UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
For the fiscal year ended December 31, 1997
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the transition period from ________ to ________
Commission File No. 1-11109
LUKENS MEDICAL CORPORATION
- --------------------------------------------------------------------------------
(Name of small business issuer in its charter)
Delaware 22-2429965
----------------------------- -----------------------
(State or other jurisdiction (IRS Employer
of incorporation) Identification Number)
3820 Academy Parkway North NE
Albuquerque, New Mexico 87109
----------------------- -----
(Address of principal executive offices) (Zip Code)
Issuer's telephone number, including are code (505) 342-9638
-----------------------
Securities registered under Section 12(b) of the Exchange Act:
Title of each class Name of each exchange on which registered
------------------- -----------------------------------------
Common Stock, $.01 par value Pacific Stock Exchange
Securities registered under Section 12 (g) of the Exchange Act:
Common Stock, $.01 par value
----------------------------
(Title of Class)
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 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
Check if the disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not 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. [ ]
<PAGE>
State issuer's revenues for its most recent fiscal year: $8,618,863.
State the aggregate market value of the voting stock held by non-affiliates
computed by reference to the price at which the stock was sold, or the average
bid and asked price of such stock, as of March 25, 1998: $7,002,820. In
determining the market value of voting stock held by non-affiliates, share of
Common Stock of the registrant beneficially owned by directors, officers and
holders or more than 10% of the outstanding shares of Common Stock of the
registrant have been excluded. The determination of affiliate status is not
necessarily a conclusive determination for other persons.
State the number of shares outstanding of each of the issuer's classes of
common equity, as of March 1, 1998: 3,043,359 shares of Common Stock, $.01 par
value.
DOCUMENTS INCORPORATED BY REFERENCE
Part III - Items 9, 10, 11 and 12 Included in the Company's Proxy
Statement to be filed with the
Securities and Exchange Commission
prior to April 30, 1998.
Part III - Certain exhibits listed
in response to Item 13(a) Included in prior filings made under
the Securities Act of 1933, as
amended, and the Securities Exchange
Act of 1934, as amended.
Transitional Small Business Disclosure Format: Yes No X
----- -----
2
<PAGE>
PART 1
ITEM 1. DESCRIPTION OF BUSINESS
Lukens Medical Corporation (the "Company") was incorporated under the laws
of the State of New Jersey on December 27, 1982 and operated under the name
Gyneco, Inc. until 1987 when it was renamed Lukens Corporation -- New Jersey. On
April 27, 1988, the Company reorganized in the State of Delaware by merger with
and into its Delaware wholly-owned subsidiary, Lukens Medical Corporation. All
references to the Company herein include the operations of the Company's
wholly-owned subsidiaries. The Company's executive offices are located at 3820
Academy Parkway North NE, Albuquerque, New Mexico 87109 and its telephone number
is (505) 342-9638.
The Company has been engaged since 1906 in the design, development,
manufacturing and marketing of wound closure products for use in the medical
industry, including, without limitation, suture products and bone wax suture
products include sutures (a product consisting of suture material attached to a
surgical needle) and ligatures (suture material not attached to a surgical
needle). Suture materials are made from silk, catgut and other similar
materials. Bone wax is a product used to temporarily seal severed bones during
surgery. The Company markets its products for general surgery applications,
including for use in oral and veterinary surgery, and for specialty surgery
applications, including for use in plastic, ophthalmic and cardiovascular
surgery.
In March 1996, the Company, through a wholly-owned subsidiary, acquired
assets constituting the following three product lines of Ulster Scientific, Inc.
("Ulster") of New Paltz, New York (the "Ulster Acquisition"): (i) lancets,
including needles and accessories, (ii) dispettes and (iii) infection control
kits (collectively referred to herein as the "Ulster Product Lines"). Lancets
are finger-prick devices used to draw small amounts of blood, primarily to test
glucose levels. Dispettes are disposable diagnostic devices used primarily in
physicians' offices to test blood. Infection control kits contain various items
used in medical and scientific facilities to clean up blood and other bodily
fluid spills. Approximately 30% of the Company's revenues for the fiscal year
ended December 31, 1997 are attributable to the sale of such products. For a
further description of these Ulster Product Lines, see "Ulster Product Lines."
In January 1997, the Company entered into a new joint venture with certain
of its international distribution partners to manufacture hypodermic needles,
and other medical products for distribution worldwide (the "India Joint
Venture"). As part of the transaction, the joint venture acquired a modern,
fully-equipped 22,000 square foot plant in the Cochin Export Zone in Southern
India. See "India Joint Venture."
In May 1997, the Company acquired a new subsidiary, Pro-Tec Containers,
Inc. ("Pro-Tec") of Sanford, Florida (the "Pro-Tec Acquisition"). Pro-Tec
manufactures and markets a line of sharps disposal containers which are used by
health care providers for safe disposal of used "sharps," such as hypodermic
needles, scalpels, blades, lancets, and suture needles (the "Pro-Tec Product
Lines"). Approximately 8% of the Company's revenues for the fiscal year ended
December 31, 1997 are derived from the sale of such products. For a further
description of these Pro-Tec Product Lines, see "Pro-Tec Product Lines."
Also in May 1997, the Company acquired a 51% interest in its
Brazilian-based distributor, Techsynt, which then changed its name to Techsynt
Lukens Ltd. ("Techsynt"). Techsynt is engaged primarily in the manufacture and
marketing of sutures for the Brazilian market, although it is anticipated that
Techsynt will eventually export sutures to selected other markets worldwide, and
will market certain of the Company's other products where the local market is
suitable. Techsynt did not commence operations until October 1, 1997, and
therefore did not contribute significant revenues or earnings for the fiscal
year ended December 31, 1997.
3
<PAGE>
PRODUCTS
SUTURE PRODUCTS. During 1997, the surgical suture industry represented in
excess of $2.4 billion of the overall disposable surgical product industry,
approximately 60% of which represented the international market and 40% of which
represented the domestic market. Surgical suture products are comprised of two
principal categories: (i) general surgical suture products, and (ii) specialty
surgical suture products. Differentiating the categories are the physical
properties of the surgical needle such as size, sharpness and ductility, the
type of suture material used, as well as packaging and cost. The Company
designs, develops, manufactures and markets suture products for both general and
specialty surgery uses.
The Company's general surgical suture products are comprised of
approximately 250 standard products and approximately 3,000 additional products
which the Company is capable of providing to meet the specifications of
particular surgeons and practitioners. General surgical sutures primarily
include standard needles. The Company designs, develops, manufactures and
markets suture products that cover a broad spectrum of surgical categories,
including, without limitation, general, ob-gyn, urology, orthopedic, oral and
veterinary surgery, all of which generally utilize the same types of needles and
suture materials. The Company markets and sells its full line of general
surgical suture products worldwide. See "Sales, Marketing and Customers."
The Company's specialty surgical suture products consist of an innovative
line of laser-drilled needles and suture materials for use in the areas of
plastic, ophthalmic, cardiovascular and oral surgery. One major advantage to the
specialty surgeon of utilizing a drilled needle stems from the manner in which
the suture material is attached to such a needle. When suture material is
attached to many standard needles, the back end of the needle is sliced open,
the suture is placed in the opened portion of the needle and the metal is then
crimped together (referred to as "channel swaging") to hold the suture material
in the needle. Over the years, specialty surgeons have recognized that one of
the major problems with such sutures is that the crimped end of the needle
becomes larger in diameter than the rest of the needle, creating a larger hole
in the tissue than is required. Laser-drilled needles offer a significant
improvement to the standard method. Because the Company's specialty needles are
laser-drilled, as opposed to sliced open, there is no bulge at the end of the
needle when the suture material is inserted and crimped into place. During the
laser drilling process, the excess metal is removed from the needle. In
addition, because the distortion of the remaining metal is minimal, as compared
to the standard process, the end of the laser-drilled needle is not as prone to
breakage or snapping. See "Production and Quality Assurance."
Laser-drilled needles are manufactured for the Company by independent
suppliers in accordance with the Company's specifications using 300 Series
stainless steel, an alloy which is more corrosion resistant than the materials
from which standard needles are generally made. This special alloy of stainless
steel also enables the Company's needles to remain sharper than standard needles
after repeated passes through tissue. In addition, as a result of using the 300
Series stainless steel, the Company's laser-drilled needles are also less
brittle and more ductile than standard needles. The Company relies on the
confidential treatment of its proprietary needle design specifications by its
suppliers. See "Suppliers," "Competition" and "Patent and Proprietary Rights."
The Company markets and sells its full line of specialty surgical products
worldwide. See "Sales, Marketing and Customers."
BONE WAX. The Company believes it is one of only three companies in the
United States that sells, and has the approval of the Food and Drug
Administration (the "FDA") to manufacture and market, bone wax. Bone wax is used
to temporarily seal severed bones during surgery. The Company manufactures its
bone wax primarily from bees wax. Although the total worldwide bone wax market
is relatively small (estimated by the Company to be approximately $7 to $10
million annually), gross margins in this area are relatively high. The Company
sells bone wax worldwide.
ULSTER PRODUCT LINES
The Company's Ulster Product Lines are as follows:
LANCETS, NEEDLES AND ACCESSORIES. The Company markets a broad range of
blood lancet-type devices, including general purpose style, safety style and
automatic single-use style. The target markets for lancets
4
<PAGE>
include hospitals, nursing homes, doctors' offices, industrial establishments
and the home-use market. Blood lancing-type devices are used for several
purposes, including routine lab testing, diabetic monitoring, and cholesterol
monitoring.
DISPETTES. Dispettes are disposable diagnostic devices used for
sedimentation rate testing of blood and are a more affordable alternative to the
expensive automated blood testing labs. Because dispettes are convenient, easy
to use, and relatively inexpensive to purchase, the primary market for these
products are small medical clinics and individual physician practices. As
sophisticated blood testing technology in the United States continues to become
more prevalent, the use of dispettes is expected to gradually diminish. The
Company intends to expand the marketing of this product internationally where
access to sophisticated blood analysis technology is more limited.
INFECTION CONTROL KITS. Infection control kits contain various items used
in medical and scientific facilities to clean up blood and other bodily fluid
spills. The infection control clean-up kits are marketing by the Company under
the "BASKIT" name. Under the Occupational Safety and Health Act (OSHA), safety
spill clean up kits, such as the one marketed by the Company, are required to be
maintained in any facility working with blood and other bodily fluids,
including, without limitation, hospitals, laboratories, doctors offices and
ambulances.
With the exception of certain raw materials produced in the Company's
Indian facility (see India Joint Venture), the Company does not manufacture any
of the products in the Ulster Product Lines. The Company purchases these
products under agreements with certain suppliers and, following sterilization
and packaging, resells the products to other medical supply distributors and
end-users. See "Suppliers."
PRO-TEC PRODUCT LINES
In May 1997, in connection with the Pro-Tec Acquisition, the Company
acquired and began selling the products in the Pro-Tec Product Lines. The
Pro-Tec Product Lines consists of sharps disposal containers which are used by
health care providers for safe disposal of used "sharps," such as hypodermic
needles, scalpels, blades, lancets, and suture needles. These products are
available in a variety of sizes and configurations to suit both the
hospital-based and office-based healthcare market segments. All of the products
in the Pro-Tec Product Lines are manufactured and shipped by outside
contractors.
NEW PRODUCTS
In September 1997, the Company began marketing a device known as an aortic
punch, a product which is used by cardiovascular surgeons in performing bypass
procedures. The device has several unique patented features which enable the
surgeon to more easily perforate the aorta prior to connecting a new blood
vessel. The Company estimates that the worldwide market for this product is
approximately $7 million. The Company has begun domestic distribution of this
product through manufacturers' representatives. Due to the product being
launched late in the year and the relatively long sales cycle, sales of the
aortic punch contributed less than 1% to the Company's revenues during 1997.
Also in the fourth quarter, the Company introduced a product called
"Sed-Control," which can be used in conjunction with the Company's dispettes to
verify the accuracy of the test. This product has met with very limited success
due, in the Company's opinion, to its relatively short shelf life, the lack of
regulatory requirements to utilize such a control, and heavy price competition
from other suppliers of such controls. The Company does not anticipate that this
product will generate substantial revenues in the future.
INDIA JOINT VENTURE
In January 1997, the Company entered into a new joint venture to
manufacture hypodermic needles, syringes and other medical products for
distribution worldwide. As part of the transaction, the joint venture acquired a
modern, fully-equipped 22,000 square foot plant in the Cochin Export Zone in
Southern India. The new subsidiary, Lukens Medical Products Private Ltd., is a
joint venture between the Company and certain of its international distribution
partners. The Company is the majority shareholder, and manages the operations,
with all partners
5
<PAGE>
contributing to the marketing of the products. Production began in November 1997
of lancet wires, also called lancet needles, which prior to being manufactured
in-house, were the most costly component in the lancets marketed by the Company.
It is anticipated that certain other disposables, such as syringes and
hypodermic needles will be manufactured in the facility by the end of 1998.
BRAZIL JOINT VENTURE
In May 1997, the Company acquired a 51% interest in its exclusive
distribution in Sao Paulo, Brazil. The Company plans to expand the venture's
existing suture manufacturing capacity, and begin producing its new, synthetic
absorbable sutures in Brazil. Eventually the Brazil Joint Venture will export
sutures to many of the Company's international markets. Currently, Brazil has a
staff of 11 engaged primarily in suture production, and markets via tenders and
a network of several independent sales representatives. Techsynt operates in a
5,000 square foot leased facility in Sao Paulo, Brazil.
SALES, MARKETING AND CUSTOMERS
PRODUCT SALES. The Company's principal means of selling its products has
been through independent distributors that have entered into either exclusive or
non-exclusive arrangements with the Company. Such arrangements have involved the
grant by the Company of exclusive or semi-exclusive rights to sell specific
products or product lines in particular geographic territories. Such agreements
generally contain specified minimum sales levels required in order for the
distributor to maintain exclusivity, as well as provisions requiring the
distributors to participate in trade shows and conventions in their respective
territories in order to promote the Company's products.
MARKETING STRATEGY. The Company's domestic strategy with respect to its
suture products is to focus its marketing energies on its general and specialty
surgical products which are used by doctors and practitioners primarily outside
of a hospital (i.e., in doctors' offices, dentists' offices, veterinary clinics
and outpatient plastic and ophthalmic surgical centers), and where purchasing
decisions are made outside of the large hospital and institutional environment.
To this end, the Company aggressively markets in the United States its dental
and veterinary general surgical suture products and its plastic specialty
surgical suture products. The Company also continues to market and sell its line
of general and specialty surgical products to selected markets internationally,
where it is better able to compete solely as a quality, low-cost supplier to the
foreign hospital and institutional market. As a result of the recent receipt by
the Company of approval from the FDA to begin marketing its synthetic absorbable
suture product for human use, the Company believes that its ability to compete
in parts of the worldwide suture market will be enhanced.
In the third quarter of 1997, the Company refocused its international
marketing strategy to limit its product offerings to higher margin products and
regions. As a result, the Company reduced its standard suture product line to
include only approximately 250 catalog codes (down from approximately 750) and
intends to de-emphasize and even abandon certain international markets. In
connection with this new strategy, in December 1997, the Company wrote-off
approximately $3,030,000 worth of inventory consisting of these discontinued
catalog codes. See "Item 6. Management's Discussion and Analysis of Operations."
While the Ulster Product Lines and the Pro-Tec Product Lines are currently
marketed entirely in the United States, the Company intends to launch certain of
these products internationally in 1998 and 1999.
The Company currently has a domestic staff of five employees engaged in
direct sales, telemarketing and direct mail promotion of general surgical suture
products and bone wax products worldwide, as well as providing marketing support
to the Company's specialty and general suture distributors. In addition, the
Company has a four person sales staff and a team of eight manufacturer's
representatives responsible for selling all the Company's products in the United
States.
CUSTOMERS. The primary customers for the Company's suture products are its
distributors, who then resell the products to end users, generally under their
own brand names. The Company sells its products directly to certain foreign
governments and is also a party to exclusive agreements with distributors in a
number of foreign countries, including South Africa, Honduras and Italy and
non-exclusive agreements in Costa Rica and Saudi Arabia
6
<PAGE>
for the sale of its general surgery products (as well as certain of the
Company's specialty products) primarily under the "Lukens' name. Customers of
the Ulster Product Lines primarily include large medical and laboratory product
distributors, as well as mail order diabetic supply houses.
RESEARCH AND DEVELOPMENT ACTIVITIES
During 1996, the Company's research and development efforts were focused on
finalizing its FDA submission for a braided synthetic absorbable suture product.
The Company received clearance from the FDA in February of 1997 to market its
synthetic absorbable suture product for human use. The Company released its
braided synthetic absorbable suture product to the human market in April of
1997. See "Government Regulations." The current Research and Development
activities of the Company are focused on the development of a monofilament
synthetic absorbable suture, the new products to be manufactured by the India
Joint Venture, and ongoing improvements to the Company's product line. The
Company does not expect to expend significant funds on research and development
activities in 1998.
PRODUCTION AND QUALITY ASSURANCE
The Company's manufacturing operations for the production of surgical
sutures generally consist of joining surgical needles with suture material and
packaging the finished suture product. The Company's general surgical suture
production operations are primarily conducted in Juarez, Mexico pursuant to an
agreement whereby a maquiladora conducts manufacturing and assembly operations
for the Company's benefit, with the Company supplying all parts, components,
materials, machinery and equipment and bearing all labor costs. In addition, a
number of the Company's suture products are also produced at its facility in
Albuquerque, New Mexico. Suture production and packaging operations are
extremely exacting and labor intensive processes. Because of the extensive range
of possible needle/suture material combinations and the large number of
short-run, special orders which must be filled, it is not economically feasible
to automate the predominant portion of the Company's production activities. Most
must instead be done by hand by highly-trained employees.
Materials (i.e., needles and "suture materials") which comprise the suture
products are purchased from a number of vendors. Upon their receipt by the
Company, all materials are subject to inspection by the Company's quality
assurance staff. Tests conduced by the Company's quality assurance staff include
visual inspection as well as physical tests. Conformity with the Company's
specifications is of prime importance and one of the staff's goals is to detect
non-conforming components prior to assembly and packaging. Upon approval,
needles and suture materials are released to storage areas for pre-processing
preparation and subsequent assembly.
Although many suture products consist solely of the "thread" (e.g., silk,
catgut or other materials), most consist of suture material which has been
attached to one or two needles. Braided suture materials (e.g., silk) used in
the Company's products undergo "tipping," a process which creates a hardened tip
on the end of the suture material to facilitate the attachment of the material
to the needles. The attaching process, known as "swaging", is a critical step in
the Company's production process, with the minimum strength of the attachment
prescribed by the U.S. Pharmacopeia. The attaching process is largely performed
by individuals operating small, pedal activated machines which form the metal of
the needle around the thread, crimping the two together. After swaging, the
completed sutures are wound by hand onto small cards and then packaged according
to suture type and intended use. Packaged and boxed sutures are either delivered
to subcontractors for sterilization, or, in the case of synthetic absorbable and
certain other sutures sterilized in-house. After sterilization, the products are
returned to the production department for additional packaging and distribution.
The Company's quality assurance department is responsible for in-process and
post-production analyses of all of the Company's products. Quality assurance is
supported through the use of both manual and computerized systems to provide
traceability of product batches and track each stage of the production process.
The Company's production and quality assurance operations must comply with the
FDA's current GMP regulations and are subject to periodic FDA inspection. See
"Government Regulations."
The production of bone wax entails the preparation of the beeswax-based
product at the Company's New Mexico facility, where it is packaged and sent to
subcontractors for sterilization by gamma radiation. The products in the Ulster
Products Lines are largely purchased in finished condition and do not involve
extensive
7
<PAGE>
processing by the Company. The products in the Pro-Tec Product Lines are
produced, and shipped directly to the Company's customers, by contract
manufacturers utilizing the Company's molds. The hypodermic needles, syringes
and related medical products to be produced by the India Joint Venture will be
manufactured and molded at the facility acquired by the joint venture.
SUPPLIERS
The Company's specialty needles are currently manufactured to the Company's
specifications by two independent overseas vendors. The Company's general
surgery needles and its suture materials are supplied by a number of independent
manufacturers. The Company believes that there are a number of alternative
sources for all of such products and product components. Further, while the
Company relies upon confidentiality agreements with its suppliers of specialty
needles to protect its particular proprietary needle design and specifications,
specialty needles are not proprietary to the Company and the Company's
arrangements with its suppliers of specialty needles are not exclusive. See
"Competition."
While the Company manufactures its newly approved synthetic absorbable
suture products, it purchases the synthetic absorbable suture threads used in
these products from third-party suppliers. While these materials are currently
available upon commercially reasonable terms, any disruption of the supply of
these materials could have an adverse impact upon the ability of the Company to
produce its synthetic absorbable suture line.
In connection with the Ulster Acquisition, the Company entered into two new
exclusive supply arrangements with the principal suppliers of certain of the
products in the Ulster Product Lines. The supply agreement with Guest Elchrom
Scientific AG, relating to the dispette products, entitles the Company to act as
such supplier's exclusive distributor of such products in the United States. The
Company's supply agreement with Korea Techma, Inc., relating to the automatic
single-stick lancet sold under the "Gentle-let 1" tradename, also entitles the
Company to act as such supplier's exclusive distributor in the United States.
The other products in the Ulster Product Lines are purchased by the Company on a
purchase-order basis from various other suppliers. In general, the molds
utilized by such suppliers in the manufacture of the other products in the
Ulster Product lines are not proprietary to the Company and the Company's
arrangements with such suppliers are not exclusive.
The products in the Pro-Tec Product Line are all molded by outside contract
manufacturers, who also ship the products directly to the Company's customers
which saves the Company shipping and warehousing expense. The Company uses three
primary vendors for molding, and holds title to all of its molds.
COMPETITION
For the past 40 years, the global suture market has been dominated by a
small number of companies, primarily Ethicon, Inc. ("Ethicon"), a wholly-owned
subsidiary of Johnson & Johnson, Inc., and Sherwood Davis & Geck, a division of
American Cyanamid Company. In addition, there are several small national firms
and regional suppliers of suture products with which the Company competes in
both the general surgery and specialty surgery markets. In 1992, United States
Surgical Corporation ("USSC") entered the market with a full line of general and
specialty surgery products. USSC is currently the world's leading manufacturer
and marketer of surgical staplers and endoscopic instruments and supplies and
they are beginning to gain market share.
The Company believes that the extensive experience of its management group,
its access to an abundant and skilled labor pool, and its economical
manufacturing operations have enabled the Company to position itself as a
quality, low-cost supplier of general and specialty surgery suture products to
the foreign hospital and institutional market, and thus to compete in the sale
of such products on the basis of price. The Company currently markets
approximately 250 products for use in general surgical procedures, and has the
capability and know-how to manufacture approximately 3,000 additional products
in order to meet the specifications of particular customers. With the addition
of the Company's new synthetic absorbable suture line, the Company's product
line offerings are comparable to those offered by Ethicon, Davis & Geck and
USSC. The Company believes that its ability to remain a low-cost producer of
general and specialty surgical suture products in certain international markets
and its focus on
8
<PAGE>
the dental and veterinary surgical suture markets, as well as certain specialty
niches in the United States will be important to its ability to remain
competitive with the larger and better capitalized competitors in these markets.
With respect to the Ulster Product Lines, in the lancet and needle market,
the Company has essentially four major competitors: Sherwood Medical Company,
Owen Mumford, Ltd., Gainor Medical U.S.A., Inc. and Can-Am Care Corporation. LP
Italiana SpA and Polymedco are considered the Company's only competitors in the
dispette market. The Company believes the following four criteria, listed in
order of priority, influence market share: price, availability, customer
relationships and a well rounded product line. The Company hopes to capitalize
on Ulster's twenty years of experience in the market and its existing client
base, augmented by the Company's international presence, to compete effectively.
However, the Company's competitors in this area are larger, better capitalized
and maintain larger sales forces than the Company and are therefore formidable
competitors.
With respect to the Pro-Tec Product Lines, the Company has essentially
three major competitors: Sage Products, Inc., Graphic Controls, Inc. and
Becton-Dickinson, Inc. The Company believes that this market is influenced
primarily by price and complacency. The fact that these products are often
physically attached to walls and fixtures, there is sometimes resistence to
switching among competing brands. The Company believes that its ability to
provide a low-priced product, combined with a nearly identical customer base for
its Ulster Product Lines, will enable it to effectively compete in this market.
However, the Company's competitors in this area are larger, better capitalized
and maintain larger sales forces than the Company and are therefore formidable
competitors.
GOVERNMENT REGULATIONS
The Company's products and operations are subject to regulation by the FDA
in the United States and by comparable regulatory agencies in certain foreign
countries. Under the Federal Food, Drug and Cosmetic Act (the "FD&C Act"), the
FDA has promulgated regulations and established guidelines and policies
governing "medical devices", including certain of the products sold by the
Company. Under these regulations, the Company's products may not be shipped in
interstate commerce (including export) without prior authorization from the FDA
(except any devices that were in commercial distribution prior to May 28, 1976
that were not then regulated as drugs and that have not changed since that
time). Such authorization is based on a review of the products' safety and
effectiveness for their intended use. Medical devices may be authorized by the
FDA for marketing either pursuant to a pre-market notification under Section
510(k) of the FD&C Act ("510(k)") or a pre-market approval application ("PMA").
A 510(k) consists of a submission, 90 days prior to planned marketing, of
information sufficient to establish that the device is substantially equivalent
to a device marketed prior to May 28, 1976 or a device substantially equivalent
to such a device. Such information normally consists of data comparing the
respective devices, and may include data from clinical studies. A finding by the
FDA of substantial equivalence may take significantly longer than 90 days. A PMA
consists of information sufficient to establish that a device is safe and
effective for its intended use, including data from clinical and other studies.
FDA approval of a PMA, may take as long as several years. Whether a product
requires a 510(k) or a PMA, depends on its classification under the law and FDA
regulations. Most of the Company's products require 510(k)s, although certain
products which the Company may develop in the future might require a PMA. In
addition, the testing of medical devices through clinical investigations
generally requires FDA authorization.
The Company believes that it currently has in place all the requisite
authorizations to market its current line of products, including nine PMAs and
sixteen 510(k)s. The Company's current line of suture products includes all of
the major suture materials that are marketed in the United States. The Company
believes that all of its current suture and non-suture products are covered by
its PMAs and 510(k)s, or are otherwise legally marketed, and that, in view of a
reclassification of suture products by the FDA, those products for which the
Company has PMAs now require only 510(k)s; however, there is no assurance that
the FDA would agree with these positions.
The Company is subject to additional requirements under the FD&C Act,
including registration, recordkeeping and reporting requirements. In addition,
the FDA regulates the promotion of medical devices (except for advertising for
non-restricted devices which is regulated by other authorities), in particular
to ensure that devices are promoted within the terms of their authorized
labeling guidelines. The Company's manufacturing operations must comply with the
FDA's current GMP regulations and are subject to periodic FDA inspection.
9
<PAGE>
Commencing on June 14, 1998, all medical devices imported into Europe must
bear the CE mark. To begin affixing the CE mark to its products, a company must
have implemented a quality management system in accordance with ISO 9001 Quality
Standard requirements and have its products approved by an appropriate Notified
Body. While less than 5% of the Company's revenues are generated in Europe, the
Company sees potential for growth in this market, as well as other benefits of
ISO approval. Accordingly, the Company is currently in the process of formal ISO
third-party registration of its quality system and is also preparing for
submission the necessary technical dossiers for the relevant products to be CE
marked.
Future changes in regulations or enforcement policies could impose more
stringent requirements on the Company, compliance with which could adversely
affect the Company's business. Failure to comply with applicable regulatory
requirements could result in enforcement action, including withdrawal of
marketing authorization, injunction, seizure of products, and liability for
civil and/or criminal penalties.
PATENTS AND PROPRIETARY RIGHTS
The Company considers its technology and procedures relating to its suture
lines proprietary and relies primarily on trade secret laws and confidentiality
agreements to protect its technology and innovations. Employees, distributors
and key suppliers of the Company, as well as consultants which from time to time
may be hired, enter into confidentiality and/or invention assignment agreements
providing for non-disclosure of proprietary and trade secret information of the
Company and the assignment to the Company of all inventions, improvements,
technical information and suggestions relating in any way to the business of the
Company (whether patentable or not) which the employee or consultant develops
during the period of their employment or association with the Company. Despite
these restrictions, it may be possible for competitors or customers to copy one
or more aspects of the Company's products or obtain information that the Company
regards as proprietary. In addition, consultants of the Company will most likely
be employed by third parties, and accordingly, disputes could arise as to the
proprietary rights to information which has been applied to Company projects
independently developed by such consultants.
Furthermore, there can be no assurance that others will not independently
develop products similar to those sold by the Company.
The Company owns one United States patent relating to its cardiovascular
product packaging and has filed one additional patent application with the
United States Patent and Trademark Office relating thereto. The Company is also
licensed under a patent for the coating of synthetic absorbable sutures. In
addition, in connection with the Ulster Acquisition, the Company acquired the
rights to a patent covering a mold used in the production and component of the
BASKIT product and various trademarks and trademark applications relating to the
products in the Ulster Product Lines.
In connection with the Pro-Tec Acquisition, the Company acquired several
patents and trademarks related to the sharps containers and Pro-ject needle
holder. While the Company may seek patent protection in the future for new
products, there can be no assurance that any patents, or patents which may be
issued, will provide the Company with sufficient protection in the case of an
infringement of its technology or that others will not independently develop
technology comparable or superior to the Company's.
Although the Company believes that the products sold by it do not and will
not infringe upon the patents or violates the proprietary rights of others, it
is possible that such infringement or violation has occurred or may occur. In
the event that any products sold by the Company are deemed to infringe upon the
patents or proprietary rights of others, the Company could be required to modify
its products or obtain a license for the manufacture and/or sale of such
products. There can be no assurance that, in such an event, the Company would be
able to do so in a timely manner, upon acceptable terms and conditions or at
all, and the failure to do any of the foregoing could have a material adverse
effect upon the Company.
The Company has acquired a registered trademark for the "Lukens" name. The
Company believes that this name, established in 1906, is important to its
business and prospects. In connection with the Ulster Acquisition and the
Pro-Tec Acquisition, the Company acquired all rights to the trademarks and
tradenames used in
10
<PAGE>
connection with the sale of the products in those lines. The Company has also
obtained a perpetual, non-exclusive, license to use the name "Ulster Scientific"
in connection with the sale of the products in the Ulster Product Lines.
PRODUCT LIABILITY AND INSURANCE
The use of the Company's products entails an inherent risk of medical
complications to patients and resultant product liability claims. While the
Company presently maintains product liability insurance in the amount of $2
million per occurrence and in the aggregate which it believes is adequate for
its current activities, there can be no assurance that the Company will be able
to obtain such insurance in the future or that such insurance will be sufficient
to cover all possible liabilities. In the event of a successful suit against the
Company or one of its customers, lack or insufficiency of insurance coverage
could have a material adverse impact on the Company. To date, the Company has
had no material product liability claims.
EMPLOYEES
At March 13, 1998, the Company worldwide had 201 employees (including 67
contract employees and 134 full time employees), of which 177 were engaged in
production, 2 in development activities, 11 in sales and marketing and 11 in
finance and administration. The Company's employees are not covered by any
collective bargaining agreement. The Company considers relations with its
employees to be good.
ITEM 2. DESCRIPTION OF PROPERTY
On July 1, 1996, the Company relocated its principal offices and certain of
its production facilities to, and now occupies, approximately 17,000 square feet
of space in Albuquerque, New Mexico which is leased by the Company (the
"Facility"). Rental payments on the Facility are equal to $10,000 per month. The
term of the lease expires on August 31, 2001, with two, two-year renewal
options. Management believes that the Facility is in good condition, is suitable
and adequate for the Company's current and proposed use thereof and is
adequately covered by insurance.
In connection with the Ulster Acquisition, the Company leased Ulster's
25,000 square foot warehouse and office facility in New Paltz, New York for a
period of one year, at a rent equal to $12,500 per month. Such lease expired in
March, 1997. In 1996, the Company relocated the Ulster Product Lines to the
Facility in Albuquerque, New Mexico.
The Company currently leases a 5,000 square foot warehouse and office
facility in Sanford, Florida at a rent equal to $2,600 per month from which it
sells its products in the Pro-Tec Product Lines. Such lease expires in March,
2001. Management believes that such facility is in good condition, is suitable
and adequate for the Company's current and proposed use thereof and is
adequately covered by insurance.
See "Item 1. Description of Business, India Joint Venture," for a
description of the joint venture which owns a production facility utilized by
the Company in Southern India. Since the facility is located in an export zone,
the India Joint Venture leases the site from the zone at a nominal rate per
year.
See "Item 1. Description of Business, Brazil Joint Venture" for details on
the leased properties occupied by these entities.
ITEM 3. LEGAL PROCEEDINGS.
The Company is not a party to any material legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None
11
<PAGE>
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Company's Common Stock has been quoted on the National Association of
Securities Dealers Automated Quotation ("NASDAQ") system under the symbol "LUKA"
since May 6, 1992. The Common Stock has also been listed on the Pacific Stock
Exchange under the symbol "LKN" since May 6, 1992.
The following table sets forth the range of high and low bid prices for the
Common Stock for the periods indicated, as reported by NASDAQ, the principal
system or exchange on which such securities are quoted or traded. The quotations
represent "inter-dealer" prices, without retail mark-up, mark-down or
commission, and may not necessarily represent actual transactions.
<TABLE>
<CAPTION>
Common Stock
Fiscal Year Ending Fiscal Year Ending
December 31, 1997 High ($) Low ($) December 31, 1996 High ($) Low ($)
- ----------------- -------- -------- ----------------- -------- -------
<S> <C> <C> <C> <C> <C>
Quarter ended Quarter ended
March 31, 1997 8 3/4 4 1/2 March 31, 1996 3 11/16 1 7/16
Quarter ended Quarter ended
June 30, 1997 6 3/4 5 1/2 June 30, 1996 3 5/16 2 5/8
Quarter ended Quarter ended
September 30, 1997 6 1/8 3 3/4 September 30, 1996 3 9/16 2 9/16
Quarter ended Quarter ended
December 31, 1997 5 1/4 1 1/2 December 31, 1996 4 9/16 3
</TABLE>
As of March 25, 1998, there were approximately 82 holders of record of the
Company's Common Stock.
On March 25, 1998, the closing bid and asked prices of the Common Stock
were $3-1/4 and $3-3/8, respectively.
The Company has never paid a cash dividend on its capital stock and does
not anticipate that it will declare or pay cash dividends in the foreseeable
future as earnings are expected to be retained to finance the company's growth.
The Company's loan agreement with its bank contains restrictions on the payment
of dividends. Subject to then existing loan agreements, declaration of dividends
in the future will remain within the discretion of the Company's Board of
Directors, which will review its dividend policy from time to time.
CHANGES IN SECURITIES
On December 1, 1997, the Company issued to Robert Priddy, the Company's
Chairman, options to purchase 300,000 shares of the Company's Common Stock at an
exercise price of $4.00 per share. Such options vest in equal installments of
100,000 shares each on the date of grant and the first and second anniversaries
thereof. The option expires on the earlier to occur of December 1, 2000 and
thirty days after Mr. Priddy is no longer of director of the Company. Such
option was issued from the shares reserved for issuance under the Company's 1992
Stock Option Plan which is registered pursuant to a Registration Statement on
Form S-8.
12
<PAGE>
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATIONS.
RESULTS OF OPERATIONS
FISCAL YEAR ENDED DECEMBER 31, 1997 ("1997") COMPARED TO FISCAL YEAR ENDED
DECEMBER 31, 1996 ("1996").
Sales increased 5% to approximately $8.6 million during 1997 from
approximately $8.2 million during 1996, primarily as a result of the Pro-Tec
Acquisition. Domestic sales of sutures primarily in the dental and veterinary
market in 1997 were approximately even with sales in 1996. Anticipated sales
growth in the veterinary market as a result of the introduction of the
monofilament synthetic absorbable suture was not realized in 1997 due to
production problems experienced by the Company's supplier of suture material.
The Company believes that these supply problems have been remedied. The
Company's export sales in 1997 and 1996 totaled $1,651,451 and $2,295,066,
respectively, which represents 19% and 28% of total sales in each of those
years, respectively.
The Company's gross margins decreased slightly, from 29% in 1996 to 28% in
1997. Gross Margins for 1997 were negatively impacted by a repricing of
inventory at December 31, 1997. Such repricing is reflected in the Audited
Financial Statements as an inventory cost reduction totaling approximately
$770,000. The Company expects that gross margins in its most rapidly growing
product line, lancets, will improve in the second quarter of 1998 due to
in-house manufacturing of needles (the most expensive component) at its new
facility in Cochin, India. The Company also expects overall margins to increase
in 1998 as the suture sales mix shifts from the lower priced international
markets to the more lucrative OEM domestic markets, and due partially to the
addition of the Pro-Tec Product Lines which typically carry a higher gross
margin than the Company has experienced historically.
Selling expenses increased 51% in 1997 from $716,042 in 1996, to
$1,087,171, as a result of increases in the number of employees required to sell
and service the Pro-Tec and Ulster Product Lines, increased marketing expenses
relating to the Ulster Product Lines, such as convention and literature
expenditures, and charges for uncollected commissions and an increase in the
reserve for uncollectible accounts receivable.
General and administrative expenses increased approximately 33% to
$1,286,938 in 1997 compared to $965,180 in 1996, due mainly to the amortization
of the costs incurred in connection with the joint ventures, the Pro-Tec
Acquisition and the development costs related to the synthetic absorbable
suture.
Research and development expenses decreased approximately 35%, to $70,386
in 1997 compared to approximately $108,594 in 1996, due primarily to the
finalization of the synthetic absorbable suture development project. The Company
does not expect to expend significant funds on research and development
activities in 1998.
In connection with the Company's refocused international marketing
strategy, and as a result of the inventory cost reduction described above, in
December 1997 the Company wrote off approximately $3,032,000 of inventory
consisting of discontinued catalog codes and expired inventory, which included
approximately $300,000 of inventory relating to the Company's "Sed-Control"
product. The resulting aggregate inventory write-off and repricing in December
1997 was equal to approximately $4,100,000 (the "Inventory Writeoff"). As a
result of the Inventory Writeoff, and increased expenses described above, the
Company experienced an operating loss of approximately $3,400,000 for the year
ended December 31, 1997.
Interest income was $5,000 in 1997 compared to $6,000 in 1996. Interest
expense increased to approximately $433,000 in 1997 from approximately $198,000
in 1996 due primarily to the additional debt incurred relating to the India and
Brazil Joint Ventures, and the Pro-Tec Acquisition.
As result of the Inventory Writeoff, increased expenses and the other
income adjustments referred to above, the Company experienced a net loss of
$3,768,018 for the year ended December 31, 1997 compared to a net profit of
$463,481 for the year ended December 31, 1996. Without giving effect to the
Inventory Writeoff, the Company experienced a net profit of $334,262 for the
year ended December 31, 1997.
13
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary capital needs have been to fund the working capital
requirements created by its sales growth and to make acquisitions.
Bank Financing. As of December 31, 1997, the Company had drawn all of its
$1,750,000 working capital portion of its line of credit with its lending bank
(the "Line of Credit"). The Line of Credit also includes an additional
$1,250,000 commitment for the issuance of standby and commercial letters of
credit. On that date, approximately $758,704 in letters of credit were
outstanding under this letter of credit commitment. The Line of Credit matures
and expires on August 30, 1998 unless it is renewed, and all outstanding amounts
are due and payable on such date. The Company expects the Line of Credit to be
renewed for an additional year prior to its expiration. There can be no
assurances, however, that such a renewal will be forthcoming, or, if available,
will be on terms acceptable to the Company.
As of December 31, 1997, the Company had approximately $142,000 outstanding
under a working capital line of credit (the "SBA L/C Facility") with the U.S.
Small Business Administration ("SBA"), which provided working capital for
foreign sales up to the lesser of (a) $600,000 or (b) 80% of the face amount of
negotiated letters of credit issued for the benefit of the Company and delivered
to the lender. It is the Company's understanding that due to the fact that the
majority of the letters of credit received by the Company from its international
customers did not meet the criteria set forth by the SBA, combined with various
other factors, including the existence of technical financial covenant defaults
under the Line of Credit as a result of the Inventory Writeoff, the SBA declined
to renew this line for 1998 and all outstanding amounts are required to be
repaid as each outstanding letter of credit is drawn upon.
At the same time, during December 1997 and the first quarter of 1998, the
Company has experienced increased sales of certain products, requiring it to
significantly increase its purchases of raw materials necessary to fill such
orders. Due to the decreased liquidity caused by losing the SBA L/C Facility, as
well as the increased outlays for raw materials, the Company has recently
experienced a shortage of working capital. As a result, the Company has recently
experienced difficulties financing its sales growth and has failed to timely pay
certain amounts due under certain term loans granted to the Company by its
lending bank in connection with the Line of Credit. The Company's lending bank
has indicated to the Company that it does not currently intend to accelerate the
indebtedness outstanding under the Line of Credit. No assurance can be given
that the Company's lending bank will not hereafter accelerate the indebtedness
due under the Line of Credit if the Company's payment default is not cured in a
timely manner.
The Company is currently seeking to renegotiate its financial covenants in
the Line of Credit to remove the existing technical covenant defaults. There can
be no assurance given that the Company will successfully renegotiate its
financial covenants or cure the payment default under certain of its term loans.
In any such case, in the event that the Company's lending bank decides to
accelerate all amounts payable under the Line of Credit, there can be no
assurance given that the Company would be able to refinance or repay such
indebtedness. Additionally, no assurance can be given that the Company will be
able to increase its liquidity, either through increased availability under its
lines of credit or internally generated cash flow, to enable it to continue to
fund its growth.
To fund future acquisitions and joint ventures, the Company is reliant upon
obtaining long-term borrowing and/or equity financing. Management believes that
the Company will have access to the capital resources necessary to continue to
fund such expansion, although there is no assurance that such financing will be
available or, if available, will be on terms acceptable to the Company. For a
more complete description of the Company's current credit facilities, see Note 5
to Notes to Consolidated Financial Statements.
Stockholder Loans. On February 28, 1997, the Company entered into an
agreement with John H. Robinson and Robert L. Priddy, each a director and
substantial stockholder of the Company, whereby Messrs. Robinson and Priddy
loaned the Company an aggregate of $1,000,000. Such loans bear interest at the
rate of 10% per annum,
14
<PAGE>
are repayable on or before January 1, 1999 and are subordinated to the Line of
Credit. In connection therewith, Messrs. Robinson and Priddy were each issued
warrants to purchase 15,000 shares of Common Stock at an exercise price of $6.25
per share, and warrants to purchase an additional 35,000 shares of Common Stock
at $6.25 per share. See "Item 12. Certain Relationships and Related
Transactions."
In the past, the Company has been reliant upon Messrs. Robinson or Priddy
to finance the costs associated with certain acquisitions and to restructure
certain indebtedness, on terms favorable to the Company. There can be no
assurance the such financing, or other third party debt or equity financing,
will be available in the future or, if available, will be on terms acceptable to
the Company.
OTHER INFORMATION
Sales to the U.S. Government. During 1996, the department of the U.S.
Government responsible for procuring medical supplies, such as sutures, began
purchasing more of such items outside the traditional bid system. The Company
has been successful over the last several years in obtaining substantial awards
under the bid system. The new system, which incorporates local dealers called
Prime Vendors, is less sensitive to price and more sensitive to the impact of a
direct sales force. As a result of the foregoing, since the Company has only a
limited sales force, there can be no assurance that the Company will continue to
meet or exceed its historical levels of sales of its products to the U.S.
Government in the future and during 1997 sales were nominal.
Acquisition of the Pro-Tec Product Lines. For a description of the
consideration paid and payable by the Company in connection with the Pro-Tec
Acquisition, including, without limitation, the Common Stock issued in
connection therewith, see Note 15 to Notes to Consolidated Financial Statements
and the Company's Current Report of Form 8-K filed in connection with the
Pro-Tec Acquisition.
Pro-Tec Stock Price Guarantee. In connection with the Pro-Tec Acquisition,
the Company agreed to guarantee the value of the Common Stock issued to the
former owner pursuant to such acquisition for a period of six months from the
effective date of the Registration Statement on Form S-3 which was filed by the
Company to register the resale of such shares. As a result of the decline in the
price to the Company's Common Stock during such period (and taking into account
certain other adjustments), the Company owes the former owner of Pro-Tec
approximately $300,000, which amount is payable either by the issuance of shares
of the Company's Common Stock or a one-year promissory note. The Company and
such individual are currently negotiating to extend the term of the payment of
this amount. No agreement, however, has yet been finalized and there can be no
assurance given that any such agreement will be reached.
Net Operating Loss Carryforwards. As of December 31, 1997, the Company had
net operating loss carryforwards ("NOLs") of approximately $12,975,000 which
will expire from 1998 through 2010. The deductibility of portion of the NOLs is
subject to an annual limitation of approximately $460,000; the excess of such
annual limitation over the amount to be used in subsequent year until they
expire. See Note 10 of Notes to Consolidated Financial Statements.
Year 2000 Disclosure. The Company believes that its operations will not be
materially disrupted by any problems associated with the "Year 2000" syndrome
after January 1, 2000; however, there can no assurances in this regard.
ITEM 7. FINANCIAL STATEMENTS.
The responses to this item are submitted in a separate section of this
Annual Report on Form 10-KSB. See Index to Consolidated Financial Statements on
page 22.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Not Applicable.
15
<PAGE>
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
WITH SECTION 16(A) OF THE EXCHANGE ACT.
The information required under this item will be set forth in the Company's
proxy statement to be filed with the Securities and Exchange Commission on or
before April 30, 1998 and is incorporated herein by reference.
ITEM 10. EXECUTIVE COMPENSATION.
The information required under this item will be set forth in the Company's
proxy statement to be filed with the Securities and Exchange Commission on or
before April 30, 1998 and is incorporated herein by reference.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required under this item will be set forth in the Company's
proxy statement to be filed with the Securities and Exchange Commission on or
before April 30, 1998 and is incorporated herein by reference.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
For information regarding the recent loans to the Company by John H.
Robinson and Robert L. Priddy, two directors of the Company, and the issuance of
warrants in connection therewith, see "Management's Discussion and Analysis or
Plan of Operations." The other information required under this item will be set
forth in the Company's proxy statement to be filed with the Securities and
Exchange Commission on or before April 30, 1998 and is incorporated herein by
reference.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.
(A) EXHIBITS.
Exhibit No. Description
3.1 Certificate of Incorporation of the Registrant, as amended (1)
3.2 Form of Certificate of Amendment of Certificate of Incorporation
(1)
3.3 Form of Amended and Restated Bylaws of the Registrant (1)
10.1 1988 Amended and Restated Stock Option Plan (1)
10.2 1992 Stock Option Plan (1)
10.3* Exclusive Distributorship Agreement between the Registrant and
Meadox Medicals, Inc. (1)
10.4* Exclusive Distributorship Agreement between the Registrant and
Cottrell Limited (1)
10.5* Exclusive Distributorship Agreement between the Registrant and
Convergenza, as amended (1)
10.6* Exclusive Distributorship Agreement between the Registrant and
HP-medica GmbH (1)
16
<PAGE>
10.7 Business Loan and Security Agreement among the Registrant,
Lukens Corporation - New Mexico and Sunwest Bank of Albuquerque,
N.A., as amended (1)
10.8 Form of Indemnity Agreement (1)
10.9 Employment Agreement between the Registrant and James A. Wimbush
(1)
10.10 Employment Agreements between the Registrant and each of Steven
J. Schroeder, Robert S. Huffstodt, Scott Henderson and Donald E.
Lawson (1)
10.11* Collaborative Development Agreement between the Registrant and
Medisorb Technologies International, L.P. (1)
10.12 Lease for Registrant's facility (1)
10.13 Form of Consulting Agreement between the Registrant and
Commonwealth Associates, Inc. (1)
10.14* Exclusive Distributorship Agreement between the Registrant and
Core Dynamics, Inc. (3)
10.15 Consulting Agreement between the Registrant and Kronenthal
Associates (3)
10.16* Exclusive Patent License Agreement between the Registrant and
Innovative Surgical Technology, Inc. (4)
10.17 Agreement, dated November 19, 1992, between Sunwest Bank and
Albuquerque, National Association, and Lukens Medical
Corporation, a New Mexico corporation, together with promissory
note, as amended, security agreements and mortgages executed
pursuant thereto (5)
10.18* Amendment No. 1, dated as of May 17, 1994, to Exclusive Patent
License Agreement, dated August 9, 1993, between Lukens Medical
Corporation, a New Mexico corporation, and Innovative Surgical
Technology, Inc. (5)
10.19* Manufacturing Agreement, dated May 26, 1994, between the
Registrant and West Texas Engineering, Inc. (5)
10.20* Supply Agreement, dated June 29, 1994, between Lukens Medical
Corporation, a New Mexico corporation, and Farman Companies,
Inc. d.b.a. Veterinary Products Laboratories (5)
10.21 Business Loan and Security Agreement, dated July 27, 1994 (the
"Sunwest Loan Agreement") as amended pursuant to the Third
Amendment thereto, dated as of January 31, 1995, among the
Registrant, Lukens Medical Corporation (a New Mexico corporation
formerly known as Lukens Corporation) and Sunwest Bank of
Albuquerque, N.A., together with promissory notes, guaranty and
security agreements executed pursuant thereto (5)
10.22* Exclusive Distribution Agreement, dated October 7, 1994, between
Lukens Medical Corporation, a New Mexico corporation, and
Dentsply International Inc. (5)
10.23 Amendment No. 3, dated as of November 2, 1994, to 1992 Stock
Option Plan (5)
17
<PAGE>
10.24* Supplier/Distributor Agreement, dated November 14, 1994, between
Lukens Medical Corporation, a New Mexico corporation, and Henry
Schein, Inc. (5)
10.25 Amendment No. 4, dated as of January 3, 1995, to 1992 Stock
Option Plan (5)
10.26 Promissory Note of the Company to John H. Robinson, dated as of
April 13, 1995, in the original principal amount of $400,000;
Commitment letter of John H. Robinson, dated as of April 13,
1995 (5)
10.27 Warrant, dated as of April 13, 1995, granted by Lukens Medical
Corporation, a Delaware corporation, to John H. Robinson
10.28 Lease for the Facility, dated July 14, 1995, between Rio Rancho
Public Schools, as landlord, and Lukens Medical Corporation, as
tenant.
10.29 Fourth Amendment, Fifth Amendment, Sixth Amendment and Seventh
Amendment to the Sunwest Loan Agreement, dated April 10, 1995,
April 28, 1995, July 14, 1995 and December 31, 1995,
respectively.
10.30 Promissory Notes of the Company to Sunwest Bank of Albuquerque,
N.A. relating to certain loans guaranteed by the U.S. Small
Business Administration, in the original principal amounts of
$150,000, $500,000 and $420,000, dated as of October 31, 1995,
October 31, 1995 and February 15, 1996, respectively, and
related Loan and Security Agreements.
10.31 Promissory Note of the Company to John H. Robinson, dated as of
September 11, 1996, in the original principal amount of
$250,000; Promissory Note of the Company to John H. Robinson,
dated as of March 5, 1996, in the original principal amount of
$400,000
10.32 Distribution Agreement, dated as of March 5, 1996, by and
between Guest Elchrom Scientific AG and Lukens Medical
Corporation, a New Mexico corporation
10.33 Agreement of Purchase and Sale of Assets, dated as of March 4,
1996 by and among the Company, Ulster Scientific, Inc. and Peter
F. Lordi, Jr. (6)
10.34 Lease Agreement, dated as of March 5, 1996, between Ulster
Scientific, Inc., a New York corporation, Peter F. Lordi, Jr.
and Lukens Medical Corporation, a New Mexico corporation (6)
10.35 Consulting Agreement, dated as of March 5, 1996, between Peter
F. Lordi, Jr. and Lukens Medical Corporation, a New Mexico
corporation (6)
10.36 Warrant, dated as of March 5, 1996, granted by Lukens Medical
Corporation, a Delaware corporation, to Peter F. Lordi, Jr. (6)
10.37 Lease between Kenneth I. White, as landlord, and Lukens Medical
Corporation, as tenant, dated May 31, 1996 (7)
10.38 Joint Venture/Stockholders' Agreement, dated as of February 21,
1997, between Lukens Medical Products Private Limited and the
stockholders of the company listed on the signature page
thereto. (8)
18
<PAGE>
10.39 Letter Agreement, dated as of February 28, 1997, between Lukens
Medical Corporation and John H. Robinson; Promissory Note of
Lukens Medical Corporation dated as of February 28, 1997 to John
H. Robinson in the amount of $150,000; and Warrant Agreement
between Lukens Medical Corporation and John H. Robinson, dated
as of February 28, 1997 (8)
10.40 Letter Agreement, dated as of February 28, 1997, between Lukens
Medical Corporation and Robert L. Priddy; Promissory Note of
Lukens Medical Corporation dated as of February 28, 1997 to
Robert L. Priddy in the amount of $150,000; and Warrant
Agreement between Lukens Medical Corporation and Robert L.
Priddy, dated as of February 28, 1997 (8)
10.41 Agreement of Merger and Reorganization, dated as of May 12,
1997, by and among Lukens Medical Corporation, Pro-Tec
Containers, Inc., a Florida corporation, Treesa Spencer, and PTC
Merger Corp., a Florida corporation, and the exhibits thereto
(other than those exhibits which correspond to agreements listed
below. (9)
10.42 Consulting Agreement, dated as of May 23, 1997, between Treesa
Spencer and Pro-Tec Containers, Inc., a Florida corporation. (9)
10.43 Non-Transferable Subordinated Promissory Note, dated May 12,
1997, by Registrant to Treesa Spencer. (9)
21 Subsidiaries
23 Consent of Neff & Company
27 Financial Data Schedule
- ----------
(1) These exhibits were filed as exhibits to the Company's Registration
Statement on Form S-1 (File No. 33-46466) and are incorporated herein by
reference.
(2) This exhibit was filed with the Company's Amendment No. 1 to its Current
Report on Form 8-K dated July 17, 1992 and is incorporated herein by reference.
(3) These exhibits were filed as exhibits to the Company's Annual Report on Form
10-KSB for the year ended December 31, 1992 and are incorporated herein by
reference.
(4) These exhibits were filed as exhibits to the Company's Annual Report on Form
10-KSB for the year ended December 31, 1993 and are incorporated herein by
reference.
(5) These exhibits were filed as exhibits to the Company's Annual report on Form
10-KSB for the year ended December 31, 1994 and are incorporated herein by
reference.
(6) These exhibits were filed as exhibits to the Company's Current Report on
Form 8-K filed on March 18, 1996, and are incorporated herein by reference.
(7) This exhibit was filed as an exhibit to the Company's Quarterly Report on
Form 10-QSB for the quarter ended June 30, 1996, and is incorporated herein by
reference.
(8) These exhibits were filed as an exhibit to the Company's Annual Report of
Form 10-KSB for the year ended December 31, 1996, and are incorporated herein by
reference.
(9) These exhibits were filed as exhibits to the Company's Current Report on
Form 8-K filed on December 29, 1997, and are incorporated herein by reference.
* Confidential treatment has been granted with respect to portions of these
exhibits.
19
<PAGE>
(B) REPORTS ON FORM 8-K.
On December 29, 1997, the Company filed a Current Report on
Form 8-K to disclose the Inventory Writeoff.
20
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997 AND 1996
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
CONTENTS
PAGE
INDEPENDENT AUDITORS' REPORT 1
FINANCIAL STATEMENTS
Consolidated Balance Sheets 2
Consolidated Statements of Operations 4
Consolidated Statements of Stockholders' Equity 5
Consolidated Statements of Cash Flows 7
Notes to Consolidated Financial Statements 9
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
Lukens Medical Corporation
We have audited the accompanying consolidated balance sheets of Lukens Medical
Corporation and Subsidiaries as of December 31, 1997 and 1996, and the related
consolidated statements of operations, stockholders' equity, and cash flows for
the years then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated 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 Lukens Medical
Corporation and Subsidiaries at December 31, 1997 and 1996, and the results of
their operations and their cash flows for the years then ended, in conformity
with generally accepted accounting principles.
/s/ Neff & Company LLP
Albuquerque, New Mexico
March 27, 1998
1
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1997 AND 1996
<TABLE>
<CAPTION>
ASSETS
1997 1996
<S> <C> <C> <C>
Current assets:
Cash and cash equivalents (Note 11) $ 74,048 878,090
Accounts receivable, net of allowance of
$40,000 in 1997 and $5,790 in 1996
(Notes 5 and 6) 1,836,542 1,901,947
Inventory (Notes 2, 5, 6, and 14) 5,105,900 5,565,210
Prepaid expenses 127,080 34,290
--------------- -------
Total current assets 7,143,570 8,379,537
Fixed assets, net (Notes 3, 5,
6 and 8) 3,599,150 2,062,842
Intangible assets, net of accumulated amortization
of $1,283,569 and $966,065 in 1997 and 1996,
respectively (Notes 4 and 15) 3,001,139 1,098,487
Other assets 85,754 261,294
--------------- -------
Total assets $ 13,829,613 11,802,160
=============== ==========
</TABLE>
The Notes to Consolidated Financial Statements are an integral part of these
statements.
2
<PAGE>
LIABILITIES AND STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Current liabilities:
Accounts payable $ 1,864,832 1,406,243
Accrued liabilities 138,016 62,139
Current maturities of long-term debt
(Notes 5 and 6) 5,146,950 2,002,191
Current maturities of obligations under
capital leases (Note 8) 146,893 39,825
--------------- ---------
Total current liabilities 7,296,691 3,510,398
Long-term debt, excluding current maturities
(Notes 5, 6 and 11) 73,483 796,446
Stockholder payable and accrued interest
(Notes 7 and 11) 2,290,991 1,157,408
Obligations under capital leases, excluding
current maturities (Note 8) 266,256 59,378
--------------- ---------
Total liabilities 9,927,421 5,523,630
--------------- ---------
Commitments and contingencies (Notes 5, 8, 13, 15, and 16)
Minority interests 129,531 -
--------------- ---------
Stockholders' equity (Notes 5 and 9):
Common stock $.01 par value, authorized
20,000,000 shares; issued and outstanding
3,043,359 shares in 1997 and 2,731,988 shares
in 1996 30,434 27,320
Additional paid-in capital 18,526,035 17,213,952
Accumulated deficit (14,730,760) (10,962,742)
Foreign currency translation adjustments (53,048) -
--------------- ---------
Total stockholders' equity 3,772,661 6,278,530
--------------- ---------
Total liabilities and stockholders' equity $ 13,829,613 11,802,160
=============== ==========
</TABLE>
3
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1997 AND 1996
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Net sales (Note 12) $ 8,618,863 8,178,576
Cost of sales (Note 14) 5,469,327 5,496,534
Inventory cost reduction 770,000 300,000
--------------- ---------
Gross profit 2,379,536 2,382,042
--------------- ---------
Selling expenses 1,087,171 716,042
General and administrative expenses 1,286,938 965,180
Research and development expenses 70,386 108,594
Product restructuring charge (Note 14) 3,332,280 -
--------------- ---------
Total operating expenses 5,776,775 1,789,816
--------------- ---------
Earnings (loss) from operations (3,397,239) 592,226
--------------- ---------
Other income (expense):
Interest income 5,236 6,578
Interest expense (433,463) (197,566)
Minority interests' share of loss 25,994 -
Other, net 31,454 62,243
--------------- ---------
Total other expense, net (370,779) (128,745)
--------------- ---------
Earnings (loss) before income taxes (3,768,018) 463,481
Income tax expense (Note 10) - -
--------------- ---------
Net earnings (loss) $ (3,768,018) 463,481
=============== =======
Basic net earnings (loss) per share $ (1.24) .17
=============== =======
Dilutive net earnings (loss) per share $ (1.24) .15
=============== =======
Weighted average number of common shares
outstanding - basic 3,043,359 2,677,698
=============== =======
Weighted average number of common shares
outstanding - dilutive 3,043,359 3,068,113
=============== =======
</TABLE>
The Notes to Consolidated Financial Statements are an integral part of these
statements.
4
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1997 AND 1996
<TABLE>
<CAPTION>
COMMON STOCK
(NOTES 9 AND 15) ADDITIONAL
--------------------------------- PAID-IN
SHARES AMOUNT CAPITAL
<S> <C> <C> <C>
Balance, December 31, 1995 2,611,418 $ 26,115 16,938,696
Exercise of options for common
stock 120,570 1,205 275,256
Net earnings (loss) - - -
--------- --------------- ----------
Balance December 31, 1996 2,731,988 27,320 17,213,952
Exercise of options for common
stock 111,371 1,114 478,103
Issuance of common stock for
business acquisition 200,000 2,000 833,980
Net earnings (loss) - - -
Foreign currency translation
adjustments - - -
--------- --------------- ----------
Balance, December 31, 1997 3,043,359 $ 30,434 18,526,035
========= =============== ==========
</TABLE>
The Notes to Consolidated Financial Statements are an integral part of these
statements.
5
<PAGE>
FOREIGN
CURRENCY
ACCUMULATED TRANSLATION
DEFICIT ADJUSTMENTS TOTAL
$ (11,426,223) - 5,538,588
- - 276,461
463,481 - 463,481
--------------------------------------------------
(10,962,742) - 6,278,530
- - 479,217
- - 835,980
(3,768,018) (3,768,018)
- (53,048) (53,048)
---------------------------------------------------
(14,730,760) (53,048) 3,772,661
==================================================
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1997 AND 1996
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Cash flows from operations:
Net earnings (loss) $ (3,768,018) 463,481
Adjustments to reconcile net earnings
to cash flows used in operating activities:
Minority interest in net loss (25,994) -
Depreciation 398,943 262,941
Amortization of intangible assets 317,504 169,563
Decrease in inventory valuation allowance - 250,000
Loss on disposal of fixed assets - 9,855
Accrued interest due stockholder 133,583 79,024
Changes in current assets and liabilities:
Accounts receivable 245,235 (632,736)
Inventory 472,310 (1,966,159)
Prepaid expenses (92,305) (10,834)
Other assets 4,667 (176,579)
Accounts payable 385,025 741,163
Accrued liabilities 62,634 (20,916)
---------------------------------
Net cash applied to operating activities (1,866,416) (831,197)
---------------------------------
Cash flows from investing activities:
Purchase of equipment (1,561,378) (561,910)
Purchase of intangible assets (876,626) (785,377)
Proceeds from disposal of equipment 26,417 -
Proceeds from joint venture formation,
net of cash transferred 155,525 -
Cash purchased with business acquisitions 25,084 -
---------------------------------
Net cash flows applied to
investing activities (2,230,978) (1,347,287)
---------------------------------
Cash flows from financing activities:
Proceeds from issuance of common stock
and equivalents 479,217 276,461
Borrowings on long-term debt 5,174,575 2,621,155
Principal payments on long-term debt and
capital leases (3,360,440) (280,091)
Borrowings from major stockholders 1,000,000 400,000
---------------------------------
Net cash flows provided by
financing activities 3,293,352 3,017,525
---------------------------------
</TABLE>
The Notes to Consolidated Financial Statements are an integral part of these
statements.
7
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997 AND 1996
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Net increase (decrease) in cash and cash
equivalents (804,042) 839,041
Cash and cash equivalents at beginning of year 878,090 39,049
---------------------------------
Cash and cash equivalents at end of year $ 74,048 878,090
=================================
Supplemental disclosures:
Cash paid for interest $ 274,767 113,532
=================================
Production equipment acquired with capital
leases $ 375,484 63,095
=================================
</TABLE>
The Notes to Consolidated Financial Statements are an integral part of these
statements.
8
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization and Business Activities. Lukens Medical Corporation, a Delaware
corporation, and its wholly-owned subsidiaries, (the Company) is a disposable
surgical products company engaged in the design, development, manufacture, and
marketing of needle suture products, disposable safety scalpels, lancets,
disposal supplies, and bone wax. The Company markets its products worldwide to
hospitals, independent care facilities, physicians' offices, and to the United
States government directly and through independent distributors.
In addition to its facility in Albuquerque, New Mexico which includes the
operations of Lukens Medical Corporation and its wholly owned subsidiary ProTec,
Inc., the Company's operations include the following:
Lukens Medical Products Limited, a 90 percent owned joint venture in
Cochin, India that serves primarily as a manufacturing facility.
Techsynt-Lukens Industrial, Commercial, Import and Export Limited, a 51
percent owned joint venture in Sao Paolo, Brazil, that manufactures and
sells the Company's products.
Somar-Lukens S.A de C.V., a 50 percent owned joint venture in Piedras
Negras, Mexico that is currently inactive.
Contract maquiladora manufacturing facilities in Piedras Negras and Ciudad
Juarez, Mexico.
Principles of Consolidation. The consolidated financial statements include the
accounts of Lukens Medical Corporation and its wholly-owned subsidiary and joint
ventures. All significant intercompany accounts and transactions have been
eliminated in consolidation.
Cash and Cash Equivalents. Cash and cash equivalents consist substantially of
cash in banks and repurchase agreements which are collateralized by government
securities at a 102 percent of fair market value and recorded in the bank's
name. The Company considers all highly liquid financial instruments with
original maturities of three months or less to be cash equivalents.
Inventory. Inventory, which consists principally of the Company's products,
supplies and components, is stated at the lower of cost or market value. Cost is
determined using the first-in, first-out (FIFO) method. Market value for raw
materials is based on replacement costs and for other inventory classifications
on net realizable value. Appropriate consideration is given to deterioration,
obsolescence and other factors in evaluating net realizable value. Inventory
costs include material, labor, and manufacturing overhead.
9
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Fixed Assets. Equipment and leasehold improvements are recorded at cost.
Depreciation expense is calculated using the straight-line method based on the
estimated useful lives of the respective assets which approximate three to ten
years. The Company follows the policy of capitalizing expenditures that
materially increase asset useful lives and charging ordinary maintenance and
repairs to operations as incurred.
Intangible Assets. Intangible assets consist principally of costs incurred to
obtain Food and Drug Administration approvals, trademarks, organizational costs,
patents, the rights to sell products acquired, goodwill and deferred start up
costs. The start up costs consist principally of costs incurred for the start up
of joint ventures and possible joint ventures in India, Mexico, and Brazil. The
Company evaluates its intangible assets annually to determine potential
impairment by comparing the carrying value to the undiscounted future gross cash
margins of related assets. They are being amortized using the straight-line
method over periods of 3 to 10 years.
Capitalization of Interest. Interest is capitalized in connection with the
construction and start-up of major facilities. The capitalized interest is
recorded as part of the asset to which it relates and is amortized over the
asset's estimated useful life. In 1997, $80,828 of interest was capitalized. No
interest was capitalized in 1996.
Income Taxes. The Company accounts for its income taxes in accordance with
Financial Accounting Standards Statement No. 109, Accounting for Income Taxes
(SFAS 109). SFAS 109 requires a company to recognize deferred tax liabilities
and assets for the expected future tax consequences of events that have been
recognized in a company's financial statements or tax returns. Under this
method, deferred tax liabilities and assets are determined based on the
difference between the financial statement carrying amounts and tax basis of
assets and liabilities using enacted tax rates in effect in the years in which
the differences are expected to reverse. The Company has provided a valuation
allowance to offset the benefit of any net operating loss carryforwards or
deductible temporary differences.
Translation of Foreign Currencies. The translation of foreign currencies into
U.S. dollars is performed for balance sheet accounts using current exchange
rates in effect at the balance sheet date and for revenue and expense accounts
using an average exchange rate for the period. The gains or losses resulting
from translation are included in shareholders' equity.
Net Sales. Sales are recorded net of sales returns and allowances.
Research and Development Expenses. Research and development costs are expensed
as incurred.
10
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Long-Lived Assets. Statement of Financial Accounting Standards No. 121,
Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
be Disposed of (SFAS 121), was adopted as of January 1, 1996. SFAS 121
standardized the accounting practices for the recognition and measurement of
impairment losses on certain long-lived assets. The adoption of SFAS 121 had no
effect on the results of operations or financial position.
Effect of New Accounting Pronouncements. Effective January 1, 1996, the Company
adopted SFAS No. 123, Accounting for Stock-Based Compensation. The Company
adopted this pronouncement by making the required pro forma note disclosure
only. Accordingly, the adoption of SFAS No. 123 did not impact the Company's
results of operation or financial condition.
Earnings Per Share. Effective for the year ended December 31, 1997, the Company
adopted SFAS 128, Earnings Per Share. In adopting this pronouncement, the
Company computed the earnings (loss) per share on the basis of the weighted
average number of common shares outstanding during the year and included the
effect of potential common stock to the extent they are dilutive. This
pronouncement was adopted for both 1997 and 1996, however, there was no impact
on the earnings per share previously reported for 1996.
Use of Estimates. The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the 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.
Reclassification. The Company has reclassified certain amounts in the 1996
financial statements to conform to the 1997 presentation.
NOTE 2. INVENTORY
Inventory consists of the following components at December 31:
1997 1996
Raw materials $ 1,938,343 2,767,214
Work-in-process 1,972,124 1,419,685
Finished goods 1,195,433 1,378,311
---------------------------------
$ 5,105,900 5,565,210
=================================
11
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 3. FIXED ASSETS
Fixed assets owned or held under capital lease (see Note 8) consist of the
following at December 31:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Building $ 899,762 -
Leasehold improvements 227,112 172,677
Production equipment 3,951,117 3,018,600
Office equipment 286,461 229,646
Construction in progress 198,075 -
---------------------------------
5,562,527 3,420,923
Less accumulated depreciation 1,963,377 1,358,081
---------------------------------
$ 3,599,150 2,062,842
=================================
</TABLE>
Production equipment valued at $807,543 and $776,553, respectively, was not
being utilized in 1996 or 1997 and as of December 31, 1997, was in Piedras
Negras, Mexico in anticipation of the start up of a joint venture (See Note 15).
NOTE 4. INTANGIBLE ASSETS
Intangible assets consisted of the following at December 31, 1997:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Suture license rights and regulatory approvals $ 963,448 920,089
Ulster Scientific product rights 642,069 642,069
ProTec patents and goodwill 1,296,968 -
Deferred start-up costs 867,892 20,868
Other 514,331 481,526
---------------------------------
Total 4,284,708 2,064,552
Accumulated amortization (1,283,569) (966,065)
---------------------------------
$ 3,001,139 1,098,487
=================================
</TABLE>
12
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 5. BANK FINANCING INSTRUMENTS
At December 31, 1997, the Company had the following bank borrowing agreements:
A working capital line-of-credit agreement, which provides for borrowings
for working capital up to the lesser of (a) $1,750,000 or (b) the sum of 80
percent of eligible accounts receivable (as defined in the agreement) plus
the lesser of 40 percent of qualified inventory. Interest is payable
monthly on the amount drawn at the Bank's corporate base rate (the Bank's
prime rate) plus .75 percent. At December 31, 1997, there was $1,750,000
outstanding under this line-of-credit agreement.
A letter-of-credit line, which provides for other credit instruments
including commercial letters-of-credit and banker's acceptances which
guarantee payment to raw material suppliers, and standby letters-of-credit
which may also be used for the purchase of raw material on forward currency
contracts. The sum of these shall not exceed $1,250,000 at any one time. At
December 31, 1997, there was $634,127 of Bankers' acceptances and
commercial letters of credit and $124,577 in standby letters-of-credit
outstanding under this line. Under a separate line of credit the Company
had issued a $360,000 standby letter of credit relating to the purchase of
the Indian facility.
A SBA equipment term loan, which provides for the purchase of equipment and
machinery up to $150,000, interest and principal payable monthly on equal
installments of $2,510 at the New York prime rate as published in the Wall
Street Journal, plus 1.5 percent. At December 31, 1997, there was $114,018
outstanding under this agreement.
A SBA equipment term loan, which provides for the purchase of equipment and
machinery up to $150,000, interest and principal payable monthly on equal
installments of $2,535 at the New York prime rate as published in the Wall
Street Journal, plus 1.5 percent. At December 31, 1997, there was $135,221
outstanding under this agreement.
On May 24, 1996, the Company obtained a bank term loan for the purchase of
equipment and machinery in the amount of $120,000, interest and principal
payable monthly on equal installments of $3,859 at the bank's corporate
base rate plus 1.5 percent. At December 31, 1997, there was $68,268
outstanding under this agreement.
On December 30, 1996, the Company obtained a bank term loan for funding of
a joint venture in India in the amount of $700,000, interest and principal
payable monthly on equal installments of $14,700 at the bank's corporate
base rate plus 1 percent. At December 31, 1997, there was $613,575
outstanding under this agreement.
On August 31, 1997, the Company obtained a bank term loan for funding of
general operations in the amount of $1,000,000, interest plus principal
payable in equal monthly installments of $21,011, at the bank's corporate
rate plus .75 percent. At December 31, 1997, there was $972,099 outstanding
under this agreement.
13
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 5. BANK FINANCING INSTRUMENTS (CONTINUED)
On November 27, 1997, the Company obtained a bank term loan for payment of
expired letters-of-credit in the amount of $184,087 interest plus principal
due on March 27, 1998, at the bank's corporate rate plus 1.5 percent. At
December 31, 1997, there was $141,958 outstanding under this agreement.
At December 31, 1997, these bank credit instruments had covenants which
provided, among other things, for: the maintenance of tangible net worth of the
corporate affiliates on a consolidated basis at any time to be less than
$6,800,000, a minimum current ratio, as defined in the agreement, of 2:1;
aggregate debt to consolidated stockholders' equity of not greater than 1:1 and
fixed charges coverage not less than 1:3. The agreements also provide for a
security interest in substantially all of the Company's assets and has certain
covenants which restrict the Company's payment of dividends and prohibit
incurring any additional material indebtedness without the consent of the Bank.
As of December 31, 1997, the Company was in arrears on its bank notes payable
and did not meet the financial ratios required. The bank has not granted a
waiver for any default by the Company; as a result, the notes payable have been
classified as current.
NOTE 6. LONG-TERM DEBT
Long-term debt consisted of the following at December 31:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Bank Debt:
Outstanding letter-of-credit payable to NationsBank,
N.A. interest is accrued at the corporate base rate
plus .75% (9.25% at December 31, 1997), maturing
August 30, 1998 $ 634,127 796,838
Outstanding line-of-credit payable to NationsBank, N.A.
interest is accrued at the corporate base rate plus
.75% (9.25% at December 31, 1997), maturing August
30, 1998 1,750,000 966,102
Various notes payable to NationsBank, N.A. interest is
accrued at the base corporate rate (8.5% at
December 31, 1997) plus 1% to 1.5%, maturing
between March 1998 and November 2003. 2,045,138 952,074
</TABLE>
14
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 6. LONG-TERM DEBT (CONTINUED)
<TABLE>
<S> <C> <C>
Other debt:
Community Development Block Grant note, due in monthly
installments of $4,167, plus interest at a rate
equal to the six-month Treasury Bill rate with a
minimum of 7% and a maximum of 9% (7% at December
31, 1997), maturing July 7, 1998, secured by
equipment purchased with the proceeds from the note $ 20,973 83,623
Note payable to Kerala State Industrial Corporation, due
in monthly principal installments of $15,000, plus
interest due quarterly at an annual rate of 15.5%,
maturing March 1999 secured by a standby
letter-of-credit with NationsBank, N.A. 240,000 -
Notes payable to the sole stockholder of ProTec for
acquisition of ProTec Containers, Inc., terms to be
finalized (Note 15) 454,163 -
Other bank notes 76,032 -
---------------------------------
Total long-term debt 5,220,433 2,798,637
Current maturities of long-term debt 5,146,950 2,002,191
---------------------------------
Long-term debt, excluding current maturities $ 73,483 796,446
=================================
</TABLE>
The NationsBank, N.A. debt is secured by accounts receivable, inventory and
fixed assets of the Company, except for those purchased with the proceeds
obtained from the Community Development Block Grant note.
15
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 6. LONG-TERM DEBT (CONTINUED)
Future scheduled debt payments at December 31 are:
1998 $ 5,146,950
1999 73,483
---------------
$ 5,220,433
===============
NOTE 7. STOCKHOLDER PAYABLE
During 1995, a major stockholder loaned the Company $400,000 which defeased a
$350,000 line of credit and provided $50,000 for general operations. The note is
due April 1999, including all interest, accrued at 8 percent. The major
stockholder also received warrants for 400,000 shares of common stock
exercisable at 1.10 per share (Note 9).
In September 1995, the Company received $250,000 from the stockholder for
repayment of various capital leases. The note is due October 1999, including all
interest, accrued at 10 percent.
In March 1996, the Company received $400,000 from the stockholder for use in the
Ulster acquisition. The note is due September 2000, including all interest,
accrued at 10 percent.
In March, May and June 1997, the Company received a total of $1,000,000 from two
major stockholders to fund expansion of the recently acquired India Facility,
expansion of capacity for synthetic absorbable sutures and for the acquisition
of ProTec Containers, Inc. The notes are due January 1999 bearing interest at
10%. Each major stockholder also received warrants for 50,000 shares of common
stock. These warrants are exercisable at $6.25 per share (Note 9)
16
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 8. LEASES
The Company has five capital lease obligations for production equipment. At
December 31, 1997 and 1996, the Company had $501,992 and $126,508, respectively,
recorded as production equipment under capital leases with related accumulated
depreciation of $42,120 and $4,206, respectively (see Note 3).
The present value of future minimum capital lease payments as of December 31,
1997 follows:
<TABLE>
<CAPTION>
<S> <C>
1998 $ 190,530
1999 157,186
2000 92,152
2001 59,805
--------------
Total minimum lease payments 499,673
Less amount representing interest
(at rates ranging from 8% to 16%) 86,524
Present value of net minimum capital
lease payments 413,149
Current maturities of obligations under
capital leases 146,893
Obligations under capital leases, ex-
cluding current maturities $ 266,256
===============
</TABLE>
The Company leases its facilities and certain equipment under terms of various
operating leases. Future minimum rental payments required under the operating
leases as of December 31, 1997, are as follows:
Year ending December 31:
1998 $ 125,748
1999 128,953
2000 132,253
2001 86,925
------------------
Total minimum payments required $ 473,879
==================
Total rental expense for operating leases during 1997 and 1996 was $147,807 and
$111,787, respectively.
17
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 9. STOCK WARRANTS AND OPTIONS
Warrants for Common Stock
The following warrants are outstanding at December 31, 1997:
<TABLE>
<CAPTION>
NUMBER OF SHARES EXERCISE DATE DATE OF
COVERED BY WARRANTS PRICE EXERCISABLE EXPIRATION
<S> <C> <C> <C> <C>
500,000 6.00 Presently May 6, 1998
65,000 4.50 Presently June 11, 1999
400,000 1.10 Presently April 13, 2000
30,000 6.25 Presently March 1, 2002
70,000 6.25 Presently May 1, 2002
50,000 3.00 Presently March 5, 2004
</TABLE>
Each warrant allows the holder to purchase one share of common stock at the
warrant price.
Options for Common Stock
In 1992, the Company adopted a stock option plan (1992 Plan) which provides for
the issuance of incentive and nonqualified stock options for officers,
directors, key employees, and consultants of the Company. The 1992 Plan replaced
a similar plan in effect in prior years. The 1992 Plan allows the issuance of a
maximum of 850,000 options for exercise into common stock at an option price not
less than the fair market value (trading value) of the common stock on the date
such options are granted. Options outstanding under the 1992 Plan total 623,508
and 243,223 at December 31, 1997 and 1996, respectively. As of December 31, 1997
and 1996, an additional 104,800 and 108,000, respectively, of options were
granted under various other plans. All options terminate three to ten years from
the date of issuance. The Company has filed a registration statement for its
stock option plans.
A summary of the common stock options for the year ended December 31, 1997 and
1996 follows:
<TABLE>
<CAPTION>
OPTIONS
OPTIONS PRICE RANGE EXERCISABLE
<S> <C> <C> <C> <C>
Balance, December 31, 1995 484,142 $ 1.063 6.50
Granted 185,800 3.00 7.00
Expired (198,149) 2.375 3.00
Exercised (120,570) 1.063 2.38
-------------------------------------------
Balance, December 31, 1996 351,223 1.063 7.00 $ 115,425
------------------------------------------- ===============
Granted 464,600 3.125 6.25
Expired (41,144) 1.063 7.00
Exercised (46,371) 1.063 4.50
-------------------------------------------
Balance, December 31, 1997 728,308 1.063 6.50 $ 280,180
=========================================== ===============
</TABLE>
18
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 9. STOCK WARRANTS AND OPTIONS (CONTINUED)
On February 5, 1998, the Company granted additional options under the 1992 plan
to purchase 19,200 shares at an exercise price of $4.00 per share. The Company
applies APB Opinion No. 25 and related Interpretations in accounting for its
plans. FASB Statement No. 123 Accounting for Stock-Based Compensation (SFAS 123)
was issued by the FASB and, if fully adopted, changes the methods for
recognition of cost or plans similar to those of the Company. Adoption of SFAS
123 is optional; however, proforma disclosures as if the Company adopted the
cost recognition requirements under SFAS 123 are presented below:
<TABLE>
<CAPTION>
1997 1996
-------------------------------- -----------------------------
AS AS
REPORTED PROFORMA REPORTED PROFORMA
<S> <C> <C> <C> <C>
Net income (loss) $ (3,768,018) (4,533,645) 463,481 267,225
Basic earnings (loss) per share (1.24) (1.49) .17 .10
Diluted earnings (loss) per share (1.24) (1.49) .15 .09
</TABLE>
The effects of applying SFAS 123 in this proforma disclosure are not indicative
of future amounts. SFAS 123 does not apply to awards prior to 1996 and
additional awards in future years are anticipated.
NOTE 10. INCOME TAXES
At December 31, 1997 and 1996, the Company had deferred tax assets amounting to
approximately $5,100,000 and $4,200,000, respectively. The deferred tax assets
consist primarily of the tax benefit of net operating loss carryforwards and
temporary differences in depreciation and are fully offset by a valuation
allowance of the same amount.
The net change in the valuation allowance for deferred tax assets was an
increase of approximately $900,000 in 1997 and did not change materially for
1996. The net change for 1997 is primarily due to the recording of the increase
of net operating loss carryforwards.
Recoveries for income taxes differs from the amount of income tax recoveries
determined by applying the applicable U.S. statutory Federal income tax rate to
the pretax loss as a result of the increase in the valuation allowance to offset
the increase in the deferred tax assets.
There is no income tax payable at December 31, 1996, because of the usage of net
operating loss carryforwards.
19
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 10. INCOME TAXES (CONTINUED)
The net operating loss and credit for increasing research activities
carryforwards as of December 31, 1997, expire as follows:
<TABLE>
<CAPTION>
INCREASING RESEARCH
APPROXIMATE NET OPERATING ACTIVITIES BOOK/TAX
LOSS CARRYFORWARD CREDITS
----------------------------------------------------------- -----------------------
STATE LOSS FEDERAL LOSS
AMOUNT AMOUNT TAX EFFECT TAX EFFECT
<S> <C> <C> <C> <C>
1999 $ 2,537,000 - 122,000 3,800
2000 - 1,930,000 656,000 37,200
2001 2,400,000 1,835,000 739,000 37,500
2002 - 1,132,000 385,000 1,400
2003 1,480,000 2,086,000 780,000 25,100
2004 315,000 390,000 148,000 -
2005 161,000 278,000 102,000 -
2006 - 50,000 17,000 -
2007 - 26,000 9,000 -
2008 - 88,000 30,000 -
2009 - 2,760,000 938,000 -
2017 - 2,400,000 816,000 -
-----------------------------------------------------------------------------------
$ 6,893,000 12,975,000 4,742,000 105,000
===================================================================================
</TABLE>
The capital loss carryforwards of approximately $271,000, tax effect of
$105,000, expire in 1998.
The deduction of federal net operating loss carryforwards is limited to
approximately $3,962,000 as of December 31, 1997. This limitation is based on an
annual limitation of $460,000 plus available carryover of $654,000 and losses
incurred subsequent to 1992 of $5,248,000. In addition, should the sale of the
Company discussed in Note 16 occur, there may be additional limitations.
NOTE 11. FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions are used by the Company in determining its
fair value disclosures for financial investments:
Cash and cash equivalents. The carrying amount reported in the balance sheet
approximates fair value.
20
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 11. FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
Long-term debt including current maturities and stockholder payable. The
floating-rate long-term debt approximates its fair value. The fair value of the
fixed-rate stockholder payable is estimated using discounted cash flow analysis,
based on the Company's current incremental borrowing rates for similar types of
borrowing arrangements.
The carrying amounts and fair values of the Company's financial instruments are:
<TABLE>
<CAPTION>
CARRYING FAIR
AMOUNT VALUE
------ -----
<S> <C> <C>
Cash and cash equivalents $ 74,078 $ 74,078
Long-term debt, including current
maturities $ 5,220,433 $ 5,220,433
Stockholder payable and accrued interest $ 2,290,991 $ 2,198,846
</TABLE>
NOTE 12. GEOGRAPHIC SEGMENT REPORTING
The Company sells its products throughout the world. The Company's export sales
from U.S. operations for 1997 and 1996 totaled $1,651,451 and $2,295,066,
respectively which represent 21 percent and 28 percent of total sales in each of
those years. Accounts receivable related to these scales is $878,000 and
$1,033,000 at December 31, 1997 and 1996, respectively.
Geographic information for the year ended December 31, 1997, is presented in the
following table. Transfers between geographic area are accounted for at amounts
that are generally above cost and consistent with rules and regulations of
governing tax authorities. Such transfers are eliminated in the consolidated
financial statements. Operating income by geographic segment does not include an
allocation of general corporate expenses which are included in United States
operations. Identifiable assets are those that can be directly associated with a
particular geographic area and include intangible assets.
Customer sales:
Brazil $ 87,330
India -
Mexico -
USA 8,531,533
Eliminations -
---------------
Consolidated $ 8,618,863
===============
21
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 12. GEOGRAPHIC SEGMENT REPORTING (CONTINUED)
Intercompany sales
Brazil $ -
India 3,362
Mexico -
USA 134,105
Eliminations (137,467)
---------------
Consolidated $ -
===============
Loss before taxes:
Brazil $ (48,226)
India (35,055)
Mexico -
USA (3,674,679)
Eliminations (10,058)
---------------
Consolidated $ (3,768,018)
===============
Assets:
Brazil $ 436,105
India 1,601,084
Mexico 2,381,085
USA 9,564,445
Eliminations (153,106)
---------------
Consolidated $ 13,829,613
===============
The Company's worldwide business is subject to risks of currency fluctuations,
governmental actions and other governmental proceedings abroad. The Company does
not regard these risks as a deterrent to further expansion of its methods of
operations abroad. However, the Company closely reviews its methods of
operations, particularly in less developed countries, and adopts strategies
responsive to changing economic and political conditions.
NOTE 13. COMMITMENTS AND CONTINGENCIES
Employment Agreement. The Company has entered into an employment agreement with
its Chief Executive Officer which provides for a three-year term expiring in
January 1998, with automatic one-year extensions thereafter. This agreement
provides for a base salary of $135,000 per annum. This agreement allows for an
annual base salary increase at least equal to the percentage increase in the
Consumer Price Index (or closest substitute for such index then available). For
future years, the employee's base salary shall increase no less than 10 percent
if the Company's net income increases at least 10 percent as compared to the
preceding year. The Chief Executive Officer is entitled to an annual bonus of up
to 35 percent of base compensation for such year for achieving objectives
established jointly by the employees and Board of Directors, as defined in the
agreement.
22
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 13. COMMITMENTS AND CONTINGENCIES (CONTINUED)
Litigation. The Company is involved in litigation in the ordinary course of
business. Management believes, after consulting with legal counsel, that the
ultimate outcome of this litigation will not result in a material adverse impact
on the Company's financial statements.
The Company has been notified by a competitor asserting that the Company is in
violation of a certain patent which relates the single-stick lancet product. The
Company believes it is indemnified under an agreement with a supplier and its
agreement with Ulster Scientific, Inc. for the purchase of patents. Management
intends to vigorously contest the competitor's assertion and cannot estimate the
potential liability, if any, at this time.
Consulting Agreement. Effective March 1, 1996, the Company entered into a one
year consulting agreement, which can be extended annually, with a major
stockholder. Payments under the agreement are $4,167 per month.
Profit Sharing/Savings Plan. The Company has a voluntary profit sharing/savings
plan (Plan) covering substantially all employees residing in the United States
over age 21 and who have been employed at least six months by the Company. The
Plan is qualified under section 401(k) of the Internal Revenue Code. The Plan
provides for voluntary employee contributions and discretionary Company profit
sharing/savings plan contributions. The Company matches employee contributions
at a rate of 50 percent of their contributions up to 3 percent of their base
pay. In addition, the Plan provides that the Company may pay for certain
administrative costs of the Plan. For 1997 and 1996, there were no Company
profit sharing contributions. Company matching contributions and administrative
expenses for 1997 and 1996 were approximately $36,000 and $24,500, respectively.
NOTE 14. PRODUCT LINE RESTRUCTURING AND INVENTORY REDUCTION
During the fourth quarter of 1997, the Company implemented a new strategy of
focusing its marketing efforts for sutures mainly on domestic accounts (See Note
18). This new strategy lead to a review of the product lines manufactured by the
Company and inventories held by the Company in certain cases for more than three
years. These inventories had been purchased or manufactured to service a
clientele that failed to grow, thereby putting the value of such inventories in
question. After attempting with limited success, to sell these inventories at
any price below the costs necessary is some cases to finish the product, the
Company elected to write off the items in question as of December 31, 1997. The
resultant product line restructuring charge was $2,855,012.
23
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 14. PRODUCT LINE RESTRUCTURING AND INVENTORY REDUCTION (CONTINUED)
Also in 1997, the Company attempted to launch a new product into the diagnostic
market. This effort was unsuccessful. The costs of the product purchased for his
effort, along with the costs attributable to abandoning certain international
markets resulted in a product line restructuring charge of $477,268 for 1997.
During 1997 and 1996, the Company experienced reductions in its cost to
manufacture certain products mainly from favorable shifts in overhead, labor,
and exchange rates. In order to more accurately reflect the new cost structure
inventory carrying amounts were reduced and cost of sales increased by
approximately $770,000 in 1997 and $300,000 in 1996.
NOTE 15. ACQUISITIONS AND JOINT VENTURES
On March 4, 1996, the Company completed an acquisition of three product lines
from Ulster Scientific, Inc. (USI), a New York corporation. The acquisition was
accounted for under the purchase method. USI was a wholesale distributor of
medical supplies. The Company paid $248,000 cash, assumed $320,000 in supplier
liabilities, and agreed to terms on a consulting and royalty contract with
payments of 2 percent or more of certain Ulster sales over eight years and with
minimum payments of $90,000 per year for the next five years. In addition, the
Company issued 200,000 warrants to the seller, 150,000 of which are contingent
upon future product sales. The Company acquired, in addition to inventory and
equipment, the rights to sell Ulster product lines, trademarks, and other
intangible assets. All intangibles are amortized over eight years.
On May 12, 1997, the Company acquired 100 percent of the stock of ProTec
Containers, Inc. a Florida corporation. The acquisition was accounted for under
the purchase method. ProTec is a manufacturer of containers for the disposal of
used medical "sharps", such as hypodermic needles. The Company paid $250,000 in
cash to the owner of the ProTec for manufacturing molds, and issued 200,000
shares of its common stock, valued at $835,980 and issued notes totaling
approximately $515,328 in exchange for all outstanding shares of ProTec. All
intangibles are amortized over ten years.
24
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 15. ACQUISITIONS AND JOINT VENTURES (CONTINUED)
As a result of the acquisition of ProTec, the Company had the following non-cash
activity:
Assets acquired:
Accounts receivable, net $ 179,830
Inventory 13,000
Fixed assets 77,854
Intangible assets 1,164,091
Other 9,051
---------------
1,443,826
Liabilities assumed:
Accounts payable and accrued liabilities (86,807)
Notes payable (30,795)
---------------
(117,602)
Notes payable issued (515,328)
Value of common stock issued (835,980)
---------------
Cash acquired $ (25,084)
===============
The proforma results of operations for the year ended December 31, 1997 and
1996, as though the companies had been combined at the beginning of that period
is as follows:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Net sales $ 9,035,443 9,289,455
=================================
Net earnings (loss) $ (3,698,478) 648,923
=================================
Weighted average number of common and
common equivalent shares outstanding:
Basic $ 2,996,612 2,877,698
=================================
Dilutive $ 2,996,612 3,268,113
=================================
Net earnings (loss) per common and common equivalent share:
Basic $ (1.23) .23
=================================
Dilutive $ (1.23) .20
=================================
</TABLE>
25
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 15. ACQUISITIONS AND JOINT VENTURES (CONTINUED)
In 1996, the Company formed a joint venture with Serral, S.A de C.V., a Mexican
Corporation, to produce needles. The joint venture is an equal partnership, with
each partner retaining ownership of the equipment it provides. As of December
31, 1997, the venture was still in the process of setting up the equipment and
configuring the production process.
In May 1997, the Company entered into another joint venture with two individuals
in Brazil to manufacture and market sutures into international markets. The
Company owns 51 percent of the venture. The venture assumed the suture
operations of a pre-existing Brazilian company, Medical Express Ltda. The new
venture did not become operational until October 1, 1997.
On January 9, 1997, the Company became the majority shareholder in a new joint
manufacturing venture based in Cochin, India. The venture, which manufactures
syringes, hypodermic needles, and components for other Company products,
acquired the basic equipment required for the process, as well as a 22,000
square-foot facility and began operations in November 1997. The venture will
market the products through Lukens and the two minority shareholders, who are
all current distribution partners of Lukens, in various parts of the world.
NOTE 16. SUBSEQUENT EVENT
On February 20, 1998, the Company announced that it was negotiating the sale of
the Company to an unnamed third party. The proposal most recently received by
the Company contemplates a merger pursuant to which existing shareholders of
Lukens would receive approximately $4.00 in cash for each share of Lukens Common
Stock. No definitive terms have, as yet, been agreed upon and the proposal is,
and any other matters are subject to further review by both boards, the
completion of due diligence reviews and the negotiation and execution of
definitive agreements. No assurance can be given that the current negotiations
will result in any transaction or as to the ultimate terms or timing of any such
transaction.
26
<PAGE>
LUKENS MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 17. GOING CONCERN CONSIDERATIONS (UNAUDITED)
The Company produced a net loss in 1997. At December 31, 1997, current
liabilities exceed current assets, the Company is in arrears on its note
payments to the bank and has violated its debt covenants. The bank has not
granted a waiver on any default by the Company. However, the bank has stated
that as long as the Company adheres to the payment plan submitted, no action
will be taken. Total long-term debt to the bank and a major stockholder has
increased over 1996 levels. Some of these borrowings have been used to acquire a
subsidiary and to fund the start up of joint ventures causing an increase in
intangible and other assets. The Company's capacity to meet its obligations and
its viability as a going concern is dependent upon several factors, such as
returning to profitability, developing adequate liquidity, adhering to debt
covenants and required payments, possible debt restructuring or sale (see Note
16).
In 1997, the Company implemented a major strategic shift in its marketing
approach regarding its largest product line, sutures. This shift, away from
lower priced markets where the Company had been successful in securing new
business to a focus on certain domestic accounts, was a result of the Company's
desire to improve margins, reduce inventory requirements, and provide a more
consistent order flow. While the Company intends to utilize its Brazilian
facility to continue to service selected international customers, many
unprofitable markets will be abandoned. This strategy led to a significant
write-off of inventory at the end of 1997.
In 1997, the Company also expanded its product lines further with the
acquisition of ProTec Containers, Inc., and brought its facility in Cochin,
India on-line for the manufacture of certain key raw materials. These actions
provide an opportunity to increase revenues and overall margins. Cash flow
projections by management anticipate more abundant cash becoming available in
May 1998.
While the Company has been successful in increasing its orders in the new areas
of focus, and has been successful in producing certain raw materials at a lower
cost, there can be no assurance that the Company efforts will result in
profitability from operations consistently in the future. Additionally, the
Company's write-off of inventory makes the expansion of its credit lines
unlikely in the near term, and the financing of continued internal growth and
acquisitions difficult.
27
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
LUKENS MEDICAL CORPORATION
By: /s/ Robert S. Huffstodt
------------------------------
Robert S. Huffstodt, President
Date: March 30, 1998
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the registrant and in the capacities and on
the dates indicated.
SIGNATURE AND TITLE DATE
/s/ Robert S. Huffstodt March 30, 1998
- --------------------------------------------------------------
Robert S. Huffstodt
President and Chief Executive Officer (Principal
Executive Officer)
/s/ Michael Sobieski March 30, 1998
- --------------------------------------------------------------
Michael Sobieski
Chief Financial Officer (Principal Financial Officer
and Principal Accounting Officer)
/s/ John H. Robinson March 30, 1998
- --------------------------------------------------------------
John H. Robinson
Director
/s/ Robert L. Priddy March 30, 1998
- --------------------------------------------------------------
Robert L. Priddy
Chairman of the Board of Directors
/s/ John Holmes March 30, 1998
- --------------------------------------------------------------
John Holmes
Director
22
<PAGE>
Exhibit Index
<TABLE>
<CAPTION>
Exhibit No. Description Page #
- ----------- ----------- ------
<S> <C>
3.1 Certificate of Incorporation of the Registrant, as amended (1)
3.2 Form of Certificate of Amendment of Certificate of Incorporation
(1)
3.3 Form of Amended and Restated Bylaws of the Registrant (1)
10.1 1988 Amended and Restated Stock Option Plan (1)
10.2 1992 Stock Option Plan (1)
10.3* Exclusive Distributorship Agreement between the Registrant and
Meadox Medicals, Inc. (1)
10.4* Exclusive Distributorship Agreement between the Registrant and
Cottrell Limited (1)
10.5* Exclusive Distributorship Agreement between the Registrant and
Convergenza, as amended (1)
10.6* Exclusive Distributorship Agreement between the Registrant and
HP-medica GmbH (1)
10.7 Business Loan and Security Agreement among the Registrant,
Lukens Corporation - New Mexico and Sunwest Bank of Albuquerque,
N.A., as amended (1)
10.8 Form of Indemnity Agreement (1)
10.9 Employment Agreement between the Registrant and James A. Wimbush
(1)
10.10 Employment Agreements between the Registrant and each of Steven
J. Schroeder, Robert S. Huffstodt, Scott Henderson and Donald E.
Lawson (1)
10.11* Collaborative Development Agreement between the Registrant and
Medisorb Technologies International, L.P. (1)
10.12 Lease for Registrant's facility (1)
10.13 Form of Consulting Agreement between the Registrant and
Commonwealth Associates, Inc. (1)
10.14* Exclusive Distributorship Agreement between the Registrant and
Core Dynamics, Inc. (3)
10.15 Consulting Agreement between the Registrant and Kronenthal
Associates (3)
10.16* Exclusive Patent License Agreement between the Registrant and
Innovative Surgical Technology, Inc. (4)
</TABLE>
23
<PAGE>
10.17 Agreement, dated November 19, 1992, between Sunwest Bank and
Albuquerque, National Association, and Lukens Medical
Corporation, a New Mexico corporation, together with promissory
note, as amended, security agreements and mortgages executed
pursuant thereto (5)
10.18* Amendment No. 1, dated as of May 17, 1994, to Exclusive Patent
License Agreement, dated August 9, 1993, between Lukens Medical
Corporation, a New Mexico corporation, and Innovative Surgical
Technology, Inc. (5)
10.19* Manufacturing Agreement, dated May 26, 1994, between the
Registrant and West Texas Engineering, Inc. (5)
10.20* Supply Agreement, dated June 29, 1994, between Lukens Medical
Corporation, a New Mexico corporation, and Farman Companies,
Inc. d.b.a. Veterinary Products Laboratories (5)
10.21 Business Loan and Security Agreement, dated July 27, 1994 (the
"Sunwest Loan Agreement") as amended pursuant to the Third
Amendment thereto, dated as of January 31, 1995, among the
Registrant, Lukens Medical Corporation (a New Mexico corporation
formerly known as Lukens Corporation) and Sunwest Bank of
Albuquerque, N.A., together with promissory notes, guaranty and
security agreements executed pursuant thereto (5)
10.22* Exclusive Distribution Agreement, dated October 7, 1994, between
Lukens Medical Corporation, a New Mexico corporation, and
Dentsply International Inc. (5)
10.23 Amendment No. 3, dated as of November 2, 1994, to 1992 Stock
Option Plan (5)
10.24* Supplier/Distributor Agreement, dated November 14, 1994, between
Lukens Medical Corporation, a New Mexico corporation, and Henry
Schein, Inc. (5)
10.25 Amendment No. 4, dated as of January 3, 1995, to 1992 Stock
Option Plan (5)
10.26 Promissory Note of the Company to John H. Robinson, dated as of
April 13, 1995, in the original principal amount of $400,000;
Commitment letter of John H. Robinson, dated as of April 13,
1995 (5)
10.27 Warrant, dated as of April 13, 1995, granted by Lukens Medical
Corporation, a Delaware corporation, to John H. Robinson
10.28 Lease for the Facility, dated July 14, 1995, between Rio Rancho
Public Schools, as landlord, and Lukens Medical Corporation, as
tenant.
10.29 Fourth Amendment, Fifth Amendment, Sixth Amendment and Seventh
Amendment to the Sunwest Loan Agreement, dated April 10, 1995,
April 28, 1995, July 14, 1995 and December 31, 1995,
respectively.
24
<PAGE>
10.30 Promissory Notes of the Company to Sunwest Bank of Albuquerque,
N.A. relating to certain loans guaranteed by the U.S. Small
Business Administration, in the original principal amounts of
$150,000, $500,000 and $420,000, dated as of October 31, 1995,
October 31, 1995 and February 15, 1996, respectively, and
related Loan and Security Agreements.
10.31 Promissory Note of the Company to John H. Robinson, dated as of
September 11, 1996, in the original principal amount of
$250,000; Promissory Note of the Company to John H. Robinson,
dated as of March 5, 1996, in the original principal amount of
$400,000
10.32 Distribution Agreement, dated as of March 5, 1996, by and
between Guest Elchrom Scientific AG and Lukens Medical
Corporation, a New Mexico corporation
10.33 Agreement of Purchase and Sale of Assets, dated as of March 4,
1996 by and among the Company, Ulster Scientific, Inc. and Peter
F. Lordi, Jr. (6)
10.34 Lease Agreement, dated as of March 5, 1996, between Ulster
Scientific, Inc., a New York corporation, Peter F. Lordi, Jr.
and Lukens Medical Corporation, a New Mexico corporation (6)
10.35 Consulting Agreement, dated as of March 5, 1996, between Peter
F. Lordi, Jr. and Lukens Medical Corporation, a New Mexico
corporation (6)
10.36 Warrant, dated as of March 5, 1996, granted by Lukens Medical
Corporation, a Delaware corporation, to Peter F. Lordi, Jr. (6)
10.37 Lease between Kenneth I. White, as landlord, and Lukens Medical
Corporation, as tenant, dated May 31, 1996 (7)
10.38 Joint Venture/Stockholders' Agreement, dated as of February 21,
1997, between Lukens Medical Products Private Limited and the
stockholders of the company listed on the signature page
thereto. (8)
10.39 Letter Agreement, dated as of February 28, 1997, between Lukens
Medical Corporation and John H. Robinson; Promissory Note of
Lukens Medical Corporation dated as of February 28, 1997 to John
H. Robinson in the amount of $150,000; and Warrant Agreement
between Lukens Medical Corporation and John H. Robinson, dated
as of February 28, 1997 (8)
10.40 Letter Agreement, dated as of February 28, 1997, between Lukens
Medical Corporation and Robert L. Priddy; Promissory Note of
Lukens Medical Corporation dated as of February 28, 1997 to
Robert L. Priddy in the amount of $150,000; and Warrant
Agreement between Lukens Medical Corporation and Robert L.
Priddy, dated as of February 28, 1997 (8)
10.41 Agreement of Merger and Reorganization, dated as of May 12,
1997, by and among Lukens Medical Corporation, Pro-Tec
Containers, Inc., a Florida corporation, Treesa Spencer, and PTC
Merger Corp., a Florida corporation, and the exhibits thereto
(other than those exhibits which correspond to agreements listed
below. (9)
25
<PAGE>
10.42 Consulting Agreement, dated as of May 23, 1997, between Treesa
Spencer and Pro-Tec Containers, Inc., a Florida corporation. (9)
10.43 Non-Transferable Subordinated Promissory Note, dated May 12,
1997, by Registrant to Treesa Spencer. (9)
21 Subsidiaries
23 Consent of Neff & Company
27 Financial Data Schedule
- ----------
(1) These exhibits were filed as exhibits to the Company's Registration
Statement on Form S-1 (File No. 33-46466) and are incorporated herein by
reference.
(2) This exhibit was filed with the Company's Amendment No. 1 to its Current
Report on Form 8-K dated July 17, 1992 and is incorporated herein by reference.
(3) These exhibits were filed as exhibits to the Company's Annual Report on Form
10-KSB for the year ended December 31, 1992 and are incorporated herein by
reference.
(4) These exhibits were filed as exhibits to the Company's Annual Report on Form
10-KSB for the year ended December 31, 1993 and are incorporated herein by
reference.
(5) These exhibits were filed as exhibits to the Company's Annual report on Form
10-KSB for the year ended December 31, 1994 and are incorporated herein by
reference.
(6) These exhibits were filed as exhibits to the Company's Current Report on
Form 8-K filed on March 18, 1996, and are incorporated herein by reference.
(7) This exhibit was filed as an exhibit to the Company's Quarterly Report on
Form 10-QSB for the quarter ended June 30, 1996, and is incorporated herein by
reference.
(8) These exhibits were filed as exhibits to the Company's Annual Report on Form
10-KSB for the year ended December 31, 1996, and are incorporated herein by
reference.
(9) These exhibits were filed as exhibits to the Company's Current Report on
Form 8-K filed on December 29, 1997, and are incorporated herein by reference.
* Confidential treatment has been granted with respect to portions of these
exhibits.
26
Exhibit 21
Subsidiaries of the Registrant
1. Lukens Medical Corporation, a New Mexico corporation.
2. Lukens Medical Products Private Limited, a company registered under
the Companies Act, 1956, laws of India.
3. Somar-Lukens S.A de C.V., a Mexican corporation.
4. Pro-Tec Containers, Inc., a Florida corporation
5. Techsynt-Industrial, Comercio, Importaco e Exportaco Ltda, a Brazilian
corporation
27
Exhibit 23
To: Lukens Medical Corporation
3820 Academy Parkway North, N.E.
Albuquerque, New Mexico 87109
We consent to the incorporation by reference, in the Registration
Statements on Form S-8 pertaining to the stock option plan of Lukens Medical
Corporation, as amended (Registration Numbers 33-83082, 33-68122 and 33-51730)
and the related prospectuses, and in the Registration Statements on Form S-3
(Registration Numbers 333-28243 and 333-36499) of our report to the consolidated
financial statements and schedules of Lukens Medical Corporation included in
this Annual Report (Form 10-KSB) for the year ended December 31, 1997.
NEFF & COMPANY
/s/ Neff & Company LLP
Albuquerque, New Mexico
March 30, 1998
28
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1
<CURRENCY> US DOLLARS
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> DEC-31-1997
<EXCHANGE-RATE> 1
<CASH> 74,048
<SECURITIES> 0
<RECEIVABLES> 1,836,542
<ALLOWANCES> 40,000
<INVENTORY> 5,105,900
<CURRENT-ASSETS> 7,143,570
<PP&E> 3,599,150
<DEPRECIATION> 1,963,377
<TOTAL-ASSETS> 13,829,613
<CURRENT-LIABILITIES> 7,296,691
<BONDS> 0
0
0
<COMMON> 30,434
<OTHER-SE> 0
<TOTAL-LIABILITY-AND-EQUITY> 13,829,613
<SALES> 8,618,863
<TOTAL-REVENUES> 8,618,863
<CGS> 6,239,327
<TOTAL-COSTS> 12,016,102
<OTHER-EXPENSES> 62,684
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 433,463
<INCOME-PRETAX> (3,768,018)
<INCOME-TAX> 0
<INCOME-CONTINUING> (3,768,018)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (3,768,018)
<EPS-PRIMARY> (1.24)
<EPS-DILUTED> (1.24)
</TABLE>
