U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
[X] Annual Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
(Fee Required)
For the fiscal year ended June 30, 1998
[ ] Transition Report Pursuant to Section 13 or 15(d) of
the Securities Exchange Act of 1934
(No Fee Required)
Commission File Number 0-14942
PRO-DEX, INC.
(Name of small business issuer in its charter)
Colorado 84-1261240
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(State or other jurisdiction of (I.R.S. Employer ID No.)
incorporation or organization)
1401 Walnut St., Ste., 540, Boulder, Colorado 80302
(Address of principal executive offices)
Issuer's telephone number: (303) 443-6136
Securities registered under Section 12(b) of the Exchange Act:
Name of each exchange
Title of each class on which registered
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None None
Securities registered under Section 12(g) of the Exchange Act:
Common stock, no par value
(Title of class)
Check whether the issuer (1) has filed all reports required by
Section 13 or 15(d) of the Exchange Act during the past 12
months, and (2) has been subject to such filing requirements for
the past 90 days. Yes [X] No [ ]
Check if there is no disclosure of delinquent filers in
response to Item 405 of Regulation S-B contained in this form,
and no disclosure will be contained, to the best of registrant's
knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB. [X]
Issuer's revenues for its' most recent fiscal year was
$22,648,183.
The aggregate market value of the voting stock held by non-
affiliates computed by reference to the average of the bid and
asked as of September 11, 1998 was $8,690,638.
The number of shares of the Registrant's no par value common
stock outstanding as of September 11, 1998 was 8,787,300.
DOCUMENTS INCORPORATED BY REFERENCE: Certain Exhibits, as set
forth in the Exhibit Index. Exhibit index begins on sequentially
numbered page 30.
PART I
Item 1. Business
Forward-Looking Statements
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Statements made in this Form 10-KSB that are not historical or
current facts are "forward-looking statements" made pursuant to
the safe harbor provisions of Section 27A of the Act and Section
21E of the 1934 Act. These statements often can be identified by
the use of terms such as "may," "will," "expect," anticipate,"
"estimate," or "continue," or the negative thereof. The Company
intends that such forward-looking statements be subject to the
safe harbor provisions for such statements. The Company wishes
to caution readers not to place undue reliance on any such
forward-looking statements, which speak only as of the date made.
Any forward-looking statements represent management's best
judgment as to what may occur in the future. However, forward-
looking statements are subject to risks, uncertainties and important
factors beyond the control of the Company that could cause actual
results and events to differ materially from historical results
of operations and events as well as those presently anticipated
or projected. These factors include adverse economic conditions,
entry of new and stronger competitors, capital availability,
unexpected costs and failure to capitalize upon access to new
clientele. Additional risks and uncertainties which may affect
forward-looking statements about the Company's business and
prospects include ramification of the industry consolidation of
dental dealers and distributors, managed health care, acquisition
opportunities and the Company's ability to effectively integrate
operations of acquired companies, failure to maintain favorable
supplier relationships, Y2K issues of various customers and
vendors and inability to engage qualified human resources as
needed. The Company disclaims any obligations subsequently to
revise any forward-looking statements to reflect events or
circumstances after the date of such statement or to reflect the
occurrence of anticipated or unanticipated events.
General
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Pro-Dex, Inc. (or the "Company") is a Colorado based holding
company doing business through four wholly owned subsidiaries,
Biotrol International, Inc. ("Biotrol"), Challenge Products, Inc.
("Challenge"), Micro Motors, Inc. ("Micro"), and Oregon Micro
Systems, Inc. ("OMS"). Biotrol is located in Louisville,
Colorado, and manufactures and distributes infection control
products, and distributes preventive products, handpieces, and
ultrasonic scalers for the dental industry. Challenge is located
in Osage Beach, Missouri, and manufactures fluoride and related
products for preventive dentistry. Micro, of Santa Ana,
California, manufactures a complete line of handpieces for the
dental industry, and miniature pneumatic motors with medical and
industrial applications. OMS is headquartered in Beaverton,
Oregon where it designs and manufactures motion controllers used
to control the motion of servo and stepper motors, predominantly
for the medical analysis equipment and semiconductor industries.
The Company was organized in March 1978 as a California
corporation and reincorporated in May 1994 as a Colorado
corporation. Its principal headquarters are located at 1401
Walnut Street, Suite 540, Boulder, Colorado 80302.
Acquisitions (1995) and Divestitures (1997)
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On July 25, 1995, the Company acquired all of the outstanding
stock of OMS. OMS designs and manufactures motion controllers
used to control the motion of servo and stepper motors,
predominantly for the medical analysis equipment and
semiconductor industries. In addition to the stock of OMS, the
Company acquired certain assets from the sole shareholder of OMS
consisting of two letters patent for the design of OMS's motion
controllers. The purchase price for the stock and related assets
was $6.7 million.
Micro was acquired by the Company through the merger with the
Company's wholly owned subsidiary effective on July 25, 1995.
The Company issued 3,350,000 shares of its common stock in
exchange for all of the outstanding shares of Micro. In
addition, the Company assumed all outstanding Micro employee
stock options which were converted into options to purchase
591,120 equivalent shares of the Company's common stock (based
upon the merger exchange ratio).
The acquisitions of OMS and Micro have been accounted for as a
purchase and the results of operations of both companies since
their acquisition date are included in the Company's consolidated
financial statements.
During fiscal 1995, management determined that the operations
of Pro-Dex Management, Inc. ("DCM"), the Company's dental clinic
management subsidiary in California, were of marginal strategic
value and historic profit contribution was negative. Consequently,
on June 12, 1997, the Company completed the sale of certain assets
of DCM. In exchange for inventory, property, and equipment, the
purchaser assumed approximately $670,000 of the Company's
liabilities. (In addition, with assistance from the purchaser,
the Company maintained ownership of approximately $1,800,000 in
existing net accounts receivable.) During 1998, DCM's purchaser
collected approximately $650,000 of the $1.8 million of accounts
receivable, but due to financial difficulties remitted only $50,000
of the amount collected to the Company. Subsequent to year end
and in conjunction with a reorganization by the purchaser, and in
consideration for guaranteeing collection of the full net amount
of the accounts receivable, the Company agreed to restructure the
balance owed of $1,750,000 as follows: a five year, 6% promissory
note totaling $850,000, 5% convertible preferred stock of the
purchaser's entity valued at $900,000 and warrants to acquire
common stock in DCM's purchaser.
In April 1997, the Company completed the unwinding of its
acquisition of Pnu-Light Tool Works, Inc. ("Pnu-Light"). The
Company acquired the assets of Pnu-Light, a developer of patented
pneumatic lighting mechanisms for hand tools, in May 1996 in
exchange for 368,483 shares of the Company's common stock. The
Company anticipated that Pnu-Light's patented lighting apparatus
would complement the pneumatic motors used in dental handpieces
manufactured by Micro. The anticipated synergy between Pnu-Light
and Micro did not meet the Company's expectations. Accordingly,
and pursuant to the procedures contained in the Pnu-Light Asset
Purchase Agreement, all of the shares of its common stock issued
in the transaction for the Pnu-Light assets were returned to the
Company. In exchange for the reconveyance of its shares, the
Company assigned the patent covering the pneumatic lighting
apparatus to Pnu-Light's successor entity, while retaining a
nonexclusive, fully paid, worldwide license to the technology.
The Company has previously announced its intent to make
acquisitions as part of its long-term commitment to the growth
and development of the Company. To that end, the Company
announced it has retained the investment banking firm of Cleary
Gull Reiland & McDevitt, Inc. to act as its financial advisor and
assist the Company in evaluating strategic options in its ongoing
effort to grow through acquisitions and to attract greater
institutional and retail participation in its stock.
Description of Subsidiary Business
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Biotrol
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Biotrol is a marketer, manufacturer, and distributor of dental
products. Biotrol specializes in infection control products,
preventive dental products, handpieces and ultrasonic scalers.
Its infection control products work effectively as a system for
eliminating cross-contamination of infectious organisms in the
dental operatory. Biotrol's infection control system includes
four major categories of products: surface cleaners and
disinfectants; instrument immersion cleaners and disinfectants; a
dental evacuation system cleaner; and general barrier products.
Biotrol markets an extensive line of professional preventive
dental products manufactured for Biotrol by Challenge under the
name "Perfect ChoiceT". These products include fluoride gels and
rinses, in addition to prophy pastes and related preventive
dental products. In July 1997, Biotrol began offering a full
line of dental handpieces manufactured by Micro. Biotrol also
markets an extensive line of ultrasonic scalers manufactured in
Sweden.
Biotrol products are distributed exclusively through dental
dealers. Two distribution companies control more than sixty
percent (60%) of the sales of dental products through dealers.
Over forty seven percent (47%) of Biotrol's sales are
attributable to these two companies with whom Biotrol has
maintained longstanding relationships. Biotrol has no plans to
discontinue these relationships, nor does it believe these
customers have any plans to discontinue their relationship with
Biotrol. Any material adverse change in the relationship with
these two customers may be financially detrimental to Biotrol.
Biotrol considers its relationships with its various suppliers
and manufacturers to be excellent. It does not intend to
terminate any relationship at this time, nor does its management
believe any relationships will be terminated by a supplier or
manufacturer. Biotrol holds no franchises and has no exclusive
arrangements with its suppliers or manufacturers, excepting only
its exclusive right to market Amdent ultrasonic scalers in North
America. Biotrol has surveyed its suppliers, manufacturers, and
customers to determine whether or not each of them will be Y2K
compliant in an effort to minimize the impact of that event.
Pending receipt of responses of those surveyed, which responses
are anticipated by calendar year end, the Company cannot predict
the risk of business interruption due to the Y2K non-compliance
of its vendors. Should a product become unavailable for any
reason from a significant vendor, such unavailability could have
a negative impact on Biotrol's business.
At the present time, Biotrol is usually able to fill orders
within 48 hours. At June 30, 1998, Biotrol had no order backlog,
and had virtually no backlog at June 30, 1997. Biotrol does not
typically experience seasonal fluctuations in its orders.
Challenge
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Challenge is a manufacturer of products used by dentists for
the prevention of dental disease. The majority of its business
is the formulation and manufacture of gels, pastes, and rinses
for in-office and home treatments for the prevention of dental
diseases. Its products are sold under the Challenge labels of
"Perfect Choice(TM)", "Dual X(TM)", "Dentalite(TM)", and
"Prophy Gems(TM)", which are marketed under the "Perfect
Choice(TM)" label. Biotrol markets Challenge's products
through Biotrol's sales force and distributors.
Forty four percent (44%) of Challenge's products are
formulated, packaged, and sold under private label agreements
with other dental manufacturers and distributors. Such
manufacturers/distributors represent a significant percentage of
Challenge's private label sales; however, these relationships are
longstanding and Challenge has no plans to discontinue these
relationships, nor does it believe that these customers have any
plans to discontinue their relationships with Challenge. Any
material adverse change in the relationships with either of the
two customers representing significant percentages of Challenge's
private label sales may be financially detrimental to Challenge.
Seventy seven percent (77%) of Challenge's revenues are derived
from sales to its three largest customers. The largest portion
of such revenues, constituting fifty percent (50%) of total
sales, are attributable to Biotrol. Management considers that
the inter-company nature of the relationship with Biotrol affords
somewhat greater security of continuity of relationship than
could ordinarily be expected. Nevertheless, if any material
adverse change were to occur in Challenge's volume of business
with either of its three largest customers, such change may be
financially detrimental to Challenge.
Challenge considers its relationships with its various
suppliers and distributors to be excellent. It does not intend
to terminate any relationship at this time, nor does its
management believe any relationships will be terminated by a
supplier or distributor. Challenge holds no franchises and has
no exclusive arrangements with any of its suppliers or
distributors, excepting only that license from Dunhall
Pharmaceuticals, Inc. for the manufacture of tooth whitening
products. Challenge has surveyed its suppliers, manufacturers,
and customers to determine whether or not each of them will be
Y2K compliant in an effort to minimize the impact of that event.
Pending receipt of responses of those surveyed, which responses
are anticipated by calendar year end, the Company cannot predict
the risk of business interruption due to the Y2K non-compliance
of its vendors. Should a product become unavailable for any
reason from a significant vendor, such unavailability could have
a negative impact on Challenge's business.
Challenge usually fills orders for its branded "Perfect
Choice(TM)" and "Prophy Gem(TM)" products within 30 days. Private
label customers usually anticipate a 30 to 60-day lead-time for
the delivery of products. As of June 30, 1998, Challenge had a
backlog of $260,261, the largest proportion of which is related
to timing of orders for private label products not due for
immediate shipment. At June 30, 1997, Challenge had a backlog of
$129,000, which represented significant private label orders not
yet due for shipment. Challenge does not typically experience
seasonal fluctuations in its orders, and expects to fill all of
its orders during the current fiscal year.
Micro Motors
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Micro manufactures and distributes a complete line of dental
handpieces for the dentist and hygienist. In addition, Micro
manufactures miniature pneumatic motors used in dental, medical,
and industrial devices. The branded handpiece line is sold by
Biotrol to dental distributors, who in turn market directly to
the dentist. Micro products are sold under the trademarks
"Dynatorq(TM)", "Dynapro(TM)", "Dynalite(TM)", "Dynasurg(TM)",
and "Micro Handpiece(TM)".
Micro's industrial products are sold directly to original
equipment manufacturers. Seventy eight percent (78%) of Micro's
sales in the year ended June 30, 1998 were accounted for by sales
of dental handpieces.
Approximately twenty two percent (22%) of Micro's sales in the
year ended June 30, 1998 consisted of sales of miniature
pneumatic motors for industrial and medical applications. Micro's
pnuematic motors are marketed through an independent distribution
network.
Micro considers its relationships with its various suppliers
and manufacturers to be excellent. It does not intend to
terminate any relationship at this time, nor does its management
believe any relationships will be terminated by a supplier or
manufacturer. Micro holds no franchises and has no exclusive
arrangements with any of its suppliers or manufacturers. Micro
has surveyed its suppliers, manufacturers, and customers to
determine whether or not each of them will be Y2K compliant in an
effort to minimize the impact of that event. Pending receipt of
responses of those surveyed, which responses are anticipated by
calendar year end, the Company cannot predict the risk of
business interruption due to the Y2K non-compliance of its
vendors. Should a product become unavailable for any reason from
a significant vendor, such unavailability could have a negative
impact on Micro's business.
At the present time, Micro is usually able to fill orders
within sixty (60) days. At June 30, 1998, Micro had a backlog,
which includes future orders, of approximately $2,157,327, which
it believed to be firm. At June 30, 1997, Micro had a backlog of
approximately $3.1 million. Micro expects to fill all of its
backlog of orders during the current fiscal year. Micro does not
typically experience seasonal fluctuations in its orders.
OMS
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OMS designs and manufactures motion controllers to control the
motion of motors used predominantly in medical analysis equipment
and semiconductor equipment. For the present, OMS's products are
profitably marketed at prices which compare favorably with any
alternative products. As in any high-technology area, it is
important for OMS to continue development efforts to achieve
continued market acceptance. To that end, OMS has developed a
new generation of motion control products in its PC 104 line.
OMS's three largest customers account for forty six percent
(46%) of its sales, with the largest of such customers accounting
for twenty one percent (21%) of sales. These relationships are
well established. OMS has no plans to discontinue the
relationships, and has no reason to believe that these customers
have any plans to discontinue their relationships with OMS.
Nevertheless, any material adverse change in the relationship
with any customer representing a significant percentage of OMS
sales may be financially detrimental to OMS. Further, it is
generally accepted that the Asian monetary crisis, together with
the overcapacity of semiconductor fabrication equipment, has
contributed to the depression in the semiconductor industry which
decline has had an impact on OMS. The duration of this decline
is not predictable.
OMS considers its relationships with its various suppliers and
manufacturers to be excellent. It does not intend to terminate
any relationship at this time, nor does its management believe
any relationships will be terminated by a supplier or
manufacturer. OMS holds no franchises and has no exclusive
arrangements with any of its suppliers or manufacturers. OMS has
surveyed its suppliers, manufacturers, and customers to determine
whether or not each of them will be Y2K compliant in an effort to
minimize the impact of that event. Pending receipt of responses
of those surveyed, which responses are anticipated by calendar
year end, the Company cannot predict the risk of business
interruption due to the Y2K non-compliance of its vendors.
Should a product become unavailable for any reason from a
significant vendor, such unavailability could have a negative
impact on OMS's business.
At the present time, OMS is usually able to fill its orders
within 24 hours. At June 30, 1998, the backlog for OMS,
including future orders, was approximately $574,016, as compared
to $697,000 as of June 30, 1997. OMS does not typically
experience seasonal fluctuations in its orders, although there
are fluctuations in demand resulting from cyclical activity in
the industries it serves.
Competition
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Certain products manufactured and distributed by the Company's
subsidiaries are comparable to competing products offered by
several other large manufacturers and distributors. Intensified
competition in the future may result in price reductions, reduced
revenues and profit margins, and loss of market share, which
would adversely affect the Company's business, consolidated
results of operations, and financial condition.
Research and Development
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The Company has a number of research and development programs
in place at its various subsidiaries. The Company considers
these product development programs to be of importance in both
maintaining and improving its market position. The amounts spent
on research and development activities in 1998 and 1997 were
approximately $1,409,572 and $1,092,006, respectively. Micro and
Challenge plan to increase research and development expenditures
during the coming year to service their existing OEM customers as
well as broaden their product lines to take advantage of
additional private label opportunities.
Employees
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At June 30, 1998, the Company had approximately 141 full and
part-time employees (excluding independent contractors). At that
time, seven full-time employees were assigned to corporate
headquarters, and devoted substantially all of their time to the
operations of the Company. Challenge employed approximately 17
persons, Biotrol employed approximately 38 persons, and Micro
employed 61 persons, four of which were part-time. OMS employed
18 persons, 16 full-time and two part-time.
Employees of the Company have not entered into any collective
bargaining agreements with the Company. The Company considers
its relations with its employees to be good.
Government Regulations
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The manufacture and distribution of dental products such as the
Micro dental handpiece, the infection control products and
ultrasonic scalers marketed by Biotrol, and the dental
prophylaxis and bleaching products manufactured by Challenge are
subject to a number of state and federal regulatory bodies,
including state dental boards, the Environmental Protection
Agency ("EPA"), and the Food and Drug Administration ("FDA").
The statutes, regulations, administrative orders, and advisories
which affect the Company's businesses are complex and subject to
diverse, often conflicting, interpretations. While the Company's
management and management of each of the Company's operating
subsidiaries make every effort to maintain full compliance with
all applicable laws and regulations, the Company is unable to
eliminate an ongoing risk that one or more of its activities may
at some point be determined to have been non-compliant. The
penalties of non-compliance could range from an administrative
warning to termination of a portion of the Company's business.
Further, even if the Company is subsequently determined to have
fully complied with applicable law or regulation, its costs
achieving such a determination and intervening loss of business
could adversely affect or even terminate a portion of the
Company's business. Further, a change in regulations at any time
may have an adverse effect on the Company's operations.
Notwithstanding the risks inherent in the Company's business
sectors, management believes that each of the Company's
subsidiaries deservedly enjoys a good reputation for compliance
with applicable regulations.
Several of Biotrol's products fall under the EPA's jurisdiction
and are registered with the EPA. The FDA has jurisdiction over
Biotrol products that are considered medical devices or drugs.
Both EPA and FDA have broad enforcement power to recall and
prohibit the sale of non-complying products. As is common in the
industry, certain of Biotrol's products and processes have been
periodically the subject of routine reviews and investigations by
the EPA and FDA. Although certain products have been subject to
action by the EPA in the past, those actions were resolved to the
satisfaction of Biotrol's management and without recall or other
interference with the operations of Biotrol. While the Company's
management is confident that Biotrol products and processes fully
comply with applicable laws and regulations, the Company is
unable to predict the outcome of any such investigation or
review, pending its completion. Management believes that Biotrol
follows Quality System Regulation (QSR).
The FDA has jurisdiction over Challenge products that are
considered medical devices or drugs. As noted above, the FDA has
broad enforcement power to recall and prohibit the sale of non-
complying products. No claim has been made to date by FDA
against Challenge or any of its products or processes.
Nevertheless, as is common in the industry, certain of
Challenge's products and processes have been the subject of
routine reviews and investigations. While the Company's
management is confident that Challenge's products and processes
fully comply with applicable laws and regulations, the Company is
unable to predict the outcome of any such investigation or
review, pending its completion. Management believes that
Challenge follows QSR.
Micro's dental handpieces are regulated by the FDA as Class 1
medical devices and certain materials processed by Micro are
regulated by EPA. Again, both the FDA and EPA have broad
enforcement power to recall and prohibit the sale of products
which do not comply with federal regulations and to order the
cessation of non-compliant processes. No claim has been made to
date by FDA or EPA regarding any Micro products or processes.
Nevertheless, as is common in the industry, certain of Micro's
products and processes have been the subject of routine reviews
and investigations. While the Company's management is confident
that Micro's products and processes fully comply with applicable
laws and regulations, the Company is unable to predict the
outcome of any such investigation or review, pending its
completion. Management believes that Micro follows QSR.
Management believes that OMS's business in the manufacture and
distribution of multi-axis circuit boards, including the
processes and materials, is conducted in a manner consistent with
EPA regulations governing disposition of industrial waste
materials. Although the semiconductor and computer chip
industries are significantly impacted by the EPA regulations
applicable to the processes and materials used in production of
computer chips and computer chip components, OMS's management has
undertaken measures, where possible, to reduce OMS's exposure to
risk of non-compliance. Most significantly, OMS acquires pre-
manufactured boards as platforms upon which to place OMS
technology. While the Company's management is confident that OMS
products and processes fully comply with applicable laws and
regulations, the Company is unable to predict the outcome of any
investigation or review which may in the future be undertaken
respecting OMS or its products or processes. Management believes
that OMS follows QSR.
All Pro-Dex subsidiaries maintain ISO 9001 certified
facilities, and Biotrol has received EN 46001 certification.
Patents, Trademarks, and Licensing Agreements
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The Company holds letters patent relating to the multi-axis
motion controllers manufactured by OMS and to the prophy ring
technology utilized by Challenge. In addition, Micro holds
letters patent relating to its miniature pneumatic motor
products. Patents held by the Company and Micro have varying
expiration dates, none of which will expire earlier than 2005.
Further, the Company has retained a non-exclusive, paid up,
worldwide license to the letters patent relating to the pneumatic
light for incorporation into hand-tools.
The Company conducted a limited review of the letters patent
acquired in connection with the OMS and Micro acquisitions and
believes that the use of such letters patent is neither infringed
upon by any third party, nor infringes on any prior art of any
third party. Notwithstanding that fact, the Company's Micro
subsidiary is currently a named co-defendant in an action for
infringement. Based upon management's understanding of the
relevant facts and applicable law after consultation with patent
counsel, it's preliminary assessment is that the claim is without
merit and will be vigorously contested. See "Item 3 - Legal
Proceedings." The Company is unable to assess the validity,
scope, or defensibility of its letters patent, and any challenge
to or claim of infringement relating to the Company's letters
patent could adversely affect the Company's Challenge, Micro and
OMS operations.
Prior to the Company's acquisition of OMS, OMS and its founder
entered into a worldwide, fully paid, limited use license of
certain letters patent with Abbott Laboratories. The founder of
OMS has agreed to indemnify the Company for any further duties to
be performed in connection with the license to Abbott
Laboratories, which are the obligation of such individual as sole
recipient of related royalties.
The Company's Micro subsidiary has certain trademarks relating
to its miniature pneumatic motor products, including
"Dynatorq(TM)", "Dynapro(TM)", "Dynalite(TM)", "Dynasurg(TM)",
and "Micro Handpiece(TM)". Challenge's products are sold
under the trade name "Dentalite(TM)", in the United States
and Canada. In addition, Challenge offers its line of preventive
dental products under its "Perfect Choice(TM)" tradename.
Challenge also markets its "Prophy Gems(TM)" dental prophylaxis
product under its "Perfect Choice(TM)" trademark in both the
United States and Canada. Biotrol has filed for federal
trademark protection for "Biotrol International, Inc.(TM)",
"Birexse(TM)", and "Perfect Care(TM)".
Challenge has entered into an agreement with Dunhall
Pharmaceuticals, Inc. pursuant to which Challenge has been
granted a non-exclusive license to extend to its customers a
patented method for brightening teeth under a variety of product
names.
Except as noted above, the Company has not entered into any
licensing or franchising agreements and has no present plans to
do so.
Item 2. Properties
The Company's Executive offices are located at 1401 Walnut
Street, Suite 540, Boulder, Colorado 80302. The Company leases
these offices for $2,198 per month, on a month to month basis,
under a sub-lease from Professional Sales Associates, Inc., a
dental equipment marketing firm for which two of the Company's
directors are also directors and shareholders. The per square
foot cost of the Company's spaces under its sub-lease equals the
per-square foot cost of the master lease, and the Company's sub-
lease is subject to the terms of the master lease. The master
lease under which the Company sub-leases expires January 31,
2000. The Company's sub-tenancy has been ratified by a
disinterested majority of the Board of Directors, which does not
feel that the Company's operations would be unduly inconvenienced
were the Company required to relocate. Although the Board of
Directors believes that the monthly rental for its Boulder office
facility is comparable to rents charged for comparable properties
in the market area, the terms of such lease may not be the same
as might have been negotiated with a third party in an arms'
length transaction. See "Item 12 - Certain Relationships and
Related Party Transactions."
Biotrol recently completed an expansion of its office,
assemblage, and warehouse facility located at 650 South Taylor
Avenue, Suite 20, Louisville, Colorado 80027. Biotrol leases
21,600 square feet, an increase from the 15,000 square feet
previously let, from a non-affiliated organization. The
expansion was necessitated by increasing sales and staff.
Biotrol's lease expires on December 31, 2002. Biotrol currently
pays a monthly rental of $13,114 which will escalate to $18,300
per month during the final year of the lease term. Biotrol is
also responsible for its proportionate share of common expenses.
Challenge owns an office and manufacturing facility located at
1100 Bluff Drive, Osage Beach, Missouri 65065. The office and
manufacturing facility is approximately 14,000 square feet on 1.2
acres of land. In addition, Challenge has 8.8 acres of
previously undeveloped land adjacent to the manufacturing
facility on which a new 4,000 square foot warehouse is being
constructed. Challenge anticipates completion of the facility by
January 1, 1999.
Micro's office and manufacturing facility is located at 151
East Columbine Avenue, Santa Ana, California 92707. Micro leases
the facility under a previously existing lease from Mr. Ronald G.
Coss, currently a director of the Company, at a monthly rental of
$ 28,576. The Company's management believes that the monthly
rental is comparable to rents charged for comparable properties
in the market area, but the terms of the lease may not be the
same as might have been negotiated with a third party in an arms'
length transaction. The property upon which the Micro plant is
located contains ground water monitoring devices in order to
comply with applicable California and EPA regulations relating to
activities of a prior owner of the property. Such monitoring
activity has not to date indicated a requirement for remedial
action. Micro and the Company require full compliance by the
lessor with applicable California and EPA standards. See "Item
12 - Certain Relationships and Related Party Transactions."
OMS's offices and manufacturing facilities are located at 1800
N.W. 169th Place, Suite C100, Beaverton, Oregon 07005. OMS
leases the facility from an unrelated third party, at a monthly
lease rate of $8,147, with the lease to terminate on May 31,
1999.
Under the terms of sale of assets of its DCM dental clinic
management subsidiary, the Company is responsible for the leases
of five dental clinic offices situated in Sears' store in north-
central California. The Company currently subleases these offices
to the purchaser of the DCM operations on the same terms provided
in the Company's leases. The leases involve an aggregate square
footage and monthly payments of 11,039 square feet and $22,774,
respectively. The lease terms expire at various dates in 1999
and 2000. The purchaser of the DCM operations, Professional
Dental Management, LLC (now known as Consolidated Dental
Management, Inc.) has completed a financial restructure that it
anticipates will be beneficial in its negotiations with Sears for
consent and approval of the assignment of the five leases to
Consolidated.
Item 3. Legal Proceedings
On December 1, 1997, U.S. District Judge Daniel B. Sparr
dismissed an action filed against the Company and Biotrol in the
U.S. District Court for the District of Colorado by Cottrell,
Ltd. ("Cottrell"). The Court found that Cottrell's complaint
sought a determination whether Birex(R) labels, Biotrol's hard
surface dental disinfectant product, violated EPA labeling
regulations. The Court held that the resolution of the complaint
would require the Court to interpret and apply regulations within
the exclusive jurisdiction of EPA. Accordingly, the Court
granted the Company's and Biotrol's Motion to Dismiss, denied
Cottrell's Motion for Leave to Amend its Complaint, and dismissed
the case in its entirety. On December 26, 1997, a Notice of
Appeal was filed in the U. S. District Court. Appellant's
(Cottrell's) Opening Brief was filed with the U. S. Court of Appeals
for the Tenth Circuit on April 20, 1998 alleging that Cottrell had
independently ascertainable claims under the Lanham Act, and that
the District Court erred in declining to allow Cottrell to file
an amended complaint curing any jurisdictional defect. Appellees,
the Company and Biotrol, filed a Responsive Brief on June 2, 1998,
arguing that the EPA has the exclusive jurisdiction over the
subject matter of the claim and that the ruling of the District
Court be affirmed. Appellant filed a Brief in Reply on
June 19, 1998. No further action has been taken by the Court
and the parties are awaiting a ruling as to whether oral arguments
will be permitted. The Company's management has vigorously defended
against the action and based on the Company's current understanding
of the relevant facts and law, as well as the ruling of the District
Court, management does not expect that the outcome of these legal
proceedings will have a material adverse effect on the
consolidated financial condition, operating results, or liquidity
of the Company. See "Pro-Dex Consolidated Financial Statements -
Note 3."
On July 6, 1998, Miyad, Inc., a California corporation
("Miyad"), filed a patent infringement action in the U.S.
District Court for the Southern District of California against
Implant Technologies, Ltd. ("ITL"), its principal, Courtney Emery
("Emery"), and Micro Motors, Inc. ("Micro"). The complaint, as
it pertains to Micro, alleges contributory infringement,
inducement of infringement, and breach of a confidentiality
agreement. The complaint seeks, among other things, injunctive
relief, disgorgement of profit and other compensation in an
amount to be determined by the Court. The essence of the
complaint is that Micro supplies a sterilizable motor assembly to
co-defendants ITL and Emery for inclusion in ITL's allegedly
infringing portable power supply systems. Micro management is of
the belief that Miyad is controlled by a former employee of
Micro's engineering department who, at the time of the filing of
the application of the patent allegedly being infringed, was
subject to the non-compete and confidentiality terms of a
consulting agreement. The Company and Micro have retained patent
counsel to provide an infringement analysis and to defend the
allegations set forth in the complaint. Based upon management's
understanding of the relevant facts and applicable law, its
preliminary assessment is that a judgement adverse to Micro would
not materially affect the Company. Further, management of Micro
believes the complaint to be without merit, and is vigorously
contesting the allegations set forth therein. See "Pro-Dex
Consolidated Financial Statements - Note 3."
The manufacture and distribution of certain products by
subsidiaries of the Company involves a risk of legal action, and,
from time to time, the Company and its subsidiaries are named as
defendants in lawsuits. While the Company's management is
confident that these matters will not have a material adverse
impact on the financial condition of the Company, there can be no
certainty that the Company may not ultimately incur liability.
Item 4. Submission of Matters to a Vote of Security Holders
During the Year Ended June 30, 1998
No matter was submitted to a vote of the Company's shareholders
during the fourth quarter ended June 30, 1998.
PART II
The Company's no par value common stock is quoted under the
symbol "PDEX" on the automated quotation system of the National
Association of Securities Dealers Small Cap Market ("NASDAQ").
The range of the high and low quarterly sales prices quotations
for the Company's common stock as quoted by NASDAQ for the past
two fiscal years is provided below.
Item 5. Market for Registrant's Common Stock and Related
Stockholder Matters
Fiscal Year - 1998 High Low
-------------------------------------------------------
First quarter $2.56 $1.75
Second quarter 3.50 2.31
Third quarter 2.94 2.06
Fourth quarter 2.31 1.75
Fiscal Year - 1997 High Low
-------------------------------------------------------
First quarter $4.88 $3.31
Second quarter 4.25 2.31
Third quarter 2.81 1.25
Fourth quarter 2.50 1.38
On September 11, 1998, the last sale price of the common stock
as reported by NASDAQ was $1.56 per share. The last sale price
reported on NASDAQ on June 30, 1998, was $1.94 per share.
At June 30, 1998, the approximate number of holders of record
of the Company's common stock was 376. This number does not
include beneficial owners including holders whose shares are held
in nominee or "street" name.
The Company has not paid a cash dividend with respect to its
common stock, and has no present intention to pay cash dividends
in the foreseeable future. The current policy of the Company's
board of directors is to retain earnings to provide funds for the
operation and expansion of its business. Future dividends, if
any, will be determined by the Board of Directors in light of the
circumstances then existing, including the Company's earnings and
financial requirements and general business conditions. The
Company's credit arrangements with Harris Bank restrict the right
of the Company to declare and pay cash dividends without prior
consent.
Item 6. Management's Discussion and Analysis
The following discussion and analysis provide information that
the Company's management believes is relevant to an assessment
and understanding of the Company's results of operations and
financial condition for the two years ended June 30, 1998
compared to the same periods of the prior years. This discussion
should be read in conjunction with the Consolidated Financial
Statements and the Notes thereto included elsewhere in this
Report. This Report contains certain forward-looking statements
and information. The cautionary statements should be read as
being applicable to all related forward-looking statements
wherever they may appear. The Company's actual future results
could differ materially from those discussed herein.
Selected Financial Data
- -----------------------
The following table sets forth selected financial data
regarding the Company's financial position and operating results.
This data should be read in conjunction with the Company's
Consolidated Financial Statements and the Notes thereto and
"Management's discussion and Analysis."
(All amounts in thousands except per share data)
Year ended June 30,
1998 1997
---- ----
Statement of Operations Data
Net sales $22,648 $19,197
Cost of sales 10,018 8,341
--------- --------
Gross profit 12,630 10,856
Operating expenses 11,243 10,766
--------- --------
Net operating income 1,387 90
Net interest (expense) (882) (1,229)
Income tax (expense) credit (151) 252
-------- --------
Income (loss) from continuing operations 354 (887)
Loss from discontinued operations (696)
-------- --------
Net income (loss) $ 354 $(1,583)
======== ========
Results of Operations for Fiscal Year Ended June 30, 1998,
Compared to Fiscal Year Ended June 30, 1997
- -----------------------------------------------------------
Net sales by subsidiary follows:
Increase/
1998 1997 (Decrease)
---- ---- ----------
Biotrol $ 8,456,983 $ 5,720,127 $ 2,736,856
Challenge 1,753,194 1,324,844 428,350
Micro Motors 8,393,714 7,978,755 414,959
Oregon Micro Systems 5,768,285 4,836,770 931,515
(Intercompany sales) (1,723,993) (663,661) (1,060,332)
------------ ------------ ------------
$22,648,183 $19,196,835 $ 3,451,348
============ ============ ============
Net sales increased $3.5 million, or 18%, to $22.6 million for
the year ended June 30, 1998 from $19.2 million for the year
ended June 30, 1997. Sales at Biotrol for the year ended June
30, 1998 increased 47.8% over the year ended June 30, 1997.
During the first quarter of the fiscal year, the expanded sales
force at Biotrol increased from 11 to 16 people. In addition,
effective July 1, 1997, Biotrol broadened its product line to
include small equipment when it acquired the sales and marketing
responsibility of the branded hand-piece line manufactured by
Micro Motors. Sales of infection control products for the year
ended June 30, 1998 increased 22.8% compared to the prior year.
Sales of preventive dentistry products increased 35.8% over the
previous year. At Challenge, sales for the year ended June 30,
1998 increased by 32.3% over the year ended June 30, 1997. Sales
to private label customers and wholesale customers of Challenge
increased by 31.2% to $867,173 for the year ended June 30, 1998,
from $661,163 for the year ended June 30, 1997. Intercompany
sales to Biotrol increased by 29.9% to $886,021 for the year
ended June 30, 1998 from $682,132 for the year ended June 30,
1997. At Micro Motors, effective July 1, 1997, the marketing and
sales responsibility for the branded hand-piece line was shifted
from an independent sales organization to the sales force already
in place at Biotrol. As a result of that change, Micro
concentrated its efforts on manufacturing products for its
private label and OEM customers. Private label and OEM sales
increased at Micro by 11.4% over the year ended June 30, 1997.
Sales at Micro included $837,972 of intercompany sales to Biotrol
during the year ended June 30, 1998. Sales at OMS increased by
19.3% over the previous year. OMS continues to depend heavily on
the semiconductor industry for its revenue base.
Consolidated sales of dental products for the year ended June
30, 1998 increased approximately $2.5 million or 19.3%
(approximately three times the average growth rate for the
industry) over the year ended June 30, 1997. New products and
the expanded sales force were the main contributors to the
increase. Management continues to search for compatible products
and companies to acquire to enable it to take advantage of the
excellent reputation its sales force has in the dental industry.
The distribution channels for dental products continue to
contract and consolidate. Two distribution companies control
more than 60% of the sales of dental products sold through
dealers. These large distributors are demanding among other
things that suppliers are ISO 9000 certified, Y2K compliant, and
have EDI and bar coding capabilities. To meet customer demands
all subsidiaries achieved ISO 9000 certification during fiscal
1998. In addition, the company is currently implementing new
information technology that will make it Y2K compliant, and
provide EDI capabilities. Since Pro-Dex sells its dental
products exclusively through dealers, management is committed to
providing the necessary technology and regulatory support to
satisfy its dealer customers.
Since 1982, OMS has sold the majority of its motion control
products to the semiconductor industry. Since January 1998, the
Asian semiconductor industry has slowed due to massive over
capacity of memory products and declining currency values. This
situation has had a major effect on OMS' ability to produce sales
as the majority of OMS customers are firmly entrenched in the
Asian semiconductor fabrication equipment market. During 1998,
OMS developed a new generation of motion control products to
enable it to enter new markets of motion control, and to
strengthen its position in the semiconductor equipment
manufacturing market. The product family developed with a PC/104
specification offers more flexibility and features than the
previous generation of products. This versatility enables OMS to
enter the $1.9 billion systems integration market, as well as the
industrial controller market, medical testing equipment market,
and the packaging industry.
Revenue from dental operations increased 11.2% to $4,398,018
for the quarter ended June 30, 1998 from $3,953,803 for the
quarter ended June 30, 1997. Revenue from the sales of motion
control boards decreased by 43.5% for the quarter ended June 30,
1998 compared to the quarter ended June 30, 1997.
Gross profits by subsidiary follows:
Increase/
1998 1997 (Decrease)
---- ---- ----------
Biotrol $ 4,543,258 $ 3,108,763 $ 1,434,495
Challenge 558,866 400,963 157,903
Micro Motors 3,270,553 3,605,723 (335,170)
Oregon Micro Systems 4,257,444 3,740,920 516,524
----------- ------------ ------------
$12,630,121 $10,856,369 $ 1,773,752
=========== ============ ============
Consolidated gross profit dollars increased 16.3% for the year
ended June 30, 1998 compared to the year ended June 30, 1997 due
to an increase in revenue. Because of the shift in the sales and
marketing of the branded handpiece line to Biotrol, Micro Motors'
gross profit dollars decreased as a result of lower intercompany
transfer pricing.
For the fourth quarter ended June 30, 1998 gross profit dollars
from dental operations increased $149,847, or 8%, compared to the
fourth quarter ended June 30, 1997. Gross profit dollars from
the sale of motion control boards decreased $698,901, or 55.2%,
compared to the quarter ended June 30, 1997.
Gross profit as a percentage of sales decreased 0.8% from 56.6%
in fiscal year ended June 30, 1997, to 55.8% in fiscal year ended
June 30, 1998. The decease was consistent with the change of
product mix that occurred during the year.
Operating expenses as a percentage of revenue decreased 6.4% to
49.7% for the year ended June 30, 1998 from 56.1% for the year
ended June 30, 1997. Operating expenses increased 4.4% to
$11,243,511 in fiscal year ended June 30, 1998, from $10,766,202
in fiscal year ended June 30, 1997. During the year ended June
30, 1998, the Company incurred charges related to training and
maintenance costs associated with a major overhaul of its
information technology systems, and costs to achieve ISO 9001
certification for all its divisions. During the year ended June
30, 1997, the Company incurred $463,000 of unusual one-time
restructuring charges including severance benefits paid to
terminated employees. The Company's growth plans require the
development of new products. Consistent with that goal the
Company increased its commitment to research and development by
spending $1,409,572 during fiscal year ended June 30, 1998,
compared to $1,092,455 for year ended June 30, 1997, a 29%
increase. Micro and Challenge Products plan to increase research
and development expenditures during the coming year to service
its existing OEM customers as well as broaden its product line to
take advantage of additional private label opportunities.
Operating expenses for the fourth quarter ended June 30, 1998
were $2,690,983 compared to $2,684,066, a $6,917 increase.
During the fourth quarter of the current fiscal year, the Company
began implementing a complete overhaul of its information
technology systems. Management determined that existing hardware
and software capabilities were inadequate to address the Y2K
issue, and support the growth plans for the Company. As part of
the implementation, approximately $100,000 of expense was
incurred for the training and maintenance costs associated with
the purchase of new computer hardware and software.
For 1998, income from continuing operations increased to
$1,386,610 for the year ended June 30, 1998 from $90,167 for the
year ended June 30, 1997, a 1,438% increase. Additional revenue
and the previous year's reduction in payroll costs contributed
primarily to the increase in income from operations.
The Company's effective tax rate on income (loss) from
continuing operations was 24.9% in 1998, and 22.1% in 1997. The
effective tax rates are lower than anticipated due to the
elimination of a valuation allowance against existing deferred
tax assets. Management expects future effective tax rates to
approximate 40%. At June 30, 1998, management believes it is
more likely than not that the recorded tax assets of $950,000
will be realized. The amount of tax assets considered
realizable, however, could be reduced in the near term if
estimates of future taxable income are reduced.
Net income before discontinued operations increased $1,240,264
from a (loss) of ($886,704) in year ended June 30, 1997 to net
income of $353,500 in year ended June 30, 1998.
Net (loss) before discontinued operations for the quarter ended
June 30, 1998 was ($207,573) compared to net income of $66,677
for the quarter ended June 30, 1997. The decrease in earnings is
mainly attributed to the decrease of approximately $700,000 of
gross profit dollars from the sale of motion control boards that
is directly related to the Asian crisis and the significant
decline in the semiconductor market.
On April 25, 1997, pursuant to the acquisition agreement, the
Company completed the unwind of the Pnu-Light transaction. The
Company received all 368,483 shares of its stock, which were
issued as consideration for the purchase of the assets of Pnu-
Light. Losses sustained by Pnu-Light are reported as
discontinued operations and amounted to approximately $295,000,
net of related tax benefit of $149,000 for 1997.
On June 12, 1997, the Company completed the sale of certain
assets of its dental clinic management (DCM) subsidiary
operation in California. Losses sustained by DCM are presented
as discontinued operations and amounted to approximately $401,000
net of related income tax benefit of approximately $265,000 in
1997. The Company, with assistance from the purchaser, retained
ownership of approximately $1.8 million of net accounts
receivable of the dental clinic management operation. During
1998 the purchaser collected for the Company approximately
$650,000 of the net accounts receivable, but due to financial
difficulties was only able to remit $50,000 of the amount
collected. Subsequent to the June 30, 1998 year end, and in
conjunction with a reorganization by the purchaser, and in
consideration for the purchaser's guarantee of the collection of
the full net amount of the accounts receivable, the Company
agreed to restructure the balance owed of $1,750,000 in exchange
for as follows: a five year, 6% promissory note totaling
$850,000, 5% cumulative convertible preferred stock of the
purchaser's new entity valued at $900,000, and warrants to
acquire common stock in the purchaser's new entity.
Liquidity and Capital Resources
- -------------------------------
The operations of the Company are conducted principally through
its wholly owned subsidiaries. The Company's financial position
at June 30, 1998 remains strong with working capital on that date
of approximately $5,000,000. The Company's operating cash flow
increased to $2,099,036 for year ended June 30, 1998 from a
negative ($986,260) for year ended June 30, 1997 principally due
to the increase in earnings. Included in the Company's net
income is a non-cash deduction for the amortization of goodwill
and patents of approximately $900,000 for 1998 and 1997.
On July 26, 1996, the Company obtained a $10,000,000 credit
facility from Harris Bank secured by all assets of the Company
and guaranteed by each of the Company's subsidiaries. The
facility consists of a $6,000,000 term loan with a five-year
amortization period, and a $4,000,000 revolving line of credit
with a termination date on July 24, 1999. Both facilities
require monthly interest payments at the prime rate or at a
variable interest rate from 1.5% to 2% above LIBOR. The term
loan portion is payable in equal quarterly installments of
$200,000 through July 24, 2001, when the full amount of the then
unpaid balance of the note will be due. The term loan had an
outstanding balance on June 30, 1998, of $4,400,000. The
revolver portion of the facility had an outstanding balance at
June 30, 1998, of $2,050,000. At June 30, 1998, $1,950,000
remained available under the revolver/term agreement. As a
condition of the credit facilities, the Company is required to
meet certain financial covenants, including minimum tangible net
worth, debt to total capitalization, interest coverage, fixed
charge coverage, and cash flow. In addition, the credit facility
limits the amount of dividends and capital expenditures in any
one year. At June 30, 1998, the Company did not meet certain of
the financial covenants of the credit facilities; however, on
September 24, 1998, the bank waived the current covenants.
Management believes the Company will be in compliance in the
future.
Management believes that the Company's existing credit
resources, including the credit facility with Harris Bank as well
as internally generated funds, should be sufficient to satisfy
the Company's requirements for cash flows for operations and
capital expenditures for fiscal 1998. Capital expenditures for
the Company's operations for the year ended June 30, 1999, are
presently anticipated to be approximately $850,000. In the
fourth quarter of fiscal 1998, the Company entered into a $1.2
million lease credit facility to partially finance these
acquisitions.
Accounting Changes
- ------------------
In June 1997, the FASB issued SFAS No. 130 "Reporting
Comprehensive Income" and SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information". SFAS No.
130 requires that an enterprise report, by major components and
as a single total, the change in its net assets during the period
from non-owner sources; and SFAS No. 131 establishes annual and
interim reporting standards for an enterprise's operating
segments and related disclosures about its products, services,
geographic areas and major customers. Adoption of these
Statements will not impact the Company's financial position,
results of operations or cash flows and any effect will be
limited to the form and content of its disclosures. Both
Statements are effective for fiscal years beginning after
December 15, 1997, with earlier application permitted.
Impact of Inflation and Changing Prices
- ---------------------------------------
The industries in which the Company competes are labor
intensive, often involving personnel with high level technical or
sales skills. Wages and other expenses increase during periods
of inflation and when shortages in the marketplace occur. The
Company expects its subsidiaries to face somewhat higher labor
costs, as the market for personnel with the skills sought by the
Company becomes tighter in a period of full employment. In
addition, suppliers pass along rising costs to the Company's
subsidiaries in the form of higher prices. Further, the
Company's credit facility with Harris Bank involves increased
costs if domestic interest rates rise or there are other adverse
changes in the international interest rates, exchange rates,
and/or Eurocredit availability. To some extent, the Company's
subsidiaries have been able to offset increases in operating
costs by increasing charges, expanding services and implementing
cost control measures. Nevertheless, each of the Company's
subsidiaries' ability to increase prices is limited by market
conditions, including international competition in many of the
Company's markets.
Year 2000 Compliance
- --------------------
Pro-Dex has developed a Corporate Information Technology ("IT")
Strategic Plan specifically addressing Year 2000 ("Y2K")
compliance issues. Defined areas for Y2K compliance include IT
systems, facilities' systems, vendor and customer systems,
contractual agreements, legal, human resources, etc., throughout
the Company and its subsidiaries. In addition, the IT Strategic
Plan addresses the issue of due diligence with respect to Y2K
compliance within organizations under review for acquisition.
The Company has adopted the following six phase compliance
program. (1) The survey of all facility systems and equipment
that use computers or embedded microprocessors. This effort
includes reviewing equipment inventory, preventive maintenance
lists and vendor service contracts. (2) Identification of
potential building systems or equipment compliance issues.
Equipment, service and inventory vendors have been asked for
compliance verification and testing procedures. (3) Investigate
the issues identified through reviews with site personnel and
vendors; identify potential impact; develop a strategy for
modification or replacement and develop cost estimates. (4)
Determine funding needs and develop strategy. (5) Implementation
by purchasing required hardware or software (new or upgrades) and
install/implement. (6) Validate by developing testing procedures
to confirm compliance of current and upgraded hardware, software,
and facilities' systems on an ongoing basis.
In accordance with the IT Strategic Plan, Phases 1 through 4
listed above have been completed. Phase 5 is in process with a
scheduled completion date of September 1999, in relation to
current upgraded or implemented systems to validate Y2K
compliance.
Full implementation is scheduled to be complete in Fiscal Year
2001. Subsidiaries not fully implemented by the compliance
completion date of September 1999, will have current systems
upgraded prior to that date. The IT staff, in conjunction with
the operations staff at each subsidiary, is in the process of
implementing compliant upgrades to all other internal systems to
include phone systems/voice mail, time clocks, burglar and fire
alarms systems, postal and fax machines, etc., for Y2K
compliance.
In accordance with the IT Strategic Plan, all outside systems
and suppliers have been directed to provide documentation
validating compliance in an effort to minimize liability with
respect to systems and suppliers. The Company is developing an
internal strategic outline to include locating alternative
sources of services and products if the current supplier is
unable to meet compliance. This includes but is not limited to
all outside suppliers of raw materials, payroll services, parts,
shipping companies, phone/alarm companies, utilities, among other
considerations.
The Company has estimated the cost of replacement of the aging
IT systems at all units with implementation of a new system to be
$1.7 million dollars, of which $450,000 has been expended to
date. It is anticipated that approximately $470,000 will be
spent on the complete replacement of software, including
upgrading all operating systems, application software and general
office automation software. Approximately $335,000 has been
designated for the upgrade or replacement of hardware.
Approximately $100,000 dollars will be spent between now and the
year 2000 on facilities to meet Y2K compliance. The project is
being funded through the Company's operations. The Company has
not deferred other IT projects in favor of Y2K compliance.
The Company has made inquiry of vendors and customers in respect
to their general state of Y2K readiness. The Company has learned,
through such polling of vendors, customers and general service
providers, that a majority of those responding can not provide
validated assurances of Y2K compliance at this time. The Company
anticipates responses to its poll by this calendar year end, at
which time it will, to the extent possible, develop contingency
plans for any reported non-readiness. The Company, as are all
other businesses, is at risk of experiencing business
interruption due to the failure of general service providers,
to include but not be limited to, electric power, water, gas,
communications services rail services trucking lines and
governmental agencies to be prepared for the year 2000.
The nature of the forgoing discussion requires the use of
forward looking statements that involve assumptions, risks, and
uncertainties that could cause outcomes to be substantially
different from those projected.
Item 7. Financial Statements and Supplemental Data
Independent Auditor's Report F-1
Consolidated Balance Sheets F-2 & F-3
Consolidated Statements of Operations F-4
Consolidated Statements of Shareholders' Equity F-5
Consolidated Statements of Cash Flows F-6
Notes to Consolidated Financial Statements F-7
Item 8. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosures
None
PART III
Item 9. Directors, Executive Officers, Promoters, and Control
Persons; Compliance with 16(a) of the Securities Exchange
Act of 1934
Officers and Directors
- ----------------------
As of June 30, 1998, the officers and directors of the Company
were as follows:
NAME AGE POSITION
---- --- --------
Kent E. Searl 57 Chairman of the Board, Director
Ronald G. Coss 61 Vice Chairman, Director
George J. Isaac 53 Vice President, Director
Richard N. Reinhardt 66 Director
Robert A. Hovee 56 Director
John B. Zaepfel 62 Director
Kent E. Searl is a co-founder of the Company and currently
serves as Chairman of the Board, Chief Executive Officer, and
President. He has served as a director of the Company and its
predecessor, since its inception in 1978. In addition to serving
as Chairman of the Board, Mr. Searl is a member of the Executive
Committee of the Board of Directors. Since August 1969, he has
also served on the Board of Directors of Professional Sales
Associates, Inc. ("PSA"), a national dental equipment
manufacturers' representative, which he co-founded. PSA acted as
marketing representative for dental handpiece products of the
Micro subsidiary until June 30, 1997, at which time Biotrol began
marketing those products. Mr. Searl currently also serves as an
officer and director of two other businesses. Mr. Searl was
elected by the shareholders of the Company to serve as a Class
III Director until the year 2000 annual shareholders' meeting, or
the election and qualification of his successor.
Ronald G. Coss founded Micro Motors, Inc. in 1971 and served as
its Chairman since its organization. He currently serves as the
Vice-Chairman of the Company's Board of Directors, and also serves
As an ex officio non-voting member of the Compensation Committee of
the Board of Directors. He also acts as Chief Technology Officer
to the Company. Mr. Coss has been the primary engineer in the
development of Micro's products since its inception and invented
the technologies which are the subject of the letters patent now
owned by Micro. Mr. Coss is currently one of the Trustees of the
Micro Motors, Inc. Employee Stock Ownership Plan, a shareholder
of the Company. Mr. Coss was elected by the shareholders of the
Company to serve as a Class III Director until the year 2000
Annual shareholders' meeting or the election and qualification
of his successor.
George J. Isaac has served as a consultant to the Company and
its predecessor since 1978, and became a member of the Company's
Board of Directors on July 26, 1995. He serves as an ex officio
member of both the Audit and Compensation Committees of the Board
of Directors, and is Vice President, Secretary/Treasurer, and Chief
Financial Officer of the Company. Mr. Isaac is a certified
public accountant and was a principal in the Certified Public
Accounting firm of Joseph B. Cohan and Associates, Worcester,
Massachusetts. Mr. Isaac recently completed terms as a member of
the Board of Directors for Professional Sales Associates, Inc.,
the Commerce Bank and Trust of Worcester, Massachusetts, and the
Medical Center of Central Massachusetts. Mr. Isaac's accounting
firm specialized in handling medical and dental related accounts.
Mr. Isaac received a B.S. degree in Business Administration from
Clark University in Worcester, Massachusetts. Mr. Isaac was
elected by the shareholders of the Company to serve as a Class I
Director until the 1998 annual shareholders' meeting, or the
election and qualification of his successor.
Richard N. Reinhardt has served as a director of the Company
and its predecessor since 1990. He is a member of the
Compensation Committee of the Board of Directors. Mr. Reinhardt
has served as President and director of Professional Sales
Associates, Inc. ("PSA") since he co-founded that firm in 1969.
PSA is a national manufacturers' representative organization that
represents manufacturers in the dental equipment market. He
attended Cornell College and received a B.A. degree in Business
Administration from Northwestern University. Mr. Reinhardt was
elected by the shareholders of the Company to serve as a Class II
director until the 1999 annual shareholders' meeting, or the
election and qualification of his successor.
Robert A. Hovee began serving on the Company's Board of
Directors on February 27, 1996. He serves as a member of both
the Audit and Compensation Committees. Currently, Mr. Hovee
serves as President of the Orange County Biomedical Industry
Council and the Orange County Biocommerce Association, both
California non-profit associations. Formerly, Mr. Hovee was
Chief Executive Officer and President of Life Support Products,
Inc., a maker of emergency medical products, of which he was a co-
founder, prior to its acquisition by Allied Healthcare Products,
Inc. He has also served as a director and chairman of
Infrasonic, Inc., an infant respirator manufacturer. Mr. Hovee,
who is active in many charities, serves as a co-chair of a
University of California-Irvine Center for the Health Sciences
fund-raising project. Mr. Hovee received a B.A. degree in
Business Administration and a B.A. degree in International
Business from the University of Washington in Seattle,
Washington, as well as a Masters Degree in International
Management from the American Graduate School of International
Management (Thunderbird) where he was the Barton Kyle Yount
Scholar, in Glendale, Arizona. Mr. Hovee was elected by the
Board of Directors to serve as a Class II Director until the
first to occur of the 1999 annual shareholders' meeting or the
election and qualification of his successor.
John B. Zaepfel has served as director of the Company since
August 27, 1996, and commenced service on the Company's Audit
Committee on September 16, 1996. Previously, Mr. Zaepfel served
on the Advisory Committee advising the Board of Directors of
Micro Motors, Inc., prior to its merger into Micro in July 1995.
Mr. Zaepfel spent fifteen years as a CEO, most recently as Chief
Executive Officer of CPG International, Inc., which he founded in
1985 in a leveraged buy-out of a division of four subsidiaries of
Times Mirror, Inc. Prior to its private sale in 1989, CPG
International, Inc. was a $90 million operating company,
manufacturing and marketing art, engineering, and media supplies.
Prior to forming CPG International, Inc., Mr. Zaepfel was
President and CEO of Chartpak and Picket Industries, wholly owned
subsidiaries of Times Mirror, Inc. Mr. Zaepfel previously served
as a director of Ideal School Supplies, Inc., when it was a
publicly traded company, and was director of six privately held
companies. Mr. Zaepfel served as a director of Varitronics,
Inc., previously quoted on NASDAQ, Inc., and currently serves as
a director of Remedy Temp, Inc., a public company quoted on
NASDAQ, Inc. Mr. Zaepfel is a graduate of the University of
Washington, and holds a Master in Business Administration degree
from the University of Southern California. Mr. Zaepfel was
elected by the Board of Directors to serve as a Class II Director
until the first to occur of the 1999 annual shareholders' meeting
or the election and qualification of his successor.
Business Experience of Key Management of Subsidiaries
- -----------------------------------------------------
Set forth below is information concerning certain key
management personnel of the Company's operating subsidiaries:
Daniel S. Reinhardt joined Biotrol International, Inc. as a
sales representative in September 1988. He was promoted to
National Sales Manager in January 1991, and, effective January 1,
1997, Mr. Reinhardt was made Vice President and Chief Operating
Officer of Biotrol International, Inc.
Charles L. Bull founded Challenge Products, Inc. in 1978 and
served as its President and Chief Executive Officer since its
inception as a dental products business. Mr. Bull has developed
more than 40 chemical products used in the industry, as well as a
process for high speed filling of a patented prophy ring.
Gary G. Garleb has served as Vice President and General Manager
of Oregon Micro Systems, Inc., since its acquisition by the
Company in July 1995. Prior to that time, he served as Vice
President for Operations and Manufacturing of Micro Motors, Inc.
from 1974 to 1995.
George M. Saiz has served as Vice President and General Manager
of Micro Motors, Inc. since January 1998. Mr. Saiz has
significant experience in the medical device manufacturing arena,
having served as General Manager of Shutt Medical Technologies,
part of the Bristol-Myers Squibb Companies since 1991.
Compliance With Section 16(a)
- -----------------------------
Section 16(a) of the Securities Exchange Act of 1934 requires
the Company's officers, directors and persons who own 10% or more
of the Company's outstanding common stock, to file reports of
ownership and changes in ownership with the Securities and
Exchange Commission ("SEC"). Officers, directors and owners of
10% or more of the Company's outstanding common stock are
required by SEC regulations to furnish the Company with a copy of
all Section 16(a) forms they file.
Based solely upon a review of the Forms 3 and 4 and any
amendments thereto furnished to the Company during the Company's
fiscal ear ended June 30, 1998, and Forms 5 and amendments
thereto furnished to the Company with respect to such fiscal
year, or written representations that no Forms 5 were required to
be filed by such persons, the Company is not aware of any failure
of any officer, director or beneficial owner of 10% or more of
the Company's outstanding common stock during the fiscal year
ended to make timely filings in accordance with the requirement
of Section 16(a).
Item 10. Executive Compensation
The following table summarizes executive compensation paid by
the Company during the last three fiscal years to the Company's
Chairman and the four other most highly compensated executives.
SUMMARY COMPENSATION TABLE
Annual Compensation Long Term Compensation Awards
------------------- -----------------------------
Secur- All
Other Re- ities Other
Annual strict- Under- Com-
Compen- ed lying LTIP pen-
Name and sa- Stock Options/ Pay- sation
Principal Position Year Salary Bonus tion Awards SAR(#) outs (4)
- ------------------ ---- -------- ----- ---- ------ -------- ---- ------
Kent E. Searl 1998 $174,858 - - - None - -
Chairman/CEO/ 1997 160,000 - - - 100,000(1)- -
President 1996 150,000 - - - 50,000 - -
Ronald G. Coss(2) 1998 $325,163 - $35,406 - None - $1,671
Vice Chairman 1997 364,320 - - - None - -
Chief Technical 1996 360,000 - - - N/A - -
Officer
George J. Isaac(3) 1998 $189,269 - - - None - -
Vice President, 1997 180,000 - - - 200,000(1)- -
Chief Financial 1996 170,000 - - - 50,000 - -
Officer, Secretary-
Treasurer,
Director
Charles L. Bull 1998 $100,000 $28,563 - - None - $1,633
General Manager 1997 100,000 13,276 - - None - -
Challenge 1996 100,000 10,000 - - None - -
Products, Inc.
Gary G. Garleb 1998 $118,563 - $15,539 - None - $1,350
General Manager 1997 111,435 - - - None - -
Oregon Micro 1996 101,826 - - - None - -
Systems, Inc.
(1) Options to purchase of 100,000 and 200,000 shares were
granted to Messrs. Searl and Isaac, respectively, during the
Company's fiscal year ended June 30, 1996, under the Company's
1994 Stock Option Plan.
(2) The Company is obligated to pay Mr. Coss $1 million over five
years, commencing on July 26, 2001, under a Non-Competition
Agreement, in connection with the merger of Micro Motors, Inc.
with and into the Company's Micro Acquisition subsidiary. In
addition, the Company assumed two notes of Micro Motors, Inc.
payable to Mr. Coss in the aggregate amount of $938,450, relating
to termination of Mr. Coss's long term employment agreement with
Micro Motors, Inc. and prior unpaid earned compensation.
(3) Mr. Isaac was granted an option to purchase 50,000 shares,
under the 1994 Stock Option Plan, in connection with his
acceptance of employment by the Company.
(4) Employer contributions to the Pro-Dex, Inc. 401(k) Plan.
Employment Agreements, Termination of Employment, and Change of
Control Arrangements
- ---------------------------------------------------------------
On June 30, 1998, all but two of the long-term employment
agreements with certain executive officers of the Company entered
into on July 26, 1995 expired. The remaining employment
agreements with Mr. Coss and Mr. Bull expire June 30, 2000 and
December 31, 2001 respectively. The Compensation Committee of
the Board of Directors has not renewed these contracts as the
Committee has recently taken under advisement the implementation
of a system of compensation, which system includes a performance
based component. While the expiration of those agreements
terminates the contractual obligations of certain executive
officers to the Company, the Company is confident that those
officers will remain in the employ of the Company. The Company
paid salaries in an aggregate amount of $689,290 to executive
officers for the year ending June 30, 1998.
Ronald G. Coss currently serves as Vice Chairman and Chief
Technology Officer of the Company. Mr. Coss had, prior to the
merger, been compensated by Micro Motors, Inc. at a salary of
$560,000 for the fiscal year ending March 31, 1995 and $456,000
for the fiscal year ending March 31, 1994. Annual base
compensation to Mr. Coss under the employment agreement is
$360,000, and is adjustable upward for inflation each July 1.
Mr. Coss has subsequently agreed to a temporary reduction in base
salary, which reduction is reflected by his actual base salary of
$325,163 for the year ending June 30, 1998. The agreement
accords Mr. Coss's six weeks annual leave which he may elect to
take in cash in lieu of leave, provides that he receive use of a
Company vehicle for business purposes, and certain other
perquisites comparable to with those received prior to the
merger. Mr. Coss's employment agreement is renewable until
terminated.
In addition to compensation to Mr. Coss under his employment
agreement, the Company is obligated to pay Mr. Coss $1 million
over five years, commencing on July 26, 2001, under a Non-
Competition Agreement, in connection with the merger. Upon the
merger, the Company also assumed two notes payable by Micro
Motors, Inc. to Mr. Coss relating to termination of Mr. Coss's
long term employment agreement with Micro Motors, Inc. and prior
unpaid earned compensation. See "Item 12 - Certain Relationships
and Related Party Transactions."
Mr. Searl serves as the Chairman, Chief Executive Officer, and
President of the Company. He is the co-founder of the Company,
and has served as a director of the Company since its
organization. For the year ending June 30, 1998, Mr. Searl was
paid a salary of $174,858. Pursuant to his employment agreement,
which expired on June 30, 1998, Mr. Searl was entitled to a
salary of $180,000. Mr Searl was also entitled to reimbursement
of reasonable expenses and to such other benefits as the Company's
Board of Directors approved for executive management. Mr. Searl
is located in the Company's Boulder, Colorado executive offices
and travels frequently to all the Company's subsidiaries.
George J. Isaac has served as the Company's Vice President and
Chief Financial Officer since July 26, 1995. On September 21,
1995, he was elected the Company's Secretary-Treasurer by the
Board of Directors. Mr. Isaac's employment agreement, which
expired on June 30, 1998, provided that he receive a salary of
$190,000 for the year ending June 30, 1998. In addition, Mr.
Isaac is entitled to reimbursement of reasonable expenses and to
such other benefits as the Company's Board of Directors approved
for executive management.
On August 1, 1993, the Company entered into an employment
agreement with Mr. Charles L. Bull, former President of Challenge
Products. An agreement was recently reached to extend that
contract on the same terms and conditions through December 31,
2001.
Compensation Committee Report on Executive Compensation
- -------------------------------------------------------
The Compensation Committee develops and recommends to the Board
of Directors the compensation policies of the Company. It also
recommends the compensation to be paid to the executive officers
of the Company. The Compensation Committee consists of three
directors, two of whom are not current or former employees of the
Company and one of whom is a non-voting member and the Company's
Chief Financial Officer. The basic compensation philosophy of
the Board of Directors has been to provide competitive salaries
and competitive incentives to achieve financial goals.
Compensation to Directors
- -------------------------
Directors who are employees of the Company do not receive
additional compensation for services as directors, except for
reimbursement of reasonable meeting attendance expenses. Non-
employee directors each receive a $12,000 annual fee, $1,000 for
each meeting attended and $500 for each board of directors
Committee meeting attended on a date other than a regular meeting
of the Board. The Company paid an aggregate of $56,000 as non-
employee director compensation for the year ended June 30, 1998.
The Company has a shareholder approved Director's Stock Option
Plan (the "Directors' Plan") pursuant to which non-employee
directors may be granted options to purchase shares of the
Company's common stock. In accordance with the Directors' Plan's
provisions, the Board of Directors previously adopted a policy to
grant each outside director an option to purchase 20,000 shares
of common stock on the date of his commencement of service as a
director and an option to purchase 15,000 shares annually,
exercisable at the average closing price on NASDAQ for the month
of November of the year of grant, on the anniversary date of
such service. The maximum term of each option is ten years.
During the fiscal year ended June 30, 1998, the Company's three
outside directors, Messrs. Reinhardt, Hovee and Zaepfel, each
were granted options to purchase 15,000 shares of common stock
exercisable at $2.50, $2.50, and $2.90 respectively.
Option Grants and Exercises in the Last Fiscal Year
- ---------------------------------------------------
The following tables set forth information regarding stock
options granted to and exercised by the named executive officers
during the fiscal year ended June 30, 1998:
INDIVIDUAL OPTIONS/SAR GRANTS IN LAST FISCAL YEAR(1)
Number of Percent of
Securities Total Options
Underlying Granted to Exercise
Options Employees in Price Expiration
Name Granted Fiscal Year Per Share Date
---- ------- ----------- --------- ----
Kent E. Searl None -- -- --
George J. Isaac None -- -- --
(1) No named executive officer received or was granted any stock
options in fiscal 1998.
AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR AND FY-END
OPTION/SAR VALUES(1)
Number of Value of
Securities Underlying Unexercised
Unexercised Options at In-the-Money Options
Fiscal Year-End at Fiscal Year-End(2)
------------------------- -------------------------
Name Exercisable/Unexercisable Exercisable/Unexercisable
---- ------------------------- -------------------------
Kent E. Searl 202,051 -0- $9,000 -0-
George J. Isaac 250,000 -0- -0- -0-
(1) No named executive officer exercised any stock options in
fiscal 1998.
(2) The indicated value of the unexercised In-the-Money Options
was determined by multiplying the number of unexercised options
(that were In-the-Money on June 30, 1998) by the closing sales of
the Company's common stock on June 30, 1998 (as reported on
NASDAQ) and from that total, subtracting the total exercise
price.
1988 Stock Option Plan
- ----------------------
In 1988, the Company adopted its 1988 Stock Option Plan (the
"Plan"), pursuant to which the Company's Board of Directors was
authorized to issue options to purchase up to 150,000 shares of
the Company's common stock to employees, directors, and
consultants of the Company. The option exercise price must equal
fair market value of the common stock on the date of grant. No
options to purchase shares of common stock were granted under the
1988 Plan during the fiscal year ended June 30, 1998. At June
30, 1998, all available options for grant were exhausted and no
options to purchase were outstanding under this Plan.
1994 Stock Option Plan
- ----------------------
The 1994 Stock Option Plan was adopted to advance the interests
of the Company and its shareholders by affording employees an
opportunity for investment in the Company. Under the plan, 1.5
million shares have been reserved. The Compensation Committee
has sole discretion to select which employees of the Company will
be granted options; the number of shares subject to option; the
timing of such option grants; when the options may be exercised;
and the exercise price. The exercise price of options must be at
least equal to the fair market value of the common stock on the
date of grant. The maximum term of options granted under the
Plan is ten years. As of June 30, 1998 there were outstanding
options under the 1994 Stock Option Plan to acquire 1,108,505
shares of the Company's common stock.
Directors' Stock Option Plan
- ----------------------------
The Plan was adopted to advance the interests of the Company
and its shareholders by attracting qualified non-employee
directors, whose participation and guidance contribute to the
successful operation of the Company. Under the plan, 500,000
shares have been reserved. As of June 30, 1998, there were
outstanding options under the Directors' Stock Option Plan to
acquire 140,856 shares of the Company's common stock. A
disinterested majority of the Board has voted, in furtherance of
the Board's decision respecting the remuneration of non-employee
directors, in favor of the additional automatic grant each year
during the term of service to purchase 15,000 shares of the
Company's common stock, which grants are reflected in the
foregoing total of outstanding options.
Item 11. Security Ownership of Certain Beneficial Owners and
Management
Set forth in the following table is information as of June 30,
1998, with respect to the beneficial shareholdings of the
Company's common stock, by all directors, individually, and all
officers and directors as a group, and beneficial owners of 5% or
more of such common stock.
BENEFICIAL SHAREHOLDINGS OF DIRECTORS, OFFICERS AND
OWNERS OF MORE THAN 5% OF COMMON STOCK
Amount
Name and Address and Nature of Percent
Of Beneficial Owners Beneficial Ownership of Class (1)
- -------------------- -------------------- ------------
Kent E. Searl
1401 Walnut St., Suite 540
Boulder, CO 80302 947,680(2)(3)(4) 10.78%
Ronald G. Coss
1401 Walnut St., Suite 540
Boulder, CO 80302 2,485,528(5) 28.28%
Richard N. Reinhardt
1401 Walnut St., Suite 540
Boulder, CO 80302 545,884(2)(3)(4)(6)(7)(8) 6.21%
George J. Isaac
1401 Walnut St., Suite 540
Boulder, CO 80302 255,500(3) 2.90%
Robert A. Hovee
1401 Walnut St., Suite 540
Boulder, CO 80302 50,000(6)(7)(8) 0.56%
John B. Zaepfel
1401 Walnut St., Suite 540
Boulder, CO 80302 35,000(6)(7) 0.39%
All officers and directors 4,319,592(2)(3)(4)(5)
as a group (6 persons) (6)(7)(8)(9) 49.15%
Micro Motors Employee
Stock Ownership Plan
151 E. Columbine
Santa Ana, California 1,070,932(5) 12.18%
(1) Calculated pursuant to Rule 13d-3 under Securities
Exchange Act of 1934.
(2) Includes 250,000 shares of common stock; 58,229 shares of
preferred stock convertible share-for-share into common stock at
any time; and Warrants to acquire 13,000 shares of common stock
owned of record by Professional Sales Associates, Inc. ("PSA").
Messrs. Searl and Reinhardt are officers and directors of PSA and
may be deemed to beneficially own PSA's shares. Mr. Searl,
individually, owns of record 404,500 shares of common stock and
19,900 shares of preferred stock. Mr. Reinhardt, individually,
owns of record 41,850 shares. In addition, Mr. Reinhardt's
spouse, individually, owns 29,000 shares, which are attributed to
him in this chart.
(3) Includes options held by Messrs. Searl, Reinhardt, and Isaac
to purchase 50,000 shares each shares of the Company's common
stock at $2.50 per share. Also includes options held by Messrs.
Searl and Reinhardt to purchase 50,000 shares each at $1.75 per
share. Also includes options held by Messrs. Searl and Isaac to
purchase 100,000 and 200,000, respectively, of the Company's
common stock at $2.13 per share. These shares have been added to
outstanding shares in calculating applicable individual
percentage of beneficial ownership.
(4) Includes options held by Messrs. Searl and Reinhardt to
purchase 2,051 shares each of the Company's common stock at $2.43
per share and Mr. Reinhardt to purchase 1,754 shares of the
Company's common stock at $2.85 per share. These shares have
been added to outstanding shares in calculating applicable
individual percentage of beneficial ownership.
(5) Includes 584,377 shares of the Company's common stock held by
the Micro Motors ESOP, which are held by such ESOP for the
benefit of Mr. Coss. Such shares held by the ESOP for the
benefit of Mr. Coss are included in the total opposite Mr. Coss's
name and are also included in the total opposite the name of the
Plan. Mr. Coss is one of three Trustees of such Plan, and does
not have sole voting or dispositive power over shares held by the
Plan.
(6) Includes options of Messrs. Reinhardt, Hovee, and Zaepfel to
purchase 20,000 shares each of the Company's common stock at
$2.44 per share.
(7) Includes options of Messrs. Reinhardt, Hovee, and Zaepfel to
purchase 15,000 shares each of the Company's common stock at
$2.90 per share.
(8) Includes options of Messrs. Reinhardt and Hovee to acquire
15,000 shares each of the Company's common stock at $2.50 per
share.
(9) The officers and directors as a group had in the aggregate,
as of June 30, 1998, together with their affiliates, voting power
with respect to 2,632,001 currently issued and outstanding shares
of common stock, not including in such number the convertible
preferred stock or options treated as shares of common stock
attributed to them for the purpose of this chart. Shares held by
the Micro Motors ESOP have not been included in computing the
voting power number in this footnote or in stating the vote
controlled by officers and directors elsewhere in this report,
but shares held by the Micro Motors ESOP for the benefit of Mr.
Coss are included the amount of his beneficial ownership and the
total held by all officers and directors as a group reported in
the chart.
Set forth in the following table is information as of June 30,
1998 with respect to the beneficial shareholdings of all
directors, individually, and all officers and directors as a
group, and beneficial owners of more than five percent of the
Company's Series A Preferred Stock.
BENEFICIAL SHAREHOLDINGS OF DIRECTORS, OFFICERS, AND
OWNERS OF MORE THAN 5% OF PREFERRED STOCK
Amount
Name and Address and Nature of Percent
Of Beneficial Owners Beneficial Ownership of Class (1)
- -------------------- -------------------- ------------
Kent E. Searl
1401 Walnut Street, Suite 540
Boulder, CO 80302 78,129(1) 100.0%
Richard N. Reinhardt
1401 Walnut Street, Suite 500
Boulder, CO 80302 58,229(1) 74.5%
All officers and directors as a
group (2 persons) 78,129(1) 100.0%
Professional Sales Associates, Inc.
1401 Walnut Street, Suite 500
Boulder, CO 80302 58,229 74.5%
(1) Includes 58,229 shares owned of record by Professional Sales
Associates, Inc. ("PSA"). Messrs. Searl and Reinhardt are
officers and directors of PSA and may be deemed to beneficially
own PSA's shares. Mr. Searl, individually, owns of record 19,900
shares (24.2% of the outstanding shares of preferred stock). Mr.
Reinhardt owns no shares of preferred stock individually.
Item 12. Certain Relationships and Related Party Transactions
Pursuant to the merger of Micro with the Company's subsidiary,
Ronald G. Coss entered into a Non-Competition Agreement, pursuant
to which he is to be paid $1 million over five years, with payment
commencing in the sixth year after closing. In addition, Mr. Coss
executed an employment agreement with the Company, pursuant to
which he is to be paid a base salary of $360,000 annually as Vice
Chairman of the Company under his employment agreement, adjustable
upward for inflation, representing a reduction from the more than
$560,000 which he had been paid as the Chairman of Micro, despite
his greater responsibilities with the Company. In addition to
compensation payable under the employment agreement between the
Company and Mr. Coss, he is entitled to certain executive employee
benefits and perquisites.
The Company leases its offices in Boulder, Colorado from PSA, a
firm for which Messrs. Searl, Reinhardt, and Isaac are directors,
as sub-lessees under a master lease between PSA and a third party
unrelated to PSA or the Company. The sublease between the
Company and PSA is on a month to month basis. The Company's
monthly lease payments are $2,198, which is equal to the amount
of the lease payments due from PSA to the third party lessor, on
a per square foot basis. The Company's management believes that
the monthly rental is comparable to rents charged for comparable
properties in the market area. Nevertheless, the terms of the
sub-lease, including price, may not be as favorable to the
Company as lease terms which might have been negotiated with a
third party in an arm's length transaction.
Micro leases its offices and manufacturing facility in Santa
Ana, California from Ronald G. Coss, currently a director of the
Company, at a monthly rental of $28,576. The Company's
management believes that the monthly rental is comparable to
rents charged for comparable properties in the market area.
Nevertheless, the terms of the lease, including price, may not be
as favorable to the Company as lease terms which might have been
negotiated with a third party in an arm's length transaction.
On July 5, 1996, the Company filed a Form S-8 to register the
shares of common stock underlying options previously granted
pursuant to its 1988 Stock Option Plan. Dr. Kyle, President of
DCM and a former director of the Company, held 30,000 of such
options, exercisable at $0.25 per share.
On April 25, 1997, the Company unwound the acquisition of Pnu-
Light Tool Works, Inc. ("Pnu-Light"). The Company acquired the
assets of Pnu-Light, a developer of patented pneumatic lighting
mechanisms for hand tools in May 1996, in exchange for 368,483
shares of the Company's common stock. The Company anticipated
that Pnu-Light's patented lighting apparatus would complement the
pneumatic motors used in dental handpieces manufactured by Micro.
The anticipated synergy between Pnu-Light and Micro did not meet
the Company's expectations. Accordingly, and pursuant to the
procedures contained in the Pnu-Light Asset Purchase Agreement,
all of the shares of its common stock issued in the transaction
for the Pnu-Light assets were returned to the Company. In
exchange for the reconveyance of its shares, the Company assigned
the patent covering the pneumatic lighting apparatus to Pnu-
Light's successor entity, while retaining a nonexclusive, fully
paid, worldwide license to the technology.
On June 12, 1997, the Company completed the sale of certain
assets of DCM. In exchange for inventory, property, and equipment,
Professional Dental Management, LLC, now Consolidated Dental
Management, Inc., assumed approximately $670,000 of the Company's
liabilities. The Company, with the assistance of purchaser, retained
ownership of approximately $1.8 million of net accounts receivable,
the collection of which have been guaranteed by the purchaser. The
managing member of the purchaser was formerly a director of the
Company and the long-term general manager of the DCM.
INDEPENDENT AUDITOR'S REPORT
To the Board of Directors
Pro-Dex, Inc.
Boulder, Colorado
We have audited the accompanying consolidated balance sheet of
Pro-Dex, Inc. and Subsidiaries (the "Company") as of June 30,
1998, and the related consolidated statements of operations,
shareholders' equity and cash flows for the years ended June 30,
1998 and 1997. These financial statements are the responsibility
of the Company's management. Our responsibility is to express
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted
auditing standards. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether
the financial statements are free of material misstatement. An
audit includes examining on a test basis, evidence supporting the
amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating
the overall financial statement presentation. We believe that
our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to
above present fairly, in all material respects, the financial
position of the Company as of June 30, 1998, and the results of
their operations and their cash flows for the years ended June
30, 1998 and 1997, in conformity with generally accepted
accounting principles.
McGladrey & Pullen, L.L.P.
Anaheim, California
August 25, 1998, except for paragraph (a) of Note 2
As to which the date is September 24, 1998
F-1
PRO-DEX, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
June 30, 1998
ASSETS
Current assets:
Accounts receivable,
net of allowance for doubtful
accounts of $29,194 $ 3,363,433
Inventories, net 4,451,802
Deferred taxes 480,000
Prepaid expenses 220,770
------------
Total current assets 8,516,005
------------
Property and equipment:
Land 102,992
Buildings 321,620
Equipment 4,474,306
Leasehold improvements 298,017
------------
Total property and equipment 5,196,935
Less accumulated depreciation (2,331,113)
------------
Net property and equipment 2,865,822
------------
Other assets:
Long-term receivables
net of allowance for
doubtful accounts of $50,000 1,847,076
Deferred taxes 440,000
Other 423,428
Intangibles, net 8,746,254
------------
Total other assets 11,456,758
------------
Total assets $22,838,585
============
See "Notes to Consolidated Financial Statements." F-2
PRO-DEX, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS - CONTINUED
June 30, 1998
LIABILITIES & SHAREHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt $ 1,394,994
Accounts payable 1,013,576
Accrued expenses 1,149,307
------------
Total current liabilities 3,557,877
Long-term debt, net of current portion 6,120,922
------------
Total liabilities 9,678,799
------------
Commitments and contingencies
Shareholders' equity:
Series A convertible preferred shares,
no par value; 10,000,000 Shares authorized;
78,129 shares issued and outstanding 282,990
Common shares, no par value;
50,000,000 shares authorized;
8,787,300 shares issued and outstanding 14,837,695
Accumulated deficit (1,810,649)
------------
13,310,036
Receivable for stock purchase (150,250)
------------
Total shareholders' equity 13,159,786
------------
Total liabilities and shareholders' equity $22,838,585
============
See "Notes to Consolidated Financial Statements." F-3
PRO-DEX, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ending June 30, 1998 and 1997
1998 1997
---- ----
Net sales $22,648,183 $19,196,835
Cost of sales
(Includes rent paid to a
Director of approximately
$340,000 for 1998 and 1997.) 10,018,062 8,340,466
------------ ------------
Gross profits 12,630,121 10,856,369
------------ ------------
Operating expenses:
Selling 4,315,412 4,026,111
General and administrative 4,613,087 4,283,913
Research and development 1,409,572 1,092,455
Amortization 905,440 900,723
Unusual charges 463,000
------------ ------------
Total operating expenses 11,243,511 10,766,202
------------ ------------
Income from operations 1,386,610 90,167
------------ ------------
Other income (expense):
Interest income 48,934 48,624
Interest expense
(1997 includes prepayment
penalty of $364,526) (930,913) (1,277,138)
----------- ------------
Total (881,979) (1,228,514)
Income (loss) before income
taxes (credits) and (loss) from
discontinued operations 504,631 (1,138,347)
Income taxes (credits) 151,071 (251,643)
----------- ------------
Income (loss) before loss from
discontinued operations 353,560 (886,704)
(Loss) from discontinued operations
(net of tax benefit) (696,041)
----------- ------------
Net income (loss) $ 353,560 $(1,582,745)
=========== ============
Basic and diluted earnings
(loss) per common and
common equivalent share:
Income (loss) from continuing
operations $ 0.04 $ (0.10)
(Loss) from discontinued operations 0.00 (0.08)
----------- ------------
Net income (loss) per share $ 0.04 $ (0.18)
=========== ============
See "Notes to Consolidated Financial Statements." F-4
PRO-DEX, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Years Ending June 30, 1998 and 1997
Preferred Shares Common Shares
---------------- ----------------------
Number Number
of of
Shares Amount Shares Amount
------ --------- --------- ------------
Balances, June 30, 1997 78,129 $ 282,990 9,025,783 $16,697,660
Rescission of Pnu-Light
acquisition (368,483) (2,072,715)
Exercise of stock options 55,000 7,500
Advances to ESOP
Net Loss
Advance to ESOP
Net (loss)
------ --------- --------- ------------
Balances, June 30, 1998 78,129 $ 282,990 8,712,300 $14,632,445
Exercise of stock options 25,000 43,750
Exercise of stock warrants 50,000 106,500
Stock-based compensation 55,000
Termination of ESOP
Net income
------ --------- --------- ------------
78,129 $ 282,990 8,787,300 $14,837,695
====== ========= ========= ============
See "Notes to Consolidated Financial Statements." F-5
PRO-DEX, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Years Ending June 30, 1998 and 1997
(Continued)
Receivable
Additional for
Paid-in Accumulated Stock
Capital Deficit Purchase Total
----------- ------------ ---------- ------------
Balances,
June 30, 1997 $1,004,541 $ (532,350) $ (21,300) $17,431,541
Rescission of Pnu-
Light acquisition (994,541) (3,067,256)
Exercise of
stock options 7,500
Advances to ESOP
Net Loss
Advance to ESOP (37,814) (37,814)
Net (loss) (1,582,745) (1,582,745)
----------- ------------ ---------- ------------
Balances,
June 30, 1998 $ 10,000 $(2,115,095) $ (59,114) $12,751,226
Exercise of stock options (43,750)
Exercise of stock warrants (106,500)
Stock-based compensation 55,000
Termination of ESOP (10,000) (49,114) 59,114
Net income 353,560 353,560
----------- ------------ ---------- ------------
$ -0- $(1,810,649) $(150,250) $13,159,786
=========== ============ ========== ============
See "Notes to Consolidated Financial Statements." F-5
PRO-DEX, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ending June 30, 1998 and 1997
1998 1997
---- ----
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss) $ 353,560 $(1,582,745)
Adjustments to reconcile net income
(loss) to net cash provided by
(used in) operating activities:
Depreciation and amortization 1,516,187 1,499,305
Provision for doubtful accounts 16,316 627,333
Loss on disposition of business 7,512
Stock-based compensation 55,000
Deferred taxes 60,000 (194,700)
Change in working capital components
net of effects from purchases
and divestitures:
(Increase) in accounts receivable (650,389) (108,427)
(Increase) decrease in inventories (215,733) 182,836
(Increase) decrease in
prepaid expenses 611,830 (579,940)
(Increase) decrease in other assets (39,841) 111,790
Increase (decrease) in accounts
payable and accrued expense 392,106 (949,224)
------------ ------------
Net cash provided by (used in)
operating activities 2,099,036 (986,260)
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES
Acquisition/divestiture of businesses 707
Purchase of property and equipment (809,516) (490,778)
------------ ------------
Net cash flows (used in)
investing activities (809,516) (490,071)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES
Net (payments) borrowing on
revolving credit agreements (250,000) (1,848,392)
Proceeds from long-term borrowing 188,806 8,544,400
Principal payments on
long-term borrowing (2,079,434) (4,490,977)
Loan origination fees (255,000)
Issuance of common stock 7,500
Advances to ESOP (37,814)
------------ ------------
Net cash flows provided by
(used in) financing activities (2,140,628) 1,919,717
------------ ------------
NET INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS (851,108) 443,386
Cash and cash equivalents,
beginning of period 851,108 407,722
------------ ------------
Cash and cash equivalents,
end of period $ -0- $ 851,108
============ ============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash payments for interest $ 798,176 $ 1,232,982
Cash payments for income taxes 6,266 620,061
Issuance of common stock for
a note receivable 150,250
See "Notes to Consolidated Financial Statements." F-6
PRO-DEX, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1998 AND 1997
NOTE 1 - SUMMARY OF ACCOUNTING POLICIES
Nature of Business
- ------------------
Pro-Dex, Inc. (the Company) is the parent of four operating
subsidiaries, Biotrol International, Inc. (Biotrol), Challenge
Products, Inc. (Challenge), Micro Motors, Inc. (Micro), and
Oregon Micro Systems, Inc. (OMS). Biotrol is a manufacturer and
supplier of infection control products for the dental industry.
Challenge manufactures and sells fluoride products for preventive
dentistry, along with a complementary line of products used for
the cleaning, whitening, and protection of teeth. Micro
manufactures miniature pneumatic motors used in dental, medical,
and industrial devices worldwide as well as a complete line of
dental handpieces. OMS designs, develops and manufactures multi-
axis circuit boards used to control the motion of servo and
stepper motors predominantly used in the computer chip
manufacturing industry. A surplus of semiconductor production
capacity and the Asian monetary crisis has significantly reduced
the computer chip fabrication equipment industry. Average
monthly orders for semiconductor equipment are down approximately
50% from a year ago (unaudited). OMS is heavily dependent on
this industry for its revenue, and has experienced a similar
decline in sales. The Company extends credit to its customers,
all on an unsecured basis, on terms that it establishes for
individual customers. Customers are located predominately in the
United States. Many of the Company's products are regulated by a
number of state and federal regulatory bodies, including the
Environmental Protection Agency ("EPA") and the Food and Drug
Administration ("FDA"). While the Company's management and
management of each of the Company's operating subsidiaries make
every effort to maintain full compliance with all applicable laws
and regulations, there exists an ongoing risk that one or more of
its activities may at some point be determined to be non-
compliant. Notwithstanding the risks inherent in the Company's
business sectors, management believes that each of the Company's
subsidiaries enjoys a good reputation for compliance with
applicable regulations.
Principles of Consolidation
- ---------------------------
The consolidated financial statements include the accounts of
the Company and all of its subsidiaries. All significant inter-
company accounts and transactions have been eliminated.
Revenue Recognition
- -------------------
Revenue on product sales is recognized upon shipment to the
customer. The Company sells some of its products with a warranty
that provides for repairs or replacement of any defective parts
for a period after the sale. At the time of the sale, the
Company accrues an estimate of the cost of providing the warranty
based on prior experience.
Cash and Cash Equivalents
- -------------------------
The Company considers highly liquid investments with a maturity
of three months or less when purchased to be cash equivalents.
Inventories
- -----------
Inventories are stated at the lower of cost or market. Cost is
determined using the first-in, first-out method. Inventories
consist of the following:
Raw materials $ 990,579
Work in process 226,429
Finished goods 3,488,824
-----------
Total 4,705,832
Reserve for slow moving inventories (254,030)
-----------
Total inventories, net $4,451,802
===========
Property and Equipment
- ----------------------
Property and equipment are recorded at cost. The costs of
computer software obtained for internal use is accounted for
under the provisions of Statement of Position 98-1. Depreciation
is provided using the straight-line method over the estimated
useful lives of the assets as follows: Buildings-- generally 40
years; equipment-- 3-10 years; leasehold improvements-- 7 years.
Leasehold improvements are depreciated over the shorter of the
term of the lease or their estimated useful lives.
Intangible Assets
- -----------------
Intangible assets include patents, non-compete contracts and
the cost of net assets acquired in excess of fair value which are
amortized on a straight-line basis over their estimated useful
lives ranging from 5 to 20 years. Intangible assets are stated
net of accumulated amortization of $2,518,000.
The Company evaluates impairment of its long-lived assets and
certain intangible assets whenever events or changes in
circumstances indicate that the carrying amount of the asset may
not be recoverable. An asset is deemed impaired if the sum of
the expected future cash flows is less than the carrying amount
of the asset.
Advertising
- -----------
The Company expenses the cost of advertising the first time the
advertising takes place. The Company's balance sheet contains
$53,000 of deferred advertising costs. The Company incurred
advertising expenses of approximately $507,000 and $500,000 in
1998 and 1997, respectively.
Reclassifications
- -----------------
Certain items in the June 30, 1997 financial statements have
been reclassified to be comparable with the financial statement
classifications for the year ending June 30, 1998. These
reclassifications have no effect on shareholders' equity or net
income as of and for the year ending June 30, 1997.
Income Taxes
- ------------
Deferred income taxes are provided on a liability method
whereby deferred tax assets are recognized for deductible
temporary differences and operating loss and tax credit
carryforwards and deferred tax liabilities are recognized for
taxable temporary differences. Temporary differences are the
differences between the reported amounts of assets and
liabilities and their tax bases. Deferred tax assets are reduced
by a valuation allowance when, in the opinion of management, it
is more likely than not that some portion or all of the deferred
tax assets will not be realized. Deferred tax assets and
liabilities are adjusted for the effects of changes in tax laws
and rates on the date of enactment.
Use of Estimates
- ----------------
The preparation of financial statements is in conformity with
generally accepted accounting principles and requires management
to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements
and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those
estimates.
Earnings Per Share
- ------------------
The Financial Accounting Standards Board has issued Statement
No. 128, "Earnings per Share" which supercedes APB Opinion No.
15. Statement No. 128 requires the presentation of basic and
diluted earnings per share amounts. Diluted per share amounts
assume the conversion, exercise or issuance of all potential
common stock instruments unless the effect is to reduce a loss or
increase the income per common share from continuing operations.
The Company has adopted Statement No. 128 for the year ended June
30, 1998. The adoption of this Statement did not effect the
disclosure of 1997 loss per share amounts.
New Accounting Pronouncements
- -----------------------------
In June 1997, the FASB issued SFAS No. 130 "Reporting
Comprehensive Income" and SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information". SFAS No.
130 requires that an enterprise report, by major components and
as a single total, the change in its net assets during the period
from non-owner sources; and SFAS No. 131 establishes annual and
interim reporting standards for an enterprise's operating
segments and related disclosures about its products, services,
geographic areas and major customers. Adoption of these
Statements will not impact the Company's financial position,
results of operations or cash flows and any effect will be
limited to the form and content of its disclosures. Both
Statements are effective for fiscal years beginning after
December 15, 1997, with earlier application permitted.
Fair Value of Financial Instruments
- -----------------------------------
The method and assumptions used to estimate the fair value of
long-term receivables and long-term debt, which approximates the
carrying value, is based on interest rates for instruments with
similar terms and remaining maturities. The fair value of trade
accounts receivable and accounts payable approximate carrying
value.
Stock-based Compensation
- ------------------------
The Company accounts for stock-based employee compensation
under the requirements of Accounting Principles board (APB)
Opinion No. 25, which does not require compensation to be
recorded if the consideration to be received is at least equal to
the fair value at the measurement date. Non-employee stock-based
transactions are accounted for under the requirements of the
Financial Accounting Standards Board's (FASB) Statement of
Financial Accounting Standard (SFAS) No. 123 "Accounting for
Stock Based Compensation" which requires compensation to be
recorded based on the fair value of the securities issued or the
services received, whichever is more reliably measurable. The
Company determines fair value at the measurement date based upon
the trading price of its stock.
NOTE 2 - LONG-TERM DEBT
Following is a summary of long-term debt:
Revolving/term loan from bank(a) $6,450,000
Secured note bearing interest at 11%,
maturing August 2000, payable at
$14,728 per month(b) 263,567
Secured note to former owner of
acquired business bearing interest
at 12.25%, maturing $40,000 quarterly,
including interest to October 2000 310,539
Loan secured by certain equipment
bearing interest at 9.1%,
maturing $7,096 monthly,
including interest to May 30, 1999 74,680
Mortgage payable secured by land and building,
bearing interest at 1% over prime,
maturing $2,321 monthly, including interest,
due November 12, 1998
This note is normally renewed
for successive one-year terms. 171,717
Other secured notes at various
interest rates and various maturities 245,413
----------
Total 7,515,916
Less current portion 1,394,994
----------
Total long-term debt $6,120,922
==========
a) The Company has obtained a $10,000,000 credit facility from
Harris Bank secured by all assets of the Company and guaranteed
by each of the Company's subsidiaries. The facility consists of
a $6,000,000 term loan with a five-year amortization period, and
a $4,000,000 revolving line of credit with a termination date on
July 24, 1999. Both facilities require monthly interest payments
at the prime rate (8.5% at June 30, 1998) or at a variable
interest rate from 1.5% to 2% above LIBOR (5.65% at June 30,
1998). The term loan portion is payable in equal quarterly
installments of $200,000 through July 24, 2001, when the full
amount of the then unpaid balance of the note will be due. The
term loan had an outstanding balance on June 30, 1998, of
$4,400,000. The revolver portion of the facility had an
outstanding balance at June 30, 1998, of $2,050,000. At June 30,
1998, $1,950,000 remained available under the revolver/term loan.
The Company is required to meet certain financial covenants
including minimum tangible net worth, debt to total
capitalization, interest coverage, fixed charge coverage, and
cash flow. In addition, the credit facility limits the amount of
dividends and capital expenditures in any one year. At June 30,
1998, the Company did not meet some of the financial covenants;
however, on September 24, 1998, the bank waived the current
covenants,. Management believes the Company will be in
compliance with these covenants in the future.
b) These amounts are due to the former owner of Micro Motors
and the Company's largest shareholder and are subordinated to the
bank debt discussed above.
Aggregate maturities on long-term debt for the next five years
are as follows: 1999, $1,394,994; 2000, $3,184,069; 2001,
$2,878,0161; 2002, $-0-; 2003, $58,837.
NOTE 3 - COMMITMENTS AND CONTINGENCIES
Micro Motors leases office and warehouse facilities from the
Company's largest shareholder. The Company and its subsidiaries
also lease other office and warehouse facilities from unrelated
parties under lease agreements expiring from April 1999 through
December 2002. These leases generally require the Company to pay
insurance, taxes, and other expenses related to the leased space.
Total rent expense was $969,697 and $902,187, including
approximately $340,000 paid to the Company's largest shareholder
for the years ended June 30, 1998 and 1997, respectively. For
the year ending June 30, 1998, the Company received $307,479 of
sublease payments from DCM, the purchaser of its dental center
operations. Future minimum lease payments for the years ending
June 30, amount to 1999, $613,343; 2000, $642,370; 2001,
$535,923; 2002, $214,386; 2003, $109,800; total of $2,115,822,
including $993,445 to the Company's largest shareholder. Future
minimum sublease receipts for the year ending June 30, 1999
amount to approximately $300,000.
The Company has initiated an implementation of a new
information technology system that among other benefits will
address the year 2000 issue. Management estimates that
implementation of the entire plan will take 3 years, and will
cost approximately $1.7 million. The initial phase of the plan
will concentrate on addressing the year 2000. Management
believes that the Company has adequate working capital to fund
the program.
The Company and Biotrol are named as defendants in a civil
action which seeks a determination as to whether certain labels
used by Biotrol violated Environmental Protection Agency ("EPA")
labeling regulations. During 1998, the U.S. District Court held
that this determination was not within its jurisdiction and
dismissed the case. Subsequently, the plaintiff appealed the
case.
Micro is named as a co-defendant in a civil action, which
alleges Micro infringed on a pre-existing patent. The complaint
seeks an unspecified amount of damages. Management believes the
claim to be without merit and is vigorously contesting this
action.
The Company is currently party to other disputes, which involve
or may involve litigation and claim unspecified damages.
Management believes that the outcome of these matters will not
have a material adverse effect on the consolidated financial
statements of the Company. However, the ultimate outcome in any
litigation involves uncertainty. Management is unable to
estimate the magnitude of the exposure to the Company in these
matters.
NOTE 4 - INCOME TAXES
The provision for income taxes (credits) for the years ended
June 30, 1998 and 1997 is as follows:
1998 1997
---- ----
Current federal taxes (credits) $(160,943)
Current state taxes (credits) $ 91,071 (70,000)
Deferred taxes 60,000 (20,700)
-------- ----------
$151,071 $(251,643)
======== ==========
A reconciliation of expected tax expense (credit) to the amount
computed by applying the federal statutory income tax rates to
income (loss) before income taxes (credits) and net loss from
discontinued operations is as follows:
1998 1997
---- ----
Federal income taxes (credits),
computed at the statutory rate $ 177,000 $(399,000)
Change in valuation allowance (285,000) 55,000
State income taxes (credits) 91,071 (70,000)
Non-deductible items,
primarily amortization
of goodwill 164,000 149,000
Other 4,000 13,357
---------- ----------
$ 151,071 $(251,643)
========== ==========
Deferred income tax assets and liabilities in the accompanying
balance sheet at June 30, 1998 consist of the following:
1998
----
Assets:
Net operating loss carryforwards $ 140,000
Contract payable 119,000
Accrued expenses 190,000
Intangible assets 443,000
Inventories 141,000
Other 66,000
-----------
Total deferred tax assets 1,099,000
Liabilities, property and equipment (179,000)
-----------
Net deferred tax assets $ 920,000
===========
Net deferred tax assets of $480,000 are included in the
accompanying balance sheet as current assets with the remaining
amount of $440,000 included as long-term assets. A portion of
these deferred tax assets reflects the benefit of a $400,000 tax
loss carryforward, which approximately $250,000 expires in 2003
and the balance in 2004. Realization of these deferred tax
assets is dependent on generating sufficient taxable income
income (approximately $1,250,000) prior to the expiration of the
loss carryforwards. The remaining net deferred tax assets do not
expire. The Company would need to generate an additional
$1,250,0002,000,000 of taxable income to realize the benefit of
the remaining net deferred tax assets. Although realization is
not assured, management believes it is more likely than not that
the net deferred tax assets will be realized based upon current
and projected taxable income. Net realizable deferred tax assets
could be reduced in the near term if estimates of future taxable
income during the carryforward periods are reduced. Also, future
changes in ownership could limit the Company's ability to realize
these assets.
NOTE 5 - STOCK OPTIONS AND WARRANTS
The Board of Directors and the shareholders of the Company have
approved and adopted three plans, pursuant to which options to
purchase 2,150,000 shares of common stock can be granted to
officers, directors, employees and to others expected to provide
significant services to the Company. There are 750,639 shares
remaining in the option plans, which are available for grant in
future years. In addition, the Company has issued warrants to
acquire 123,000 shares, exercisable at a weighted-average price
of $2.18 and with a weighted-average remaining contractual life
of 3.25 years. The Company recorded expenses of $55,000 related
to the grant of 60,000 warrants during 1998.
Transactions involving the stock options are summarized as
follows:
1998 1997
----------------- ------------------
Weighted- Weighted-
Average Average
Exercise Exercise
Fixed Options Shares Price Shares Price
- ------------------- --------- ------- ---------- -------
Outstanding at
beginning of year 918,636 $2.28 1,366,976 $2.27
Granted 405,000 2.11 50,000 2.90
Exercised (25,000) 1.75 (55,000) 0.93
Forfeited (49,275) 2.50 (443,340) 2.50
---------- ----- ---------- -----
Outstanding at
end of year 1,249,361 $2.22 918,636 $2.28
========== ===== ========== =====
Exercisable at
end of year 916,028 $2.27 918,636 $2.28
========== ===== ========== =====
Weighted-average
fair value per option
granted during the year $0.92 $1.12
===== =====
A further summary about fixed options outstanding June 30,
1998, is as follows:
Options Outstanding Options Exercisable
------------------- -------------------
Weighted-
Average Weighted- Weighted-
Range of Number Remaining Average Average
Exercise Out- Contract- Exercise Number Exercise
Price standing ual Life Price Exercisable Price
- ------------- --------- --------- -------- ----------- --------
$1.75 - $2.50 1,197,607 7.7 years $2.20 864,274 $2.24
$2.85 - $2.90 51,754 8.2 years $2.90 51,754 $2.65
- ------------- --------- --------- -------- ----------- --------
1,249,361 $2.22 916,028 $ 2.27
========= ======== =========== ========
The three option plans are substantially similar and call for
the vesting as approved by the Board of Directors (usually upon
grant), and allow for the options to be outstanding for a period
of ten years. Grants under the Company's stock option plans are
accounted for following APB Opinion No. 25 and related
interpretations. Accordingly, no compensation cost has been
recognized for grants under the plan. Had compensation cost for
the stock-base compensation plans been determined based on the
grant date fair values of awards (the method described in FASB
Statement No. 123), reported net income (loss) and basic and
diluted earnings (loss) per common share would have been adjusted
to the pro forma amount shown below:
1998 1997
---- ----
Net income(loss)
As reported $353,560 $(1,582,745)
Pro forma 313,560 (1,605,166)
Basic and diluted earnings (loss) per common share
As reported $ 0.04 $ (0.18)
Pro forma 0.04 (0.18)
The fair value of each grant is estimated at the grant date
using the Black-Scholes option-pricing model with the following
weighted-average assumptions for grants in 1998 and 1997,
respectively: no dividend rate for all years; price volatility
of 35 % in 1998, and 43% in 1997 and % in 1998; risk-free
interest rates of approximately 6.0% in 1998 and 6.8% in 1997 and
2% in 1998; and expected lives of five years.
NOTE 6 - PREFERRED SHARES
Holders of Series A preferred shares have no voting, dividend,
or redemption rights. In the event of liquidation or
dissolution, preferred shareholders are entitled to receive $3.60
per share. Each preferred share is convertible into one common
share at the option of the holder.
NOTE 7 - BUSINESS ACQUISITIONS, DIVESTITURES, AND DISCONTINUED
OPERATIONS
On April 25, 1997, the Company completed the rescission of the
Pnu-Light Tool Works, Inc (Pnu-Light) transaction, which was
originally acquired on May 11, 1996. In accordance with the
agreement, the Company received all 368,483 shares of the
Company's stock, which were issued as consideration for the
purchase of the assets. Losses sustained by Pnu-Light are
reported as discontinued operations and amounted to approximately
$295,000, net of related tax benefits of $149,000 for 1997.
Revenues generated by this subsidiary in 1997 were immaterial.
On June 12, 1997, the Company completed the sale of certain
assets of its dental clinic management (DCM) subsidiary operation
in California. In exchange for inventory, and property and
equipment, the purchaser assumed approximately $670,000 of the
Company's liabilities. In addition, with assistance from the
purchaser, the Company maintained ownership and expects to
receive the net proceeds from the collection of approximately
$1.8 million in existing net accounts receivable over the next 24
months. Revenues of DCM were approximately $1,986,000 in 1997.
Operating expenses were approximately $2,652,000 in 1997. These
amounts are presented as losses from discontinued operations in
the statement of operations and are reported net of applicable
income tax benefits of approximately $265,000 in 1997. During
1998, the purchaser collected approximately $650,000 of the $1.8
million of accounts receivable, but due to financial difficulties
was only able to remit $50,000 of the amount collected to the
Company. Subsequent to June 30, 1998, and in conjunction with
a reorganization by the purchaser, and in consideration for
guaranteeing collection of the full net amount of the accounts
receivable, the Company agreed to restructure the balance owed of
$1,750,000 in exchange for the following: a ten five year, 6%
promissory note totaling $850,000, 5% convertible preferred stock
of the purchaser's entity valued at $900,000, and warrants to
acquire common stock in DCM's purchaser. Discontinued operations
include management's best estimate of the amounts expected to be
realized on the sale of its dental clinic management operation.
The amounts the Company will ultimately realize could differ
materially from the amounts assumed in arriving at the loss on
disposal of DCM. At June 30, 1998, no assets of the discontinued
operations remain other that the DCM accounts receivable
discussed above.
All acquisitions have been accounted for as a purchase and the
results of operations of Oregon Micro Systems, Inc., Micro
Motors, Inc., and Pnu-light Tool Works, Inc., since the date of
acquisition are included in the consolidated financial
statements.
Additional information regarding cash flows from these
dispositions is as follows:
Pnu-light DCM Total
--------- --- -----
Working capital disposed
of net of cash and
cash equivalents $ 83,509 $(228,658) $ (145,149)
Long-term assets 3,040,229 491,667 3,531,896
Debt assumed (57,533) (261,251) (318,784)
Common stock returned (3,067,256) (3,067,256)
------------ ---------- ------------
Net $ (1,051) $ 1,758 $ 707
============ ========== ============
NOTE 8 - SEGMENT INFORMATION
A summary of information about the Company's continuing
operations by segment follows:
Fiscal years ended June 30,
1998 1997
---- ----
Revenues
Infection control products $ 5,431,074 $ 4,421,658
Preventive dentistry products 2,488,377 1,832,093
Medical/dental equipment 8,960,447 8,106,314
Circuit boards 5,768,285 4,836,770
----------- ------------
$22,648,183 $19,196,835
=========== ============
Income (loss) from operations
Infection control products $ 282,254 $ 100,517
Preventive dentistry products 258,227 (126,380)
Medical/dental equipment(a) 118,459 (1,154,795)
Circuit boards 727,670 1,270,825
----------- ------------
$ 1,386,610 $ 90,167
=========== ============
Assets
Infection control products $ 1,773,736 $ 1,284,860
Preventive dentistry products 1,798,830 1,469,103
Medical/dental equipment 12,792,924 12,856,927
Circuit boards 2,539,291 4,575,612
Pro-Dex Corporate 3,933,804 3,992,044
----------- ------------
$22,838,585 $24,178,546
=========== ============
Depreciation and amortization
Infection control products $ 41,811 $ 56,886
Preventive dentistry products 123,088 114,014
Medical/dental equipment 731,761 739,348
Circuit boards 598,397 570,861
Pro-Dex Corporate 21,130 4,146
----------- ------------
$ 1,516,187 $ 1,485,255
=========== ============
Capital expenditures
Infection control products $ 73,087 $ 62,810
Preventive dentistry products 96,092 103,807
Medical/dental equipment 272,824 49,273
Circuit boards 79,921 133,354
Pro-Dex Corporate 287,592 8,355
----------- ------------
$ 809,516 $ 357,599
=========== ============
The Company had foreign sales in the amount of $1,140,017 in
1998, and $816,062 in 1997.
a) Includes non-recurring unusual charges of $463,000 in fiscal
1997.
NOTE 9 - EARNINGS PER SHARE
The weighted-average number of common shares and common share
equivalents outstanding during the year used to compute basisc
and diluted earnings/(loss) per common share is as follows:
1998 1997
---- ----
Weighted-average common shares
used in computation of
basic earnings (loss) per share 8,712,660 9,010,115
Effect of dilutive securities:
Common stock options and warrants 56,565 *
Convertible preferred stock 39,065 *
--------- ---------
Weighted-average common and
common share equivalents used in
the computation of diluted
earnings (loss) per share 8,808,290 9,010,115
========= =========
* Excluded since the effect is anti-dilutive.
EXHIBIT INDEX
Sequentially
Exhibit Document Numbered
No. Pages
- -----------------------------------------------------------------
3.1 Articles of Incorporation (incorporated herein
by reference to Exhibit 3.1 to Pro-Dex, Inc.
Registration Statement No. 33-74397).
3.2 Bylaws (incorporated herein by reference to
Exhibit 3.2 to Pro-Dex, Inc. Registration
Statement No. 33-74397).
7.1 Pro-Dex, Inc. Form 8-K dated July 26, 1995
(incorporated herein by reference to the
Company's Form 8-K dated July 26, 1995) and
Financial Supplement to Form 8-K dated July
26, 1995 (incorporated herein by reference to
the Company's Form 10-KSB, dated June 30,
1995, and Supplement to Form 8-K, contained
therein).
7.2 Merger Agreement between Pro-Dex, Inc., Micro
Systems Acquisition Corporation, and Micro
Motors, Inc., dated July 26, 1995
(incorporated herein by reference to Exhibit
7.1 to the Company's Form 8-K dated July 26,
1996).
7.3 Acquisition Agreement between Pro-Dex, Inc.,
Oregon Micro Systems, Inc. and L. Wayne Hunter
dated July 26, 1996 (incorporated herein by
reference to Exhibit 7.2 to the Company's Form
8-K dated July 26, 1996).
7.4 Pro-Dex, Inc. Form 8-K dated May 11, 1996
(incorporated herein by reference to the
Company's Form 8-K dated May 11, 1996).
10.1 Form of Turnkey Management Agreement between
Pro-Dex, Inc. and its Contracting Dentists
(incorporated herein by reference to Exhibit
10.1 to Pro-Dex, Inc. Registration Statement
No. 33-35790).
10.2 Lease Agreement dated December 1, 1984 between
Sears Roebuck and Co. and Pro-Dex, Inc. (Sun
Valley) and amendment thereto dated as of
November 9, 1987 (incorporated herein by
reference to Exhibits 10.8 and 10.29 to Pro-
Dex, Inc. Registration Statement No. 33-
35790).
10.2(a) Agreement to Extend Lease Agreement (Exhibit
Sun Valley) dated May 5, 1994.
10.3 Leaseback Agreement dated December 19, 1985
between Pro-Dex, Inc. and Fowler/Searl
Partnership (incorporated herein by reference
to Exhibit 10.13 to Pro-Dex, Inc. Registration
Statement No. 33-6623).
10.4 Lease Agreement dated November 24, 1986
between Sears Roebuck and Co. and Pro-Dex,
Inc. (Santa Rosa) and amendment thereto dated
as of January 7, 1988 (incorporated herein by
reference to Exhibits 10.16 and 10.28 to Pro-
Dex, Inc. Registration Statement No. 33-
35790).
10.4(a) Agreement to Extend Lease Agreement (Exhibit
Santa Rosa) dated May 4, 1994.
10.5 Pro-Dex, Inc. 1988 Stock Option Plan
(incorporated herein by reference to Exhibit
10.23 to Pro-Dex, Inc. Form 10-K for the year
ended June 30, 1988 File No. 0-14942).
10.6 Lease Agreement dated March 2, 1988 between
Sears Roebuck and Co. and Pro-Dex, Inc.
(Sunrise Mall), and extension/amendment dated
May 2, 1991 (incorporated herein by reference
to Exhibits 10.25 and 10.25(a) to Pro-Dex,
Inc. Registration Statement No. 33-35790).
10.6(a) Agreement to Extend Lease Agreement (Exhibit
10.6 Sunrise Mall) dated July 6, 1994.
10.7 Lease Agreement dated March 2, 1988 between
Sears Roebuck and Co. and Pro-Dex, Inc.
(Florin Mall) and extension/amendment dated
May 2, 1991 (incorporated herein by reference
to Exhibits 10.26 and 10.26(a) to Pro-Dex,
Inc. Registration Statement No. 33-35790).
10.7(a) Agreement to Extend Lease Agreement (Exhibit
10.6 Florin Mall) dated July 6, 1994.
10.8 Lease Agreement effective as of December 1,
1988 between Sears Roebuck and Co. and Pro-
Dex, Inc. (Arden Fair) and amendment thereto
effective as of April 1, 1989 (incorporated
herein by reference to Exhibits 10.32 and
10.33 to Pro-Dex, Inc. Registration Statement
No. 33-35790).
10.9 Employment Agreement between Pro-Dex, Inc. and
M. Larry Kyle, D.D.S. dated June 28, 1990
(incorporated herein by reference to Exhibit
10.34 to Pro-Dex, Inc. Registration Statement
No. 33-35790).
10.13 Lease Agreement between Equity Colorado Phase
II and Biotrol International, Inc. dated
August 1991 (incorporated herein by reference
to Exhibit 10.40 to Pro-Dex, Inc. Registration
Statement No. 33-35790).
10.13(a)First Amendment to Lease (Exhibit 10.13) dated
January 31, 1994.
10.14 Loan Agreement between Biotrol International,
Inc. and A-T Realty Co. dated May 29, 1991
(incorporated herein by reference to Exhibit
10.43 to Pro-Dex, Inc. Registration Statement
No. 33-35790).
10.15 Employment Agreement dated effective August 1,
1993 between Challenge Products, Inc. and
Charles L. Bull (incorporated herein by
reference to Exhibit 10.15 to Pro-Dex, Inc.
Registration Statement No. 33-74397).
10.16 Prophy Ring Patent License Agreement dated and
effective July 1, 1993 between Challenge
Products, Inc. and Charles L. Bull
(incorporated herein by reference to Exhibit
10.17 to Pro-Dex, Inc. Registration Statement
No. 33-74397).
10.17 1994 Stock Option Plan (incorporated herein by
reference to Exhibit 10.21 to Pro-Dex, Inc.
Registration Statement No. 33-74397).
10.18 Director's Stock Option Plan (incorporated
herein by reference to Exhibit 10.22 to Pro-
Dex, Inc. Registration Statement No. 33-
74397).
10.19 Lease Agreement dated December 29, 1993
between Fuoti Insurance Agency, Inc. & James
C. & Susan E. Fuoti and Pro-Dex, Inc. & M.
Larry Kyle, DDS. (Incorporated herein by
reference to the Exhibit 10.23 to the
Company's Form 10-KSB dated June 30, 1994).
10.20 Consulting Agreement and Non-Competition
Agreement, between Pro-Dex, Inc. and L. Wayne
Hunter, dated July 26, 1995 (incorporated
herein by reference to Exhibit 10.1 to the
Company's Form 8-K dated July 26, 1996).
10.21 Employment Agreement between Ronald G. Coss
and Pro-Dex, Inc., dated July 26, 1995
(incorporated herein by reference to Exhibit
10.2 to the Company's Form 8-K dated July 26,
1996).
10.22 Agreement to Terminate Long Term Employment
Agreement between Micro Motors, Inc. and
Ronald G. Coss dated July 26, 1995
(incorporated herein by reference to Exhibit
10.3 to the Company's Form 8-K dated July 26,
1996).
10.23 Asset Purchase Agreement between Pro-Dex,
Inc., Pnu-Light Acquisition Corporation, and
Marty J. Anderson, dated May 11, 1996.
10.24 Letter Agreement, regarding rescission of
Royalty Agreement between Pro-Dex, Inc.,
Challenge Products, Inc. and Charles Bull
dated June, 1996, together with Assignment of
Patent.
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<PERIOD-END> JUN-30-1998
<CASH> 0
<SECURITIES> 0
<RECEIVABLES> 3,392,627
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0
282,990
<COMMON> 14,837,695
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<TOTAL-LIABILITY-AND-EQUITY> 22,838,585
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