UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------------------------
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarter ended: March 31, 1998 Commission File Number: 1-8147
MEDIQ Incorporated
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 51-0219413
------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
One MEDIQ Plaza, Pennsauken, New Jersey 08110
---------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (609) 662-3200
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No____
As of May 1, 1998, there were 19,369,826 shares of Common Stock, par value $1.00
per share and 6,265,998 shares of Preferred Stock, par value $.50 per share,
outstanding.
<PAGE>
MEDIQ INCORPORATED AND SUBSIDIARIES
Quarter Ended March 31, 1998
INDEX
<TABLE>
<CAPTION>
Page
Number
------
PART I. FINANCIAL INFORMATION:
Item 1. Financial Statements.
<S> <C>
Condensed Consolidated Statements of Operations-
Three and Six Months Ended March 31, 1998 and 1997
(Unaudited) 4
Condensed Consolidated Balance Sheets-
March 31, 1998 (Unaudited) and
September 30, 1997 5
Condensed Consolidated Statements of Cash Flows-
Six Months Ended March 31, 1998 and 1997
(Unaudited) 6
Notes to Condensed Consolidated Financial
Statements (Unaudited) 7-10
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations. 11-15
Item 3. Quantitative and Qualitative Disclosure about
Market Risk. 15
PART II. OTHER INFORMATION:
Item 1. Legal Proceedings 16
Item 6. Exhibits and Reports on Form 8-K. 16
</TABLE>
2
<PAGE>
MEDIQ INCORPORATED AND SUBSIDIARIES
Quarter Ended March 31, 1998
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
3
<PAGE>
MEDIQ INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
March 31, March 31,
------------------------ ------------------------
1998 1997 1998 1997
-------- -------- --------- --------
<S> <C> <C> <C> <C>
Revenue:
Rental $ 36,599 $ 34,076 $ 69,993 $ 63,193
Sales 7,285 5,731 13,979 9,459
Other 2,525 2,759 5,007 5,397
-------- -------- -------- --------
46,409 42,566 88,979 78,049
Costs and Expenses:
Cost of sales 5,779 4,685 11,270 7,759
Operating 14,003 11,477 28,449 22,228
Selling 3,938 3,754 7,557 6,570
General and administrative 4,534 5,097 9,348 10,034
Non-recurring merger costs 306 -- 363 --
Depreciation and amortization 8,294 7,364 16,586 14,731
-------- -------- -------- --------
36,854 32,377 73,573 61,322
-------- -------- -------- --------
Operating Income 9,555 10,189 15,406 16,727
Other (Charges) Credits:
Interest expense (3,578) (5,409) (7,235) (11,922)
Equity participation - repurchase of MEDIQ/PRN warrants -- -- -- (11,047)
Gain on sale and market appreciation of Cardinal Health stock -- 4,021 -- 9,213
Gain on NutraMax note receivable -- 1,195 -- 1,195
Other - net 251 679 479 1,144
-------- -------- -------- --------
Income from Continuing Operations before
Income Taxes and Extraordinary Item 6,228 10,675 8,650 5,310
Income Tax Expense 2,799 4,318 3,888 6,444
-------- -------- -------- --------
Income (loss) before Discontinued Operations and
Extraordinary Item 3,429 6,357 4,762 (1,134)
Discontinued Operations (net of taxes) -- (66) -- 37,175
Extraordinary Item - Early Retirement of Debt (net of taxes) -- (462) -- (6,926)
-------- -------- -------- --------
Net Income $ 3,429 $ 5,829 $ 4,762 $ 29,115
======== ======== ======== ========
Earnings per share:
Continuing Operations $ .13 $ .25 $ .19 $ (.04)
Discontinued Operations -- -- -- 1.49
Extraordinary Item -- (.02) -- (.28)
-------- -------- -------- --------
Net Income $ .13 $ .23 $ .19 $ 1.17
======== ======== ======== ========
Weighted Average Shares Outstanding 25,635 25,042 25,624 24,922
======== ======== ======== ========
Earnings per share - assuming dilution:
Continuing Operations $ .13 $ .25 $ .18 $ (.04)
Discontinued Operations -- -- -- 1.49
Extraordinary Item -- (.02) -- (.28)
-------- -------- -------- --------
Net Income $ .13 $ .23 $ .18 $ 1.17
======== ======== ======== ========
Weighted Average Shares Outstanding 26,455 26,117 26,358 24,922
======== ======== ======== ========
</TABLE>
See Notes to Condensed Consolidated Financial Statements
4
<PAGE>
MEDIQ INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
<TABLE>
<CAPTION>
Mar. 31, Sept. 30,
1998 1997
----------- ----------
(Unaudited) (See Note)
Assets
<S> <C> <C>
Current Assets:
Cash $ 3,925 $ 3,639
Accounts receivable - net 46,385 39,686
Inventories 15,428 13,047
Deferred income taxes 4,297 6,967
Income taxes receivable -- 4,917
Other current assets 1,197 1,495
--------- ---------
Total Current Assets 71,232 69,751
Property, plant and equipment - net 113,703 113,589
Goodwill - net 55,558 57,056
Other Assets 13,287 17,156
--------- ---------
Total assets $ 253,780 $ 257,552
========= =========
</TABLE>
<TABLE>
Liabilities and Stockholders' Equity
<S> <C> <C>
Current Liabilities:
Accounts payable $ 10,667 $ 8,793
Accrued expenses 15,802 23,401
State taxes payable 870 177
Current portion of long-term debt 6,534 7,648
--------- ---------
Total Current Liabilities 33,873 40,019
Senior debt 127,311 128,131
Subordinated debt 10,055 10,055
Deferred income taxes and other liabilities 29,045 30,744
Stockholders' Equity 53,496 48,603
--------- ---------
Total Liabilities and Stockholders' Equity $ 253,780 $ 257,552
========= =========
</TABLE>
Note: The balance sheet at September 30, 1997 has been condensed from the
audited financial statements at that date.
See Notes to Condensed Consolidated Financial Statements
5
<PAGE>
MEDIQ INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
<TABLE>
<CAPTION>
Six Months Ended
March 31,
---------------------------
1998 1997
--------- ---------
<S> <C> <C>
Cash Flows from Operating Activities:
Net income $ 4,762 $ 29,115
Adjustments to reconcile net income to
net cash provided by (used in) operating activities:
Income from discontinued operations -- (37,175)
Gain on sale of Cardinal shares -- (9,213)
Equity participation - repurchase of MEDIQ/PRN warrants -- 11,047
Other - net 9,969 (4,242)
--------- ---------
Net cash provided by (used in) operating activities 14,731 (10,468)
Cash Flows from Investing Activities:
Proceeds from sale of discontinued operations -- 120,790
Proceeds from sale of equipment and other assets -- 546
Purchase of equipment (15,275) (8,005)
Collections on note receivable 2,250 --
Repurchase of MEDIQ/PRN warrant -- (12,500)
Other 384 (3,043)
--------- ---------
Net cash provided by (used in) investing activities (12,641) 97,788
Cash Flows from Financing Activities:
Borrowings 11,000 214,000
Debt repayments (12,934) (293,126)
Deferred financing fees -- (8,746)
Exercise of stock options 130 272
--------- ---------
Net cash provided by (used in) financing activities (1,804) (87,600)
--------- ---------
Increase (decrease) in cash 286 (280)
Cash:
Beginning balance 3,639 3,219
--------- ---------
Ending balance $ 3,925 $ 2,939
========= =========
Supplemental disclosure of cash flow information:
Interest paid $ 6,792 $ 13,034
========= =========
Income taxes paid {refunded) $ (3,416) $ 3,249
========= =========
Supplemental disclosure of non-cash investing and financing activities:
Conversion of 7.25% subordinated debentures into common stock $ -- $ 6,251
========= =========
</TABLE>
See Notes to Condensed Consolidated Financial Statements
6
<PAGE>
MEDIQ INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note A - Condensed Consolidated Financial Statements
The condensed consolidated balance sheet as of March 31, 1998 and the condensed
consolidated statements of operations and cash flows for the six months ended
March 31, 1998 and 1997 have been prepared by the Company, without audit. In the
opinion of management, all adjustments (consisting only of normal, recurring
adjustments) necessary to present fairly the financial position, results of
operations and cash flows at March 31, 1998 and for all periods presented have
been made.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted. These condensed consolidated financial
statements should be read in conjunction with the financial statements and notes
thereto included in the Company's September 30, 1997 Annual Report on Form 10-K.
The results of operations for the period ended March 31, 1998 are not
necessarily indicative of the operating results for the full year.
Reclassification of Accounts - Certain reclassifications have been made to
conform prior year balances to the current year presentation.
Note B - Inventories
Inventories, which consist primarily of disposable products and repair parts for
rental equipment, are stated at the lower of cost (first-in, first-out method)
or market.
Note C - New Accounting Pronouncements
The Financial Accounting Standards Board has issued SFAS No. 128, "Earnings Per
Share," which changes the computation and presentation of earnings per share.
The Company was required to adopt this standard during its quarter ended
December 31, 1997. In connection with the consummation of the Merger (as
discussed in Note D), the Company's equity structure and earnings per share data
will change materially.
<TABLE>
<CAPTION>
For the Three Months Ended March 31, 1998
---------------------------------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ---------
<S> <C> <C> <C>
Basic EPS:
Income from Continuing Operations $ 3,429 25,635 $ 0.13
Effect of Dilutive Securities:
Assumed exercise of stock options -- 820
---------- -----------
Diluted EPS:
Income from Continuing Operations $ 3,429 26,455 $ 0.13
========== =========== ========
</TABLE>
7
<PAGE>
Note C - New Accounting Pronouncements (Continued)
<TABLE>
<CAPTION>
For the Three Months Ended March 31, 1997
---------------------------------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ---------
<S> <C> <C> <C>
Basic EPS:
Income from Continuing Operations $ 6,357 25,042 $ 0.25
Effect of Dilutive Securities:
Assumed exercise of stock options -- 479
Assumed conversion of debentures 103 596
---------- -----------
Diluted EPS:
Income from Continuing Operations $ 6,460 26,117 $ 0.25
========== =========== ========
</TABLE>
<TABLE>
<CAPTION>
For the Six Months Ended March 31, 1998
---------------------------------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ---------
<S> <C> <C> <C>
Basic EPS:
Income from Continuing Operations $ 4,762 25,624 $ 0.19
Effect of Dilutive Securities:
Assumed exercise of stock options -- 734
---------- -----------
Diluted EPS:
Income from Continuing Operations $ 4,762 26,358 $ 0.18
========== =========== ========
</TABLE>
<TABLE>
<CAPTION>
For the Six Months Ended March 31, 1997
---------------------------------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ---------
<S> <C> <C> <C>
Basic EPS:
Loss from Continuing Operations $ (1,134) 24,922 $ (0.04)
Effect of Dilutive Securities:
Assumed exercise of stock options -- 388
Assumed conversion of debentures 404 1,492
---------- -----------
Diluted EPS:
Loss from Continuing Operations $ (730) 26,802(a) $ (0.04) (a)
========== =========== ========
</TABLE>
(a) In accordance with the provisions of SFAS No. 128, no potential common
shares shall be included in the computation of any diluted per-share
amount when a loss from continuing operations exists, even if the
entity reports net income. Accordingly, earnings per share assuming
dilution for the six months ended March 31, 1997 on the face of the
Statement of Operations reflects the same earnings per share and
weighted average shares outstanding as for the basic EPS calculation.
In February 1998, the FASB issued SFAS No. 132 "Employers' Disclosures about
Pensions and Other Postretirement Benefits". This statement, which improves
disclosure about pensions and other postretirement benefits, is effective for
fiscal years beginning after December 15, 1997, although earlier application is
permitted. At this time, the Company has not determined the impact the adoption
of this standard will have on the Company's financial statements.
8
<PAGE>
Note D - The Merger
On January 15, 1998, the Company announced that, pursuant to the terms of a
definitive agreement and plan of merger dated as of January 14, 1998, (as
amended on April 27, 1998, the "Merger Agreement"), MQ Acquisition Corporation
("Acquiror"), a Delaware corporation formed by Bruckmann, Rosser, Sherrill &
Co., L.P. ("BRS"), has agreed to enter into a transaction with the Company
whereby Acquiror will be merged with and into the Company (the "Merger"), with
the Company being the Surviving Corporation in the Merger (the "Surviving
Corporation"). In the Merger, holders of the Company's outstanding Common Stock
and Preferred Stock will be entitled to receive, in exchange for each
outstanding share of Common Stock or Preferred Stock (except for shares held
directly or indirectly by the Company or MQ, the Rolled Shares (as defined
below) and dissenting shares), $13.75 in cash, without interest, and 0.075 of a
share of a newly created Series A 13% Cumulative Compounding Preferred Stock,
par value $.01 per share (the "13% Senior Preferred Stock") of the Surviving
Corporation. The 13% Senior Preferred Stock will have a liquidation preference
of $10.00 per share. The aggregate consideration payable pursuant to the Merger,
including amounts payable to holders of options, is expected to be approximately
$390.7 million.
In connection with, and as a condition to entering into the Merger Agreement,
Acquiror required that Bessie G. Rotko, Michael J. Rotko, Judith M. Shipon and a
trust established by the late Bernard B. Rotko for the benefit of certain
members of his family (together, the "Rotko Entities") enter into an agreement
pursuant to which they will receive 109,781 shares of the Common Stock of the
Surviving Corporation equal to 11.0% of the total outstanding shares of Common
Stock of the Surviving Corporation and 1,340,219 shares of newly created Series
B Preferred Stock of the Surviving Corporation, in exchange for 1,000,000 shares
of outstanding Preferred Stock of the Company presently held by the Rotko
Entities (the "Rolled Shares"). The Rotko Entities have also been given the
right, following the Merger, to appoint a representative to the Company's Board
of Directors. Michael J. Rotko has been so appointed by the Rotko Entities.
The Rotko Entities also granted Acquiror an option, pursuant to a certain Stock
Option Agreement, to purchase up to 4,701,464 shares of the Company's Common
Stock and up to 4,730,006 shares of the Company's Preferred Stock owned by them,
representing a majority of the outstanding Preferred Stock and a majority of the
outstanding total voting power of the Preferred Stock and the Common Stock,
voting together as a single class. The option is exercisable upon the occurrence
of certain events, as set forth in more detail in the Stock Option Agreement and
will terminate upon the consummation of the Merger and upon the occurrence of
certain other events. The Rotko Entities also entered into certain Stockholder
Agreements under which they have agreed to vote in favor of, and otherwise to
support the Merger, subject to the limitations set forth therein. The
affirmative vote of the shares of the Company's stock subject to the Stockholder
Agreements will be sufficient to approve the Merger and the Merger Agreement.
Thomas E. Carroll, President and Chief Executive Officer, and Jay M. Kaplan,
Senior Vice President-Finance and Chief Financial Officer, and such other
members of management as may be selected by the Company and BRS are expected to
purchase $4.2 million of the common and preferred equity of the Surviving
Corporation.
The transaction is intended to be treated as a recapitalization for financial
reporting purposes. The Board of Directors of the Company and a Special
Committee thereof have unanimously approved the Merger Agreement and the Merger.
The Merger is subject to customary closing conditions in addition to the
Company's shareholder approval, including the termination or
9
<PAGE>
expiration of the relevant waiting period under the Hart-Scott-Rodino Antitrust
Improvements Act of 1976, as amended (the "HSR Act"), and funding of committed
financing. On February 24, 1998, termination under the HSR Act was granted. BRS
has received financing commitments for the transactions from Credit Suisse First
Boston Corporation, Credit Suisse First Boston, NationsBank, N.A., NationsBanc
Montgomery Securities LLC, NationsBridge LLC and Banque Nationale de Paris,
which commitments are subject to certain conditions.
Simultaneously with the Merger, the Company will refinance substantially all of
its existing debt except for capital leases and the Company's 7.5% Exchangeable
Subordinated Debentures (the "Exchangeable Debentures") (the "Refinancing").
Pursuant to the terms of the indenture related to the Exchangeable Debentures,
upon consummation of the Merger the holders of the Exchangeable Debentures will
have the right to require the Company to repurchase their Exchangeable
Debentures at 100% of the principal amount thereof, together with accrued and
unpaid interest.
The Merger and the Refinancing are expected to be funded by (i) investments by
BRS, certain persons affiliated with BRS and certain funds affiliated with
Ferrer Freeman Thompson & Co. LLC and Galen Partners III (collectively, the
"Investors") of approximately $109.5 million, (ii) the $4.2 million investment
by various members of management, (iii) a $14.5 million investment by the Rotko
Entities, (iv) funds from a new $275.0 million Senior Credit Facility, (v) funds
from $265.0 million of Senior Subordinated Notes, (vi) funds from $50.0 million
of Senior Discount Debentures, and (vii) existing cash balances. After
consummation of the Merger, the Company anticipates it will have up to $50.0
million available for working capital, $75.0 million available to finance future
acquisitions and $50.0 million available to consummate the CH Medical
Acquisition (see Note E) under the new Senior Credit Facility.
Upon consummation of the Merger, the Investors will own approximately 82.9% of
the Surviving Corporation's common stock, the Rotko Entities will own
approximately 11.0% and management will own approximately 6.1%.
On January 15, 1998, a complaint, purporting to be a class action, was filed in
Delaware Chancery Court, naming the Company and each of its directors as
defendants and seeking to enjoin consummation of the Merger, or, in the
alternative, compensatory damages. Plaintiff alleges generally that the
directors have breached fiduciary duties to stockholders. The Company believes
that the allegations in the complaint are completely without merit and intends
to vigorously defend this case. Based on the information currently available,
the Company believes that resolution of the claim will not have a material
adverse effect on the operations or financial condition of the Company.
Note E - Subsequent Event
The Company, through its wholly-owned subsidiary MEDIQ/PRN Life Support
Services, Inc., entered into an Asset Purchase Agreement with CH Industries,
Inc., certain direct and indirect subsidiaries, including CH Medical, Inc. and
subsidiaries ("CH Medical"), and certain other parties dated as of April 24,
1998, to purchase specified assets and rights of the Sellers (the "CH Medical
Business") for a purchase price of approximately $50.0 million in cash,
including related costs and expenses, and the assumption of certain specified
obligations related to the CH Medical Business (the "CH Medical Acquisition").
The Company currently expects to finance the purchase price and related costs
and expenses for the CH Medical Acquisition with $50.0 million of Term Loans
under a new Senior Credit Facility to be entered into in connection with the
10
<PAGE>
Merger (see Note D). Consummation of the CH Medical Acquisition is subject to
the receipt of all statutory and regulatory consents and approvals, due
diligence and other conditions of closing.
11
<PAGE>
Some of the information presented in this Form 10-Q constitutes forward looking
statements within the meaning of the Private Securities Litigation Reform Act of
1995. Although the Company believes that its expectations are based on
reasonable assumptions within the bounds of its knowledge of its business and
operations, there can be no assurance that actual results will not differ
materially from its expectations. For additional information concerning
important factors which may cause the Company's actual results to differ
materially from expectations and underlying assumptions, please refer to the
reports filed by the Company with the Securities and Exchange Commission.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The following discussion addresses the financial condition of the Company as of
March 31, 1998 and results of operations for the three and six month periods
ended March 31, 1998 and 1997. This discussion should be read in conjunction
with the financial statements included elsewhere herein and the Management's
Discussion and Analysis and Financial Statement sections of the Company's Annual
Report on Form 10-K for the year ended September 30, 1997 to which the reader is
directed for additional information.
Seasonality
The Company's rental business is seasonal, with demand historically peaking
during periods of increased hospital census, which generally occur in the winter
months during the Company's second fiscal quarter.
Results of Operations
Second Quarter 1998 Compared with Second Quarter 1997
Revenues were $46.4 million for the second quarter of fiscal 1998, as
compared to $42.6 million in the prior year period, an increase of $3.8 million
or 9%. This revenue growth was attributable to a 7% increase in rental revenue
and a 27% increase in sales partially offset by an 8% decrease in other revenue.
The growth in rental revenue was achieved primarily through increased rental
revenue related to revenue share arrangements, the most significant of which
commenced in January 1997, and revenues from the rental of therapeutic support
systems as a result of the SpectraCair acquisition in September 1997, partially
offset by a 3% decrease in the core rental business primarily as a result of a
shift from rental to purchase by one of the Company's significant home
healthcare customers. Exclusive of revenues from such customer, revenues from
the core rental business increased slightly. The increase in sales was
attributable to sales of disposable products as a result of increased volume to
existing customers, revenue share arrangements, and sales of oxygen which the
Company initiated in the fourth quarter of fiscal 1997. The decrease in other
revenue was primarily attributable to the discontinuance of logistics services
provided to SpectraCair as a result of its acquisition in September 1997,
partially offset by increased revenues from asset management projects and
strategic alliances.
Operating income decreased $.6 million, or 6%, to $9.6 million, for the second
quarter of fiscal 1998, as compared to 10.2 million in the prior year period.
The decrease in operating income was primarily attributable to increased
depreciation as a result of capital expenditures, increased selling and
operating expenses as the Company continues to invest in sales and operational
personnel to facilitate the growth of the SpectraCair division, disposable sales
and outsourcing activities and nonrecurring merger costs. Operating margins
decreased to 21% from 24% in the prior year period, which was primarily
attributable to revenue mix. The growth in sales of parts and disposables and
the Company's revenue share activities which have lower margins than the
Company's core rental business continued to increase while the Company
experienced a modest decline in its overall core rental business. The Company's
operating margins were also reduced by increased selling and operating expenses.
Interest expense decreased 34% to $3.6 million for the second quarter of fiscal
1998 primarily as a result of the substantial reduction of debt with the
proceeds from the sales of discontinued operations in the second quarter of
fiscal 1997 and reduced interest rates as a result of improved leverage in
accordance with the terms of the Company's existing Credit Agreement.
12
<PAGE>
The Company's effective tax rates were disproportionate compared to the
statutory rate as a result of the nondeductibility of certain goodwill
amortization.
Six Months Ended March 31, 1998 Compared with Six Months Ended March 31, 1997
Revenues were $89.0 million for the six months ended March 31, 1998, as
compared to $78.0 million in the prior year period, an increase of $11.0
million, or 14%. This revenue growth was attributable to an 11% increase in
rental revenue and a 48% increase in sales partially offset by a 7% decrease in
other revenue. The growth in rental revenue was achieved primarily through
revenue share arrangements, the most significant of which commenced in January
1997, and revenues from the rental of therapeutic support systems as a result of
the SpectraCair acquisition in September 1997, partially offset by a 3% decrease
in the core rental business primarily as a result of a shift from rental to
purchase by one of the Company's significant home healthcare customers.
Exclusive of revenues from such customer, revenues from the core rental business
increased slightly. The increase in sales was attributable to sales of
disposable products as a result of increased volume to existing customers,
revenue share arrangements, and sales of oxygen which the Company initiated in
the fourth quarter of fiscal 1997. The decrease in other revenue was primarily
attributable to the discontinuance of logistics services provided to SpectraCair
as a result of its acquisition in September 1997, partially offset by increased
revenues from asset management projects and strategic alliances.
Operating income decreased $1.3 million, or 8%, to $15.4 million, for the six
months ended March 31, 1998, as compared to $16.7 million in the prior year
period. The decrease in operating income was primarily attributable to increased
depreciation as a result of capital expenditures, increased selling and
operating expenses as the Company continues to invest in sales and operational
personnel to facilitate the growth of the SpectraCair division, disposable sales
and outsourcing activities and nonrecurring merger costs. Operating margins
decreased to 17% from 21% in the prior year period, which was primarily
attributable to revenue mix. The growth in sales of parts and disposables and
the Company's revenue share activities which have lower margins than the
Company's core rental business continued to increase while the Company
experienced a modest decline in its overall core rental business. The
Company's operating margins were also reduced by increased selling and
operating expenses.
Interest expense decreased 39% to $7.2 million for the six months ended March
31, 1998 primarily as a result of the substantial reduction of debt with the
proceeds from the sales of discontinued operations in the second quarter of
fiscal 1997 and reduced interest rates as a result of improved leverage in
accordance with the terms of the Company's existing Credit Agreement.
The Company's effective tax rates were disproportionate compared to the
statutory rate as a result of the nondeductibility of certain goodwill
amortization.
Recent Developments
The Merger
On January 15, 1998, the Company announced that, pursuant to the terms of a
definitive agreement and plan of merger dated as of January 14, 1998, (as
amended on April 27, 1998, the "Merger Agreement"), MQ Acquisition Corporation
("Acquiror"), a Delaware corporation formed by Bruckmann, Rosser, Sherrill &
Co., L.P. ("BRS"), has agreed to enter into a transaction with the Company
whereby Acquiror will be merged with and into the Company (the "Merger"), with
the Company being the Surviving Corporation in the Merger (the "Surviving
Corporation"). In the Merger, holders of the Company's outstanding Common Stock
and Preferred Stock will be entitled to receive, in exchange for each
outstanding share of Common Stock or Preferred Stock (except for shares held
directly or indirectly by the Company or MQ, the Rolled Shares (as defined
below) and dissenting shares), $13.75 in cash, without interest, and 0.075 of a
share of a newly
13
<PAGE>
created Series A 13% Cumulative Compounding Preferred Stock, par value $.01 per
share (the "13% Senior Preferred Stock") of the Surviving Corporation. The 13%
Senior Preferred Stock will have a liquidation preference of $10.00 per share.
The aggregate consideration payable pursuant to the Merger, including amounts
payable to holders of options, is expected to be approximately $390.7 million.
In connection with, and as a condition to entering into the Merger Agreement,
Acquiror required that Bessie G. Rotko, Michael J. Rotko, Judith M. Shipon and a
trust established by the late Bernard B. Rotko for the benefit of certain
members of his family (together, the "Rotko Entities") enter into an agreement
pursuant to which they will receive 109,781 shares of the Common Stock of the
Surviving Corporation equal to 11.0% of the total outstanding shares of Common
Stock of the Surviving Corporation and 1,340,219 shares of newly created Series
B Preferred Stock of the Surviving Corporation, in exchange for 1,000,000 shares
of outstanding Preferred Stock of the Company presently held by the Rotko
Entities (the "Rolled Shares"). The Rotko Entities have also been given the
right, following the Merger, to appoint a representative to the Company's Board
of Directors. Michael J. Rotko has been so appointed by the Rotko Entities.
The Rotko Entities also granted Acquiror an option, pursuant to a certain Stock
Option Agreement, to purchase up to 4,701,464 shares of the Company's Common
Stock and up to 4,730,006 shares of the Company's Preferred Stock owned by them,
representing a majority of the outstanding Preferred Stock and a majority of the
outstanding total voting power of the Preferred Stock and the Common Stock,
voting together as a single class. The option is exercisable upon the occurrence
of certain events, as set forth in more detail in the Stock Option Agreement and
will terminate upon the consummation of the Merger and upon the occurrence of
certain other events. The Rotko Entities also entered into certain Stockholder
Agreements under which they have agreed to vote in favor of, and otherwise to
support the Merger, subject to the limitations set forth therein. The
affirmative vote of the shares of the Company's stock subject to the Stockholder
Agreements will be sufficient to approve the Merger and the Merger Agreement.
Thomas E. Carroll, President and Chief Executive Officer, and Jay M. Kaplan,
Senior Vice President-Finance and Chief Financial Officer, and such other
members of management as may be selected by the Company and BRS are expected to
purchase $4.2 million of the common and preferred equity of the Surviving
Corporation.
The transaction is intended to be treated as a recapitalization for financial
reporting purposes. The Board of Directors of the Company and a Special
Committee thereof have unanimously approved the Merger Agreement and the Merger.
The Merger is subject to customary closing conditions in addition to the
Company's shareholder approval, including the termination or expiration of the
relevant waiting period under the Hart-Scott-Rodino Antitrust Improvements Act
of 1976, as amended (the "HSR Act"), and funding of committed financing. On
February 24, 1998, termination under the HSR Act was granted. BRS has received
financing commitments for the transactions from Credit Suisse First Boston
Corporation, Credit Suisse First Boston, NationsBank, N.A., NationsBanc
Montgomery Securities LLC, NationsBridge LLC and Banque Nationale de Paris,
which commitments are subject to certain conditions.
Simultaneously with the Merger, the Company will refinance substantially all of
its existing debt except for capital leases and the Company's 7.5% Exchangeable
Subordinated Debentures (the "Exchangeable Debentures") (the "Refinancing").
Pursuant to the terms of the indenture related to the Exchangeable Debentures,
upon consummation of the Merger the holders of the Exchangeable Debentures will
have the right to require the Company to repurchase their Exchangeable
Debentures at 100% of the principal amount thereof, together with accrued and
unpaid interest.
14
<PAGE>
The Merger and the Refinancing are expected to be funded by (i) investments by
BRS, certain persons affiliated with BRS and certain funds affiliated with
Ferrer Freeman Thompson & Co. LLC and Galen Partners III (collectively, the
"Investors") of approximately $109.5 million, (ii) the $4.2 million investment
by various members of management, (iii) a $14.5 million investment by the Rotko
Entities, (iv) funds from a new $275.0 million Senior Credit Facility, (v) funds
from $265.0 million of Senior Subordinated Notes, (vi) funds from $50.0 million
of Senior Discount Debentures, and (vii) existing cash balances. After
consummation of the Merger, the Company anticipates it will have up to $50.0
million available for working capital, $75.0 million available to finance future
acquisitions and $50.0 million available to consummate the CH Medical
Acquisition under the new Senior Credit Facility.
Upon consummation of the Merger, the Investors will own approximately 82.9% of
the Surviving Corporation's common stock, the Rotko Entities will own
approximately 11.0% and management will own approximately 6.1%.
On January 15, 1998, a complaint, purporting to be a class action, was filed in
Delaware Chancery Court, naming the Company and each of its directors as
defendants and seeking to enjoin consummation of the Merger, or, in the
alternative, compensatory damages. Plaintiff alleges generally that the
directors have breached fiduciary duties to stockholders. The Company believes
that the allegations in the complaint are completely without merit and intends
to vigorously defend this case. Based on the information currently available,
the Company believes that resolution of the claim will not have a material
adverse effect on the operations or financial condition of the Company.
CH Medical Acquisition
The Company, through its wholly-owned subsidiary, MEDIQ/PRN Life Support
Services, Inc., entered into an Asset Purchase Agreement with CH Industries,
Inc., certain direct and indirect subsidiaries, including CH Medical, Inc. and
subsidiaries ("CH Medical"), and certain other parties dated as of April 24,
1998, to purchase specified assets and rights of the Sellers (the "CH Medical
Business") for a purchase price of approximately $50.0 million in cash,
including related costs and expenses, and the assumption of certain specified
obligations related to the CH Medical Business (the "CH Medical Acquisition").
The Company currently expects to finance the purchase price and related costs
and expenses for the CH Medical Acquisition with $50.0 million of Term Loans
under a new Senior Credit Facility to be entered into in connection with the
Merger. Consummation of the CH Medical Acquisition is subject to the receipt of
all statutory and regulatory consents and approvals, due diligence and other
conditions of closing.
Year 2000 Compliance
The Company's internal business information systems have been analyzed for Year
2000 compliance and are Year 2000 compliant. The Company utilizes third-party
network equipment and software products, which may or may not be Year 2000
compliant. While delays in the implementation of the Year 2000 solutions or
failure of any critical technology components to operate properly in the Year
2000 could adversely affect the Company's operations, at this time, the Company
believes that resolution of the Year 2000 issue willl not require material
additional costs and will not have a material adverse effect on the Company's
results of operations.
New Accounting Pronouncement
In February 1998, the FASB issued SFAS No. 132 "Employers' Disclosures about
Pensions and Other Postretirement Benefits." This statement which improves
disclosures about pensions and other postretirement benefits, is effective for
fiscal years beginning after December 15, 1997, although earlier application is
permitted. At this time, the Company has not determined the impact the adoption
of this standard will have on the Company's financial statements.
Liquidity and Capital Resources
Cash provided by operating activities was $14.7 million in the six months ended
March 31, 1998, as compared to cash used in operations of $10.5 million in the
prior year period. The increase was primarily attributable to improved cash
flows from operations and decreased working capital requirements.
15
<PAGE>
Net cash used in investing activities was $12.6 million, and principally
consisted of capital expenditures for equipment.
Net cash used in financing activities consisted of debt repayments of $12.9
million partially offset by borrowings of $11.0 million.
The Company expects that its primary sources of liquidity for operating
activities will be generated through cash flows from MEDIQ/PRN. The Company
believes that sufficient funds will be available from operating cash flows and
its current credit facility to meet the Company's anticipated operating and
capital requirements.
In connection with the acquisition of the Company by Acquiror, MEDIQ/PRN is
expected to issue $265.0 million Senior Subordinated Notes and enter into a new
$275.0 million Senior Credit Facility and the Company is expected to issue $50.0
million Senior Discount Debentures (collectively, the "Financings") to finance a
portion of the cash consideration to be paid to the holders of shares of Common
Stock and Preferred Stock in the Merger, to refinance substantially all of the
outstanding senior indebtedness of the Company, to pay the fees and expenses
incurred in connection with the Merger and the Financings and to provide for
working capital requirements. Although the definitive terms of the debt
instruments to be issued in the Financings have not been finalized as of the
date of this filing, the Company expects that such terms will include
significant operating and financial restrictions, such as limits on the
Company's ability to incur indebtedness, create liens, sell assets, engage in
mergers or consolidations, make investments and capital expenditures and pay
dividends. Upon consummation of the Merger, it is expected that the Company will
have substantial consolidated indebtedness. In addition, the Company expects to
incur additional indebtedness in connection with its post-Merger strategy of
pursuing strategic acquisitions and expanding through internal growth. Any such
high leverage may have important consequences for the Company, including the
following: (a) the Company's ability to obtain additional financing for such
acquisitions, working capital, capital expenditures or other purposes may be
impaired or any such financing may not be on terms favorable to the Company; (b)
interest expense may reduce the funds that would otherwise be available to the
Company for its operations and future business opportunities; (c) a substantial
decrease in net operating cash flows or an increase in expenses of the Company
could make it difficult for the Company to meet its debt service requirements or
pay dividends or force it to modify its operations; (d) substantial leverage may
place the Company at a competitive disadvantage and may make it more vulnerable
to a downturn in its business or the economy generally (e) certain of such
indebtedness of the Company will be at variable rates of interest, which would
cause the Company to be vulnerable to increases in interest rates; (f) certain
of such indebtedness will be secured by substantially all the assets of the
Company and its subsidiaries, reducing its ability to obtain additional
financing; and (g) the Company may be hindered in its ability to adjust rapidly
to changing market conditions.
Subsequent to the Merger, the Company anticipates it will have up to $50.0
million available for working capital, $75.0 million of availability for future
acquisitions, and $50.0 million of availability to consummate the CH Medical
Acquisition under the new Senior Credit Facility.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK
There were no material changes in the prime or LIBOR interest rates in the
second quarter of fiscal 1998. Accordingly, as of March 31, 1998, after
consideration of normal debt service, the fair value of the Company's variable
rate debt is consistent with year-end.
16
<PAGE>
MEDIQ INCORPORATED AND SUBSIDIARIES
Quarter Ended March 31, 1998
PART II. OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
In February 1997, the Company was sued in the Superior Court of New
Jersey by its former wholly-owned subsidiary, MHM. The suit challenged
the validity of a note receivable in the original principal amount of
$11,500,000 (the "MHM Note") that the Company and MHM entered into in
connection with the spin-off of MHM to the Company's shareholders in
August 1993. In addition, beginning in February 1997, MHM stopped making
the required monthly installments on the MHM Note and, therefore, the
Company gave notice to MHM of its default on the MHM Note and declared
all sums outstanding under the MHM Note, to be immediately due and
payable. In September 1997, as a result of continued deterioration in
MHM's financial condition, the Company recorded a reserve for the
remaining balance of the MHM Note, which had been partially reserved in
1996, and accrued interest on the MHM Note. In October 1997, the Company
filed a motion for summary judgment against MHM. In November 1997, the
Court granted summary judgment in favor of the Company and against MHM
on all counts. Specifically, the Court ruled that the MHM Note was valid
and enforceable. The Court also rejected MHM's request for a stay
pending appeal. On April 17, 1998, the Court entered a Final Damages
Order in favor of the Company in the approximate amount of $11,800,000.
Item 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits:
Exhibit 27 - Financial Data Schedule appears on page 18.
(b) Reports on Form 8-K
The Company filed the following reports on Form 8-K during and
subsequent to the quarter ended March 31, 1998.
Date of Earliest Event Requiring Report: January 14, 1998.
Date of Filing: January 21, 1998
Items Reported: Items 5 and 7
Subject: Merger of MEDIQ Incorporated and MQ Acquisition
Corporation, a Delaware corporation formed by
Bruckmann, Rosser, Sherrill & Co., Inc.
Date of Earliest Event Requiring Report: April 28, 1998.
Date of Filing April 28, 1998
Items Reported: Items 5 and 7
Subject: Acquisition of CH Medical, Inc. by MEDIQ/PRN
Life Support Services, Inc., a wholly-owned
subsidiary of the Company.
18
<PAGE>
MEDIQ INCORPORATED AND SUBSIDIARIES
Quarter Ended March 31, 1998
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.
MEDIQ Incorporated
------------------
(Registrant)
May 7, 1998
-----------
(Date) /s/ Jay M. Kaplan
------------------------------
Jay M. Kaplan
Senior Vice President Finance
and Chief Financial Officer
19
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<CURRENCY> U.S.$
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> SEP-30-1998
<PERIOD-END> MAR-31-1998
<EXCHANGE-RATE> 1
<CASH> 3,925
<SECURITIES> 0
<RECEIVABLES> 50,097
<ALLOWANCES> 3,712
<INVENTORY> 15,428
<CURRENT-ASSETS> 71,232
<PP&E> 256,105
<DEPRECIATION> 142,402
<TOTAL-ASSETS> 253,780
<CURRENT-LIABILITIES> 33,873
<BONDS> 137,366
0
3,322
<COMMON> 20,068
<OTHER-SE> 30,106
<TOTAL-LIABILITY-AND-EQUITY> 253,780
<SALES> 13,979
<TOTAL-REVENUES> 75,000
<CGS> 11,270
<TOTAL-COSTS> 62,303
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 7,235
<INCOME-PRETAX> 8,650
<INCOME-TAX> 3,888
<INCOME-CONTINUING> 4,762
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,762
<EPS-PRIMARY> .19
<EPS-DILUTED> .18
</TABLE>
