<PAGE>
Company Profile
Headquartered in Hauppauge, New York, Medical Action Industries Inc. develops,
manufactures, markets and distributes a variety of disposable, surgical
related products. The Company's products are marketed primarily to acute care
facilities in domestic and certain international markets, and is expanding its
end-user base to include physician, dental and veterinary offices. Medical
Action is the leading manufacturer and distributor of sterile laparotomy
sponges and sterile operating room towels in the United States. The Company's
products are marketed through an extensive network of independent
distributors, direct sales personnel and manufacturers' representatives.
Medical Action has preferred vendor agreements with national distributors, as
well as sole source and/or committed contracts with nearly every major group
purchasing alliance. The Company also manufactures its products under private
label contracts to other distributors and medical suppliers. Medical Action's
manufacturing, packaging and warehousing activities are conducted in its newly
consolidated Arden, North Carolina facility.
Selected Financial Data
<TABLE>
<CAPTION>
Year ended March 31, 1998 1997 1996 1995 1994
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<S> <C> <C> <C> <C> <C>
Operations Data
Net Sales ............................... $ 54,640,129 $ 46,000,309 $ 38,846,290 $ 35,111,326 $ 36,457,455
Income (loss) before income taxes
and cumulative effect of
accounting change ..................... 2,756,096 1,642,572 1,204,310 (246,695) 648,723
Net income (loss) ....................... 1,684,243 971,347 710,743 (183,146) 392,103
Net income (loss) per common share:
Basic ................................. .21 .12 .09 (.02) .05
Diluted ............................... .19 .12 .09 (.02) .05
- ---------------------------------------------------------------------------------------------------------------------
Balance Sheet Data
Total assets ............................ $ 31,804,444 $ 24,993,552 $ 24,390,336 $ 24,328,602 $ 19,270,845
Working capital (1) ..................... 10,988,352 10,228,286 10,334,499 11,034,593 9,020,889
Long-term debt including capital leases
(less current portion) ................ 6,142,900 3,558,674 4,387,958 7,328,626 3,749,965
Shareholders' equity (2) ................ 15,579,206 13,417,942 12,273,367 11,209,191 10,883,516
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</TABLE>
(1) See Management's Discussion and Analysis of Financial Condition and
Results of Operations.
(2) There were no cash dividends declared in any of the periods presented
above.
The cover of this year's Annual Report reflects Medical Action Industries
Inc.'s journey from a simple beginning as a one product company to our present
position as a diversified medical device company with worldwide distribution
and market leadership. When we search for ways to better meet the needs of our
customers, all changes must either demonstrate better patient outcome and/or
they must directly reduce costs somewhere along the supply chain.
Standardization and utilization have become necessities in today's healthcare
marketplace. By working closely with our customers, we have improved patient
safety, lowered risks and improved efficiency while reducing costs.
Recognizing the pressure to control costs, Medical Action Industries Inc. has
been proactive in working on initiatives to streamline and take cost out of
the supply chain. Our utilization of electronic data interchange transactions,
commitment to error-free pricing and expertise at reducing our distributors'
inventory investment are just a few of the ways we assure our customers that
they receive our products when they need them at the lowest delivered cost.
<PAGE>
Corporate Information
and Directory
BOARD OF DIRECTORS
Paul D. Meringola
Chairman of the Board,
Chief Executive Officer and President
Richard G. Satin
Vice President - Operations
and General Counsel
Bernard Wengrover
Certified Public Accountant
Dr. Philip F. Corso
Assistant Clinical Professor of Surgery -
Yale University School of Medicine;
Senior Attending and Emeritus Chief of Plastic Surgery Bridgeport
and Norwalk Hospitals
Dr. Thomas A. Nicosia
Fellow of the American College of
Cardiology. Affiliated with St. Francis and North Shore University Hospitals
EXECUTIVE OFFICERS
Paul D. Meringola
Chairman of the Board,
Chief Executive Officer and President
Richard G. Satin
Vice President - Operations
and General Counsel
Daniel F. Marsh
Vice President - Sales and Marketing
Eric Liu
Vice President-International Operations
OPERATIONS MANAGEMENT
Victor Bacchioni
Corporate Controller
Hal Carpenter
National Accounts Manager
Steve Ferrera
Director of Sales and Marketing-
OEM Division
Philip R. Meringola
Director of Information Systems
John Nie
National Sales Manager
John J. White, Jr.
Vice President-Manufacturing
INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Grant Thornton LLP
One Huntington Quadrangle
Melville, New York 11747
REGISTRAR & TRANSFER AGENT
American Stock Transfer and Trust Company
40 Wall Street
New York, New York 10005
SEC FORM 10-K
If you would like a copy of our Annual Report on SEC Form 10-K for the fiscal
year ended March 31, 1998, you may obtain it without charge. Direct your
request to Medical Action Industries Inc., Corporate Secretary, 150 Motor
Parkway, Hauppauge, New York 11788.
DUPLICATE MAILINGS
When a stockholder owns shares in more than one account or when several
stockholders live at the same address, they may receive multiple copies of the
Annual Report or other mailings.
For further information on how to eliminate multiple mailings, contact
American Stock Transfer and Trust Company at (718)921-8293.
COMPANY FACILITIES
Executive Offices
150 Motor Parkway
Hauppauge, New York 11788
Manufacturing and
Distribution Facilities
25 Heywood Road
Arden, North Carolina 28704
99/129 Lafayette Street
Syosset, New York 11791
1938 E. Pomona Street
Santa Ana, California 92705
ANNUAL STOCKHOLDERS' MEETING
The Annual Stockholders' Meeting of Medical Action will be held on Tuesday,
August 18, 1998 at the offices of Medical Action Industries Inc., 150 Motor
Parkway, lower level, Hauppauge, New York. A Form of Proxy and Proxy Statement
is being mailed to stockholders of record with this report.
STOCK TRADING
Medical Action's common stock trades on The Nasdaq Stock MarketSM under the
symbol MDCI. As of June 1, 1998, there were approximately 500 stockholders, of
record, which does not include approximately 3,500 beneficial owners of shares
held in the names of brokers or other nominees. The following table sets
forth, for the periods indicated, the high and low prices per share of Medical
Action Common Stock as reported by the National Market tier of the NASDAQ
Stock Market:
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Fiscal 1998 Fiscal 1997
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High Low High Low
First Quarter 3-15/16 2 2-1/2 1-25/32
Second Quarter 3-7/8 2-7/8 2-5/16 1-5/8
Third Quarter 4-7/32 2-11/16 2-5/32 1-5/16
Fourth Quarter 4-1/4 2-15/16 3-3/4 1-9/16
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<PAGE>
Medical Action Industries Inc.
Executive Offices:
150 Motor Parkway
Suite 205
Hauppauge, NY 11788
(516) 231-4600
<PAGE>
"A combination of organic growth and strategic acquisitions contributed to
record financial performance and built a solid foundation to exploit growth
opportunities into the next century."
To Our Shareholders, Customers, Healthcare Partners And Teammates:
From every perspective, the 12 months ended March 31, 1998 was Medical Action's
most successful year. We reported record net sales, net income and earnings
per share while maintaining a strong balance sheet and completing several
strategic acquisitions. We continued to build our management infrastructure,
consolidated manufacturing facilities and focused our expenditures on programs
that maximize the use of our human resources. In addition, we implemented a
senior management succession plan under which I was elected Chairman of the
Board and Chief Executive Officer in addition to my roles as President and
Chief Operating Officer. The sum of these accomplishments provides a solid
foundation for continued growth.
Fiscal 1998 was an exciting and rewarding year for Medical Action. Besides
being a record year from a financial standpoint, it was a year of significant
change in the healthcare landscape. While change always involves new
challenges, it also brings new opportunities. Reducing the cost of healthcare
delivery was the driving theme throughout our industry - from manufacturers to
providers to patients. The pace of consolidation and integration throughout
all segments of healthcare created opportunities for growth in our current
distribution channels and pathways into new markets for our existing products.
Medical Action's execution of its corporate strategy brought success on all
fronts.
[BAR GRAPH]
Net Income (in dollars)
1996 1997 1998
---- ---- ----
711,000 971,000 1,684,000
Our financial results speak for themselves. Net sales increased 19% to a
record $54,640,000, compared with $46,000,000 in fiscal 1997. Net income for
the year rose 73% to a record $1,684,000, compared with $971,000 one year ago.
Earnings per basic share increased to a record $0.21 from $0.12 and earnings
per diluted share increased to a record $0.19 from $0.12. The record net sales
level for fiscal 1998 was primarily attributable to greater domestic
penetration in each of the Company's core products, including an increase of
$5,087,000, or 38%, in net sales of operating room towels; a $1,064,000, or
28%, increase in net sales of our QuanTech product line; a $938,000, or 5%,
increase in net sales of laparotomy sponges and a $810,000 or 14% increase in
net sales on the SBW product line which includes net sales from Dayhill Corp.
acquired in October 1997.
[BAR GRAPH]
Net Sales (in dollars)
1996 1997 1998
---- ---- ----
38,846,000 46,000,000 54,640,000
During fiscal 1998 we achieved our goal of strengthening our balance sheet as
shareholders' equity increased to $15,579,000, or $1.85 per outstanding share,
and total assets increased to $31,804,000. Earnings before interest, taxes,
depreciation and amortization ("EBITDA"), reached $4,258,000, a 36% increase
from fiscal 1997 and more than
1
<PAGE>
three times greater than in fiscal 1995. We maintain a keen eye toward
maximizing shareholder return through a unique combination of cost control and
programmed growth. In last year's annual report, we discussed how our
commitments and deployment of resources will be the foundation for our
business in the future. Our stated objective has been to have the best
available team players in every game-winning position. We made dramatic
progress in fiscal 1998 to support this commitment to excellence.
In our core business, Vice President-Sales & Marketing Daniel F. Marsh and his
team significantly increased business, while adding more direct sales people
and reducing Medical Action's dependence on independent representative
organizations. Daniel's team put together the winning proposal for a four-year
agreement with VHA Inc., a leading healthcare alliance that represents more
than 1,600 member institutions nationwide, for Medical Action's medical
pouches. Another example of Daniel's team victories in fiscal 1998 came with
significant new business from a new multi-year supply agreement with
Allegiance Healthcare Corporation and their designation of Medical Action's
sterile laparotomy sponges and sterile operating room towels as "Best Value"
products.
To support our growth and commitment to increasing shareholder value, Richard
G. Satin, Vice President-Operations and General Counsel, and his team brought
new financial resources to our Company with an expanded and more favorable
credit arrangement with our lending institution. In addition, $5.5 million of
tax-exempt Industrial Revenue Bonds were secured for the acquisition and
renovation of our new 205,000 square foot manufacturing facility, which
allowed us to consolidate our three North Carolina facilities into one. Our
new manufacturing facility provides us with extensive operating efficiencies
and substantial room for growth, while reducing expenses as a result of such
advantageous financing. In addition, Richard and his team have continued to
provide Medical Action with the legal expertise to handle in-house all of our
acquisition needs. Finally, Richard has developed and implemented the
necessary programs to meet the ever-increasing requirements of the various
regulatory agencies involved in the oversight of our business.
Medical Action's financial philosophy is based on a simple commitment to
increasing shareholder value. As an industry leader and low-cost manufacturer,
we seek to build upon our core business by continuing to provide unsurpassed
service to customers while producing favorable returns to shareholders. The
Company has invested heavily in building the financial, capital and human
resources necessary to achieve these goals.
[BAR GRAPH]
Shareholders' Equity (in dollars)
1996 1997 1998
---- ---- ----
12,273,000 13,418,000 15,579,000
Medical Action's mission is simple --- to be the supplier of choice throughout
the healthcare supply chain. The Company is dedicated to developing and
maintaining long-standing relationships based on trust, innovation and
service. Combining the supply chain excellence of the Company with its
strategic alliances creates a strong bond between Medical Action and our
customers. We are committed to reducing the costs of our products and
increasing efficiency throughout the supply chain to enhance our competitive
edge. At the heart of every business is the customer. Medical Action has
remained an industry leader by focusing our efforts on exceptional customer
service strategies.
2
<PAGE>
Acquisitions in fiscal 1998 helped us achieve product, market and geographic
diversification. In October 1997 we acquired substantially all of the assets
of the specialty packaging business of Dayhill Corporation, a private company
based in Santa Ana, California. Dayhill's products feature collection systems
for the containment and transport of biohazardous waste including biohazard
bags, autoclave bags, laboratory transport bags, zip lock bags and sponge
counting bags. The acquisition of Dayhill not only broadened our breadth of
product offering, but continued our diversification by providing an entree
into new markets. These include the clinical laboratory testing market, as
well as further penetration into physician and dental offices, and alternate
site facilities.
In November 1997 we purchased the ATI PyMaH line of sterilization pouches from
3M Healthcare, which together with Medical Action's line of SBW medical
pouches solidified our position as a leading supplier of sterilization
packaging products in the United States. In January 1998 Medical Action also
acquired the sponge counter product lines of Sage Products, Inc., a leading
manufacturer of disposable medical products in the United States, which
includes a uniquely designed and patented surgical sponge counting system,
SAFE-T-CountTM, as well as a counting system known as Pocket CountTM.
Acquisitions are an important component of our overall corporate strategy.
Acquisition candidates will be evaluated on their ability to add breadth to
product lines, provide vehicles into new markets or new geographic regions,
and improve manufacturing efficiencies. We also will continue to focus on
internal product development within all our businesses.
With the healthcare system in the United States changing so rapidly, financial
stability, adaptability and the ability to react quickly will be fundamental
to success. Industry dynamics, including increasing consolidation of
manufacturers, distributors, hospitals and group purchasing organizations
("GPOs"), together with the cost pressures of a managed care environment, are
providing greater incentives to reduce the number of duplicate vendors for
each product line distributed to hospitals and healthcare facilities. Medical
Action, because of our preferred vendor status, is strategically positioned to
benefit from increased volume as other, less efficient vendors are eliminated.
At the same time, there are tough new regulatory standards for the medical
device industry that present formidable barriers to entry for new competitors.
Medical Action has traditionally used its sales force to call on individual
hospitals to create demand for our products. Increasingly, we have expanded
our national account team to focus on the emerging external influences on the
hospital purchasing decision, namely GPOs and distributors. We have leveraged
our domestic market share, low-cost supplier position and leadership in supply
chain excellence to become the supplier of choice throughout all aspects of
the supply chain.
We have preferred vendor status with firms that ship more than 80 percent of
the products distributed to the hospital market. Medical Action's portfolio of
sole source and/or committed contracts with GPOs is both extensive and
complete. Current contracts extending into the next millennium include Premier
Inc. (1,822 hospitals), VHA Inc. (1,200 hospitals), Tenet Healthcare Corp.
(127 hospitals), AmeriNet (1,903 hospitals), MedEcon (1,046 hospitals), HSCA
(961 hospitals), University HealthSystem Consortioum (70 hospitals), Purchase
Connection (497 hospitals) and AmeriNet Elite (351 hospitals).
3
<PAGE>
Our strategy going forward is unchanged from the one we shared with you last
year. Consolidation within the healthcare industry is a platform of
opportunity for our highly focused, flexible and well-capitalized company. We
will use our financial resources, distribution channels and acquisitions to
broaden our product and market base.
Our plans to grow Medical Action include diversifying the Company's portfolio
of GPO contracts, leveraging existing programs for new business, expanding our
reach by developing new product lines and product enhancements, and
selectively acquiring other companies that are synergistic with our core
competencies. Medical Action will continue to be a leader focused on providing
innovative solutions to meet our customers' needs.
Medical Action is well positioned for the future. Our reputation for quality
is excellent and we are a low-cost provider in an industry characterized by
cost reduction. Our service capabilities are flexible and extensive. In
addition, our strong capital position and operating cash flow can readily
sustain our growth momentum. Our management team has considerable depth and
expertise as well as an entrepreneurial spirit fueled by significant stock
ownership of the Company. By helping our customers save money, our added value
shows on their bottom line and, in turn, on ours.
We will continue to strengthen our commitment to our employees through
training, communication and increased empowerment to fully utilize their
skills. They are responsible for much of our success and will no doubt lead us
to future success. Our management team is focused on building relationships
and creating long-lasting alliances, securing our future and enhancing
shareholder value.
Medical Action has long been recognized as an efficient manufacturer, measured
by operating expenses as a percent of net sales. We have maintained
exceptional relationships with our customers and business partners throughout
the healthcare supply chain. The Company has recognized the need not only to
maximize shareholder return, but to increase communication with shareholders
and the investment community. To that end, we intend to spend more time with
the investment community in fiscal 1999 as a means to increase awareness of
our Company. Medical Action is well positioned for continued growth and
enhanced shareholder value in fiscal 1999. We greatly appreciate your
continued support and look forward to the challenges and opportunities that
lie ahead for all of us.
/s/ Paul D. Meringola
Paul D. Meringola
Chairman of the Board
Chief Executive Officer and President
4
<PAGE>
Management's Discussion and Analysis of Financial Condition
The following management discussion and analysis describes material
changes in the results of operations of Medical Action Industries Inc.
("Medical Action" or the "Company") during the three years ended March 31,
1998 and the Company's financial condition at that date. Trends of a material
nature are discussed to the extent known and considered relevant.
Certain statements in this discussion constitute forward-looking
statements as defined by the Private Securities Litigation Reform Act of 1995.
Statements indicating the Company "plans", "expects", "estimates" or
"believes" are forward looking statements that involve known and unknown
risks, including the Company's future economic performance and financial
results. The forward-looking statements relate to (i) expansion of the
Company's market share, (ii) the Company's growth into new markets, (iii)
internal development of new products and product lines, (iv) procurement of
export visas for operating room towels from China, which may impact their
availability and pricing, and (v) retention of the Company's earnings for use
in the operation and expansion of its business.
Important factors and risks that could cause actual results to differ
materially from those referred to in the forward-looking statements include,
but are not limited to, the effect of economic and business conditions, the
impact of healthcare reform, opportunities for acquisitions, the Company's
ability to effectively integrate acquired companies, the ability of the
Company to maintain its gross profit margins, the ability to obtain additional
financing to expand the Company's business, the ability to successfully
compete with the Company's competitors that have greater financial resources,
the availability and possible increases in raw material prices for operating
room towels, the impact of current or pending legislation and regulation, as
well as the risks described from time to time in the Company's filings with
Securities and Exchange Commission, which include its Annual Report on Form
10-K and Quarterly Reports on Form 10-Q.
The forward-looking statements are based on current expectations and
involve a number of known and unknown risks and uncertainties that could cause
the actual results, performance and/or achievements of the Company to differ
materially from any future results, performance or achievements, express or
implied, by the forward-looking statements, and that in light of
the significant uncertainties inherent in forward-looking statements, the
inclusion of such statements should not be regarded as a representation by the
Company or any other person that the objectives or plans of the Company will
be achieved. The Company undertakes no obligation to update periodically any
forward-looking statement, whether as a result of new information, future
events or otherwise.
RESULTS OF OPERATIONS
Fiscal 1998 Compared to Fiscal 1997
Net sales for the fiscal year ended March 31, 1998 increased 19% to
$54,640,000 from $46,000,000 for the fiscal year ended March 31, 1997. The
increase in net sales was primarily attributable to a $5,087,000 or 38%
increase in net sales of operating room towels; a $1,064,000 or 28% increase
in net sales of the QuanTech product line, an increase of $938,000 or 5% in
net sales of laparotomy sponges and a $810,000 or 14% increase in net sales of
the SBW product line which includes net sales from Dayhill Corp. acquired in
October 1997. Net sales of operating room towels and laparotomy sponges
increased by 28% and 3% in unit sales, respectively. Management believes that
the increase in net sales of operating room towels, the QuanTech product line,
laparotomy sponges and the SBW product line was primarily due to greater
domestic market penetration.
The Company presently obtains substantially all of its raw materials for
operating room towels from China. These operating room towels are designated
as a textile, for which an export visa is required. These export visas could
adversely impact the availability and pricing of operating room towels. In the
event that these quota restrictions reduce the availability of operating room
towels, the Company will accelerate its procurement of operating room towels
from China and, to a lesser extent, secure operating room towels from sources
outside of China. Management presently anticipates that it will be able to
meet the Company's requirements of operating room towels through fiscal 1999,
however higher pricing for such raw materials which the Company began
incurring in the fourth quarter of fiscal 1998, due to the availability of
export visas, could adversely effect the Company.
Gross profit increased $2,693,000, or 28%, to $12,366,000 for the fiscal
year ended March 31, 1998 as compared to $9,673,000 for the prior fiscal year.
Gross profit as a percentage of sales for
5
<PAGE>
the fiscal year ended March 31, 1998 increased to 23% from 21% as compared to
the prior fiscal year. The increase in gross profit dollars and gross profit
as a percentage of net sales for the fiscal year ended March 31, 1998 was due
to increased sales volume and lower per unit manufacturing costs resulting
from improved efficiency at the Company's manufacturing facilities in North
Carolina.
Selling, general and administrative expenses increased by $1,371,000 to
$8,746,000 for the fiscal year ended March 31, 1998 from $7,375,000 for the
prior fiscal year. As a percentage of net sales, selling, general and
administrative expenses remained at 16.0% as compared to the prior fiscal
year. The increase in selling, general and administrative expense dollars was
primarily attributable to selling expenses associated with achieving higher
net sales.
Restructuring charges of $260,000 were incurred for the fiscal year ended
March 31, 1998 as a result of the Company's consolidation and sale of its
Asheville, North Carolina manufacturing facility and two leased warehouse
facilities into a newly acquired facility in Arden, North Carolina.
Interest expense decreased 8% from $655,000 or 1.4% of net sales to
$603,000 or 1.1% of net sales for the fiscal years ended March 31, 1997 and
March 31, 1998, respectively. The decrease in interest expense was
attributable to a decrease in the average principal loan balances outstanding
during the fiscal year ended March 31, 1998 as compared to the fiscal year
ended March 31, 1997. The decrease in principal loan balances outstanding
during the year was primarily attributable to net cash provided from operating
activities during fiscal 1998.
Net income for the fiscal year ended March 31, 1998 was $1,684,000, or
$.21 per basic share and $.19 per diluted share as compared to $971,000, or
$.12 per basic and diluted share, for the fiscal year ended March 31, 1997.
The increase in net income was attributable to the increase in net sales and
gross profits and the decrease in interest expense, which were partially
offset by an increase in selling, general and administrative expenses and
restructuring charges.
Fiscal 1997 Compared to Fiscal 1996
Net sales for the fiscal year ended March 31, 1997 increased 18% to
$46,000,000 from $38,846,000 for the fiscal year ended March 31, 1996. The
increase in net sales was primarily attributable to a full year of
net sales of the medical sterilization products acquired from Lawson Mardon
Medical Products, Inc. in January 1996, which increased $4,837,000; a $890,000
or 7% increase in net sales of operating room towels; a $693,000 or 22%
increase in net sales from the QuanTech product line; and an increase of
$465,000 or 3% in net sales of laparotomy sponges. Net sales of operating room
towels and laparotomy sponges increased by 16% and 3% in unit sales,
respectively. Management believes that the increase in net unit sales of
operating room towels, the QuanTech product line and laparotomy sponges was
primarily due to greater domestic market penetration.
The Company presently obtains substantially all of its raw materials for
operating room towels from China. These operating room towels are designated
as a textile, for which an export visa is required. These export visas may
impact the availability and pricing of operating room towels. While the
Company cannot predict whether or not these conditions will occur during
fiscal 1998, the Company has accelerated its procurement of operating room
towels from China. Management believes that it will be able to meet the
Company's requirements of operating room towels for fiscal 1998.
Gross profit increased $1,516,000, or 19%, to $9,673,000 for the fiscal
year ended March 31, 1997 as compared to $8,157,000 for the prior fiscal year.
Gross profit as a percentage of sales for the fiscal year ended March 31, 1997
remained at 21.0% as compared to the prior fiscal year. The increase in gross
profit dollars was primarily attributable to the increase in net sales.
Selling, general and administrative expenses increased by $1,288,000 to
$7,375,000 for the fiscal year ended March 31, 1997 from $6,087,000 for the
prior fiscal year. As a percentage of net sales, selling, general and
administrative expenses increased to 16.0% for the fiscal year ended March 31,
1997 as compared to 15.7% for the fiscal year ended March 31, 1996. The
increase in selling, general and administrative expense dollars as a
percentage of sales was primarily attributable to selling expenses associated
with achieving higher net sales, the introduction of new products resulting
from the recent acquisitions, and an increase in our sales and marketing
infrastructure, which management believes will facilitate future growth.
6
<PAGE>
Interest expense decreased 24% from $865,000 or 2.0% of net sales to
$655,000 or 1.4% of net sales for the fiscal years ended March 31, 1996 and
March 31, 1997, respectively. The decrease in interest expense was
attributable to a decrease in the average principal loan balances outstanding
during the fiscal year ended March 31, 1997 as compared to the fiscal year
ended March 31, 1996. The decrease in principal loan balances outstanding
during the year was primarily attributable to net cash provided from operating
activities during fiscal 1997.
Net income for the fiscal year ended March 31, 1997 was $971,000, or $.12
per share (basic and diluted), as compared to $711,000, or $.09 per share
(basic and diluted), for the fiscal year ended March 31, 1996. The increase in
net income was attributable to the increase in net sales and gross profits and
the decrease in interest expense, which were partially offset by an increase
in selling, general and administrative expenses.
Liquidity and Capital Resources
Current assets have increased $2,856,000 to $20,715,000 at March 31, 1998
from $17,859,000 at March 31, 1997. The increase was primarily attributable to
a $2,542,000 increase in inventory. The Company increased its inventory
primarily to assure supply during fiscal 1999 of operating room towels which
are subject to import quotas. The Company had working capital of $10,988,000
with a current ratio of 2.13 at March 31, 1998 as compared to working capital
of $10,228,000 with a current ratio of 2.34 at March 31, 1997. Total
borrowings outstanding were $12,923,000 with a debt to equity ratio of .83 at
March 31, 1998 as compared to $8,317,000 with a debt to equity ratio of .62 at
March 31, 1997. The increase in total borrowings outstanding at year-end is
primarily due to the purchase and renovation of the Arden, North Carolina
manufacturing facility during fiscal 1998.
On November 6, 1997, the Company signed a Fourth Amended and Restated
Revolving Credit Note and Agreement with its existing bank. The Agreement,
which expires on September 30, 2000, contains a borrowing limit of
$12,000,000. The Credit Agreement bears interest at the prime lending rate, a
decrease of 1/4% from the previous agreement, and has a $7,000,000 sublimit
for bankers acceptances, which bear interest at 1-1/4% over the prevailing
bankers acceptance rate, and a $3,000,000 sublimit for letters of credit. Long
term funds available under this Agreement amounted to $4,577,499 at March 31,
1998 as defined in the borrowing base formula. The loan amount is
collateralized by all of the assets of the Company and contains certain
restrictive covenants, which among other matters, impose limitations with
respect to the incurrence of liens, payment of dividends, guarantees, mergers,
acquisitions, capital expenditures and specified sales of assets. At March 31,
1998, the Company was in compliance with all such covenants and financial
ratios.
The Company believes that the anticipated future cash flow from
operations, coupled with its cash on hand and available funds under its
revolving credit agreement, will be sufficient to meet its working capital
requirements for fiscal 1999. Management believes that it will be able to meet
the anticipated demand for operating room towels for fiscal 1999.
The Company has substantially completed its program to prepare computer
systems and applications for the Year 2000. The Company expects to incur
additional internal staff costs as well as consulting and other expenses
related to enhancements necessary to complete the systems for the Year 2000.
The company is also communicating with customers and suppliers with whom it
conducts business to help identify and resolve any potential Year 2000 issues.
Management has not quantified the remaining Year 2000 compliance and related
expenses to be incurred, however, management believes the remaining costs will
not have a material affect on its financial position.
The Company believes that the relatively moderate rates of inflation in
1998 and 1997 have not had significant impact on sales and profitability.
7
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Balance Sheets
MEDICAL ACTION INDUSTRIES INC.
<TABLE>
<CAPTION>
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March 31, 1998 1997
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<S> <C> <C>
Assets
Current assets:
Cash ................................................................... $ 275,316 $ 275,339
Accounts receivable, less allowance for doubtful accounts of $117,086 at
March 31, 1998 and $112,239 at March 31, 1997 ........................ 6,420,108 6,064,518
Inventories ............................................................ 13,577,197 11,034,902
Prepaid expenses ....................................................... 359,870 237,270
Other current assets ................................................... 82,999 246,880
- -------------------------------------------------------------------------------------------------------
Total current assets ...................................................... 20,715,490 17,858,909
Property and equipment, net ............................................... 7,879,663 4,023,409
Investment in joint ventures .............................................. 409,135 495,135
Due from officers ......................................................... 256,288 195,000
Excess of cost over net assets acquired, less accumulated amortization of
$496,448 at March 31, 1998 and $354,696 at March 31, 1997 .............. 2,410,557 2,314,848
Other assets .............................................................. 133,311 106,251
- -------------------------------------------------------------------------------------------------------
Total assets .............................................................. $31,804,444 $24,993,552
- -------------------------------------------------------------------------------------------------------
Liabilities and Shareholders' Equity
Current liabilities:
Accounts payable ....................................................... $ 1,441,248 $ 1,722,842
Accrued expenses, payroll and payroll taxes ............................ 959,038 481,580
Accrued income taxes ................................................... 24,013 14,031
Current portion of capital lease obligations ........................... 140,338 130,703
Notes payable to bank .................................................. 6,982,501 3,954,301
Current portion of long- term debt ..................................... 180,000 1,327,166
- -------------------------------------------------------------------------------------------------------
Total current liabilities ................................................. 9,727,138 7,630,623
Deferred income taxes ..................................................... 355,200 386,313
Capital lease obligations, less current portion .......................... 382,900 523,636
Long-term debt, less current portion ...................................... 5,760,000 3,035,038
- -------------------------------------------------------------------------------------------------------
16,225,238 11,575,610
- -------------------------------------------------------------------------------------------------------
Shareholders' equity :
Common stock, 15,000,000 shares authorized, $.001 par value:
issued 8,401,039 shares at March 31, 1998 and 8,230,289
shares at March 31, 1997 ................................................ 8,401 8,230
Additional paid-in capital, net of deferred compensation of
$197,495 at March 31, 1998 and $296,125 at March 31, 1997 ................ 8,655,630 8,178,780
Retained earnings ........................................................ 6,915,175 5,230,932
- -------------------------------------------------------------------------------------------------------
Total shareholders' equity ................................................ 15,579,206 13,417,942
Commitments and Contingencies
- -------------------------------------------------------------------------------------------------------
Total liabilities and shareholders' equity ................................ $31,804,444 $24,993,552
- -------------------------------------------------------------------------------------------------------
</TABLE>
The accompanying notes are an integral part of these statements.
8
<PAGE>
Statements of Earnings
MEDICAL ACTION INDUSTRIES INC.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------
Year ended March 31, 1998 1997 1996
- --------------------------------------------------------------------------------------
<S> <C> <C> <C>
Net sales .................................. $54,640,129 $46,000,309 $38,846,290
Cost of sales .............................. 42,274,066 36,327,173 30,689,411
- --------------------------------------------------------------------------------------
Gross profit ............................... 12,366,063 9,673,136 8,156,879
- --------------------------------------------------------------------------------------
Selling, general and administrative expenses 8,746,190 7,375,479 6,087,447
Interest expense, net ...................... 603,330 655,085 865,122
Restructuring charges ...................... 260,447 -- --
- --------------------------------------------------------------------------------------
9,609,967 8,030,564 6,952,569
- --------------------------------------------------------------------------------------
Income before income taxes ................. 2,756,096 1,642,572 1,204,310
Income tax expense ......................... 1,071,853 671,225 493,567
- --------------------------------------------------------------------------------------
Net income ................................ $ 1,684,243 $ 971,347 $ 710,743
- --------------------------------------------------------------------------------------
Net income per common share:
Basic ................................... $ .21 $ .12 $ .09
Diluted ................................. $ .19 $ .12 $ .09
- --------------------------------------------------------------------------------------
</TABLE>
The accompanying notes are an integral part of these statements.
9
<PAGE>
Statement of Shareholders' Equity
MEDICAL ACTION INDUSTRIES INC.
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------------------------------------
Common Stock Additional Deferred Retained Total Shareholders'
Shares Amount Paid-In Capital Compensation Earnings Equity
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balance at April 1, 1995 .............. 8,002,289 $ 8,002 $ 8,184,471 $ (532,124) $ 3,548,842 $11,209,191
Issuance of common stock:
On exercise of stock options .... 207,500 208 159,357 159,565
Amortization of deferred
compensation .................... 114,640 114,640
Common stock received and retired
in lieu of cash for exercise of
stock options ................... (10,000) (10) (17,490) (17,500)
Tax benefit from vesting of stock
under Restricted Management
Stock Bonus Plan and exercise
of non-qualified options ........ 96,728 96,728
Net income ............................ 710,743 710,743
- -----------------------------------------------------------------------------------------------------------------------------------
Balance at March 31, 1996 ............. 8,199,789 8,200 8,423,066 (417,484) 4,259,585 12,273,367
Issuance of common stock:
Pursuant to Stock Incentive
Plan ......................... 10,000 10 23,740 (23,750)
On exercise of stock options .... 20,500 20 30,005 30,025
Amortization of deferred
compensation .................... 145,109 145,109
Net tax liability from vesting of stock
under Restricted Management
Stock Bonus Plan and exercise
of non-qualified options ........ (1,906) (1,906)
Net income ............................ 971,347 971,347
- -----------------------------------------------------------------------------------------------------------------------------------
Balance at March 31, 1997 ............. 8,230,289 8,230 8,474,905 (296,125) 5,230,932 13,417,942
Issuance of common stock:
Pursuant to Stock Incentive
Plan ......................... 20,000 20 46,390 (46,390) 20
On exercise of stock options .... 161,375 161 205,748 205,909
Amortization of deferred
compensation .................... 120,968 120,968
Cancelation of bonus stock issued
under Restricted Management
Stock Bonus Plan ................ (10,625) (10) (24,052) 24,052 (10)
Tax benefit from vesting of stock
under Restricted Management
Stock Bonus Plan and exercise
of non-qualified options ........ 150,134 150,134
Net income ............................ 1,684,243 1,684,243
- -----------------------------------------------------------------------------------------------------------------------------------
Balance at March 31, 1998 ............. 8,401,039 $ 8,401 $ 8,853,125 $ (197,495) $ 6,915,175 $15,579,206
- -----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
The accompanying notes are an intergral part of this statement.
10
<PAGE>
Statements of Cash Flows
MEDICAL ACTION INDUSTRIES INC.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------------------------
Year ended March 31, 1998 1997 1996
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Operating activities
Net income ............................................................ $ 1,684,243 $ 971,347 $ 710,743
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization ................................... 778,329 687,799 867,851
Provision for doubtful accounts ................................. 28,000 25,000 --
Deferred income taxes ........................................... (31,113) 24,589 (52,538)
Deferred compensation ........................................... 120,968 145,109 114,640
Loss on sale of property and equipment .......................... 60,808 -- 14,324
Changes in operating assets and liabilities, net of acquisitions:
Accounts receivable .......................................... (80,501) (78,869) 870,426
Inventories .................................................. (2,302,162) (456,304) (1,241,479)
Prepaid expenses, other current assets and other receivables . 47,683 32,462 395,908
Other assets ................................................. (22,801) (85,431) --
Accounts payable ............................................. (488,158) 329,559 (183,091)
Accrued income taxes ......................................... 160,116 (116,189) 214,436
Accrued expenses, payroll and payroll taxes .................. 459,756 (242,882) 372,380
- --------------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities ............................. 415,168 1,236,190 2,083,600
- --------------------------------------------------------------------------------------------------------------------------
Investing activities
Purchase price and related acquisition costs .......................... (302,765) -- (75,871)
Purchases of property and equipment ................................... (5,699,382) (214,691) (50,459)
Proceeds from sale of property, plant and equipment ................... 1,335,797 92,000 188,100
Loan to Chairman of the Board ......................................... -- (59,000) (60,000)
Repayment of loan to Chairman of the Board ............................ -- 59,000 60,000
Loans to officers - net ............................................... (61,288) (195,000) --
- --------------------------------------------------------------------------------------------------------------------------
Net cash (used in) provided by investing activities ................... (4,727,638) (317,691) 61,770
- --------------------------------------------------------------------------------------------------------------------------
Financing activities
Proceeds from revolving line of credit and long-term borrowings ....... 12,039,116 2,707,512 3,233,803
Principal payments on revolving line of credit, term loan,
long-term debt and capital lease obligations ....................... (7,932,588) `(3,884,624) (5,562,440)
Proceeds from exercise of common stock purchase warrants
and employee stock options ......................................... 205,919 30,025 142,065
- --------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used in) financing activities ................... 4,312,447 (1,147,087) (2,186,572)
- --------------------------------------------------------------------------------------------------------------------------
Decrease in cash ...................................................... (23) (228,588) (41,202)
Cash at beginning of year ............................................. 275,339 503,927 545,129
- --------------------------------------------------------------------------------------------------------------------------
Cash at end of year ................................................... $ 275,316 $ 275,339 $ 503,927
- --------------------------------------------------------------------------------------------------------------------------
Supplemental disclosures:
Interest paid ...................................................... $ 786,572 $ 656,841 $ 875,923
- --------------------------------------------------------------------------------------------------------------------------
Income taxes paid .................................................. $ 942,850 $ 762,824 $ 336,478
- --------------------------------------------------------------------------------------------------------------------------
</TABLE>
The accompanying notes are an integral part of these statements.
11
<PAGE>
Notes to Financial Statements
MEDICAL ACTION INDUSTRIES INC. MARCH 31, 1998
1. Significant Accounting Policies
Inventories
Inventories are stated at the lower of cost or market. Cost is determined by
the first-in, first-out method.
Property and Equipment
Property and equipment are stated at cost. Leases meeting the criteria for
capitalization are recorded at the present value of future lease payments.
Maintenance and repairs are charged to operations as incurred and expenditures
for major improvements are capitalized. The carrying amount and related
accumulated depreciation of assets sold or otherwise disposed of are removed
from the accounts and any resulting gain or loss is reflected in operations in
the year of disposal. Depreciation of property and equipment is provided on a
straight-line basis over the estimated useful lives of the related assets
(buildings-40 years; factory equipment-10 to 20 years; fixtures and other
equipment-3 to 5 years). Accelerated methods of depreciation are used for tax
purposes. Amortization of leasehold improvements is provided on the
straight-line method over the period of their economic or related lease lives,
whichever is less.
Revenue Recognition
The Company recognizes income (sales) as products are shipped and title passes
to customers.
Concentration of Credit Risk
The Company manufactures and distributes disposable medical products
principally to medical product distributors, hospital buying groups and
hospitals located throughout the United States. The Company performs credit
evaluations of its customers' financial condition and does not require
collateral. Receivables are generally due within 60-90 days. Credit losses
relating to customers have historically been minimal and within management's
expectations. (See Note 14 for major customers.)
Use of Estimates
The preparation of 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. Actual results could differ from those estimates.
Earnings Per Share
In 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 128, Earnings Per Share. Statement 128
replaced the previously reported primary and fully 12 diluted earnings
per share with the basic and diluted earnings per share. Unlike primary
earnings per share, basic earnings per share excludes any dilutive effects of
options, warrants, and convertible securities. Diluted earnings per share is
very similar to the previously reported fully diluted earnings per share. All
earnings per share amounts for all periods have been presented, and where
necessary, restated to conform to the Statement 128 requirements. Note 11
displays a table showing the computation of basic and diluted earnings per
share.
Stock Compensation
The Company measures compensation plans using the intrinsic value method and
as provided in Note 12 pro forma disclosures of the effect on net income and
earnings per share as if the fair value-based method had been applied in
measuring compensation expense.
Long-Lived Assets
The Company reviews for the impairment of long-lived assets and certain
identifiable intangibles (including the excess of cost over fair value of net
assets acquired and property and equipment) whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. An impairment loss would be recognized when estimated future cash
flows expected to result from the use of the asset and its eventual
disposition is less than its carrying amount. The Company has not identified
any such impairment losses.
2. Inventories
Inventories consist of the following:
- ----------------------------------------------------------
March 31, 1998 1997
- ----------------------------------------------------------
Finished goods............... $ 5,781,229 $ 4,491,193
Raw materials................ 7,795,968 6,543,709
- ----------------------------------------------------------
Total........................ $13,577,197 $11,034,902
- ----------------------------------------------------------
3. Acquisitions
On January 7, 1998, the Company acquired certain assets relating to the sponge
counter product lines of Sage Products, Inc. ("Sage"). The purchase price for
the acquired assets was $300,000 in cash, (which was paid at closing). The
assets acquired included customer lists, patent and trademarks, and the
equipment used in connection with or required for the manufacture of the Sage
Product Line. The acquisition has been accounted for as a purchase and the
operations
12
<PAGE>
relating to the product lines acquired from Sage have been included in the
Company's Statement of Earnings since the acquisition date. The excess of the
purchase price and related expenses over the net assets acquired amounted to
$216,498 and is being amortized over ten (10) years.
On October 30, 1997, the Company acquired certain assets of the specialty
medical packaging and collection systems for the containment and transport of
biohazardous waste business of Dayhill Corporation ("Dayhill"). The purchase
price for the acquired assets consisted of the assumption of approximately
$593,000 of Dayhill's liabilities. The acquisition has been accounted for as a
purchase and the operations of Dayhill have been included in the Company's
Statement of Earnings since the acquisition date. The excess of the purchase
price and related expenses over the net assets acquired amounted to $20,964
and is being amortized over ten (10) years.
On January 30, 1996, the Company acquired certain assets of the sterilization
packaging, monitoring and contamination control products business of Lawson
Mardon Medical Products, Inc. ("SBW"). The purchase price for the acquired
assets consisted of $25,000 in cash, a promissory note in the amount of
$855,793 and $527,000 of SBW inventory. The acquisition has been accounted for
as a purchase and the operations of SBW have been included in the Company's
Statement of Earnings since the acquisition date. The excess of the purchase
price and related expenses over the net assets acquired amounted to $75,871
and is being amortized over ten (10) years.
4. Property and Equipment
Property and equipment (including those arising from capital leases) are
summarized as follows:
- -----------------------------------------------------------
March 31, 1998 1997
- -----------------------------------------------------------
Land and Building................. $4,923,099 $1,550,000
Factory equipment................. 5,547,470 4,994,366
Furniture and fixtures............ 479,842 483,229
Leasehold improvements............ 57,115 550,259
Capital leases-equipment.......... 735,833 735,833
Automobiles and trucks............ 6,820 6,820
- -----------------------------------------------------------
11,750,179 8,320,507
Less accumulated depreciation
and amortization............. 3,870,516 4,297,098
- -----------------------------------------------------------
$7,879,663 $4,023,409
- -----------------------------------------------------------
Depreciation expense amounted to $550,576 and $464,528 in the fiscal years
ended March 31, 1998 and 1997 respectively.
5. Joint Venture Agreements
In March 1989, the Company entered into a joint venture agreement with a
supplier in the Peoples Republic of China. The name of the joint venture
company, in which the Company holds an equity interest of 40%, is Wujiang
Action Medical Material Company Limited. Through fiscal 1991 the Company had
contributed equipment in the amount of $680,000 and cash in the amount of
$153,000.
In fiscal 1990, the Company entered into a second joint venture agreement with
another supplier in the Peoples Republic of China. The name of the joint
venture company, in which the Company holds an equity interest of 31%, is
Zhejiang East Asia Medical Material Co. Limited. The Company contributed
$212,000 to this joint venture through fiscal 1993.
The purpose of both joint ventures, which became operational in January 1990,
is to manufacture disposable medical towels, gauze sponges, lap sponges and
other medical material for sale by the Company. As a result of the economic
and other uncertainties of doing business in the Peoples Republic of China,
and the Company's inability to exercise significant influence over certain
policies of the joint ventures, the Company does not follow the equity method
of accounting with respect to these joint ventures. These investments are
treated as deferred cost incurred to obtain a reliable supply of quality
products and, accordingly, the Company is amortizing the costs of its
investments over the initial 15 year term of the joint venture agreements
($86,000 in 1998 and 1997, and $85,000 in 1996.)
6. Related Party Transactions
At various times during fiscal 1998, the Company made loans to certain
officers which totaled $61,288 bringing the cumulative total to $256,288 at
March 31, 1998. These loans, which charge no interest, are payable on demand
and are classified as long-term assets as there are presently no repayment
terms.
In October 1997, the Company entered into a Consulting Agreement with the
Company's former Chief Executive Officer and Chairman of the Board. The
Consulting Agreement provides for an annual fee of $275,000, payable in equal
monthly installments, for the ten (10) year period ending December 31, 2007.
The consulting services to be provided to the Company include, but are not
limited to, the evaluation of the progress of the Company's business
13
<PAGE>
development, analysis of the Company's financial condition and proposed
operations and the projected financial results thereof. In addition, the
Consulting Agreement provides that the Company's former Chief Executive
Officer will not, either directly or indirectly, engage in any business
competitive to that being carried on by the Company.
7. Income Taxes
Income tax expense (benefit) consists of the following:
- -----------------------------------------------------------
March 31, 1998 1997 1996
- -----------------------------------------------------------
Current:
Federal............... $ 960,492 $561,315 $471,278
State................. 142,474 85,321 74,827
Deferred................ (31,113) 24,589 (52,538)
- -----------------------------------------------------------
$1,071,853 $671,225 $493,567
- -----------------------------------------------------------
Deferred taxes relate to differences between the tax basis of certain assets
and liabilities and their financial reporting amounts. The principal types of
such differences relate to accelerated depreciation, inventory and allowances
for bad debts.
The following table indicates the significant elements
contributing to the difference between the statutory federal tax rate and the
Company's effective tax rate for 1998, 1997 and 1996:
- -----------------------------------------------------------
March 31, 1998 1997 1996
- -----------------------------------------------------------
Statutory rate................ 34.0% 34.0% 34.0%
State taxes................... 3.4 3.4 4.1
Nondeductible expenses........ 2.0 3.1 4.0
Other......................... (0.5) 0.4 (1.1)
- -----------------------------------------------------------
Effective tax rate............ 38.9% 40.9% 41.0%
- -----------------------------------------------------------
8.Leases
The Company leases various warehouse and office space under noncancelable
operating leases expiring at various times through fiscal 2000. The Company
also leases certain equipment and vehicles under noncancelable capital and
operating leases expiring in various years through fiscal 2003.
The following is a schedule of future minimum payments, by year and in the
aggregate, under capital leases and noncancelable operating leases with
initial or remaining terms of one year or more at March 31, 1998:
- -----------------------------------------------------------
Capital Operating
Leases Leases
- -----------------------------------------------------------
Year ended March 31,
1999............................... $181,508 $290,953
2000............................... 182,005 80,308
2001............................... 171,658 18,549
2002............................... 72,798 12,044
2003............................... --- 1,340
- -----------------------------------------------------------
Total minimum lease payments....... 607,969 $403,194
Amounts representing interest...... 84,731
- -----------------------------------------------------------
Present value of net minimum
lease payments ($140,338 of
which is current)................ $523,238
- -----------------------------------------------------------
Equipment acquired under capital leases was $638,770 in fiscal 1997. Rental
expense under operating leases was $472,978, $566,095 and $548,624 for the
fiscal years ended March 31, 1998, 1997 and 1996 respectively.
9. Long Term Debt
- -----------------------------------------------------------
March 31, 1998 1997
- -----------------------------------------------------------
Revolving credit agreement(a).... $ 440,000 $2,250,000
Equipment and term notes
payable (c), (d) and (e)....... --- 1,263,373
Mortgage notes payable (f)....... --- 848,831
Industrial Revenue Bonds (b)..... 5,500,000 ---
- -----------------------------------------------------------
5,940,000 4,362,204
Less current portion............. 180,000 1,327,166
- -----------------------------------------------------------
$5,760,000 $3,035,038
- -----------------------------------------------------------
(a) On November 6, 1997, the Company signed a Fourth Amended and Restated
Revolving Credit Note and Agreement with its existing bank. The Agreement,
which expires on September 30, 2000, increased the borrowing limit to
$12,000,000. The credit agree-
14
<PAGE>
ment bears interest at the prime lending rate (8.5% at March 31, 1998) and has
a $7,000,000 sublimit for bankers acceptances, which bear interest at 1-1/4%
over the prevailing bankers acceptance rate, and a $3,000,000 sublimit for
letters of credit. Bankers acceptances at March 31, 1998 and 1997 in the
amount of $6,982,501 and $3,954,301, respectively, have been classified as
notes payable. The weighted average interest rate on such short borrowings
outstanding was 7.43% and 7.36% at March 31, 1998 and 1997, respectively.
Borrowings are further limited to 80% of eligible accounts receivable, as
defined, and 55% of eligible inventory, as defined, with an inventory sublimit
of $8,000,000. Borrowings under this agreement are collateralized by all the
assets of the Company, and the agreement contains certain restrictive
covenants, which among other matters, impose limitations with respect to the
incurrence of liens, payment of dividends, guarantees, mergers, acquisitions,
capital expenditures and specified sales of assets. The Company is also
required to maintain various financial ratios with which it is in compliance
at March 31, 1998.
(b) On July 9, 1997 the Company acquired approximately 32 acres of land
located in Arden, North Carolina and an existing 205,000 square foot building
located thereon (the "Arden Facility"). The purchase price for the Arden
Facility was $2,900,000, which was paid at closing. The acquisition of the
Arden Facility was financed with the proceeds from the issuance and sale by
The Buncombe County Industrial Facilities and Pollution Control Financing
Authority of its $5,500,000 Industrial Development Revenue Bonds (Medical
Action Industries Inc. Project), Series 1997 (the "Bonds"). Interest on the
Bonds is payable on the first business day of each January, April, July and
October commencing October, 1997 and ending July, 2013. Principal payments are
due and payable in 60 consecutive quarterly installments of $90,000 commencing
October 1, 1998 and ending July 1, 2013 with a final maturity payment of
$190,000. The Bonds bear interest at a variable rate, determined weekly. The
interest rate on the Bonds at March 31, 1998 was 3.9% per annum. In connection
with the issuance of the Bonds, the Company entered into a Letter of Credit
and Reimbursement Agreement dated as of July 1, 1997 with a bank for
approximately $5,800,000 (the "Reimbursement Agreement") to support principal
and interest payments of the Bonds and requires payment of an annual fee of
.85%. The Company also entered into a Remarketing Agreement, pursuant to which
the Remarketing Agent will use its best efforts to arrange for a sale in the
secondary market of such Bonds. The Remarketing Agreement provides for the
payment of an annual fee of .125%.
As of March 31, 1998 the Company has used all of the $5,500,000 proceeds from
the Bonds for the purchase and rehabilitation of the Arden Facility and for
the acqusition of machinery and equipment.
(c) On August 12, 1994, in connection with the QuanTech acquisition, the
Company entered into three separate credit notes payable with former creditors
of the acquired company: a revolving credit note in the amount of $750,000,
which matures on August 2, 1997 and bears interest at 1/4% over the bank's
prime lending rate; a promissory note in the amount of $137,912, which matures
on August 12, 1997 and bears interest at the rate of 8%, and a promissory note
in the amount of $125,461, which also matures on August 12, 1997 and bears
interest at the rate of 8%. Each of the notes were fully repaid on their
respective maturity dates during the year ended March 31, 1998.
(d) On September 17, 1993, the Company entered into a term loan agreement
with a bank for the purchase of equipment in the amount of $700,000. The loan
is payable in six monthly installments of interest only at the rate of prime
plus 3/4% followed by fifty-six equal monthly installments of $12,500 plus
interest. This note was fully repaid during the year ended March 31, 1998.
(e) On January 26, 1993, the Company entered into a term loan agreement
with a bank for $800,000 payable in equal monthly installments of $16,700 plus
interest with the final payment due on January 27, 1997. The term loan bears
interest at the rate of prime plus 3/4% and is secured by equipment of the
Company. This loan was fully repaid during the year ended March 31, 1997.
(f) In April 1990, the Company completed the purchase of its Asheville,
North Carolina manufacturing facility from a related entity. The purchase of
the facility was financed with a twenty (20) year mortgage note payable which
requires payments of principal and interest aggregating $19,300 per month. The
mortgage bears interest at the prime lending rate plus 1/2 %. On December 11,
1997, the Company sold its manufacturing facility in Asheville, North
Carolina. The net selling price after closing costs was approximately
$1,332,000. The proceeds were used to pay the remaining mortgage on the
facility of $746,000 and then to pay down other debt balances. The net loss on
the sale of the building was $61,000 and is included as part of the
restructuring charge as discussed in Note 10.
15
<PAGE>
Maturities of long term debt are as follows at March 31, 1998:
- --------------------------------------------------------
1999...................................... $ 180,000
2000...................................... 360,000
2001...................................... 800,000
2002...................................... 360,000
2003...................................... 360,000
Thereafter................................ 3,880,000
- --------------------------------------------------------
$5,940,000
- --------------------------------------------------------
The carrying amounts of the Company's long term debt approximate their fair
value at March 31, 1998.
10. Restructuring Charges
As a result of the Company's consolidation of its Asheville manufacturing
facility and two leased warehouse facilities into the new Arden Facility,
which was completed in the fourth quarter of fiscal 1998, the Company has
recorded $260,447 of pre-tax restructuring charges. The restructuring charges
include lease termination fees, net loss on the sale of the manufacturing
facility in Asheville, North Carolina, and costs incurred for moving inventory
and equipment to the recently acquired Arden Facility. As of March 31, 1998,
all expenses have been incurred pertaining to the above mentioned charges.
11. Earnings Per Share
The following table sets forth the computation of basic and diluted earnings
per share.
- -----------------------------------------------------------------------
1998 1997 1996
- -----------------------------------------------------------------------
Numerator:
Net income for basic
and diluted earnings per share $1,684,243 $971,347 $710,743
=======================================================================
Denominator:
Denominator for basic
earnings per share -
weighted average shares...... 8,201,585 8,088,349 7,898,228
Effect of dilutive securities:
Employee stock options............. 642,557 232,158 174,093
Non-vested restricted stock........ 89,731 122,591 178,387
Warrants........................... 29,654 0 0
- -----------------------------------------------------------------------
Dilutive potential common shares... 761,942 354,749 352,480
Denominator for diluted earnings
per share - adjusted
weighted average shares......... 8,963,527 8,443,098 8,250,708
=======================================================================
Basic earnings per share........... $.21 $.12 $.09
=======================================================================
Diluted earnings per share......... $.19 $.12 $.09
=======================================================================
12. Shareholders' Equity and Stock Plans
In 1984, The Company's Board of Directors and stockholders approved an
Incentive Stock Option Plan (the "Incentive Option Plan"). The Incentive
Option Plan, which expired in May 1994, authorized the granting, to key
employees, of options to purchase an aggregate of 350,000 shares of the
Company's common stock at the fair market value at the date of grant. Options
vest over a two year period and expire five years from date of grant unless
employment is terminated, in which event, subject to certain exceptions, the
options terminate three months subsequent to date of termination. At March 31,
1995, there were no shares available for granting of future options. During
fiscal 1997, all remaining outstanding options expired.
During fiscal 1990, the Company's Board of Directors and stockholders approved
a Non-Qualified Stock Option Plan (the "Non-Qualified Option Plan"). The
Non-Qualified Option Plan, as amended, authorizes the granting to employees of
the Company options to purchase an aggregate of 1,650,000 shares of the
Company's common stock. The options are granted at the fair market price or at
a value that is not less than 85% of the fair market value on the date of
grant. The options are exercisable in two equal installments on the first and
second anniversary of the date of grant. Options expire five years from the
date of grant unless the employment is terminated, in which event, subject to
certain exceptions, the options terminate two months subsequent to date of
termination. At March 31,1998 there were 108,875 shares available for granting
of future options. The number of shares exercisable at March 31 1998, 1997 and
1996 were 423,500, 456,000 and 349,500, respectively.
In 1984, the Company's Board of Directors and stockholders approved a
Restricted Management Stock Bonus Plan (the "Bonus Plan"). Under the Bonus
Plan, which expired in May 1994, 500,000 shares of the Company's common stock
may be sold to executives and other key salaried employees at par value ($.001
per share). Shares issued under the Bonus Plan vest in four equal installments
on the second, third, fourth and fifth anniversaries of the date of issuance.
Except for those shares which have vested, shares issued under the Bonus Plan
may not be sold, transferred or otherwise disposed of unless they are first
offered to the Company at par value. At March 31, 1998, 473,563 shares had
been issued, of which 414,813 have vested.
In 1994, the Company's Board of Directors and stockholders approved the 1994
Stock Incentive plan (the "Incentive Plan"), which as amended covers 850,000
shares of the Company's common stock. The Incentive Plan, which expires in
2004, permits the granting of incentive stock options, shares of restricted
stock and non-qualified stock options. All officers and key employees of the
16
<PAGE>
Company and its affiliates are eligible to participate in the Incentive Plan.
The Incentive Plan is administered by the Stock Option Committee of the Board
of Directors, which determines the persons to whom, and the times at which
awards will be granted. In addition, the Stock Option Committee decides the
type of awards to be granted and all other related terms and conditions of the
awards. The per share exercise price of any option may not be less than the
fair market value of a share of common stock at the time of grant. Grants
outstanding at March 31, 1998 vest in two equal installments on the first and
second anniversary of the date of grant. Future grants may have different
vesting schedules. At March 31, 1998, there were 270,000 shares available for
future grants. At March 31, 1998, 30,000 shares of restricted stock are
outstanding, 5,000 of which have vested. Furthermore, the number of
non-qualified options exercisable at March 31, 1998, 1997, and 1996 were
372,500, 135,000 and 0 respectively. No incentive options have been issued
under this plan.
The Company's 1996 Non-Employee Director Stock Option Plan (the "Director
Plan") was approved by the stockholders in August, 1996 and covers 100,000
shares of the Company's common stock. Under the terms of the Director Plan,
each non-employee director of the Company will be granted each year an option
to purchase 2,500 shares of the Company's common stock. The authorization for
grants under the Director Plan will expire after the annual meeting 17
in 2006. The Company believes that the Director Plan will encourage stock
ownership by non-employee directors, thus benefiting stockholders by giving
such directors a propriety interest in the Company. Also, the Director Plan
will enhance the Company's ability to attract, retain and suitably reward
directors of exceptional ability, upon whose leadership and management skills
the Company's future rests in large part. At March 31, 1998 there were 92,500
shares available for granting of future options. None of the shares granted
were exercisable at March 31, 1998.
Pursuant to an employment agreement expiring in August 1998, the Board of
Directors approved the issuance of a five year warrant to purchase the
Company's common stock to the former principal stockholder of QuanTech, Inc.
The warrant, which expires on August 10, 1999, permits the holder to purchase
80,592 shares of common stock at $2.1875 per share, the market value on the
date of grant.
Pursuant to an employment agreement expiring in October 2000, the Board of
Directors approved the issuance of a five year warrant to purchase the
Company's common stock to a former principal stockholder of Dayhill
Corporation. The warrant, which expires on October 30, 2002, permits the
holder to purchase 70,000 shares of common stock at $3.94 per share, the
market value on the date of grant.
In accordance with the provisions of SFAS No. 123, the Company has
Option activity under the option plans during the three years ended
March 31, 1998 is summarized as follows:
<TABLE>
<CAPTION>
1996 Non Employee Weighted
Incentive Option Plan Non-Qualified Option Plan 1994 Stock Incentive Plan Directors Stock Option Plan Average
Number of Option Price Number of Option Price Number of Option Price Number of Option Price Option Price
Shares Per Share Shares Per Share Shares Per Share Shares Per Share Per Share
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at
April 1, 1995 147,500 $2.50 666,500 $.60-$4.125 --- --- --- --- 2.20
Granted...... --- --- 268,000 $.97-$2.14 270,000 $.97-$2.19 --- --- 1.50
Exercised.... --- --- (207,500) $.60-$.875 --- --- --- --- .77
Cancelled.... --- --- (108,500) $.97-$3.25 --- --- --- --- 2.49
- ----------------------------------------------------------------------------------------------------------------------------------
Balance at
March 31, 1996 147,500 $2.50 6l8,500 $.97-$4.125 270,000 $.97-$2.19 --- --- 2.09
- ----------------------------------------------------------------------------------------------------------------------------------
Granted...... --- --- 303,250 $1.69-$2.38 205,000 $1.88-$2.38 --- --- 1.88
Exercised.... --- --- (20,500) $.97-$1.75 --- --- --- --- 1.46
Cancelled.... (147,500) $2.50 (20,500) $.97-$2.50 --- --- --- --- 1.71
- ----------------------------------------------------------------------------------------------------------------------------------
Balance at
March 31, 1997 --- --- 880,750 $.97-$2.50 475,000 $.97-$2.38 --- --- 1.71
- ----------------------------------------------------------------------------------------------------------------------------------
Granted...... --- --- 303,000 $2.09-$3.25 75,000 $3.25 7,500 $3.00 2.82
Exercised.... --- --- (186,375) $.97-$2.19 --- --- --- --- 1.57
Cancelled.... --- --- (147,875) $.97-$3.00 --- --- --- --- 1.75
- ------------------------------------------------------------------------------------------------------------------------------------
Balance at
March 31, 1998 --- --- 849,500 $.97-$3.25 550,000 $.97-$3.25 7,500 $3.00 2.02
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
17
<PAGE>
elected to apply APB 25 and related interpretations in accounting for its
stock-based awards because, as discussed below, the alternative fair value
accounting provided for under SFAS No. 123 requires use of option valuation
models that were not developed for use in valuing such stock-based awards. For
the years ended March 31, 1998, 1997, and 1996, all stock-based awards were
granted with an exercise price equal to the fair market value on their date of
grant. Therefore, under the provisions of APB 25, no compensation expense has
been recognized with respect to such awards. If the Company had elected to
recognize compensation expense based on the fair value of the stock-based
awards granted at grant date as prescribed by SFAS No. 123, net income and
earnings per share would have been reduced to the pro forma amounts indicated
in the table below :
- --------------------------------------------------------------
1998 1997
- --------------------------------------------------------------
Net income-as reported ......... $1,684,243 $971,347
Net income-pro forma ........... 1,342,724 791,826
Earnings per share- as reported:
Basic ........................ $ .21 $.12
Diluted ...................... .19 .12
Earnings per share - pro forma:
Basic ........................ .16 .09
Diluted ...................... .15 .09
- --------------------------------------------------------------
The fair value of the Company's stock-based awards is estimated on the date of
grant using the Black-Scholes option-pricing model assuming no expected
dividends and the following weighted average assumptions:
- ----------------------------------------------------------
1998 1997
- ----------------------------------------------------------
Expected stock price volatility .710 .625
Risk-free interest rate ....... 6.43% 6.25%
Expected life of options ...... 4 years 4 years
- ----------------------------------------------------------
The Black-Scholes option valuation model was developed for use in estimating
the fair value of traded options which have no vesting restrictions and are
fully transferable. In addition, option valuation models require the input of
highly subjective assumptions including the expected stock price volatility.
Because the Company's employee stock-based awards have characteristics
significantly different from those of traded options, and because changes in
the subjective input assumptions can materially affect the fair value
estimate, in management's opinion, the existing models do not necessarily
provide a reliable single measure of the fair value of its employee
stock options.
The weighted average fair value of stock-based awards granted is $1.74 in
fiscal 1998 and $1.02 in fiscal 1997. The weighted-average remaining
contractual life of all stock-based awards outstanding at March 31, 1998 is
3.2 years. The weighted-average exercise price of all stock-based awards
exercisable at March 31, 1998 is $1.69. The pro forma effect on net income in
fiscal 1997 is not representative of the pro forma effect on net income in
future years because it does not take into consideration pro forma
compensation expense related to grants made prior to fiscal 1996.
13. Retirement Plan
Effective April 1, 1988, the Company adopted a retirement plan for all of its
employees pursuant to section 401(k) of the Internal Revenue Code. Subject to
the terms and conditions of the plan, each eligible employee may contribute up
to 15% of his or her compensation as defined therein. In addition, the Plan
provides for a discretionary matching company contribution of 50% of the
employee's contribution up to a maximum of 6% of their compensation. The
Company's contribution vests over a period of four years and amounted to
$40,085 in 1998, $41,276 in 1997 and $10,140 in 1996.
14. Other Matters
(a) The Company operates in one industry, disposable medical products.
(b) The Company presently obtains substantially all of its raw materials
for operating room towels from China. These operating room towels are
designated as a textile, for which an export visa is required. These export
visas have continued to impact the availability and pricing of operating room
towels. While the Company cannot predict whether or not these conditions will
continue during fiscal 1999, the Company has accelerated its procurement of
operating room towels from China. Management believes that it will be able to
meet the Company's requirements of operating room towels for fiscal 1999.
(c) Sales to Allegiance Healthcare Corp., Owens and Minor Inc. and
McKesson General Medical (the "Distributors") accounted for approximately 24%,
23% and 10% of net sales, respectively for the fiscal year ended March 31,
1998, and 18%, 23% and 10%, respectively
18
<PAGE>
for the fiscal year ended March 31, 1997, and 21%, 23% and 10%, respectively
for the fiscal year ended March 31, 1996.
Although the Distributors may be deemed in a technical sense to be major
purchasers of the Company's products, the Distributors typically serve as a
distributor under a purchase order or supply agreement between the customer
and the Company and do not purchase for their own accounts. The Company,
therefore, does not believe it is appropriate to categorize the Distributors
as actual customers.
(d) Product development costs charged to expense were $364,000, $315,000
and $291,000 for the years ended March 31, 1998, 1997and 1996, respectively.
(e) The Company is a party to lawsuits arising out of the conduct of its
ordinary course of business, including those related to product liability and
the sale and distribution of its products, which management believes are
covered by insurance. While the results of such lawsuits cannot be predicted
with certainty, management does not expect that the ultimate liabilities, if
any, will have a material adverse effect on the financial position or results
of operations of the Company.
Statement of Management Responsibility
The financial statements included in this annual report have been prepared
by the management of Medical Action Industries Inc. which has primary
responsibility for the integrity and objectivity of the statements. The
financial statements were prepared in conformity with generally accepted
accounting principles and include, where necessary, certain estimates and
judgements by management deemed appropriate in light of existing
circumstances.
Management is also responsible for maintaining a system of internal
accounting controls designed to provide reasonable assurance that transactions
are properly authorized and recorded and the Company's assets are safeguarded
against material loss and unauthorized use or disposal. To accomplish this,
management has developed prescribed policies and procedures encompassing all
facets of the Company's accounting system. These policies and procedures are
continuously monitored by management and are updated or modified as needed.
The fiscal 1998 financial statements of the Company have been audited by
Grant Thornton LLP, independent certified public accountants. Their
accompanying report is based on an audit conducted in accordance with
generally accepted auditing standards. As part of their audit, they perform a
review of internal accounting controls and financial reporting matters for the
purpose of determining the amount of reliance to place on those controls
relating to the audit tests they perform.
The Company's Board of Directors maintains an Audit Committee consisting of
outside directors who meet periodically with management and separately with
the independent auditors to review financial reporting matters and to discuss
issues relating to their audit.
/s/ Paul D. Meringola
Paul D. Meringola, Chief Executive
Officer, Chairman of the Board and President
/s/ Richard G. Satin
Richard G. Satin, Vice President of Operations
and General Counsel
19
<PAGE>
Reports of Independent
Certified Public Accountants
Stockholders and Board of Directors
Medical Action Industries Inc.
We have audited the accompanying balance sheet of Medical Action
Industries Inc. as of March 31, 1998, and the related statements of earnings,
shareholders' equity and cash flows for the year then ended. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audit provides a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the financial position of Medical Action
Industries Inc. as of March 31, 1998, and the results of its operations and
its cash flows for the year then ended, in conformity with generally accepted
accounting principles.
/s/ Grant Thornton LLP
Melville, N.Y.
May 28, 1998
Stockholders and Board of Directors Medical
Action Industries Inc.
We have audited the accompanying balance sheet of Medical Action
Industries Inc. as of March 31, 1997, and the related statements of earnings,
shareholders' equity and cash flows for each of the two years in the period
ended March 31, 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 financial statements referred to above present
fairly, in all material respects, the financial position of Medical Action
Industries Inc. at March 31, 1997, and the results of its operations and its
cash flows for each of the two years in the period ended March 31, 1997, in
conformity with generally accepted accounting principles.
/s/ Ernst & Young LLP
Melville, N.Y.
May 23, 1997
20
