and installs dental intra
oral cameras, multi operatory image systems, digital x-ray systems and other
related dental products. MEDY (through CADI) acquired IPS in February 1998 and,
therefore, IPS is no longer a significant customer of MEDY.
Patents, Trademarks, etc. Patents. MEDY holds an exclusive license on three
patents related to its Optical Catheter System(TM). United States Patents No.
4,782,819, No. 4,736,733, and No. 4,754,328 expiring November 8, April 12, and
June 28, 2005, respectively, relating to the Optical Catheter(TM) are owned by
Dr. and Mrs. Adair and are licensed on an exclusive basis to MEDY. The terms of
the license agreement are described under "Licenses" below.
In addition to the above referenced patents, the following patents are also
licensed to MEDY from its Chairman:
TITLE ISSUE DATE PATENT NUMBER
- --------------------------------------------- ---------------- -----------------
"Laser Endoscope" 5/20/86 4,589,404
"Laser Endoscope" (Divisional) 6/28/88 4,754,328
"Endoscope with Removable Eyepiece" 4/12/88 4,736,733
"Gas Insufflation Needle with Instrument
Port" (Adair Veress Needle) 9/26/89 4,869,717
"Rigid Video Endoscope with Heat
Sterilizable Sheath" (EVL and lap-Wrap) 11/7/89 4,878,485
Reissue 3/24/92 RE 33,854
"Deformable and Removable sheath for
Optical Catheter" 3/30/93 5,197,457
"Deflectable Sheath for Optical Catheter" 6/30/92 5,125,395
"Heat Sterilizable Electronic Video
Endoscope" (Autoclavable EVL) 2/23/93 5,188,094
Steerable sheath for Use With Selected
Removable Optical Catheter" 7/5/94 5,325,845
"Imaging Tissue or Stone Removal Basket" 5/17/94 5,311,858
"Stereoscopic Endoscope" (3-D EVL) 1/17/95 5,381,784
"Stereoscopic Endoscope With Miniaturized
Electronic Imaging Chip" 2/27/96 5,494,483
"Miniaturized Electronic Imaging Chip"
(For Reduced Diameter Electronic
Endoscopes) 2/27/96 5,495,114
10
<PAGE>
The Bayne Pap Brush(TM) is subject to United States Patents No. 4,762,133,
4,754,764 and 4,873,992 expiring August 9, 2005 through October 17, 2006. Dr.
Bayne, a director of MEDY, assigned these patents to MEDY and is entitled to
receive a royalty of two percent of net sales of the product after recovery of
certain expenses. No royalties have been accrued or paid to Dr. Bayne on this
product, and MEDY is no longer marketing this product.
Trademarks. MEDY is also the holder of United States Trademarks, registration
numbers 1,299,413, 1,299,414, 1,719,664, and 2,111,413 which relate to the name
"Medical Dynamics", the corporate logo of MEDY, the Adair/Veress Needle, and
True Vision, respectively. The trademarks are granted for a term of 20 years and
expire on those terms beginning October 8, 2004, and if still in use at that
time may be renewed for successive 20-year periods by application. In addition,
MEDY claims rights in numerous unregistered trademarks which it uses in
interstate commerce, and which are subject only to common law protection.
Additionally, MEDY holds trademark registration number 1,282,319 which relates
to the name "MedPacific Corporation" and its corporate logo. This Trademark was
renewed for a 20 year term in June 1990. CADI holds United States Trademark,
registration numbers 2,034,684 and 1,930,685 which relate to the name "Computer
Age Dentist" and "O.M.S. Plus", respectively, and were registered on February 4,
1987 and October 31, 1995, respectively.
Licenses. MEDY entered into an exclusive revocable license agreement with Dr.
Edwin Adair effective June 3, 1987, as amended, relating to use of certain
technology invented and developed by Dr. Adair. Before an amendment negotiated
in September 1997, MEDY was obligated to pay Dr. Adair a minimum annual royalty
of $120,000. Additionally, Dr. Adair was obligated to give MEDY a right of first
refusal for his inventions. Actual royalties never exceeded the minimum annual
royalty. As a result of negotiations between the disinterested directors and Dr.
Adair, the parties agreed to amend the license agreement to waive the minimum
annual royalty due September 30, 1997 for the year then ended, and any future
minimum annual royalty, and to waive Dr. Adair's obligation to provide MEDY with
a right of first refusal on future technology.
Compliance With Environmental Laws. MEDY is not materially affected by federal,
state and local provisions which have been enacted or adopted regulating the
discharge of materials into the environment or otherwise relating to the
protection of the environment.
11
<PAGE>
Employees. At December 9, 1998, MEDY (not including CADI) employed 13 persons,
including 4 persons engaged in general administration, and 9 persons engaged in
production, distribution, and customer service of MEDY's products. At that date,
CADI employed approximately 120 people in sales, training, installation,
customer service, and administrative functions. These employees are based in
CADI's offices in Los Angeles, California, Marietta, Georgia, and Farmington
Hills, Michigan as well as salespeople located in the territories they
represent.
Item 2. Description of Property.
MEDY leases 18,358 square feet of space at $13,845 per month at 99
Inverness Drive East, Englewood, Colorado, where its principal executive offices
are located and its business activities, including research, assembly, storage
and customer service, are conducted. MEDY has used the bulk of these facilities
since 1981. This lease has been renewed on only 11,085 square feet through
December 31, 2000 at a base rental rate (during 1999) of $7,390 per month. MEDY
also pays certain maintenance, insurance, common area and other expenses with
respect to the property to the extent that the lessor's costs for such items
exceed a specified amount. MEDY pays any increases in property taxes due to
improvements on the property and pays for utilities.
Computer Age Dentist, Inc. leases 5,002 square feet of office space in Los
Angeles, California at 11300 W. Olympic, Suite 600. The lease runs for five
years from November, 1997 to October, 2002 at a rate of $9,003.60 per month
which includes parking, operating costs and property taxes. CADI also leases
1600 square feet in Orange County, California, at $880 per month from August
1998 through August of 1999, 3,610 square feet in Marietta, Georgia at $1,952
per month, from June 1, 1997 through May 31, 2000, and 3,480 square feet in
Farmington Hills, Michigan at $5,800 per month from April 1, 1998 through March
31, 2003.
Item 3. Legal Proceedings.
There are no material pending legal or regulatory proceedings against MEDY
or CADI, and neither is aware of any that are known to be contemplated.
Item 4. Submission of Matters to a Vote of Security Holders.
MEDY has not submitted any matter to a vote of security holders during the
fourth quarter of the fiscal year ended September 30, 1998.
12
<PAGE>
PART II
Item 5. Market for Common Equity and Related Stockholder Matters.
(a) Market Information
----------------------
For more than the past twenty years, MEDY's common stock has been publicly
traded under the symbol "MEDY" on the Nasdaq SmallCap Market which is operated
by the National Association of Securities Dealers, Inc. The Nasdaq SmalCap
Market is one of two distinct market tiers comprising the Nasdaq Stock Market
which is a highly regulated electronic services market utilizing a sophisticated
computer and telecommunications network, Market participants comprise competing
Market Makers, independent dealers who commit capital to stocks and compete with
each other for orders, and Electronic Communications Networks, trading systems
recently integrated into Nasdaq which bring additional orders into the market.
The market structure provides visibility of orders and allows market
participants to compete for order flow. Trading is supported by a communications
network linking the market participants to quotations dissemination, trade
reporting and order execution systems. This market also provides specialized
automation services for screen based negotiations of transactions, online
comparison of transactions, and a range of information services tailored to the
needs of the securities industry, investors and issuers.
The quotations shown below were compiled by MEDY from monthly statistical
reports supplied by NASD. All quotes represent inter-dealer quotations, without
retail markup, mark-down or commission and may not necessarily represent actual
transactions in common stock.
High Bid Low Bid
--------------------- -----------------------
Fiscal Year Ended
September 30, 1997
First Quarter $ 4.63 $ 2.89
Second Quarter 4.94 2.19
Third Quarter 3.19 1.81
Fourth Quarter 3.31 2.28
Fiscal Year Ended
September 30, 1998
First Quarter $ 3.94 $ 2.13
Second Quarter 3.50 3.06
Third Quarter 3.00 2.13
Fourth Quarter 3.00 2.00
(b) Holders
-----------
The number of record holders of the Common Stock, as of September 30, 1998, was
approximately 12,500 not including an unknown number of beneficial holders in
street name.
13
<PAGE>
(c) Dividends
-------------
(c)(1) Payment of Dividends.
Because of its need to retain its cash for operations and the lack of a
positive cash flow, MEDY has never paid a dividend with respect to its common
stock and does not intend to pay such a dividend in the foreseeable future.
(c)(2) Restrictions on the payment of dividends.
There are contractual restrictions on the Company's present or future
ability to pay dividends in MEDY's Convertible Debenture Agreement with The
Tailwind Fund, Ltd. and in MEDY's loan agreement with its lender, Norwest
Business Credit, Inc.
Item 6. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
This report on form 10-KSB, including the information incorporated by
reference herein, contains forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995. Certain statements contained
in this report using the term "may", "expects to", and other terms denoting
future possibilities, are forward looking statements. These statements include,
but are not limited to, those statements relating to development of new
products, the financial condition of MEDY, the ability to increase distribution
of MEDY's products, integration of new businesses MEDY has acquired during the
1998 fiscal year, approval of MEDY's products as and when required by the Food
and Drug Administration ("FDA") in the United States and similar regulatory
bodies in other countries. The accuracy of these statements cannot be guaranteed
as they are subject to a variety of risks which are beyond the Company's ability
to predict or control and which may cause actual results to differ materially
from the projections or estimates contained herein. These risks are described in
this Item 6, and also in Item 1 and Part III of this form 10-K. The business and
economic risks faced by MEDY and MEDY's actual results could differ materially
from those anticipated in these forward-looking statements as a result of
certain factors as described herein.
As discussed in Note 2 to the financial statements, the Company has
suffered recurring losses, negative cash flows from operations and resulting
working capital shortages. Unless the Company can obtain additional debt or
raise additional equity, this raises substantial doubt as to the Company's
ability to continue as a going concern. Management's plans in regard to these
matters are described in this item 6 and also in Note 2. The financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.
The 1998 financial statements reflect the revaluation of the common stock
issued as consideration for the three acquisitions that were completed in fiscal
1998. The impact of this revaluation was to increase software development costs
by $513,510 and goodwill by $1,552,038, resulting in an increase in
stockholders' equity of $2,065,548. The revaluation also increased the fiscal
1998 net loss by $166,843 due to higher amortization expense. The valuation of
14
<PAGE>
the common stock reflected in the Company's 1998 interim statements was based
upon the report of an independent valuation expert. However, based upon comments
recently received from the Securities and Exchange Commission, the value of the
shares issued in each of the acquisitions was increased. By January 15, 1999,
the Company intends to amend its 1998 interim financial statements to reflect
the impact of the revaluation.
Liquidity and Capital Resources.
- --------------------------------
During the fiscal year ended September 30, 1998, the Registrant's current
ratio declined to 1.2 as compared to 4.6 at September 30, 1997. Net working
capital decreased from $1,343,300 September 30, 1997 to $448,900 at September
30, 1998. Likewise, the company's cash balances decreased from $836,400 at
September 30, 1997 to $553,100 at September 30, 1998.
Principal changes in the components of net working capital for the fiscal
year ended September 30, 1998 as compared to fiscal year ended September 30,
1997 consist of:
<TABLE>
<CAPTION>
1998 1997 W/C Effect
---- ---- ----------
<S> <C> <C> <C>
Cash and Cash Equivalents $ 603,100 $ 886,400 $ (283,300)
Trade Receivables 879,400 127,500 751,900
Inventories 879,600 683,400 196,200
Pre-paid Expenses 24,800 15,700 9,100
----------- ----------- -----------
Current Assets: 2,386,900 1,713,000 673,900
Current Maturities of Notes Payable 546,100 -- 546,100
Current Maturities of Capital Leases 40,000 -- 40,000
Accounts Payable 565,800 297,600 268,200
Accrued Expenses 385,000 61,100 354,900
Unearned Revenue 370,100 -- 370,100
Warranty Reserves 31,000 11,000 20,000
----------- ----------- -----------
Current Liabilities: 1,938,000 369,700 1,568,300
Working Capital: $ 448,900 $ 1,343,300 $ (894,400)
=========== =========== ===========
</TABLE>
The principal reason for the significant decrease in working capital during
1998 include negative cash flows from operating activities of $1,239,000,
payment of the cash portions of the consideration for the acquisitions of
Computer Age Dentist, Inc. (CADI) and Information Presentation Systems, Inc.
(IPS) of $300,000 and $200,000 respectively, and payment of acquisition costs
associated with the acquisitions of CADI, IPS, and Command of $122,600. Short
and long term debt was also incurred in the acquisition of CADI and Command,
resulting in an increase in current maturities of Notes Payable of $546,100.
During the fiscal year ended September 30, 1998 the company also incurred
capital expenditures of $238,100 for additional software development activities
and $266,600 for property and equipment.
15
<PAGE>
During the fiscal year ended September 30, 1998 MEDY also experienced
decreased working capital as it built up inventory and trade receivables, since
cash receipts from MEDY's increased sales activities trailed some months behind.
In addition to debt incurred to finance acquisitions in fiscal 1998, the Company
also entered into a capital lease financing arrangement that provided $87,600 of
cash. During fiscal 1998, the company made principal payments on debt totaling
$52,600.
Tailwind Convertible Debentures.
- --------------------------------
Offsetting the expenditures of cash used for operating and investing
activities, were net proceeds of $1,989,300 received from the sale of $2,200,000
of convertible debentures. (Subsequent to fiscal year end on November16, 1998 an
additional $400,000 of convertible debentures were sold to the same unaffiliated
company.) During the year ended September 30, 1998, the holder of the
outstanding debentures elected to convert $660,000 of the debentures to common
stock, resulting in an outstanding principal balance on debentures (excluding
discount) of $1,540,000 at the fiscal year ended September 30, 1998. In each
case, the debentures contain a contractual restriction preventing Tailwind from
converting the debentures or exercising warrants such that at any time it owns
more than 4.99% of the Company's outstanding common stock. Terms of the three
series of debentures purchased by Tailwind during and after fiscal 1998 are as
follows:
The Tailwind Fund, LTD. #1. $1,100,000, 8% Convertible Debentures issued
pursuant to Regulation D.
Dated October 31, 1997, due October 31, 2000. As of October 31, 1998 all of
these debentures, and the related accrued interest, have been converted into a
total of 585,270 shares of MEDY common stock (including debentures for $440,000
which was converted after fiscal year end). The debenture holder was also issued
warrants to purchase 84,615 shares of MEDY common stock at an exercise price of
$3.375 per share.
The Taillwind Fund, LTD. #2. $1,100,000, 8% Convertible Debentures issued
pursuant to Regulation D.
Dated July 31, 1997, due July 31, 2002. Debentures outstanding at maturity will
automatically convert into common stock, at the Company's option.
Interest payable in cash or MEDY common stock at Company's option on each 5th
day of January and July during the term.
Debenture is convertible into MEDY common stock in increments of one third of
the total on November 30, 1998, January 30, and March 31, 1999 respectively.
Debenture is convertible into MEDY common stock at 100% of the "Market Price" on
the date of conversion which is defined as "the average of the two low closing
bid prices of the Company's stock during the previous 60 trading days", not to
exceed the "Ceiling Price" defined as 105% of the average closing bid price of
the Common Stock for the twenty trading days prior to the effective date of the
registration statement. That "Ceiling Price" shall be adjusted effective upon
the second anniversary of the Purchase Agreement to 105% of the Market Price on
such date, if such adjustment would result in a lower price, but in no event
shall the Ceiling Price be adjusted to an amount less than $2.25.
Debenture holder was issued warrants to purchase 110,000 shares of MEDY common
stock at an exercise price of $2.58.
16
<PAGE>
The Company was required to file a Registration Statement with the SEC within 30
days of the Closing Date and obtain effectiveness within 120 days of the Closing
Date (the Registration Date). The Registration Statement has been filed, but
effectiveness has not been obtained within the prescribed time period. The SEC
has selected this registration statement for a full review and the Company is in
the process of providing the SEC with all of their requested information
(including this 10-KSB document) and continuing to seek approval. The Company is
potentially liable for penalties in the amount of 2% of the aggregate principal
amount of the debenture for each month or portion thereof following the
Registration Date during which the registration is not effective. As of December
29, that penalty would be in the approximate amount of $22,000. Among other
covenants within the convertible debenture the Company has agreed to: maintain a
sufficient number of authorized shares to effect the conversion of the
debenture, limit conversions of the debenture in the event it would result in
the holder owning more than 4.99% of the issued and outstanding shares of the
Company's common stock, the Company must be in compliance with all applicable
NASDAQ Small Cap Market continued listing requirements, commencing on the
closing date and continuing for a period of one year following the effective
date of the registration statement, the Company agrees that it shall not,
without first obtaining the investors consent, acquire any company with an after
tax loss in excess of $100,000 for the previous four quarters, the Company shall
not issue or sell any equity or debt securities that are convertible into Common
Stock based upon or varies with the trading prices of the Company's Common Stock
("Variable Rate Transactions"), and the Company agrees that for a period of one
year following the effective date of the registration , the Company shall give
thirty days advance written notice to the investor prior to any offer or sale of
any of its equity securities or any securities convertible into or exchangeable
or exercisable for such securities. In the opinion of Management, the Company is
in compliance with substantially all covenants with the exception of the
registration requirement mentioned above. The Company has requested in writing
that the holder waive or extend the time period by which the Company must effect
the registration due to the late manner in which the Company received
information necessary to file the registration statement. To date the holder has
not responded to that request.
The Tailwind Fund, LTD. #3. $400,000, 8% Convertible Debentures issued pursuant
to Regulation D.
Dated November 16, 1998, due November 16, 2003. Debentures outstanding at
maturity will automatically convert into common stock, at the Company's option.
Interest payable in cash or MEDY common stock at Company's option on each 5th
day of January and July during the term.
Debenture is convertible into MEDY common stock in increments of one third of
the total on March 16, May 16, and July 16, 1999 respectively. Debenture is
convertible into MEDY common stock at 100% of the "Market Price" on the date of
conversion which is defined as "the average of the two low closing bid prices of
the Company's stock during the previous 60 trading days", not to exceed the
"Ceiling Price" defined as 105% of the average closing bid price of the Common
Stock for the twenty trading days prior to the effective date of the
registration statement. That "Ceiling Price" shall be adjusted effective upon
the second anniversary of the Purchase Agreement to 105% of the Market Price on
such date, if such adjustment would result in a lower price, but in no event
shall the Ceiling Price be adjusted to an amount less than $2.25.
17
<PAGE>
The debenture holder was issued warrants to purchase 40,000 shares of MEDY
common stock at an exercise price of $2.58.
The Company was required to file a Registration Statement with the SEC within 30
days of the Closing Date and obtain effectiveness within 120 days of the Closing
Date (the Registration Date). The Registration Statement has been filed, but
effectiveness has not yet been obtained. The SEC has selected this registration
statement for a full review and the Company is in the process of providing the
SEC with all of their requested information (including this 10-KSB document) and
continuing to seek approval. The Company is liable for penalties in the amount
of 2% of the aggregate principal amount of the debenture for each month or
portion thereof following the Registration Date during which the registration is
not effective. As of December 29, there are no penalties accrued to this portion
of the debenture.
Among other covenants within the convertible debenture the Company has agreed
to: maintain a sufficient number of authorized shares to effect the conversion
of the debenture, limit conversions of the debenture in the event it would
result in the holder owning more than 4.99% of the issued and outstanding shares
of the Company's common stock, the Company must be in compliance with all
applicable NASDAQ Small Cap Market continued listing requirements, commencing on
the closing date and continuing for a period of one year following the effective
date of the registration statement, the Company agrees that it shall not,
without first obtaining the investors consent, acquire any company with an after
tax loss in excess of $100,000 for the previous four quarters, the Company shall
not issue or sell any equity or debt securities that are convertible into Common
Stock based upon or varies with the trading prices of the Company's Common Stock
("Variable Rate Transactions"), and the Company agree that for a period of one
year following the effective date of the registration , the Company shall give
thirty days advance written notice to the investor prior to any offer or sale of
any of its equity securities or any securities convertible into or exchangeable
or exercisable for such securities. In the opinion of Management, the Company is
in compliance with substantially all covenants.
If the current balance of $1,500,000 of debentures plus approximately
$40,000 of accrued interest were converted today at a "Market Price" of $2.00
per share, the resulting issuance of additional common stock would be in the
amount of 770,000 shares.
Line of Credit. After the end of fiscal 1998, MEDY obtained a $1,000,000 line of
credit with a three year term from Norwest Business Credit, Inc. with borrowings
based upon 80% of eligible accounts receivable. The Company has pledged
substantially all of its assets to the loan, but to date has only been able to
borrow approximately $350,000 at any given time. The debt currently accrues
interest at Prime plus 3% and required a 1.5% commitment fee payable $10,000
upon closing and $5,000 on the facility's first anniversary. There is a minimum
interest charge monthly of $2,750, which when applied against the minimal
borrowings able to be utilized by the Company creates a significantly higher
interest cost to the Company than the designated Prime plus 3%. Among other
covenants, the loan agreement has affirmative covenants requiring the Company to
maintain certain levels of net worth and limit negative EBITDA (Earnings Before
Interest Taxes Depreciation and Amortization) to certain levels. As of December
15, 1998 the lender has informed the Company that the Company is in technical
default of the net worth covenant of the credit agreement. Without waiving the
existence of the technical default, the lender has agreed to allow the Company
to utilize the credit facility up to a limit of $400,000, accruing interest at
18
<PAGE>
the default rate of Prime plus 6%, with line availability decreasing at $10,000
per week until March 1, 1999 at which time the lender will determine its next
course of action. At that time, if the default continues to exist, the lender
could choose to request payment in full or extend the facility on similar or
different terms.
Also, there are 1,685,952 vested common stock options outstanding as of
December 15, 1998, at prices ranging from $1.00 to $5.00 per share. If exercised
(of which there can be no assurance), these options would provide additional
working capital to MEDY.
The acquisitions of CADI, IPS, and Command together with the placement of
convertible debentures in 1998 are unique transactions that have no parallel in
the comparable prior fiscal period. Due to the fundamental requirement for MEDY
to achieve positive cash flow from operations and positive net income, MEDY will
continue to direct it's efforts toward reviewing and improving product profit
margins, and increasing revenues from the sale of products with higher profit
margins such as those now offered by CADI.
To continue MEDY's objective of curtailing operating losses, negative cash
flow from operations and further liquidity erosion, management is continually
reviewing product profit margins and general expense accounts, and will reduce
or eliminate all non-essential expenditures. Purchasing procedures are also in
place to ensure minimized product costs and to avoid excess inventory levels.
The company also entered into a revised license agreement with Dr. Edwin Adair
during fiscal 1997 resulting in reduced patent maintenance and other associated
costs as well as eliminating minimum royalty payments.
The Company anticipates negative cash flow from operations for the first
and second quarters of fiscal 1999 and possibly beyond. During fiscal 1998, cash
flow deficits were funded by the sale of convertible debentures. The Company's
ability to fund its future operations will be dependent upon achieving
profitability, generating positive cash flow from operations or by raising
additional debt or equity. Unless the Company is able to accomplish one or more
of the above, it may be facing significant working capital shortages beginning
in fiscal 1999. Management of the Company does not believe that its existing
capital resources are sufficient for the 1999 fiscal year if it continues to
grow revenues and expenses in proportion to what it experienced during fiscal
1998. To not interrupt that continuing growth, the Company is currently seeking
additional debt or equity capital to augment its working capital position,
although no assurances can be made as to the availability of such debt or equity
capital or if it can be obtained at prices and terms that are in the best
interest of the Company and its shareholders. If the Company is able to raise
additional debt or equity capital, it would allow the the Company to fund its
operating losses until such time as its expanded efforts in marketing, R&D and
acquisitions continues to increase revenues to a level of break even cash flow
or profitability, although no assurance of that fact can be given.
If the Company is not able to obtain additional debt or equity capital it
will most likely need to reduce the size and operating expense of the
organization in the form of personnel and facilities in order to slow its growth
and downsize the operation to such an extent that it can continue to operate off
its own internally generated cash flow. No assurance can be given as to the
success of such measures or whether they could be accomplished in a time frame
that would allow the Company to remain an ongoing entity.
19
<PAGE>
Results of Operations. As previously discussed, MEDY has made significant
changes to its operations in fiscal 1998. With the purchases of CADI, IPS and
Command, MEDY has added several new product lines, such as dental practice
management software, software support, multi-operatory video / digital networks,
and digital x-ray systems. MEDY has also used these purchases to enhance the
sales of its dental cameras. These new product lines have greatly increased
MEDY's gross profits as these new product lines have greater gross margins than
the products MEDY sold prior to the acquisitions.
Additionally, as an aid to understanding trends of the Company, the
following ratios describe historical summaries of liquidity, activity and
profitability for the fiscal years ended September 30, 1998 and 1997.
1998 1997
---- ----
Liquidity
- ----------
Current Ratio 1.2 4.6
Current Ratio less inventory 0.8 2.8
Activity
- --------
Trade receivables turnover 8.9 7.7
Inventory turnover 8.9 1.4
Profitability
- -------------
Return on assets (27.5)% (80.8)%
Return on equity (46.1)% (100.1)%
Return on sales (32.1)% (157.5)%
Revenue. Software, Training and Installation sales were $2,906,900 for the
fiscal years ended September 30, 1998. Software Support sales for the fiscal
years ended September 30, 1998 were $1,831,300. All of these sales were
attributable to CADI (as an integrated subsidiary - CADI, IPS & Command),
therefore, there were no software, training, installation or support sales
during the comparable period of fiscal 1997.
Medical product sales for the fiscal years ended September 30, 1998 and
1997 were $271,800 and $297,900 respectively, for a decrease of $26,100 or 8.8%.
Medical product sales account for 30.3% of total sales in fiscal year 1997
whereas in fiscal year 1998 medical products account for only 3.5% of total
revenue.
Dental sales for the fiscal years ended September 30, 1998 and 1997 were
$2,836,700 and $684,900 respectively, for an increase of $2,151,800 or 314.2%.
The increase in sales was due to MEDY's sale of dental related computer
hardware, intra oral cameras, multi-operatory video / digital networks, and
digital x-ray systems ("hardware"), which, other than intra oral cameras are new
product lines resulting from the acquisition of IPS, CADI and Command. Other
than intra oral camera sales there were no sales of dental related hardware
during the comparable period of fiscal 1997.
20
<PAGE>
MEDY management believes that profit from these activities will improve as
MEDY's general and administrative expenses are spread over an increasingly
larger revenue base. There can be no assurance these positive changes will ever
result in an increase in cash flow from MEDY's operations or net income (as
compared to MEDY's historical net losses).
Please refer to the schedule below for a summary of revenues and gross profit.
<TABLE>
<CAPTION>
For The Years Ended September 30,
1998 1997
Amount % Amount %
----------- ----- ----------- ------
<S> <C> <C> <C> <C>
Medical Sales $ 271,800 100.0% $ 297,900 100.0%
COGS - Medical Sales 246,300 90.6% 715,300 240.1%
Gross Profit - Medical Sales 25,500 9.4% (417,400) (140.1)%
Dental Equipment Sales 2,836,700 100.0% 684,900 100.0%
COGS - Dental 2,542,100 89.6% 580,200 84.7%
Gross Profit - Dental 294,600 10.4% 104,700 15.3%
Software, Training & Installation 2,906,900 100.0% -- N/A
COGS - S, T & I 687,200 23.6% -- N/A
Gross Profit - S, T & I 2,219,700 76.4% -- N/A
Software Support Sales 1,831,300 100.0% -- N/A
COGS - Software Support 583,200 31.8% -- N/A
Gross Profit - Software Support 1,248,100 68.2% -- N/A
Total Sales $ 7,846,700 100.0% $ 982,800 100.0%
Total COGS 4,058,800 51.7% 1,295,500 131.1%
Total Gross Profit 3,787,900 48.3% (312,700) (31.8)%
</TABLE>
Cost of Sales. Cost of sales for medical products for the fiscal years ended
September 30, 1998 and 1997 as a percent of gross medical sales were 90.6% and
240.1% respectively. The decrease in the cost of sales percentage is due
primarily to an obsolete inventory reserve adjustment of $346,800 and the
application of under applied overhead of $290,800 in the fiscal year ended
September 30, 1997, as opposed to an obsolete inventory reserve adjustment of
$50,100 and the application of under applied overhead of $37,800 in the fiscal
year ended September 30, 1998.
21
<PAGE>
Cost of sales for dental equipment for the year ended September 30, 1998
and 1997, as a percent of gross dental sales were 89.6% and 84.7% respectively.
The 4.9% increase in cost of sales is attributable to an increase in warranty
reserve expense of $20,000 and a different dental equipment product mix for
fiscal 1998.
Cost of sales for Software, Training and Installation for the year ended
September 30, 1998, as a percent of gross Software, Training and Installation
sales were 23.9%, resulting in a gross margin percentage of 76.1%. There were no
Software, Training and Installation sales in the comparable fiscal period in
1997.
Cost of sales for Software Support for the fiscal year ended September 30,
1998, as a percent of gross Software Support sales were 31.4%, resulting in a
gross margin percentage of 68.6%. The major components of Cost of Sales for
software support consist of software support wages of $278,200 and amortization
of technical support contracts of $305,000. There were no software support sales
in the comparable fiscal period in 1997.
Selling & Marketing. Selling and marketing expenses for the fiscal years ended
September 30, 1998 and 1997 were $2,078,900 and $144,600 respectively, for an
increase of $1,934,900 or 1,337.7%. The acquisitions of CADI, IPS and Command
and their related selling and marketing costs account for $1,974,600 of this
increase while MEDY's selling and marketing costs decreased $(39,700) for the
same period.
General & Administrative Expenses (G & A). General and administrative expenses
for the fiscal years ended 1998 and 1997 were approximately $3,932,800 and
$846,500 respectively, for an increase of $3,086,300 or 364.6%. The acquisitions
of CADI, IPS and Command and their related expense streams, as well as their
depreciation and amortization, account for $3,264,400 of the total G & A
expenses, while MEDY's G & A expenses decreased $(178,100) for the same period.
The major components of G & A expenses for the fiscal year ended September 30,
1998 are employee wages and benefits of $2,541,700 or 56.7%, rent-
building/storage of $398,400 or 8.9%, and telephone expense of $352,200 or 7.9%.
Stock-based Compensation. Stock-based compensation for the fiscal years 1998 and
1997 were $33,900 and $109,400, respectively, for a decrease of $75,500 or
69.0%. The decrease is due to a decrease in stock options granted to consultants
in fiscal 1998 as compared with the vesting of stock options granted in fiscal
1997.
22
<PAGE>
Research & Development Costs (R & D). For the fiscal year ended September 30,
1998 and 1997, R & D costs were $46,700 and $200,300 respectively, for a
decrease of $153,600 or 76.7%. The decrease from fiscal 1997 to fiscal 1998 is a
result of the R&D and modifications to the design of the intra oral camera
having been substantially completed in fiscal 1997. The Company's policy is to
fund research and development as it deems appropriate to maintain or gain a
competitive advantage. Note that all software development costs are not included
in R & D costs. Qualifying software development costs are capitalized then
amortized to costs of sales. Capitalized software development costs for the
fiscal year ended September 30, 1998 were $268,200.
Loss on Impairment of Demonstration Equipment. For the fiscal year ended
September 30, 1998, no impairment was recognized for demonstration equipment
compared to fiscal 1997 when a charge of $70,600 was recognized for impaired
medical products.
Other Income: Other income for the fiscal years ended September 30, 1998 and
1997 was approximately $51,200 and $81,300 respectively, for a decrease of
$30,100 or 37.0%. The majority of the decrease is due to a drop in product
service revenue ( billable product repair) and other income derived from
outsourcing engineering services.
Interest Income and Expense. Interest income is a function of current cash
invested for the period. Interest income for the fiscal year ended September 30,
1998 and 1997 was $37,400 and $55,000 respectively. The reduction in interest
income in fiscal 1998 was due to lower interest rates and less funds invested.
Interest expense for the fiscal year ended September 30, 1998 totaled
$305,700 as compared to $200 for fiscal 1997. Interest expense increased in
fiscal 1998 due to $2,200,000 in borrowings from convertible debentures,
$933,200 of debt incurred in business acquisitions and a capital lease financing
for $87,600. Interest was imputed at an effective rate of 15% for the
acquisition debt. Interest expense includes non-cash charges for amortization of
debt discounts and issue costs of $166,000, and accrued interest converted to
common stock for $35,800.
Year 2000 Compliance. Although there can be no assurance, MEDY does not
anticipate that it will suffer any adverse impact as a result of Year 2000 (Y2k)
computer software issues either as a result of third party non-compliance or as
a result of internal matters. None of the information technology or other
software and hardware systems utilized by MEDY and its subsidiaries incorporates
technology that is incapable of recognizing dates beyond December 31, 1999.
CADI, through its internal staff, has developed its dental practice management
software for the Windows platform and, consequently, such software recognizes
dates beyond December 31, 1999. While CADI is still supporting some software
which is DOS-based or otherwise may not be Y2k compliant, the customers using
this software have been advised of their need to upgrade their office software
in anticipation of Y2k. Even if MEDY or CADI were to provide the necessary
software upgrade to these customers at no cost (which CADI does not have an
obligation to do), the total loss to MEDY would be less than $60,000 and is not
considered to be material. Because CADI's dental practice management software is
believed to be Y2k compliant, CADI and MEDY believe that this offers them a
marketing opportunity in that much of their competitors' software currently
being utilized by dental offices is not Y2k compliant and will need to be
replaced by those offices before December 31, 1999. There can be no assurance,
however, that these offices will all purchase dental practice management systems
from CADI.
23
<PAGE>
In making the foregoing determination, MEDY and CADI have assessed embedded
systems contained in their office buildings, equipment, and other
infrastructures. As a result, MEDY and CADI have not established a contingency
plan to come into effect in the event of a Y2k catastrophe and management does
not believe that such a plan is necessary. Of course, MEDY and CADI are both
dependant on facilities outside of their control, such as electrical power
supplies, banking facilities, transportation facilities (such as airlines) and
communication facilities. While MEDY and CADI believe, based on public reports
and some notifications it has received, that these outside facilities are or
will be Y2k compliant, neither MEDY or CADI has any other basis for determining
their compliance. The operations of MEDY and CADI would be significantly and
adversely affected if any of these outside facilities are adversely affected by
the millenium and other issues related to Y2k.
Effect of Changing Prices and Inflation
Generally, inflation has not been a significant factor on MEDY's operations.
Item 7. Financial Statements.
The following consolidated financial statements are filed as a part of this Form
10-KSB and are included immediately following the signature page.
Report of Independent Certified Public Accountants (Page F-2)
Consolidated Balance Sheet - September 30, 1998 (Page F3)
Consolidated Statements of Operations - Years ended September 30, 1998 and
1997 (Page F4)
Consolidated Statements of Stockholders' Equity - Years ended September 30,
1998 and 1997 (Page F5)
Consolidated Statements of Cash Flows - Years ended September 30, 1998 and
1997 (Page F7)
Notes to Consolidated Financial Statements (Page F8)
Item 8. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
Not Applicable.
24
<PAGE>
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons of the
Company; Compliance With Section 16(a) of the Exchange Act.
(a) Identification of Directors and Executive Officers.
-------------------------------------------------------
The following table sets forth certain information regarding the directors and
executive officers of MEDY:
<TABLE>
<CAPTION>
Name Age Position
- ---- --- --------
<S> <C> <C>
Edwin L. Adair, M.D. (1) 68 Chairman of the Board and Treasurer of MEDY
Van A. Horsley (2) 46 Director, President, Chief Financial Officer and
Chief Executive Officer of MEDY; Director and Vice
President of CADI
Daniel L. Richmond 37 Director of MEDY; Director and Chief Executive
Officer of CADI
Chae U. Kim 37 Director of MEDY; Director and President of CADI
Edward L. Boggs 43 Controller of MEDY, CADI
Pat Horsley Adair (1) 70 Director and Secretary of MEDY
I. Dean Bayne, M.D. (2) 71 Director and Assistant Secretary of MEDY
Leroy Bilanich (2) 48 Director of MEDY
R. Scott McLaughlin 52 Vice President, National Sales Manager, CADI
Don C. Jackson 50 Vice President, Hardware Product Development
and Technical Services, CADI
</TABLE>
(1) Members of the Compensation Committee.
(2) Members of the Audit Committee
No arrangement exists between any of the above officers and directors
pursuant to which any one of those persons was elected to such office or
position except that Messrs. Kim and Richmond were appointed to the MEDY Board
as a result of the acquisition of CADI. All directors were reelected by the
shareholders at a meeting held in June, 1998.
25
<PAGE>
Directors hold office until the next meeting of shareholders and until a
successor is elected and qualified, or until their resignation. Executive
officers are elected at annual meetings of the Board of Directors. Each such
officer holds office for one year or until a successor has been duly elected and
qualified or until death, resignation or removal. No director of the Company is
a director of another company having securities registered under Section 12 of
the Securities Exchange Act of 1934 or a company registered under the Investment
Company Act of 1940.
Edwin L. Adair, M.D. has been a director of MEDY since June 30, 1971, Chairman
of the Board since September 8, 1981 and Treasurer since March 27, 1973. From
February 6, 1986 until July 13, 1990, Dr. Adair also served as Chief Executive
Officer of MEDY. Dr. Adair received B.S. and M.D. degrees from the University of
Colorado in 1951 and 1955, respectively. He practiced medicine from 1956 until
1983 and is a board-certified urologist who discontinued the practice of
medicine due to a physical disability resulting from an accident. Dr. Adair has
published articles in medical journals and has taught at the University of
Colorado School of Medicine. Dr. Adair is a member of the American Medical
Association, American Board of Urology, the American Urological Society and the
American College of Surgeons.
Van A. Horsley has been a director, President and Chief Executive Officer of
MEDY since July 13, 1990. Mr. Horsley holds a B.S.B.A. degree in finance from
the University of Denver and a graduate degree from the School of Banking at the
University of Colorado. From 1974 to February, 1990, Mr. Horsley was employed in
various capacities by Affiliated Denver National Bank in Denver, Colorado and
from 1985 through February, 1990 served as executive vice president - head of
lending.
Edward L. Boggs has been Controller since August 1997. Mr. Boggs holds a B.S.
degree in accounting conferred from Rollins College, Winter Park, Florida. From
1982 to 1987 Mr. Boggs held the position of Supervisor Financial Planning and
Analysis for Presbyterian/St. Luke's Hospitals and most recently as Controller
for Specialty Healthcare Management until its sale to Horizon Mental Healthcare,
Inc. Mr. Boggs has been in the Healthcare Industry in various financial
capacities since his internship at Orange County Memorial hospital during his
senior year of college.
Pat Horsley Adair has been a director and Secretary of MEDY since September 8,
1981. Mrs. Adair attended McMurray College in Abilene, Texas, taking courses in
English and business which did not lead to a degree. From June 1974 to July
1983, Mrs. Adair was employed by MEDY as office manager. Since that time, Mrs.
Adair has served as Corporate Secretary to MEDY. From 1964 to 1975, Mrs. Adair
served as executive director of the Arapahoe County Medical Society and from
1976 to 1980 she served as executive director of the Metro Denver Foundation for
Medical Care, an organization which serves Arapahoe, Denver, Boulder, Jefferson
and Adams counties, Colorado.
26
<PAGE>
I. Dean Bayne, M.D. has been a director of MEDY since July 1987 and Assistant
Secretary since October 1988. Dr. Bayne received B.S. and M.D. degrees from
Louisiana State University in 1949 and 1953, respectively, and has been engaged
in private medical practice since 1958. Dr. Bayne was a resident in obstetrics
at Herman Kiefer Hospital, Detroit, Michigan, and a resident in gynecology at
Detroit Receiving Hospital, Detroit, Michigan. He is a member of the Board of
Obstetrics and Gynecology and the American College of Obstetrics and Gynecology.
Leroy Bilanich, Ed.D. has been a director of MEDY since September 13, 1990. Dr.
Bilanich has a B.S. in journalism and broadcasting from Pennsylvania State
University, an M.A. in communication from the University of Colorado and has an
Ed.D. in organizational behavior from Harvard University. Dr. Bilanich currently
works as a consultant to large corporations in the area of organizational
development and in the past has held various positions in the Human Resource
Departments at Pfizer, Inc. from 1983 to March of 1988 and the Olin Corporation.
Daniel L. Richmond has been a director of MEDY since October 1997. In June 1984,
Mr. Richmond graduated from UCLA with a B.S. degree in Math/Computer Science.
From 1983 through 1985, Mr. Richmond founded and then served as President of
Compulink, a software company that sells to retail jewelry stores. From 1986
until 1987, Mr. Richmond, along with Mr. Chae Kim headed up the technical team
for Emory & Associates, a software development company specializing in custom
accounting packages for large manufacturers and distributors. In June 1987 Mr.
Richmond co-founded CADI. He has served as Chief Executive Officer of CADI from
June 1987 until present.
Chae U. Kim has been a director of MEDY since October 1997. In June 1985, Mr.
Kim Graduated from UCLA with a B.A. degree in Biology. From 1986 until 1987, Mr.
Kim, along with Dan Richmond headed up the technical team for Emory &
Associates, a software development company specializing in custom accounting
packages for large manufacturers and distributors. In June 1987 Mr. Kim
co-founded CADI. He has served as President of CADI from June 1987 until
present.
R. Scott McLaughlin has been an officer since February, 1998. Since 1990, and up
until its acquisition by CADI, Mr. McLaughlin has been a shareholder in
Information Presentation Services, Inc. Prior to that, Mr. McLaughlin was with
Unisys Corporation and its predecessor company, the Oakleaf Corporation for
eleven years in sales management, and previously General Motors Corporation for
eleven years in financial analysis. Mr. McLaughlin attended the University of
South Florida in 1966 through 1967.
Don C. Jackson has been an officer since February, 1998 and was the other
shareholder of Information Presentation Systems, Inc. since its inception. Mr.
Jackson was Southeast Vice President of the auto division of Unisys and its
predecessor, Oakleaf, for approximately twelve years before 1990. While at
Oakleaf, before its purchase by Unisys, Mr. Jackson was the Executive Vice
President of Oakleaf at a time when that corporation grew from six to
approximately 400 employees. Mr. Jackson obtained a Bachelor of Science degree
in Electrical Engineering from Wayne State University in 1972.
(b) Identification of Certain Significant Employees.
----------------------------------------------------
27
<PAGE>
There are no significant employees who are not also directors or executive
officers, described above.
(c) Family relationships.
------------------------
Dr. Edwin L. Adair and Pat Horsley Adair are married. Van A. Horsley is the
son of Pat Horsley Adair. There are no other family relationships among the
officers or directors.
(d) Involvement in Certain Legal Proceedings.
---------------------------------------------
During the past five years, no director or officer of the Company has:
(1) Filed or has had filed against him a petition under the federal
bankruptcy laws or any state insolvency law, nor has a receiver,
fiscal agent or similar officer been appointed by a court for the
business or property of such person, or any partnership in which
he was a general partner, or any corporation or business
association of which he was an executive officer at or within two
years before such filings;
(2) Been convicted in a criminal proceeding or is a named subject of
a pending criminal proceeding (excluding traffic violations and
other minor offenses);
(3) Been the subject of any order, judgment, or decree, not
subsequently reversed, suspended or vacated, of any court of
competent jurisdiction, permanently or temporarily enjoining such
person from, or otherwise limiting his involvement in any type of
business, securities or banking activities.
(4) Been found by a court of competent jurisdiction in a civil
action, the Securities and Exchange Commission or the Commodity
Futures Trading Commission to have violated any federal or state
securities or commodities law, which judgment has not been
reversed, suspended, or vacated.
Compliance with Section 16(a) of the Exchange Act
Section 16(a) of the Securities Exchange Act of 1934 (the "Exchange Act")
requires the Company's directors and officers and persons who own more than ten
percent of the Company's equity securities, to file reports of ownership and
changes in ownership with the Securities and Exchange Commission (the "SEC").
Directors, officers and greater than ten-percent shareholders are required by
SEC regulation to furnish the Company with copies of all Section 16(a) reports
filed.
Based solely on its review of the copies of the reports it received from
persons required to file, the Company believes that during the period from
October 1, 1997 through December 1, 1998 all filing requirements applicable to
its officers, directors and greater than ten-percent shareholders were complied
with.
28
<PAGE>
Item 10. Executive Compensation.
-----------------------
(a) Summary Compensation Table
The following table sets forth information regarding compensation paid to
the chief executive officer of MEDY for the three years ending September 30,
1998 and to the other executive officers whose salary exceeded $100,000 in
fiscal 1998. Messrs. Kim and Richmond, included in the following table for
fiscal 1998, were not employees of MEDY during the previous two fiscal years.
<TABLE>
<CAPTION>
Annual Compensation ($$) Long Term Compensation
------------------------ ----------------------
Awards Payouts
------ -------
(a) (b) (c) (d) (e) (f) (g) (h) (i)
Name and Position
- ----------------- Restricted
Stock Options LTIP Other
Salary Bonus Other Awards & SARs Payouts Compensation
------ ----- ----- ------ ------ ------- ------------
Year ($$) ($$) ($$) ($$) ($$) ($$) ($$)
----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Van A. Horsley, President & 1998 123,333 0 5,465 0 0* 0 306
Chief Executive Officer
1997 110,000 0 0 0 0* 0 272
1996 105,000 0 925 0 237,174* 0 260
Chae U. Kim, Director and 1998 105,000 0 $6,000 0 600,000** 0 1,393
President of CADI
Dan L. Richmond, Director 1998 105,000 0 $6,000 0 600,000** 0 1,400
and CEO of CADI
</TABLE>
* 100,000 options vested in 1998 were originally granted to Mr. Horsley in 1996
and, therefore are not included in the foregoing table.. These include options
to acquire 50,000 shares exercisable at $2.75 and 50,000 shares exercisable at
$3.00. Does not include options to acquire 50,000 shares exercisable at a price
of $3.75 per share which vest based upon defined performance goals.
** 600,000 options to purchase common stock were granted in 1998 and are
exercisable at $3.25. 150,000 of the options vested in fiscal 1998 and are
currently exercisable. 450,000 shares, exercisable at $3.25, vest upon defined
performance goals.
401(k) Plan. On January 1, 1990, MEDY adopted an employee benefit plan under
Internal Revenue Code Section 401(k). The 401(k) plan is a profit sharing plan
under which both employees and MEDY are entitled (at their own discretion) to
contribute a portion of compensation and earnings, respectively, to investment
funds to supplement employee retirement benefits. At September 30, 1998, MEDY's
matching contributions to the plan for the accounts of Van Horsley totaled
approximately $306 and the matching contribution under the plan for the accounts
of all executive officers as a group totaled $420. These amounts are included in
column (i) of the Summary Compensation Table.
29
<PAGE>
When acquired, CADI had a Salary Reduction Simplified Employee Pension Plan
(SARSEP) in place whereby CADI employees were able to defer compensation into
the Plan and CADI would match 20% of the employee's contributions. At September
30, 1998, CADI's matching contributions to the Plan for the accounts Chae Kim
and Dan Richmond totaled approximately $2,793. These amounts are included in
column (I) of the Summary Compensation Table. Effective December 1, 1998 CADI
canceled the SARSEP plan and is in the process of adopting a 401-K plan.
Employment Agreements. Effective October 1, 1997 CADI, in conjunction with its
purchase by MEDY, entered into employment agreements with Dan Richmond (CEO) and
Chae Kim (President). The term of the agreements are five years and call for
annual compensation of $105,000 each, car allowances of $500 per month and other
benefits customarily extended to other CADI employees. Compensation and benefits
may be increased over and above contractual terms upon the approval of the CEO
of MEDY. Effective February 1, 1998, CADI, in conjunction with CADI's merger
with IPS, entered into employment agreements with Scott McLaughlin (VP of CADI)
and Don Jackson (VP of CADI). The term of the agreements are five years and call
for annual base salaries of $75,000, use of company leased automobiles until
lease expiration then car allowances of $500 per month and other benefits
customarily extended to other CADI employees. In addition to base salary, Mr.
McLaughlin is entitled to commissions on sales of CADI products equal to .75% up
to certain quarterly limits and .5% over those limits. The benchmarks for the
quarters in which Mr. McLaughlin was employed are $1,400,000 through March 31,
$1,600,000 through June 30, and $1,300,000 through September 30, 1998. In
addition to base salary Mr. Jackson was entitled to commissions on sales of CADI
hardware only products equal to 1%. In both Mr. McLaughlin and Mr. Jackson's
case, the terms of their commissions are to be reset each October 1 for the
following year.
(b) Stock Option Plans.
Options and Option Plans. On April 10, 1988 the Board of Directors adopted and
authorized the 1988 Stock Option Plan (the "1988 Plan") and directed that
management prepare the documents formally defining the plan. At that time the
Board also authorized the issuance of certain options under the 1988 Plan. The
Board formally approved the 1988 Plan on July 14, 1988 and the shareholders
approved the 1988 Plan on September 28, 1988. The 1988 Plan has expired by its
terms.
On September 15, 1997 the Board of Directors in conjunction with MEDY's
purchase of Computer Age Dentist, Inc, approved the CADI Stock Option Plan as
called for by the merger agreement. 250,000 shares of the Company's common stock
were reserved for issuance upon exercise of options which may be granted
pursuant to the Employee Stock Option Plan. As of December 9, 1998, 232,000
options have been issued to employees of CADI who are not officers under the
plan.
On June 11, 1998 the shareholders of MEDY approved the adoption of the
Medical Dynamics, Inc. 1998 Stock Option Plan. Under the plan as approved by the
Board of Directors and the shareholders, 1,500,000 shares are reserved for
issuance to employees, officers, directors and consultants of Medical Dynamics
and its subsidiaries. As of December 9, 1998, no options have been issued under
this plan.
30
<PAGE>
Allocations of options under MEDY's stock option plans are made by the
Compensation Committee based on the duties, contributions and value of the
services of the respective optionee. The Committee has the authority to
determine to whom options were granted, the number of shares covered by each
option, when each option was to be granted, date of initial ability to exercise,
exercise price and certain other terms, and to prescribe, interpret, amend and
rescind rules and regulations relating to each plan. Any options canceled or not
exercised within the option period became available for grants of new options
under the plans. The Board also has the power to select committees consisting of
not less than two members to administer each plan. The 1988 and (or) 1998 Plan
contains the same provisions for administration as were contained in the Old
Plans.
Under the 1988 Plan, MEDY reserved an aggregate of 1,000,000 shares of its
common stock for issuance to employees (including officers), consultants and
directors of MEDY or any subsidiary. The plan contains restrictions on the
number of options granted to officers and directors, exercise price, maximum
term and transferability. On May 14, 1991, MEDY filed a registration statement
under the Securities Act of 1933 on Form S-8 which registered the shares of
common stock underlying options granted under the 1988 Plan. As such, shares
issued upon exercise of outstanding options can be traded on the open market
with limited restriction.
All of the options granted under MEDY's plans may be exercised through
payment of the exercise price with shares of MEDY's Common Stock or cash, or
both. The ability to exercise options through surrendering shares of Common
Stock enables holders of options to exercise the entire amount of an option by
first exercising a small number of options, followed by successively larger
option exercises which the optionee is able to effect by surrendering the
increasing number of shares obtained thereby. For little or no initial cash
payment, repeated exercises of options by surrendering stock having a market
price in excess of the option exercise price, enable an optionee to provide
sufficient consideration to MEDY to exercise his entire stock option. The
exercise of options might otherwise require substantial cash consideration. This
procedure is often referred to as pyramiding.
The following table sets forth certain information regarding stock options
granted by MEDY to the Chief Executive Officer and the other executive officers
that received total annual salary and bonus in excess of $100,000 during 1998.
No stock appreciation rights were granted.
31
<PAGE>
<TABLE>
<CAPTION>
Option Grants in Fiscal 1998
- ----------------------------
(a) (b) (c) (d) (e)
Number of % of Total Options
Securities Granted to Employees Exercise or
underlying in Base Price Expiration
Name Options Fiscal Year ($/sh) Date
Granted (#)
- --------------- ----------- --------------------- ----------- -----------
<S> <C> <C> <C> <C>
Dan L. Richmond 150,000 5.6% $3.25 Oct. 2004
Dan L. Richmond 450,000 16.9% $3.25 Oct. 2004
Chae U. Kim 150,000 5.6% $3.25 Oct. 2004
Chae U. Kim 450,000 16.9% $3.25 Oct. 2004
</TABLE>
Options for 450,000 shares for Dan L. Richmond and Chae U. Kim will vest when
certain revenue and cash flow performance targets are met.
Aggregated Option Exercises in Last Fiscal Year and Fiscal Year End Option
Values.
- ---------------------------------------------------------------------------
The following table sets forth information regarding stock options
exercised by the chief executive officer and certain other officers or directors
during the 1998 fiscal year as well as the year-end value of options held by
such persons on September 30, 1998: No Stock Appreciation Rights have been
granted, or are held by, any such person:
<TABLE>
<CAPTION>
(a) (b) (c) (d) (e)
Number of Unexercised
Options at FY End Value of
(Exercisable/ In-the-Money Options
Shares Unexercisable) at FY End @$2.31
Acquired on Value (Exercisable/
Name Exercise Realized Unexercisable)
- ---- ----------- -------- --------------
<S> <C> <C> <C> <C>
Van A. Horsley 0 $ 0 370,680 / 50,000 $ 142,637 / 0
Edwin L. Adair 0 $ 0 295,000/ 0 $ 157,200 / 0
Pat H. Adair 0 $ 0 0 / 0 $ 0 / 0
Edward L. Boggs 0 $ 0 14,800 / 30,000 $ 0 / 0
I. Dean Bayne 0 $ 0 20,000 / 20,000 $ 0 / 0
Leroy Bilanich 0 $ 0 20,000 / 20,000 $ 16,200 / $6,200
Chae U. Kim 0 $ 0 150,000 / 450,000 $ 0 / 0
Dan L. Richmond 0 $ 0 150,000 / 450,000 $ 0 / 0
Don C. Jackson 0 $ 0 0 / 340,000 $ 0 / 0
R. Scott McLaughlin 0 $ 0 0 / 340,000 $ 0 / 0
</TABLE>
(c) MEDY has no long term incentive compensation plans.
(d) Other Compensation
----------------------
32
<PAGE>
There are no plans to pay bonuses or deferred compensation to employees of
the Company.
The Company has adopted a medical insurance plan for its employees and
provides access to other types of coverage such as life, disability, and other
insurance plans for the benefit of its employees, but at the employees expense.
(e) Compensation of Directors
----------------------------
General. MEDY's directors are authorized to receive $200 for each directors'
meeting attended by them. To date, the directors have waived their right to
receive directors fees. In June 1993, certain directors were granted options
under the 1988 Stock Option Plan. Dr. Bayne owns an incentive stock option to
acquire 20,000 shares of common stock at $4.00 per share, expiring June 11,
2003. Leroy Bilanich owns an incentive stock option to acquire 20,000 shares of
common stock at $1.50 per share, expiring June 11, 2003.
No options were granted during fiscal 1998 to board members other than as
disclosed above regarding options issued to Dan Richmond and Chae Kim.
Royalty Agreements. Dr. Adair and Dr. Bayne, directors of MEDY, are each
entitled to receive royalties equal to two percent of the net sales of products
each assigned to the Company. No royalties have been accrued or paid to Dr.
Bayne, however, $600,000 has been paid and $0 has been accrued to Dr. Adair
through the end of fiscal 1998. In an effort to help reduce negative cash flow
during fiscal 1996, Dr. Adair accepted 120,000 common stock options priced at
$1.00 per share in substitution for his cash royalty payment for the 1996 fiscal
year. During 1997 Dr. Adair and MEDY made certain changes to the license
agreement which included an elimination of the minimum annual royalty, effective
for the 1997 fiscal year. See Item 13 - "Certain Relationships and Related
Transactions" for further information regarding the royalty agreement.
Indemnification Agreements. MEDY has entered into indemnification agreements
with each of its directors and officers providing for indemnification of each
such director by MEDY to the full extent permitted by the Colorado Corporation
Code. The agreements provide that in all circumstances in which a director or
officer may receive indemnification by statute, such indemnity shall be
provided.
MEDY has no other arrangements pursuant to which it compensates its
directors for acting in their capacities as such.
(f) Employee Contracts and Change of Control Provisions
MEDY has employment contracts with four executive officers as was described
in Item 10, Executive Compensation. MEDY has no compensatory arrangement which
may result from a change-of-control of MEDY or a change in any executive
officers responsibilities. However, the contracts for both Mr. Richmond and Mr.
Kim are terminable for cause by either if they are not reelected to CADI's Board
of Directors or if CADI's Board is incresed in number other than by a vote of
the Directors.
33
<PAGE>
(g) Repricing of Options
No options were repriced during the fiscal year.
34
<PAGE>
Item 11. Security Ownership of Certain Beneficial Owners and Management.
(a) and (b) Security ownership of certain beneficial owners and management.
---------------------------------------------------------------------------
At September 30, 1998, MEDY had only one class of outstanding voting
securities, its common stock. The following table sets forth information as of
December 15, 1998 with respect to the ownership of the Company's Common Stock
for all directors, individually, all officers and directors as a group, and all
beneficial owners of more than five percent of the Common Stock. The following
shareholders have sole voting and investment power with respect to the shares,
unless it has been indicated otherwise.
<TABLE>
<CAPTION>
Name of beneficial owner Shares owned beneficially (1) * Percent of class
- ------------------------ ----------------------------- ------------------
Edwin L. Adair, M.D. and
<S> <C> <C>
Pat Horsley Adair 1,239,298 (2) 11.7%
317 Paragon Way
Castle Pines Village
Colorado, 80104
Daniel L. Richmond 797,760 (4) 7.7%
17052 Oak View Drive
Encino, CA. 91436
Chae U. Kim 797,760 (4) 7.7%
3231 Cheviot Vista Place
Los Angeles, CA. 90034
I. Dean Bayne, M.D. 20,000 0.2%
Van A. Horsley 405,586 (3) 3.8%
Leroy Bilanich, Ed.D. 20,000 0.2%
Tail Wind Fund, Ltd. 689,226 (6) 6.3%
Windermere House
P.O. Box SS-5539
Nassau, Bahamas
All officers and directors as a
group (10 persons) 3,625,204 (5) 33.2%
</TABLE>
* Percent of class based upon shares outstanding on December 15, 1998 of
10,317,573.
(1) As used in this section, the term beneficial ownership with respect to a
security is defined by Rule 13d-3 under the Securities Exchange Act of 1934 as
consisting of sole or shared voting power (including the power to vote or direct
the vote) and/or sole or shared investment power (including the power to dispose
or direct the disposition) with respect to the security through any contract,
arrangement, understanding, relationship or otherwise. Unless otherwise
indicated, beneficial ownership is of record and consists of sole voting and
investment power.
35
<PAGE>
(2) Includes 175,000 stock options held by Dr. Adair of which all are presently
exercisable. Also includes 120,000 options held by Dr. Adair issued in
consideration for cancellation of fiscal 1996 royalty payments due him totaling
$120,000, also presently exercisable.
(3) Includes 320,680 shares under presently exercisable stock options. Does not
include options to acquire 50,000 shares exercisable at a price of $3.75 per
share which vest based upon defined performance goals.
(4) Does not include options to acquire 450,000 shares exercisable at $3.25
which vest upon defined performance goals.
(5) Includes shares referenced in notes (2) through (5) and 320,000 shares held
by two officers and 14,800 options held by one officer, all of which are
presently exercisable, who are not directors. Does not include options to
acquire 340,000 shares exercisable at strike prices ranging from $3.00 to $5.00
per share which vest upon defined performance goals held by two officers who are
not directors.
(6) Based on information Tail Wind provided to the Company, this ownership
includes 63,500 shares of common stock owned by Tail Wind, 84,615 shares
underlying warrants exercisable through October 31, 2000 at $3.375 per share;
150,000 shares underlying warrants exercisable through July 31, 2003 at $2.58
per share, and approximately 391,111 shares issuable upon conversion of
debentures convertible at present or within the next 60 days held by Tail Wind,
based on the conversion price on November 2, 1998. This does not include any
shares issuable upon conversion of $766,667 of convertible debentures, none of
which are exercisable until more than 60 days after December 15, 1998, the date
of this table. Interest on the convertible debentures at 8% per annum is payable
in shares of the Company's common stock. Tail Wind has agreed by contract that
it will at no time own more than 4.99% of the Common Stock. This contractual
limitation prohibits Tail Wind from converting the 1998 Debentures or exercising
the 1997 or 1998 Warrants to the extent that conversion or exercise would result
in Tail Wind owning more than 4.99% of the issued and outstanding shares of
Common Stock, although the contractual provision can be waived by agreement
between MEDY and Tail Wind.
(c) Changes in Control.
-----------------------
The Company knows of no arrangement, the operation of which may, at a
subsequent date, result in change in control of the Company.
Item 12. Certain Relationships and Related Transactions.
(a) and (b) Transactions With Management and Others.
----------------------------------------------------
MEDY has engaged in certain transactions with members of its Board of
Directors. In each case, the Board believed that the transaction was in MEDY's
best interests and the terms of the transaction were at least as fair to MEDY as
could have been obtained from an independent person, and the transaction was
approved by the disinterested directors. MEDY will continue to follow this
procedure in approving any transactions with affiliated persons. No such
transactions are contemplated at this time.
Acquisition of Computer Age Dentist, Inc. Effective October 1, 1997, MEDY
purchased all of the outstanding stock of Computer Age Dentist, Inc. of which
Dan Richmond and Chae Kim were the majority owners. It was as a result of that
transaction that Mr. Richmond and Mr. Kim became Directors of the Company. The
business of CADI is further described in Item 1.
The acquisition was accomplished pursuant to a reverse triangular merger by
which MEDY paid the two former shareholders of CADI: 1,295,520 shares of its
restricted common stock, promissory notes aggregating $300,000, and $254,697 in
cash. In addition, MEDY assumed certain obligations of CADI to a former
shareholder and satisfied such obligations by paying the former shareholder
304,480 shares of restricted common stock, $45,303 in cash, and a $100,000
promissory note.
36
<PAGE>
The promissory notes were originally due, in full, no later than October
23, 1998. Subsequent to fiscal year end 1998, the note to the former shareholder
has been paid in full. The note to Mr. Richmond in the original amount of
$150,000, was extended to include interest owing of $12,000 for a total of
$162,000 until July 1, 1999 at an interest rate of 12%. Payments on the note of
$87,000 were due November 15, 1998 and $12,500 plus accrued interest beginning
February 1, 1999 and monthly thereafter until paid. The payment of $87,000 due
November 15, 1998 has been made. The note to Mr. Kim in the original amount of
$150,000, was extended to include interest owing of $12,000 for a total of
$162,000 until August 1, 1999 at an interest rate of 12%. Payments on the note
of $12,000 were due on November 15, 1998, $75,000 plus accrued interest on
February 1, 1999 with the balance of principal and interest due at maturity. The
payment of $12,000 due November 15, 1998 has been made.
There was no prior relationship between MEDY and either CADI or its
shareholders. As a result of the acquisition, the two former CADI shareholders,
Dan Richmond and Chae Kim, were named to the Board of Directors of MEDY. MEDY's
president and Chief Executive Officer, Van Horsley, became a Director and Vice
President of CADI.
In acquiring CADI, MEDY also acquired cash, trade receivables, inventories,
and personal property and equipment owned by CADI. At the time of the
acquisition, CADI employed approximately 40 people including the priincipals,
Dan Richmond and Chae Kim. In the opinion of MEDY's management, the fundamental
source of value obtained was CADI's software technology which includes source
code, development costs and the potential for future sales of the dental
practice management software, as well as CADI's current technical support
contracts with its customers. At the time of purchase, CADI had a base of more
than 2,200 customer installations throughout the United States, serving in
excess of 3,500 dental professionals.
License Agreement with Dr. Adair. MEDY entered into an exclusive revocable
license agreement with Dr. Edwin Adair effective June 3, 1987, as amended,
relating to use of certain technology invented and developed by Dr. Adair.
Before an amendment negotiated in September 1997, MEDY was obligated to pay Dr.
Adair a minimum annual royalty of $120,000. Additionally, Dr. Adair was
obligated to give MEDY a right of first refusal for his inventions. Actual
royalties never exceeded the minimum annual royalty. As a result of negotiations
between the disinterested directors and Dr. Adair, the parties agreed to amend
the license agreement to waive the minimum annual royalty due September 30, 1997
for the year then ended and any future minimum annual royalty, and to waive Dr.
Adair's obligation to provide MEDY with a right of first refusal on future
technology.
Distribution Agreement. MEDY entered into a distribution agreement with
Micro-Medical Devices, Inc. ("MMD"), a corporation wholly-owned by Dr. Adair
during June of fiscal year 1995. The distribution agreement includes all
products developed by Dr. Adair related to his Universal Sterile Endoscopy
System(TM) ("USES").
37
<PAGE>
MMD has appointed MEDY as its exclusive worldwide distributor for the USES
products through June 30, 2000. MMD also granted MEDY a right of first refusal
to distribute any further products MMD may develop. There are no minimum
performance requirements under the distribution agreement, and MEDY need only
purchase products at a discount to the list price it has already sold to third
parties. The distribution agreement is attached as exhibit 10.16(*).
MMD also agreed to sublease space from MEDY for administration purposes at
cost. The rental payment and reimbursement to MEDY for employees MMD may utilize
are intended to compensate MEDY for all associated expenses, including rent on a
per-square-foot basis. During the fiscal year ended September 30, 1998, MEDY
purchased no products from MMD, and MMD has not needed any leased space.
Other Related Party Transactions.
- ---------------------------------
In October 1987, I. Dean Bayne, M.D., a director, assigned his rights and
interest in a then pending patent application related to the Bayne Pap Brush(TM)
described in "Item 1 - Business -Patents, Trademarks and Licenses." To reimburse
him for his expenses in developing that product and as compensation for the
assignment, MEDY paid Dr. Bayne 10,000 shares of restricted common stock and
will pay him a royalty for the duration of the patent equal to two percent of
the net sales of the Bayne Pap Brush(TM), less certain expenses. As of September
30, 1998, no royalties have been accrued or paid since the inception of this
arrangement and the Bayne Pap Brush has been discontinued and has not been
marketed by the Company since 1992.
MEDY employs two sons of Dr. Adair and one son of Pat Horsley Adair at
annual salary rates of approximately $45,600, $45,600, and $135,000. The two
sons of Dr. Adair, Jeff and Randy Adair operate as the Head of Engineering and
Head of Regulatory Affairs and Quality Assurance, respectively. The son of Pat
Horsley Adair, Van Horsley is the Company's president and Chief Executive
Officer and a Director. During the most recently completed fiscal year Jeff
Adair vested 50,000 of previously issued options at exercise prices ranging from
$2.75 to $3.00 and Randy Adair vested 50,000 of previously issued options at
exercise prices ranging from $2.75 to $3.00. Van Horsley's compensation and
option issuance is described in detail in Item 10. Executive Compensation.
Except as otherwise stated above, since October 1, 1997, MEDY has not been
a party to any transaction involving in excess of $60,000, in which any director
or executive officer, nominee for election as a director, security holder of
record or beneficially of more than five percent of any class of MEDY's
securities, or any member of the immediate family of the foregoing had or will
have a direct or indirect material interest.
MEDY is not aware of any other relationship between nominees for election
as directors or its directors and MEDY that are similar in nature and scope to
those relationships listed in this Item 12.
(c) Parents of the Company
--------------------------
Not applicable, inasmuch as there are no "Parents" of MEDY.
38
<PAGE>
(d) Transactions with Promoters
-------------------------------
Not applicable, inasmuch as the Company was organized more than five years
ago.
Item 13. Exhibits and Reports on Form 8-K.
(a) Exhibits
------------
The following is a complete list of exhibits filed as part of this Annual
Report on Form 10-KSB, which Exhibits are incorporated herein.
Exhibit
Number Description
3.1(k) Restated Articles of Incorporation (December 30, 1988)
3.2(n) Bylaws, as amended
10.1(m) Amendment Number Five to Lease Agreement - Englewood Office Space
10.2(a) Stock Option Plan - Consultant's
10.3(j) 1988 Stock Option Plan
10.4(d) Sales Representative Agreement - Form
10.5(e) International Distributor Agreement
10.6(f) Indemnification Agreement - Edwin L. Adair, M.D.
10.7(f) Indemnification Agreement - Pat Horsley Adair
10.8(h) Indemnification Agreement - I. Dean Bayne
10.9(b) Indemnification Agreement - Van A. Horsley
10.10(b) Indemnification Agreement - Leroy A. Bilanich
10.11(a) Employee Confidentiality Agreement - Form
10.12(b) Section 125 Cafeteria Plan
10.13(h) Patent Assignment - Bayne Pap Brush
10.14(o) Amended and restated License Agreement with Edwin L. Adair
39
<PAGE>
10.15(n) 401(k) Plan
10.16(*) Micro Medical Distribution Agreement
10.17(*) Employment Agreement with Dan Richmond
10.18(*) Employment Agreement with Chae Kim
10.19(*) Merchant Capital Agreement
21.1 Subsidiaries of MEDY:
MedPacific Corporation, a Washington corporation
Computer Age Dentist, Inc., a California corporation
23.1 * Consent of Hein & Associates, LLP
27 * Financial Data Schedule
* Filed herewith.
(a) Incorporated by reference from Registration Statement on Form S-1,
SEC File No. 2-82856.
(b) Incorporated by reference from MEDY's Form 10-K for the period
ended September 30, 1991.
(d) Incorporated by reference from MEDY's Form 10-K for the year ended
September 30, 1984.
(e) Incorporated by reference from MEDY's Form 8-K reporting an event
of February 8, 1985.
(f) Incorporated by reference from MEDY's Form 10-K for the year ended
September 30, 1986.
(h) Incorporated by reference from MEDY's Form 10-K for the fiscal
year ended September 30, 1987.
(j) Incorporated by reference from MEDY's Form 8-K reporting an event
of October 12, 1988.
(k) Incorporated by reference from MEDY's Form 10-Q for the quarter
ended December 31, 1988.
(m) Incorporated by reference from Amendment No. 1 to Registration
Statement on Form S-1, Commission File No. 33-29497, filed with
the Commission on July 26, 1989.
40
<PAGE>
(n) Incorporated by reference from MEDY's Form 10-K for the fiscal
year ended September 30, 1990.
(o) Incorporated by reference from MEDY's Form 10-QSB for the quarter
ended June 30, 1995.
(b) Reports on Form 8-K
During the period covered by this Report up to December 9, 1998, the
Company filed the following reports on Form 8-K:
October 23, 1997, reporting an event under Item 2 - Acquisition or
Disposition of Assets and Item 5 Other Events, and an amendment thereto
including the financial information and pro forma financial information
required by Item 7. December 31, 1997, reporting an event under Item 5
- other Events January 5, 1998, reporting an event under Item 5 - Other
Events February 6, 1998, reporting an event under Item 2 - Acquisition
or Disposition of Assets April 9, 1998, reporting and event under Item
2 - Acquisition or Disposition of Assets July 31, 1998, reporting and
event under Item 5 - Other Events October 9, 1998, reporting an event
under Item 5 - Other Events
SIGNATURES
----------
In accordance with Section 13 or 15(d) of the Securities Exchange Act of
1934, the Company has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
MEDICAL DYNAMICS, INC.
By: /s/ Van A. Horsley
---------------------------
Van A. Horsley,
President
December 29, 1998
In accordance with the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Company and in the capacities and on the dates indicated.
41
<PAGE>
January 12, 1999 /s/ Van A. Horsley
----------------------------------
Van A. Horsley, Principal Executive Officer,
Principal Financial Officer, and Director
January 12, 1999 /s/ Edwin L. Adair
----------------------------------
Edwin L. Adair, M.D., Chairman
of the Board and Director
January 12, 1999 /s/ Daniel L. Richmond
----------------------------------
Daniel L. Richmond, Director
January 12, 1999 /s/ Chae U. Kim
----------------------------------
Chae U. Kim, Director
January 12, 1999 /s/ I. Dean Bayne
----------------------------------
I. Dean Bayne, M.D., Director
January 12, 1999 /s/ Pat Horsley Adair
----------------------------------
Pat Horsley Adair, Director
January 12, 1999 /s/ Leroy Bilanich
----------------------------------
Leroy Bilanich, Director
January 12, 1999 /s/ Edward Boggs
----------------------------------
Edward Boggs, Controller and Principal Accounting
Officer
42
<PAGE>
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE
----
Independent Auditor's Report...............................................F-2
Consolidated Balance Sheet - September 30, 1998............................F-3
Consolidated Statements of Operations - For the Years
Ended September 30, 1998 and 1997....................................F-4
Consolidated Statements of Stockholders' Equity - For the Years
Ended September 30, 1998 and 1997....................................F-5
Consolidated Statements of Cash Flows - For the Years
Ended September 30, 1998 and 1997....................................F-6
Notes to Consolidated Financial Statements.................................F-8
F-1
<PAGE>
INDEPENDENT AUDITOR'S REPORT
Board of Directors
Medical Dynamics, Inc.
Englewood, Colorado
We have audited the accompanying consolidated balance sheet of Medical Dynamics,
Inc. and subsidiaries (the "Company") as of September 30, 1998, and the related
consolidated statements of operations, stockholders' equity, and cash flows for
the years ended September 30, 1998 and 1997. 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 consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Medical Dynamics,
Inc. and subsidiaries as of September 30, 1998, and the results of their
operations and their cash flows for the years ended September 30, 1998 and 1997,
in conformity with generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 2 to the
financial statements, the Company has suffered recurring losses and negative
cash flows from operations. This raises substantial doubt about the Company's
ability to continue as a going concern. Management's plans in regard to these
matters are also described in Note 2. The financial statements do not include
any adjustments that might result from the outcome of this uncertainty.
HEIN + ASSOCIATES LLP
Denver, Colorado
December 29, 1998
F-2
<PAGE>
<TABLE>
<CAPTION>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
SEPTEMBER 30, 1998
ASSETS
------
<S> <C>
CURRENT ASSETS:
Cash and equivalents $ 553,100
Restricted cash 50,000
Trade receivables, less allowance for doubtful accounts of $108,400 879,400
Inventories 879,600
Prepaid expenses and other 24,800
------------
Total current assets 2,386,900
SOFTWARE DEVELOPMENT AND SUPPORT:
Software development costs, net of accumulated amortization of $417,800 2,619,800
Technical support contracts, net of accumulated amortization of $305,000 1,303,100
------------
Total software development and support 3,922,900
PROPERTY AND EQUIPMENT:
Demonstration equipment 420,900
Machinery and equipment 553,800
Furniture and fixtures 355,200
Leasehold improvements 127,000
------------
1,456,900
Less accumulated depreciation and amortization (799,400)
------------
Property and equipment, net 657,500
OTHER ASSETS:
Goodwill, net of accumulated amortization of $120,800 1,892,300
Non-compete agreements, net of accumulated amortization of $80,000 119,200
Debt issuance costs, net of accumulated amortization of $85,400 125,400
Patents and trademarks, net of accumulated amortization of $766,200 29,200
Deposits and other 37,000
------------
Total other assets 2,203,100
------------
TOTAL ASSETS $ 9,170,400
============
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
CURRENT LIABILITIES:
Current maturities of notes payable $ 546,100
Current maturities of obligations under capital lease 40,000
Accounts payable 565,800
Accrued expenses 416,000
Unearned revenue 370,100
------------
Total current liabilities 1,938,000
NOTES PAYABLE, net 321,900
OBLIGATIONS UNDER CAPITAL LEASE, net 39,400
CONVERTIBLE DEBENTURES, net 1,407,200
COMMITMENTS AND CONTINGENCIES (Notes 2, 5, and 8)
STOCKHOLDERS' EQUITY:
Preferred stock, $.001 par value; authorized 5,000,000 shares; none issued
Common stock, $.001 par value; authorized 30,000,000 shares, issued and
outstanding 10,034,500 shares 10,000
Additional paid-in capital 25,246,900
Accumulated deficit (19,793,000)
------------
Total stockholders' equity 5,463,900
------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 9,170,400
============
See accompanying notes to these consolidated financial statements.
F-3
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED
SEPTEMBER 30,
-------------------------------------
1998 1997
----------- -----------
<S> <C> <C>
NET SALES:
Dental products:
Software, training, and installation $ 2,906,900 $ --
Equipment 2,836,700 684,900
Support services 1,831,300 --
Medical products 271,800 297,900
----------- -----------
7,846,700 982,800
----------- -----------
COST OF SALES:
Dental products:
Software, training, and installation 687,200 --
Equipment 2,542,100 580,200
Support services 583,200 --
Medical products 246,300 715,300
----------- -----------
4,058,800 1,295,500
----------- -----------
GROSS PROFIT (LOSS) 3,787,900 (312,700)
----------- -----------
OPERATING EXPENSES:
Selling and marketing 2,078,900 144,600
General and administrative 3,932,800 846,500
Stock-based compensation 33,900 109,400
Research and development 46,700 200,300
Loss on impairment of demonstration equipment -- 70,600
----------- -----------
Total operating expenses 6,092,300 1,371,400
----------- -----------
OPERATING LOSS (2,304,400) (1,684,100)
OTHER INCOME (EXPENSE):
Other income 51,200 81,300
Interest income 37,400 55,000
Interest expense (305,700) (200)
----------- -----------
NET LOSS $(2,521,500) $(1,548,000)
=========== ===========
NET LOSS PER COMMON SHARE $ (.27) $ (.21)
=========== ===========
WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING 9,512,200 7,523,200
=========== ===========
See accompanying notes to these consolidated financial statements.
F-4
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED SEPTEMBER 30, 1998 AND 1997
COMMON STOCK Additional TREASURY STOCK
---------------------- Paid-in Accumulated --------------------
Shares Amount Capital Deficit Shares Amount Total
--------- --------- ------------ ------------- ------- --------- ------------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE, October 1, 1996 7,180,200 $ 7,200 $ 17,721,900 $(15,723,500) 15,900 $(79,300) $ 1,926,300
Exercise of options to
purchase common stock 463,000 400 1,059,100 -- -- -- 1,059,500
Retirement of treasury stock (15,900) -- (79,300) -- (15,900) 79,300 --
Issuance of common stock
options for services -- -- 109,400 -- -- -- 109,400
Net loss -- -- -- (1,548,000) -- -- (1,548,000)
---------- --------- ------------ ------------ ------- -------- ------------
BALANCE, September 30, 1997 7,627,300 7,600 18,811,100 (17,271,500) -- -- 1,547,200
Issuance of common stock
for acquisition of:
Computer Age Dentist, Inc. 1,600,000 1,600 4,478,400 -- -- -- 4,480,000
Information Presentation Systems 320,000 300 687,900 -- -- -- 688,200
DOM, Inc. 141,700 200 339,800 -- -- -- 340,000
Conversion of debentures to
common stock:
Principal, net of discount 315,700 300 602,600 -- -- -- 602,900
Accrued interest 17,300 -- 35,800 -- -- -- 35,800
Fair value of warrants issued
for debt of discount -- -- 223,000 -- -- -- 223,000
Proceeds from exercise of
stock options 12,500 -- 34,400 -- -- -- 34,400
Attriution of compensation
expense under stock options
and warrants:
Employees -- -- 8,900 -- -- -- 8,900
Non-employees -- -- 25,000 -- -- -- 25,000
Net loss -- -- -- (2,521,500) -- -- (2,521,500)
---------- --------- ------------ ------------ ------- -------- ------------
BALANCE, September 30, 1998 10,034,500 $ 10,000 $ 25,246,900 $(19,793,000) -- $ -- $ 5,463,900
========== ========= ============ ============ ======= ======== ============
See accompanying notes to these consolidated financial statements.
F-5
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED
SEPTEMBER 30,
----------------------------------
1998 1997
----------- -----------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(2,521,500) $(1,548,000)
Adjustments to reconcile net loss to net cash used in
operating activities:
Common stock options granted for compensation 33,900 109,400
and other services
Depreciation expense 71,400 113,800
Amortization of intangible assets 955,500 59,500
Amortization of debt discount and issuance costs 166,000 --
Conversion of accrued interest on debentures to
common stock 35,800 --
Bad debt expense -- 35,700
Loss on impairment of demonstration equipment -- 70,600
Provision for obsolete and slow-moving inventories 50,100 346,800
Changes in operating assets and liabilities, net of
effects of acquisitions:
Decrease (increase) in:
Trade receivables (295,000) 18,400
Inventories (51,200) (369,900)
Prepaid expenses and other 37,200 (6,300)
Increase (decrease) in:
Accounts payable 9,800 79,700
Accrued expenses 263,600 (20,400)
Unearned revenue 5,400 --
----------- -----------
Net cash used in operating activities (1,239,000) (1,110,700)
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Increase in restricted cash -- (40,000)
Payments for acquisition of businesses, net of cash acquired (599,200) --
Software development costs (238,100)
Proceeds from sale of property and equipment 12,400 --
Purchase of property and equipment (266,600) (22,000)
Other (11,500) (43,600)
----------- -----------
Net cash used in investing activities (1,103,000) (105,600)
----------- -----------
See accompanying notes to these consolidated financial statements.
F-6
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(continued)
FOR THE YEARS ENDED
SEPTEMBER 30,
----------------------------------
1998 1997
------------ -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on:
Notes payable (44,400) --
Capital lease obligations (8,200) --
Proceeds from exercise of common stock options 34,400 1,059,500
Proceeds from issuance of convertible debentures 1,989,300 --
Proceeds from capital lease financing 87,600 --
----------- -----------
Net cash provided by financing activities 2,058,700 1,059,500
----------- -----------
NET DECREASE IN CASH AND EQUIVALENTS (283,300) (156,800)
CASH AND EQUIVALENTS, beginning of year 836,400 993,200
----------- -----------
CASH AND EQUIVALENTS, end of year $ 553,100 $ 836,400
=========== ===========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION -
Cash paid for interest $ 13,300 $ 200
=========== ===========
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND
FINANCING ACTIVITIES:
Issuance of common stock for acquisition of business $ 5,508,200 $ --
=========== ===========
Notes payable incurred for acquisition of businesses,
net of discounts $ 865,300 $ --
=========== ===========
Conversion of debentures to common stock, net of discount $ 602,900 $ --
=========== ===========
Fair value of warrants issued for debt discount $ 223,000 $ --
=========== ===========
Debt issuance costs incurred for convertible debentures $ 210,800 $ --
=========== ===========
Debt assumed in business acquisitions $ 67,900 $ --
=========== ===========
Retirement of fully depreciated demonstration equipment $ -- $ 557,000
=========== ===========
Retirement of treasury stock $ -- $ 79,300
=========== ===========
See accompanying notes to these consolidated financial statements.
F-7
</TABLE>
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SIGNIFICANT ACCOUNTING POLICIES:
-------------------------------
Nature of Business Operations - Medical Dynamics, Inc. (the "Company") is
engaged in the design, development, manufacture and marketing of medical
and dental video cameras and surgical disposable products for a variety of
medical specialties. These products are sold directly to health care
professionals, hospitals, wholesalers, and original equipment manufacturers
throughout the United States and foreign markets. The Company markets its
products primarily through a group of sales representatives and
distributors.
As a result of the October 1997 acquisition of Computer Age Dentist, Inc.,
the Company is engaged in the sale of dental practice management software
and equipment. The Company also provides related software maintenance and
support services.
Principles of Consolidation - The consolidated financial statements include
the accounts of the Company and its wholly-owned subsidiaries, MedPacific
Corporation and Computer Age Dentist, Inc. All significant intercompany
accounts and transactions have been eliminated in the accompanying
consolidated financial statements.
Use of Estimates - The preparation of the Company's consolidated financial
statements in conformity with generally accepted accounting principles
requires management to make estimates and assumptions that affect the
amounts reported in the financial statements and accompanying notes. The
actual results could differ from those estimates.
The Company's consolidated financial statements are based on a number of
estimates, including the allowance for doubtful accounts, the provision for
obsolete and slow-moving inventories, the selection of estimated useful
lives of intangible assets and property and equipment, realization of
long-lived assets, and assumptions affecting the valuation of common stock
issued in business combinations, and stock options and warrants granted to
non-employees. It is reasonably possible that estimates affecting the
provision for obsolete and slow-moving inventories and realization of
long-lived assets will change in the forthcoming year and such revisions
could be material.
Cash Equivalents - The Company considers all highly liquid debt instruments
purchased with an original maturity of three months or less to be cash
equivalents. At September 30, 1998, cash equivalents include a mutual fund
that invests in money market instruments.
Inventories - Inventories are stated at the lower of cost (first-in,
first-out method) or market.
F-8
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Property and Equipment - Property and equipment is stated at cost.
Depreciation is computed principally by the straight-line method over the
following estimated useful lives:
Years
-------
Demonstration equipment 3
Machinery and equipment 3 - 10
Furniture and fixtures 3 - 10
Leasehold improvements are amortized over the lesser of the life of the
lease or the estimated useful life of the improvement.
Software Development Costs - The Company capitalizes costs of producing
software to be sold, leased, or otherwise marketed, incurred subsequent to
establishing technological feasibility in accordance with Statement of
Financial Accounting Standards No. 86.
Amortization of capitalized software development costs is computed on a
product-by-product basis. The annual amortization is the greater of the
amount computed using the ratio of current gross revenue for a product to
the total of current and anticipated future gross revenue for that product
or the straight-line method, not to exceed 7 years. In addition, management
periodically compares the unamortized capitalized costs for each product to
the net realizable value of that product. If the unamortized capitalized
costs exceed the net realizable value, the excess will be charged to
operations.
The total amount charged to expense in the statements of operations for
amortization of capitalized software costs was $417,800 and $-0- for the
years ended September 30, 1998 and 1997, respectively, and is included in
cost of sales.
Costs incurred in researching, designing and planning for the development
of new software are classified as research and development expenses and are
charged to operations as incurred.
Other Intangible Assets - Other intangible assets are stated at cost and
are amortized utilizing the straight-line method over the following
estimated useful lives:
Years
--------
Technical support contracts 5
Goodwill 15
Non-compete agreements 2.5
Patents and trademarks 3 - 10
Debt Issuance Costs - Debt issuance costs are amortized using the interest
method over the term of the related debt.
F-9
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Impairment of Long-Lived Assets - Management of the Company assesses
impairment whenever events or changes in circumstances indicate that the
carrying amount of a long-lived asset may not be recoverable. If the net
carrying value exceeds the net cash flows, then impairment will be
recognized to reduce the carrying value to the estimated fair value. During
the year ended September 30, 1997, management determined that certain
demonstration equipment was impaired, and recorded a loss on impairment of
$70,600.
Warranty Reserve - The Company provides a warranty against defects in
materials and workmanship, generally for a period between one month and one
year following the date of sale of the equipment. Estimated future costs of
product warranties are included in accrued expenses in the accompanying
balance sheet.
Research and Development - Research and development costs are charged to
operations in the period incurred.
Advertising - Advertising costs are expensed the first time the
advertisement is run. Total advertising costs charged to operations
amounted to $456,300 and $16,200 for the years ended September 30, 1998 and
1997, respectively.
Earnings Per Share - Net loss per common share is presented in accordance
with the provisions of Statement of Financial Accounting Standards No. 128,
Earnings Per Share (FAS 128). FAS 128 replaces the presentation of primary
and fully diluted earnings per share (EPS), with a presentation of basic
EPS and diluted EPS. Under FAS 128, basic EPS excludes dilution for
potential common shares and is computed by dividing the net loss by the
weighted average number of common shares outstanding for the year. Diluted
EPS reflects the potential dilution that could occur if securities or other
contracts to issue common stock were exercised or converted into common
stock and resulted in the issuance of common stock. Basic and diluted EPS
are the same in 1998 and 1997 as all potential common shares were
antidilutive.
Income Taxes - The Company accounts for income taxes under the liability
method, which requires recognition of deferred tax assets and liabilities
for the expected future tax consequences of events that have been included
in the financial statements or tax returns. Under this method, deferred tax
assets and liabilities are determined based on the difference between the
financial statement and tax bases of assets and liabilities using enacted
tax rates.
Revenue Recognition - The Company recognizes sales when finished goods are
shipped to a customer. Revenue from the sale of the Company's proprietary
software is recognized when the software is delivered and the Company has
substantially performed all material obligations relating to the sale
agreement and collectibility is deemed probable by management. Revenue from
software services is recognized ratably over the contractual period or as
the services are performed.
Unearned revenue primarily represents payments received on deferred
maintenance contracts that has not been earned. The amounts are amortized
into revenue on a monthly basis using the straight-line method over the
life of the contracts.
F-10
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Costs for maintenance and customer support are charged to expense when the
related revenue is recognized or when those costs are incurred, whichever
occurs first.
Stock-Based Compensation - The Company accounts for stock-based
compensation for employees using the intrinsic value method prescribed in
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees," and related interpretations. Accordingly, compensation cost for
stock options granted to employees is measured as the excess, if any, of
the quoted market price of the Company's common stock at the measurement
date (generally, the date of grant) over the amount an employee must pay to
acquire the stock.
In October 1995, the Financial Accounting Standards Board issued a new
statement titled Accounting for Stock-Based Compensation (FAS 123). FAS 123
requires that options, warrants, and similar instruments which are granted
to non-employees for goods and services be recorded at fair value on the
grant date. Fair value is generally determined under an option pricing
model using the criteria set forth in FAS 123. The Company did not adopt
FAS 123 to account for stock-based compensation for employees but is
subject to the pro forma disclosure requirements.
Segment Disclosures - Operating segments are components of a company about
which separate financial information is available that is evaluated
regularly by the chief operating decisionmaker in deciding how to allocate
resources and in assessing performance. The only material segment that the
Company is currently engaged in is the dental products segment.
Accordingly, the accompanying financial statements do not include
disclosures for the immaterial medical products segment.
Reclassifications - Certain amounts in the 1997 financial statements have
been reclassified to conform with the 1998 presentation. These
reclassifications had no effect on the 1997 net loss.
2. LIQUIDITY:
---------
Through September 30, 1998, the Company has incurred substantial operating
losses and negative cash flows from operations. The Company's future
viability depends on its ability to increase sales and become profitable.
During 1996, the Company developed intraoral dental cameras for use as a
diagnostic tool for the dental profession. As discussed in Note 4, the
Company completed three business acquisitions during the year ended
September 30, 1998. As a result of these activities, the Company realized
an increase in sales in fiscal 1998 of approximately $6.9 million. However,
despite the positive impact of increases in sales, the Company has
struggled to generate adequate working capital to finance this growth. At
September 30, 1998, the Company had working capital of $448,900, and
management has devoted substantial efforts to obtain additional capital to
finance planned activities for fiscal 1999.
As discussed further in Note 5, the Company was successful in obtaining
additional debt financing of $800,000 in October 1998 and payment terms
were extended on certain notes payable to related parties. However,
management believes additional capital is necessary to fund working capital
F-11
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
requirements related to additional increases in sales which are expected in
the forthcoming year. The Company's ability to continue as a going concern
is dependent on raising additional capital and to ultimately achieve
profitable operations and positive cash flows from operating activities.
3. INVENTORIES:
------------
Inventories consist of the following at September 30, 1998:
Raw materials and replacement parts $ 313,900
Finished goods 787,000
-----------
Total inventory 1,100,900
Less provision for obsolete and slow-moving
inventory (221,300)
-----------
Net inventories $ 879,600
===========
During the year ended September 30, 1997, management of the Company
increased the provision for obsolete and slow-moving inventories by
$346,800. Substantially all of this provision related to medical cameras
and related products.
4. BUSINESS COMBINATIONS:
---------------------
During the year ended September 30, 1998, the Company completed three
acquisitions of businesses engaged in various aspects of the development
and sale of practice management systems for the dental profession. In
October 1997, the Company acquired 100% of the outstanding common stock of
Computer Age Dentist, Inc. (CADI). CADI, which is located in Los Angeles,
California, is engaged in the design, sale, and support of practice
management software for the dental profession. The Company paid total
consideration of $5,183,600 to acquire CADI, consisting of $334,300 in cash
payments, $369,300 (net of discount) in notes payable, and 1,600,000 shares
of the Company's common stock with an estimated fair value of $4,480,000.
In February 1998, the Company completed the acquisition of 100% of the
outstanding common stock of Information Presentation Systems, Inc. (IPS).
IPS is located in Marietta, Georgia, and is engaged in the sale of
customized multimedia systems for use in a variety of dental operatory
applications. The Company paid total consideration of $888,200 to acquire
IPS, consisting of $200,000 in cash payments, and 320,000 shares of the
Company's common stock with an estimated fair value of $688,200.
In April 1998, the Company completed the acquisition of 100% of the
outstanding common stock of DOM, Inc., d/b/a Command Dental Systems
(Command). Command is located in Farmington Hills, Michigan, and is engaged
in the development and sale of computer software and hardware systems for
the management of dental practices. The Company paid total consideration of
$719,600 to acquire Command, consisting of notes payable of $379,600 (net
of discount) and 141,700 shares of the Company's common stock with an
estimated fair value of $340,000.
F-12
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The acquisitions were accounted for using the purchase method of accounting
for business combinations and, accordingly, the accompanying consolidated
financial statements include the results of operations of the acquired
businesses since the respective dates of acquisition. The Company recorded
goodwill of approximately $1,024,500, $731,000, and $257,600 related to the
acquisitions of CADI, IPS, and Command, respectively. In connection with
the acquisitions, IPS and Command were merged into CADI. The following
unaudited pro forma information assumes that the acquisitions had occurred
on October 1, 1996:
Years Ended September 30,
-------------------------------
1998 1997
----------- -----------
Revenue $ 9,327,000 $ 7,548,000
Net loss $(2,478,000) $(2,022,000)
Net loss per share $ (.26) $ (.21)
5. LONG-TERM LIABILITIES:
---------------------
Convertible Debentures - In October 1997, the Company issued convertible
debentures totaling $1,100,000. The debentures are uncollateralized and
bear interest at 8% per annum, payable semi-annually in cash or, at the
Company's option, in shares of the Company's common stock. The principal
balance is due October 2000 and the holder of the debentures has the option
to convert the debentures into shares of the Company's common stock. Any
unpaid principal and interest as of October 31, 2000 will automatically be
converted into shares of the Company's common stock. The conversion price
is equal to the average of the two lowest closing bid prices of the
Company's common stock as reported by NASDAQ during the 60 trading days
preceding the conversion date. The Company received net proceeds of
$986,000 from the debentures, after paying all costs related to the
issuance. Through September 30, 1998, the holder had converted $660,000 of
debentures to 315,700 shares of common stock. In October 1998, the holder
converted the remaining $440,000 of debentures to 234,667 shares of common
stock.
The Company also granted the debenture holder a warrant to purchase 84,615
shares of the Company's common stock. The warrant is exercisable until
October 31, 2000 at an exercise price of $3.38. The estimated fair value of
this warrant of $120,000 was accounted for as a discount on the convertible
debentures.
In July 1998, the Company issued additional convertible debentures totaling
$1,100,000. The debentures are uncollateralized and bear interest at 8% per
annum, payable semi-annually in cash or, at the Company's option, in shares
of the Company's common stock. The principal balance is due July 2003 and
the holder of the debentures has the option to convert the debentures into
shares of the Company's common stock beginning in November 1998, when
F-13
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
one-third of the principal balance may be converted, January 1999 when
two-thirds may be converted, and March 1999 when the entire balance may be
converted. Any unpaid principal and interest as of July 31, 2003 will
automatically be converted into shares of the Company's common stock. The
conversion price is equal to the average of the two lowest closing bid
prices of the Company's common stock as reported by NASDAQ during the 60
trading days preceding the conversion date. The Company received net
proceeds of $1,003,000 from the debentures, after paying all costs related
to the issuance.
The Company also granted the Debenture holder a warrant to purchase 110,000
shares of the Company's common stock. The warrant is exercisable until July
31, 2003 at an exercise price of $2.58. The estimated fair value of this
warrant of $100,000 was accounted for as a discount on the convertible
debentures.
At September 30, 1998, convertible debentures consist of the following:
Interest at 8%, due October 2000, unsecured $ 440,000
Discount for fair value of warrant, net of accumulated
amortization of $14,700 (33,300)
----------
Net 406,700
----------
Interest at 8%, due July 2003, unsecured 1,100,000
Discount for fair value of warrant, net of accumulated
amortization of $3,400 (99,500)
----------
Net 1,000,500
----------
Convertible debentures $1,407,200
==========
In November 1998, the Company issued an additional $400,000 of convertible
debentures with terms similar to the July 1998 issuance described above,
except for a 3-month delay for the principal conversion privileges. The
Company also agreed to issue an additional warrant for 40,000 shares
exercisable until November 2003 at an exercise price of $2.58 per share.
Notes Payable - At September 30, 1998, long-term debt consists of the
following:
Notes payable to former shareholders of CADI:
Interest at 8%, due October 1998, unsecured $ 400,000
Discount for below-market interest, net of accumulated
amortization of $28,000 (2,700)
-----------
Net 397,300
-----------
Notes payable to former owners of Command:
Interest at 6%, due April 2003, unsecured 500,000
Discount for below-market interest, net of accumulated
amortization of $17,900 (92,600)
-----------
Net 407,400
-----------
Interest at 8.5%, due April 1999, unsecured 40,600
Discount for below-market interest, net of accumulated
amortization of $1,300 (900)
-----------
Net 39,700
-----------
F-14
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Other 23,600
---------
Total notes payable 868,000
Less current maturities (546,100)
---------
Notes payable, less current maturities $ 321,900
=========
The effective interest rate on the debt incurred under the notes payable to
the former owners of CADI and Command was 15% to 16%.
In October 1998, the notes payable to former shareholders of CADI were
amended. The interest rate was increased to 12% and the principal payments
were deferred to November 1998 for $99,000, February 1999 for $87,500, and
the remaining balance is due by August 1999.
Aggregate Maturities - As of September 30, 1998, aggregate maturities of
notes payable and convertible debentures are as follows:
Year Ending September 30, Principal Discount Net
------------------------- --------- -------- ----------
1999 $ 614,100 $ (68,000) $ 546,100
2000 75,000 (60,500) 14,500
2001 515,000 (41,300) 473,700
2002 75,000 (35,000) 40,000
2003 1,225,100 (24,200) 1,200,900
---------- -------- ----------
Total $2,504,200 $(229,000) $2,275,200
========== ========= ==========
Obligations Under Capital Lease - In June 1998, the Company entered into a
lease for computer equipment under an agreement classified as a capital
lease. This equipment with a cost of $93,000, had accumulated amortization
of $9,300 as of September 30, 1998. The following is a schedule of future
minimum lease payments under this lease at September 30, 1998:
Future minimum lease payments $ 104,500
Less amount representing interest (25,100)
----------
Present value of net minimum lease payments 79,400
Less current maturities (40,000)
----------
Obligations under capital leases, net of current
maturities $ 39,400
==========
F-15
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Future minimum lease payments under this lease are as follows:
Year Ending September 30, Principal Interest Total
------------------------- --------- -------- --------
1999 $ 40,000 $ 19,700 $ 59,700
2000 39,400 5,400 44,800
-------- -------- --------
Total $ 79,400 $ 25,100 $104,500
-======= -======= ========
Line-of-Credit - In October 1998, the Company entered into a line-of-credit
agreement with a commercial bank. The line-of-credit provides for maximum
borrowings of $1.0 million with an initial borrowing base of $400,000.
Borrowings are collateralized by substantially all of the Company's assets
and the maturity date is October 2001. The credit agreement contains
various covenants which limit or prohibit the Company from incurring debt,
paying dividends, and selling certain assets. The Company is also required
to meet certain minimum financial ratios which the Company violated in
fiscal 1999.
6. STOCK-BASED COMPENSATION:
------------------------
Stock Option Plan - The Company has two stock option plans under which
incentive and non-qualified stock options may be granted to officers,
directors, employees, and consultants. Incentive stock options are required
to have an exercise price which is not less than the fair market value of
the stock at the date of grant. Under the first plan which was approved by
shareholders in October 1988, an aggregate of 1,000,000 shares were
reserved for issuance pursuant to the terms of the plan. Under the second
plan which was approved by shareholders in June 1998, an aggregate of
1,500,000 shares were reserved for issuance pursuant to the terms of the
plan. The maximum term is 10 years for options granted under both plans. No
options have been granted under the 1998 plan. Activity in the 1988 stock
option plan for the years ended September 30, 1998 and 1997 is as follows:
1988 Plan
-----------------------------
Weighted
Average
Number of Exercise Price
Shares Per Share
--------- --------------
Outstanding, September 30, 1996 103,100 $2.02
Granted 29,500 2.43
Exercised (70,900) 2.36
--------
Outstanding, September 30, 1997 61,700 1.83
Granted 5,000 2.63
Exercised (7,500) 2.75
Canceled (2,000) 3.00
--------
Outstanding, September 30, 1998 57,200 1.74
========
F-16
<PAGE>
Options available for future grant at September 30, 1998 totaled 1,500,000
shares under the 1998 plan. No shares were available for future grants
under the 1988 plan.
All options outstanding under the 1988 plan are vested at September 30,
1998. If not previously exercised, options outstanding at September 30,
1998, will expire as follows:
Number of Exercise
Year Ending September 30, Shares Price
------------------------- --------- --------
2001 37,200 $1.38
2002 15,000 2.33
2003 5,000 2.63
------ -----
57,200 1.74
====== =====
Non-Qualified Stock Options and Warrants - The Company has also granted
non-qualified stock options and warrants to officers, directors, employees,
consultants, and lenders. The following is a summary of activity during the
years ended September 30, 1998 and 1997:
Weighted
Average
Number of Exercise Price
Shares Per Share
------------ --------------
Outstanding, September 30, 1996 2,070,000 $2.73
Granted to employees 76,400 3.52
Expired (157,100) 3.50
Exercised (395,400) 2.29
------------
Outstanding, September 30, 1997 1,593,900 2.80
Granted to:
Employees 2,358,200 3.48
Consultants 300,000 4.42
Convertible debenture holders 194,600 2.93
Canceled (205,200) 3.22
Exercised (5,000) 2.75
------------
Outstanding, September 30, 1998 4,236,500 3.28
============
F-17
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
If not previously exercised, non-qualified options and warrants expire as
follows:
Weighted
Average
Number of Exercise
Year Ending September 30: Shares Price
------------------------- --------- ---------
1999 50,000 $1.13
2000 175,800 1.16
2000 300,000 4.42
2001 115,000 2.00
2001 400,000 2.87
2001 190,000 3.75
2002 42,000 3.71
2003 70,000 1.50
2003 553,900 2.84
2003 989,800 4.04
2005 1,350,000 3.25
----------
4,236,500 3.28
==========
At September 30, 1998, a total of 1,666,500 non-qualified stock options and
warrants are vested. Unvested employee performance options were outstanding
for 115,000 shares, and unvested non-employee options were outstanding for
150,000 shares. These options vest when the Company achieves various
revenue levels. The Company also has 2,305,000 options outstanding that
vest at future dates. Vesting under most of these options can be
accelerated if various performance targets are achieved.
During the years ended September 30, 1998 and 1997, the Company recognized
compensation expense of $8,900 and $28,900, respectively, related to
employee performance options. The ultimate amount of compensation expense
related to the employee performance options will be determined based on the
market value of the Company's common stock on the date that the options
vest.
The fair value of options granted to non-employees in 1998 and 1997 was
estimated on the date of grant using the Black-Scholes option-pricing model
with the following weighted average assumptions:
Years Ended September 30,
-------------------------
1998 1997
-------- --------
Expected volatility 70% 87%
Risk-free interest rate 5.7% 6.2%
Expected dividends 0% 0%
Expected terms (in years) 1.5 3.0
F-18
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the years ended September 30, 1998 and 1997, options granted to
non-employees resulted in the recognition of approximately $25,000 and
$20,000, respectively, of compensation expense.
In addition to the performance options granted to marketing consultants,
the Company has entered into an agreement with a consultant that provides
for payment of commissions for the sale of each dental camera which is
attributable to the consultant, provided that certain gross margin
requirements are met. The consulting agreement expires in October 1999.
Pro Forma Stock-Based Compensation Disclosures - The Company applies APB
Opinion 25 and related interpretations in accounting for stock options
which are granted to employees. Accordingly, no compensation cost is
recognized for grants of options to employees if the exercise prices were
not less than the market value of the Company's common stock on the
measurement dates. Had compensation cost been determined based on the fair
value at the measurement dates consistent with the method of FAS 123, the
Company's net loss and loss per share would have been changed to the pro
forma amounts indicated below.
Years Ended September 30,
------------------------------
1998 1997
----------- -----------
Net loss:
As reported $(2,521,500) $(1,548,000)
Pro forma (4,838,700) (1,749,900)
Net loss per common share:
As reported $ (.27) $ (.21)
Pro forma (.51) (.23)
For purposes of the above pro forma amounts, the weighted average fair
value of options granted to employees for the years ended September 30,
1998 and 1997 was $1.67 and $1.41, respectively. The fair value of each
employee option granted in 1998 and 1997 was estimated on the date of grant
using the Black-Scholes option-pricing model with the following weighted
average assumptions:
Years Ended September 30,
-------------------------
1998 1997
------- -------
Expected volatility 70% 87%
Risk-free interest rate 5.7% 6.1%
Expected dividends 0% 0%
Expected terms (in years) 4.0 3.2
F-19
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7. INCOME TAXES:
------------
The amounts which give rise to the net deferred tax asset at September 30,
1998, are as follows:
Current Assets:
Allowance for doubtful accounts $ 40,400
Provision for obsolete and slow-moving inventories 82,600
Accrued expenses 31,600
----------
Total current assets 154,600
----------
Long-term Assets:
Property and equipment 29,700
Patents, patents pending, and trademarks 15,600
Compensation expense related to stock options 177,400
Net operating loss carryforwards 7,161,600
Research and development tax credit carryforwards 35,000
----------
Total long-term assets 7,419,300
----------
Total Deferred Tax Assets 7,573,900
Valuation Allowance (7,573,900)
----------
$ --
==========
Management has determined that a valuation allowance equal to the deferred
tax assets is required since it is more likely than not that the benefits
of these assets will not be realized. The valuation allowance increased by
$397,000 and $625,000 during the years ended September 30, 1998 and 1997,
respectively, due to the increase in the deferred tax asset balances which
were completely offset by a valuation allowance at each of those dates.
At September 30, 1998, the Company has approximately $19,200,000 of net
operating loss carryforwards, and approximately $35,000 of research and
development tax credit carryforwards, both of which expire in varying
amounts from 1999 through 2018.
8. COMMITMENTS AND CONTINGENCIES:
-----------------------------
License Agreement - The Company has various agreements to pay royalties to
both a former officer and current directors of the Company. These royalties
are based on the sales of specified products, some of which are no longer
manufactured by the Company. In June 1987, the Company entered into a
license agreement with its then CEO and Chairman relating to the use of
certain technology invented and developed by the Chairman. In connection
with the agreement, the Company agreed to pay royalties based on the
greater of 2% of sales of products which relate to this technology or
minimum annual royalties of $120,000.
F-20
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
During 1997, the license agreement was amended to eliminate the minimum
annual royalty and to provide for future royalties generally equal to 2% of
sales of the products that relate to the technology. For the years ended
September 30, 1998 and 1997, the Company did not incur any royalty expense
related to this agreement. The license agreement may be terminated by the
Chairman in certain circumstances and the rights to the patents may revert
to him if commercial development of the related products does not occur
within prescribed deadlines.
Distribution Agreement - During the year ended September 30, 1995, the
Company transferred to an entity owned by the Chairman the rights to
patents with a net book value of approximately $21,000. The patents had
originally been obtained from the Chairman under the license agreement
described above, and were transferred because the Company was unable to
obtain FDA approval for products using the patents. The related entity has
since obtained FDA approval and has entered into an exclusive agreement to
have the Company distribute all products it manufactures. The agreement
expires in June 2000. The Company purchased approximately $32,000 of
products under the agreement through September 30, 1998.
Regulatory Matters - The Company's medical products are regulated by the
Federal Food and Drug Administration (FDA). The Company cannot ensure that
an adverse financial impact will not occur should the FDA find the
Company's Good Manufacturing Practices are in non-compliance with current
Federal regulations. If the FDA finds that a manufacturer is not in
compliance, the manufacturer may be prohibited from marketing the products
for which they are not in compliance, until such time as the manufacturer
complies with the applicable FDA regulation.
Operating Leases - The Company conducts its operations from leased
facilities and leases certain equipment. The terms of the facilities leases
require the Company to pay all maintenance, utilities, property taxes and
insurance. Rent expense has been recorded on a straight-line basis over the
life of the lease. Following is a schedule of future minimum commitments
under operating leases having an initial or remaining term of more than one
year.
Years Ending September 30,
1999 $ 286,900
2000 208,700
2001 177,600
2002 78,600
2003 34,800
----------
$ 786,600
==========
Total rent expense was $421,900 and $177,100 for the years ended September
30, 1998 and 1997, respectively.
Letter-of-Credit - At September 30, 1998, the Company had a standby
letter-of-credit (LOC) for $50,000 which was required by one of its
vendors. The LOC can be accessed by the vendor if the Company does not pay
F-21
<PAGE>
MEDICAL DYNAMICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
amounts owed to the vendor on a timely basis. The LOC bears interest at the
prime rate plus 2% and expires in June 1999. The LOC is collateralized by a
certificate of deposit for $50,000, which is included in restricted cash in
the accompanying balance sheet. There was no balance outstanding under the
LOC at September 30, 1998.
Employment Agreements - During 1998, the Company has entered into
employment agreements with four individuals who are officers or directors
of the Company or CADI. The agreements are effective for a period of five
years and provide for aggregate annual compensation of $360,000.
Contingencies - The Company may from time to time be involved in various
claims, lawsuits, disputes with third parties, actions involving
allegations of discrimination, or breach of contract incidental to the
operations of its business. The Company is not currently involved in any
such incidental litigation which it believes could have a materially
adverse effect on its financial condition or results of operations.
9. SIGNIFICANT CONCENTRATIONS:
--------------------------
During the year ended September 30, 1997, the Company had sales to a single
customer which accounted for 61% of net sales. At September 30, 1998, the
Company had accounts receivable from a single customer of $250,400.
At September 30, 1998, the Company had an investment in a single mutual
fund that invests in money market instruments. The amount invested is not
covered by Federal insurance and totaled $450,300 at September 30, 1998.
During the year ended September 30, 1998, the Company issued $2.2 million
of convertible debentures to a single lender. In October 1998, the Company
issued an additional $400,000 of convertible debentures to this lender.
F-22
