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SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
(Mark One)
| [X] | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934. | |
| For the Period Ended September 30, 1999. | ||
| [ ] | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934. |
For the Transition Period from to
Commission File Number: 0 - 16612
CNS, INC.
(Exact name of registrant as specified in its charter)
| DELAWARE | 41-1580270 | ||
| (State or other jurisdiction of | (I.R.S. Employer | ||
| incorporation or organization) | Identification No.) |
P.O. BOX 39802
Minneapolis, MN 55439
(Address of principal executive offices including zip code)
(612) 820-6696
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
YES X NO
At October 30, 1999, 14,681,122 shares of common stock were outstanding.
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
CNS, INC.
CONDENSED BALANCE SHEETS
September 30, December 31,
1999 1998
------------- ------------
(unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 5,741,525 $ 584,718
Marketable securities 45,876,225 59,796,952
Accounts receivable, net 6,186,914 7,790,952
Inventories 5,636,495 8,823,193
Income taxes receivable 3,177,771 0
Prepaid expenses and other current assets 3,569,195 2,794,558
Deferred income taxes 0 1,332,000
------------ ------------
Total current assets 70,188,125 81,122,373
Property and equipment, net 2,131,128 2,406,488
Product rights, net 1,210,582 1,434,566
------------ ------------
$ 73,529,835 $ 84,963,427
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses 13,999,914 8,412,649
Accrued income taxes 0 684,937
------------ ------------
Total current liabilities 13,999,914 9,097,586
------------ ------------
Stockholders' equity:
Preferred stock - authorized 8,483,589 shares;
none issued or outstanding 0 0
Common stock - $.01 par value; authorized 50,000,000 shares;
issued and outstanding, 19,294,570 shares 192,946 192,946
Additional paid-in capital 61,965,701 61,932,529
Treasury shares - at cost; 4,535,448 at September 30, 1999 and
2,692,144 at December 31, 1998 (21,223,447) (14,670,128)
Retained earnings 18,819,721 28,157,494
Accumulated other comprehensive income (loss) (225,000) 253,000
------------ ------------
Total stockholders' equity 59,529,921 75,865,841
------------ ------------
$ 73,529,835 $ 84,963,427
============ ============
The accompanying notes are an integral part
of the condensed financial statements.
2
CNS, INC.
CONDENSED STATEMENTS OF OPERATIONS
(unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------------- -----------------------------
1999 1998 1999 1998
------------ ------------ ------------ ------------
Net sales $ 10,463,038 $ 12,749,081 $ 30,582,086 $ 39,187,364
Cost of goods sold 3,992,442 4,241,459 12,310,078 13,164,543
------------ ------------ ------------ ------------
Gross profit 6,470,596 8,507,622 18,272,008 26,022,821
------------ ------------ ------------ ------------
Operating expenses:
Marketing and selling 4,644,002 7,032,080 20,410,465 22,306,603
General and administrative 940,667 810,191 2,567,747 3,024,687
Product development 782,240 539,878 2,628,321 1,524,275
Contract termination fee 6,345,000 0 6,345,000 0
------------ ------------ ------------ ------------
Total operating expenses 12,711,909 8,382,149 31,951,533 26,855,565
------------ ------------ ------------ ------------
Operating income (loss) (6,241,313) 125,473 (13,679,525) (832,744)
Interest income 643,536 711,788 2,240,613 2,131,179
------------ ------------ ------------ ------------
Income (loss) before income taxes (5,597,777) 837,261 (11,438,912) 1,298,435
Income tax (provision) benefit (248,861) (100,000) 2,101,139 270,000
------------ ------------ ------------ ------------
Net income (loss) $ (5,846,638) $ 737,261 $ (9,337,773) $ 1,568,435
============ ============ ============ ============
Basic net income (loss) per share $ (.39) $ .04 $ (.60) $ .09
============ ============ ============ ============
Diluted net income (loss) per share $ (.39) $ .04 $ (.60) $ .08
============ ============ ============ ============
Weighted average number of common
shares outstanding 15,107,000 18,202,000 15,693,000 18,346,000
============ ============ ============ ============
Weighted average number of common and
assumed conversion shares outstanding 15,107,000 18,323,000 15,693,000 18,528,000
============ ============ ============ ============
The accompanying notes are an integral part
of the condensed financial statements.
3
CNS, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(unaudited)
Nine Months Ended
September 30,
----------------------------
1999 1998
------------- -----------
Operating activities:
Net income (loss) $ (9,337,773) $ 1,568,435
Adjustments to reconcile net income (loss) to net cash
from operating activities:
Depreciation and amortization 773,152 610,069
Deferred income taxes 1,486,000 34,000
Changes in operating assets and liabilities:
Accounts receivable 1,604,038 3,321,261
Inventories 3,186,698 2,188,426
Prepaid expenses and other current assets (3,842,408) 539,270
Accounts payable and accrued expenses 4,902,327 1,131,420
------------ -----------
Net cash from operating activities (1,227,966) 9,392,881
------------ -----------
Investing activities:
Change in marketable securities 13,288,728 (2,265,268)
Payments for purchases of property and equipment (273,693) (981,656)
Payments for product rights (115) (139,185)
Change in certificate of deposit, restricted 0 359,898
------------ -----------
Net cash from investing activities 13,014,920 (3,026,211)
------------ -----------
Financing activities:
Proceeds from issuance of common stock
under Employee Stock Purchase Plan 16,332 6,946
Proceeds from the exercise of stock options 0 228,063
Purchase of treasury shares (6,646,479) (3,024,557)
------------ -----------
Net cash from financing activities (6,630,147) (2,789,548)
------------ -----------
Net change in cash and cash equivalents 5,156,807 3,577,122
Cash and cash equivalents:
Beginning of period 584,718 229,647
============ ===========
End of period $ 5,741,525 $ 3,806,769
============ ===========
The accompanying notes are an integral part
of the condensed financial statements.
4
NOTES TO CONDENSED FINANCIAL STATEMENTS
The accompanying condensed financial statements as of September 30, 1999 and 1998 are unaudited but, in the opinion of management, include all adjustments (consisting only of normal, recurring accruals) necessary for a fair presentation of results for the interim periods presented.
Note 1 - Accounting Principles
The accounting principles followed in the preparation of the financial information contained herein are the same as those described in the Form 10-K report for the year ended December 31, 1998, and reference is hereby made to that report for detailed information on accounting policies.
Note 2 - Deferred Income Taxes
Net deferred tax assets as of September 30, 1999 and December 31, 1998 are as follows:
| September 30, | December 31, | ||||
| 1999 | 1998 | ||||
| Net deferred tax asset before valuation allowance | $ | 1,901,000 | $ | 1,332,000 | |
| Valuation allowance | (1,901,000 | ) | 0 | ||
| Net deferred tax asset | $ | 0 | $ | 1,332,000 | |
Net deferred tax assets have been reduced by a valuation allowance, due to loss carryforwards generated by the contract termination fee incurred during the three months ended September 30, 1999. The estimated loss carryforward at September 30, 1999 is $500,000.
Note 3 - Comprehensive Income (Loss)
A reconciliation of total comprehensive income (loss) is as follows:
| Three Months Ended | Nine Months Ended | |||||||||
| September 30, | September 30, | |||||||||
| 1999 | 1998 | 1999 | 1998 | |||||||
| Net income (loss) | $ | (5,846,638 | ) | $ | 737,261 | $ | (9,337,773 | ) | $ | 1,568,435 |
| Change in unrealized loss on marketable | ||||||||||
| Securities, net of income tax | (85,000 | ) | 0 | (478,000 | ) | 0 | ||||
| Total comprehensive income (loss) | $ | (5,931,638 | ) | $ | 737,261 | $ | (9,815,773 | ) | $ | 1,568,435 |
Note 4 - Earnings Per Share
A reconciliation of weighted average common and assumed conversion shares outstanding is as follows:
| Three Months Ended | Nine Months Ended | |||||||||
| September 30, | September 30, | |||||||||
| 1999 | 1998 | 1999 | 1998 | |||||||
| Average common shares outstanding | 15,107,000 | 18,202,000 | 15,693,000 | 18,346,000 | ||||||
| Assumed conversion of stock options | 0 | 121,000 | 0 | 182,000 | ||||||
| Average common and assumed | ||||||||||
| Conversion shares | 15,107,000 | 18,323,000 | 15,693,000 | 18,528,000 | ||||||
Item 2. Management's Discussion and Analysis of Financial Condition
And Results of Operations
The Company's revenues are derived primarily from the manufacture and sale of the Breathe Right(R) nasal strip, which is a nonprescription disposable device designed to improve nasal breathing and temporarily relieve nasal congestion, and to reduce or eliminate snoring and breathing difficulties due to a deviated nasal septum. The Company also has new consumer products in various stages of evaluation, testing and development.
Results of Operations
Net sales were $10.5 million for the third quarter of 1999 compared to $12.7 million for the same quarter of 1998 and were $30.6 million for the first nine months of 1999 compared to $39.2 million for the same period of 1998.
Domestic sales declined to $10.2 million from $12.6 million in the third quarter of 1998 and for the first nine months of 1999 were $30.0 million compared to $37.7 million for the same period of 1998. Slower sales this year reflect both a lower level of advertising during the previous cough/cold season and the presence of competition. We believe retailers also managed down their inventory levels to handle the introduction of our new packaging. This, along with reserves for anticipated returns of product in the old packaging, significantly reduced our sales for the first nine months of 1999.
International sales were $312,000 for the third quarter of 1999 compared to $168,000 for the same quarter of 1998 and were $626,000 for the first nine months of 1999 compared to $1.5 million for the same period of 1998. The lower level of international sales for 1999 is attributable in large part to disappointing marketing results and continued high inventory levels at the Company's international distributor.
Gross profit was $6.5 million or 61.8% of net sales for the third quarter of 1999 compared to $8.5 million or 66.7% for the same quarter of 1998 and was $18.3 million or 59.7% for the first nine months of 1999 compared to $26.0 million or 66.4% for the same period of 1998. The lower gross profit percentage was primarily due to costs for the transition to new product packaging, lower sales and product mix.
Marketing and selling expenses were $4.6 million for the third quarter of 1999 compared to $7.0 million for the same quarter of 1998 and were $20.4 million for the first nine months of 1999 compared to $22.3 million for the same period in 1998. The higher level of expenses in 1998 resulted primarily from costs associated with the market testing of a new product in 1998.
General and administrative expenses were $782,000 for the third quarter of 1999 compared to $540,000 for the same quarter of 1998. The increase was primarily due to expenses associated with new business development efforts. General and administrative expenses were $2.6 million for the first nine months of 1999 compared to $3.0 million for the same period in 1998. The decrease from 1998 was primarily due to 1998 expenses associated with patent litigation that has been settled and to personnel costs.
Product development expenses were $782,000 for the third quarter of 1999 compared to $540,000 for the same quarter of 1998 and were $2.6 million for the first nine months of 1999 comparable to $1.5 million for the same period in 1998. This increase resulted from costs related to evaluation and testing of potential new products.
Contract termination fee of $6.3 million represents a one-time payment to the Company's international distributor to terminate the international distribution agreement. The amount paid was negotiated, and is less than the amount called for in the contract. The agreement allows the Company to regain control of the international business on a phased schedule that will be completed by June 30, 2000.
Investment income was $644,000 for the third quarter of 1999 comparable to $712,000 for the same quarter of 1998 and was $2.2 million for the first nine months of 1999 comparable to $2.1 million for the same period in 1998.
Income tax provision for the third quarter of 1999 was $249,000 compared to $100,000 for the same quarter of 1998 and was a benefit of $2.1 million for the first nine months of 1999 compared to $270,000 for the same period of the prior year. Due to tax loss carryforwards generated by the contract termination fee, income tax expense for 1999 represents the remaining tax benefit available from carrying back current losses, offset by a $1.9 million reserve against deferred income tax assets. No future income tax benefit or expense will be provided until the Company's income exceeds loss carryforwards and deferred tax temporary differences. The estimated loss carryforward at September 30, 1999 is $500,000 and deferred tax temporary differences are approximately $5 million. A high level of tax-exempt interest income impacted the effective income tax rate in 1998.
Net income (loss) for the third quarter of 1999 was a loss of $5.8 million or $.39 per share compared to income of $737,000 or $.04 per share for the same quarter of 1998. This decrease was due primarily to the contract termination fee incurred during the third quarter. Net income (loss) for the first nine months of 1999 was a loss of $9.3 million or $.60 per share compared to income of $1.6 million or $.08 per share for the same period of 1998. This decrease was due to the contract termination fee and lower sales as noted above.
Seasonality
The Company believes that a portion of Breathe Right nasal strip use is for the temporary relief of nasal congestion and congestion-related snoring. Sales of nasal congestion remedies are higher during the fall and winter seasons because of increased use during the cold and allergy seasons.
Liquidity and Capital Resources
At September 30, 1999, the Company had cash and cash equivalents and marketable securities of $51.6 million and working capital of $56.2 million.
The Company used cash for operations of $1.2 million for the first nine months of 1999 compared to generating cash of $9.4 million for the same period of 1998. The reduced operating cash flow was due primarily to a decrease in net income offset by a decrease in net operating assets and liabilities.
The Company had net sales of $13.3 million of marketable securities and purchased $274,000 of property and equipment in the first nine months of 1999.
The Company repurchased 1.9 million shares of common stock for $6.6 million in the first nine months of 1999. A total of 488,000 shares of common stock remain to be purchased under the most recent Board of Directors authorization. Since 1997 the Company has repurchased 4.8 million shares at an average price per share of $4.85. The shares of common stock are available to be used to meet the Company's obligations under its employee stock ownership plan and stock option plans, and for possible future acquisitions.
The Company believes that it's existing funds and funds generated from operations will be sufficient to support its planned operations for the foreseeable future.
Year 2000
The Company has evaluated the potential impact of what is commonly referred to as the Year 2000 issue, concerning the inability of certain information systems to properly recognize and process dates containing the year 2000 and beyond. The Company has established a Year 2000 team, and this team has worked with management to take the following steps: (i) implement a Year 2000 assessment and testing plan for all internal information systems and other systems that contain microcontrollers that may be affected by the Year 2000 date change; (ii) communicate with third parties that supply product to the Company to ensure they are addressing the Year 2000 issue; and (iii) perform contingency and disaster recovery planning to ensure Year 2000 problem resolution.
The Company has identified and tested the systems it believes are critical, and the test results indicate that these systems are Year 2000 compliant. The Company has completed testing and established compliance with respect to all of its systems and products, subject to possible equipment upgrades during 1999 and ongoing communications with third parties. Regardless of the Year 2000 compliance of the Company's systems and products, there can be no assurance that the Company will not be adversely affected by the failure of others to become Year 2000 compliant.
The Company estimates that its direct costs for Year 2000 compliance will consist primarily of costs related to the staff time devoted to Year 2000 compliance. The Company does not expect that material capital expenditures will be necessary related to Year 2000 compliance. Costs and capital expenditures in these areas have not been material for historical periods.
As noted below under "Forward-Looking Statements," statements in this section that are not historical or current facts are forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, including statements regarding the timetable for Year 2000 compliance, the Company's costs and capital expenditures, the success of the Company's efforts and efforts of others to achieve compliance, and the effects of the Year 2000 issue on the Company's future financial condition and results of operations. These statements are subject to certain risks and uncertainties that could cause actual results to differ materially from historical results and those presently anticipated or projected. The following important factors, among others, could affect the accuracy of these statements: (i) the inherent uncertainty of the costs and timing of achieving compliance on the wide variety of systems used by the Company; (ii) the reliance on the efforts of vendors, customers, government agencies and other third parties to achieve adequate compliance and avoid disruption of the Company's business in early 2000; and (iii) the uncertainty of the ultimate costs and consequences of any unanticipated disruption in the Company's business resulting from the failure of one of the Company's applications or of a third party's systems. The foregoing list is not exhaustive, and the Company disclaims any obligation subsequently to revise any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events.
Forward Looking Statements
Certain statements in this Form 10-Q and other statements made by the Company from time to time do not relate strictly to historical or current facts but provide current expectations or forecasts of future events. As such, they are considered "forward-looking statements" under the Private Securities Litigation Reform Act of 1995 and are subject to certain risks and uncertainties that could cause actual results to differ materially from those presently anticipated or projected. Such forward-looking statements can be identified by the use of terminology such as "may," "will," "expect," "plan," "intend," "anticipate," "estimate," or "continue" or similar words or expressions. It is not possible to foresee or identify all factors affecting the Company's forward looking statements and investors therefore should not consider any list of factors to be an exhaustive statement of all risks, uncertainties or potentially inaccurate assumptions. Factors that could cause actual results to differ from the results discussed in the forward-looking statements include, but are not limited to, the following factors: (i) the Company's revenue and profitability is primarily reliant on sales of a single product, Breathe Right nasal strips; (ii) the Company's success will depend on its ability to effectively market Breathe Right nasal strips and on the fact that it was the first entrant into the nasal dilation market; (iii) the Company's competitive position will, to some extent, be dependent on the enforceability and comprehensiveness of the patents on the Breathe Right nasal strip technology which have been, and in the future may be, the subject of litigation; (iv) the Company operates in a highly competitive market where recent and potential market entrants pose greater competitive challenges than those faced by the Company in the past; (v) the Company has faced and will continue to face challenges in successfully introducing new products; (vi) the Company is currently dependent upon 3M for the international distribution of its products under a contractual relationship which has produced less than anticipated results and which the Company has terminated effective June 30, 2000; and (vii) the risk factors included in the Company's Annual Report on Form 10-K for the year ended December 31, 1998.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
The Company's market risk exposure is primarily interest rate risk related to its cash and cash equivalents and investments in marketable securities. The Company's risk to interest rate fluctuations has not materially changed since December 31, 1998. See Item 7A of the Company's Annual Report on Form 10K for the year ended December 31, 1998.
PART II - OTHER INFORMATION
| Item 1. | Legal Proceedings | |
| None | ||
| Item 2. | Changes in Securities and Use of Proceeds | |
| None | ||
| Item 3. | Defaults Upon Senior Securities | |
| Not applicable | ||
| Item 4. | Submission of Matters to a Vote of Security Holders | |
| None | ||
| Item 5. | Other Information | |
| During the third quarter the Company entered into an agreement with 3M Company to terminate their international distribution of Breathe Right nasal strips. The Company paid a one-time termination fee of $6.3 million, which is less than the amount called for in the contract. The agreement allows the Company to regain control of the international business on a phased schedule that will be completed by June 30, 2000. 3M will be subject to a two-year non-compete agreement through June 30, 2002. | ||
| Item 6. | Exhibits and Reports on Form 8-K | |
| (a) Exhibits: | ||
| Exhibit No. 27, Financial Data Schedule | ||
| (b) Reports on Form 8-K | ||
| None |
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| CNS, Inc. |
||||||||
| Registrant | ||||||||
| Date: | November 1, 1999 |
By: | /s/ Marti Morfitt |
|||||
| Marti Morfitt | ||||||||
| President & Chief Operating Officer | ||||||||
| Date: | November 1, 1999 |
By: | /s/ David J. Byrd |
|||||
| David J. Byrd | ||||||||
| Vice President of Finance, | ||||||||
| Chief Financial Officer and | ||||||||
| Treasurer | ||||||||
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