<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1996
-----------------------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
----------------- ---------------------------
Commission File Number: 000-19168
-----------------------------------------------------
Sofamor Danek Group, Inc.
- - ------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
Indiana 35-1580052
- - -----------------------------------------------------------------------------------------------------------
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification Number)
1800 Pyramid Place, Memphis, Tennessee 38132
- - -----------------------------------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(901) 396-2695
- - -----------------------------------------------------------------------------------------------------------
(Registrant's telephone number, including area code)
- - ------------------------------------------------------------------------------------------------------------
(Former name, former address and former fiscal year, if changed since last
report)
</TABLE>
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
[X] Yes [ ] No
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
24,334,561 shares of common stock outstanding as of June 30, 1996
- - -------------------------------------------------------------------------------
<PAGE> 2
PART I - FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
SOFAMOR DANEK GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARES)
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1996 1995
-------- ----------
ASSETS (UNAUDITED)
<S> <C> <C>
Current Assets:
Cash and cash equivalents $ 4,787 $ 11,330
Short-term investments 85 1,924
Accounts receivable--trade, less allowance for doubtful
accounts of $1,466 and $1,555 for June 30, 1996
and December 31, 1995, respectively 53,865 50,451
Other receivables 16,327 9,257
Inventories 27,598 25,723
Loaner set inventories 12,661 10,803
Prepaid expenses 4,798 5,092
Prepaid income taxes 1,614 2,648
Current deferred income taxes 5,004 4,699
-------- --------
Total current assets 126,739 121,927
Property, plant and equipment
Land 1,489 1,505
Buildings 11,192 10,878
Machinery and equipment 28,467 25,723
Automobiles 337 231
-------- --------
41,485 38,337
Less accumulated depreciat (17,532) (15,714)
-------- --------
23,953 22,623
Notes receivable--other 166 170
Investments 1,050 3,600
Intangible assets, net 43,333 29,600
Other assets 18,345 3,427
Non-current deferred income taxes 14,874 15,266
-------- --------
$228,460 $196,613
======== ========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
2
<PAGE> 3
SOFAMOR DANEK GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (CONTINUED)
(IN THOUSANDS, EXCEPT SHARES)
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1996 1995
----------- ------------
LIABILITIES (UNAUDITED)
<S> <C> <C>
Current liabilities:
Notes payable $ 20,185 $ 6,516
Current maturities of long-term debt 16,542 10,086
Accounts payable 5,658 6,513
Accrued foreign income taxes 186 539
Accrued expenses 23,998 21,134
-------- --------
Total current liabilities 66,569 44,788
Long-term debt, less current maturities 12,034 28,125
Deferred income taxes 182 191
Minority interest 1,835 580
Commitments and contingencies
STOCKHOLDERS' EQUITY
Preferred stock, no par value, 5,000,000 shares
authorized, no shares outstanding
Common stock, no par value, 150,000,000 shares
authorized: 25,020,469 and 24,672,131 shares
issued (including 685,908 and 678,433 shares held in treasury)
at June 30, 1996 and December 31, 1995, respectively 51,472 44,832
Retained earnings 107,594 86,777
Cumulative translation adjustment 3,095 5,542
-------- --------
162,161 137,151
Less:
Cost of common stock held in treasury (9,985) (9,736)
Unearned compensation (171) (321)
Stockholders' notes receivable (4,165) (4,165)
-------- --------
147,840 122,929
-------- --------
$228,460 $196,613
======== ========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
3
<PAGE> 4
SOFAMOR DANEK GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
1996 1995 1996 1995
---------- -------- --------- -----------
<S> <C> <C> <C> <C>
Net Sales $56,820 $43,462 $111,038 $ 87,402
Cost of goods sold 9,731 9,178 20,347 19,197
------- ------- -------- --------
Gross profit 47,089 34,284 90,691 68,205
Operating expenses:
Selling, general and administrative 26,784 21,359 52,772 41,671
Research and development 3,919 3,623 7,557 6,977
License agreement acquisition charge -- -- -- 45,337
------- ------- -------- --------
30,703 24,982 60,329 93,985
------- ------- -------- --------
Income (loss) from operations 16,386 9,302 30,362 (25,780)
Other income 90 2,041 1,070 2,435
Interest expense (795) (994) (1,572) (1,165)
------- ------- -------- --------
Income (loss) from operations before
provision (benefit) for and charge in
lieu of income taxes 15,681 10,349 29,860 (24,510)
Provision (benefit) for and charge in lieu
of income taxes 4,612 2,265 8,194 (11,149)
------- ------- -------- --------
Income (loss) before minority interest 11,069 8,084 21,666 (13,361)
Minority interest (437) (54) (849) (121)
------- ------- -------- --------
Net income (loss) $10,632 $ 8,030 $ 20,817 $(13,482)
======= ======= ======== ========
Net income (loss) per common share $ 0.41 $ 0.32 $ 0.80 $ (0.54)
======= ======= ======== ========
Weighted average common shares
outstanding 25,994 25,078 26,043 25,129
======= ======= ======== ========
</TABLE>
Note: Primary weighted average shares approximate fully diluted weighted
average shares. The accompanying notes are an integral part of
the consolidated financial statements.
4
<PAGE> 5
SOFAMOR DANEK GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOW
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30,
1996 1995
--------- -----------
<S> <C> <C>
Cash flows from operating activities:
Income (loss) before minority interes $ 21,666 $(13,361)
Minority interest (849) (121)
-------- --------
Net income (loss) 20,817 (13,482)
Adjustments to reconcile net income (loss) to net cash
provided (used) by operating activities:
Depreciation and amortization 4,184 3,607
Provision for doubtful accounts receivable 180 112
Deferred income tax benefit (79) (15,847)
License agreement acquisition charge -- 45,215
Loss on disposal of equipment 18 5
Equity loss in unconsolidated affiliate 20 120
Minority interest 849 121
Changes in assets and liabilities, net of effects of acquisition:
Accounts receivable (3,655) (2,279)
Other receivables (7,450) (1,538)
Inventories (3,641) (506)
Prepaid expenses 344 (612)
Prepaid income taxes 3,149 1,935
Other assets (14,950) (1,877)
Accounts payable (1,414) (701)
Accrued state income and franchise taxes -- 28
Accrued federal income taxes -- 137
Accrued foreign income taxes (243) (65)
Accrued expenses 2,745 (730)
-------- --------
Net cash provided by operating activities 874 13,643
-------- --------
Cash flows from investing activities:
Purchase of short-term investments (98) (10,269)
Proceeds from maturities of short-term investments 1,899 8,216
Proceeds from sale of equipment 3 --
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
5
<PAGE> 6
<TABLE>
<CAPTION>
SOFAMOR DANEK GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOW (CONTINUED)
(IN THOUSANDS)
(UNAUDITED)
SIX MONTHS ENDED
JUNE 30,
1996 1995
----------------------
<S> <C> <C>
Payments for purchase of property, plant and equipment (3,392) (2,404)
Purchase of intangible assets (3,778) (3,717)
Repayments of notes receivable, other 53 46
Acquisition, net of cash acquired (10,464) (2,585)
------- -------
Net cash used by investing activities (15,777) (10,713)
------- -------
Cash flows from financing activities:
Increase in revolving debt & other short term debt 13,886 11,626
Proceeds from long-term debt 433 73
Repayment of long-term debt (9,972) (12,764)
Proceeds from issuance of common stock 4,525 624
Capital contribution by minority shareholder 428 --
------- -------
Net cash provided (used) by financing activities 9,300 (441)
------- -------
Effect of exchange rate changes on cash (940) (733)
------- -------
Increase (decrease) in cash and cash equivalents (6,543) 1,756
Cash and cash equivalents, beginning of period 11,330 4,387
------- -------
Cash and cash equivalents, end of period $ 4,787 $ 6,143
======= ========
</TABLE>
Supplemental disclosure of non-cash investing and financing activities:
- In 1996 and 1995, net income tax benefits of $2,115 and $166,
respectively, were realized by the Company as a result of certain
common stock options being exercised and vesting of certain
restricted common stock, reducing accrued federal and state income
taxes payable and increasing common stock.
- During the first six months of 1996, $250 of accounts
receivable were written off against the allowance for doubtful
accounts.
- During March of 1995, the Company incurred a liability of
$45,215 in connection with the acquisition of a license agreement.
The accompanying notes are an integral part of the consolidated financial
statements.
6
<PAGE> 7
SOFAMOR DANEK GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
1. Financial Statement Presentation
The consolidated balance sheet as of June 30, 1996, the consolidated
statements of income for the three months and six months ended June 30,
1996 and 1995, and the consolidated statements of cash flows for the six
months ended June 30, 1996 and 1995 are unaudited but, in the opinion of
management, include all adjustments (consisting only of normal recurring
adjustments) necessary for a fair presentation of financial position,
results of operations and cash flows.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted. It is suggested that these
consolidated financial statements be read in conjunction with the financial
statements and notes thereto included in the Company's 1995 Annual Report
on Form 10-K.
2. Inventories and Loaner Set Inventories
Net inventories and loaner set inventories consist of:
<TABLE>
<CAPTION>
- - -------------------------------------------------------------
June 30, December 31,
1996 1995
- - -------------------------------------------------------------
<S> <C> <C>
Finished goods $23,318 $21,238
Work-in-process 3,044 3,017
Raw materials 1,236 1,468
- - -------------------------------------------------------------
Net inventories $27,598 $25,723
- - -------------------------------------------------------------
Loaner set inventories, net $12,661 $10,803
- - -------------------------------------------------------------
</TABLE>
7
<PAGE> 8
3. Income Taxes
The Company's effective income tax rates were 29.4% and 27.4%,
respectively, for the quarter and six months ended June 30, 1996. The
effective rate for the second quarter of 1995 was 21.9% and the effective
rate of the net tax benefit for the six months ended June 30, 1995 was
45.5%. The tax benefit of $11,149 recorded during the first six months of
1995 resulted primarily from the one-time license agreement acquisition
charge to earnings of $45,337. Without the $45,337 one-time charge, the
tax expense for the first six months of 1995 would have been $4,719 or a
22.7% effective tax rate. The difference between the Company's effective
and statutory tax rates for both the quarter and six months ended June 30,
1996 and 1995 resulted primarily from the impact of the effects of certain
elections made for U.S. tax purposes following the combination of Danek
Group, Inc. with Sofamor S.A. ("Sofamor"), and the subsequent
reorganization of Sofamor from a Societe Anonyme (S.A.) under French law to
a Societe en Nom Collectif (S.N.C.) in late 1993. Management cannot be
certain that such a favorable effective income tax rate will be achieved in
future periods, since the effective tax rate calculation is dependent upon
the Company's pre-tax income dollar amount. Higher future pre-tax income
could lead to higher future effective tax rates. At June 30, 1996, the
balance sheet of the Company reflected a net deferred tax asset of $19,696,
which resulted primarily from the one-time license agreement acquisition
charge. No valuation allowance was recorded since sufficient taxable
income exists in available carryback periods to recognize fully these net
deferred tax assets.
During the first six months of 1996 and 1995, charges in lieu of income
taxes of $2,115 and $166, respectively, were recorded by the Company as a
result of certain common stock options being exercised and vesting of
certain restricted common stock.
4. Commitments and Contingencies
The Company is involved from time to time in litigation on various matters
which are routine to the conduct of this business, including product
liability and intellectual property cases.
PRODUCT LIABILITY LITIGATION
Multidistrict Litigation:
In 1994, the Company and other spinal implant manufacturers were named as
defendants in purported class action product liability lawsuits in various
federal courts throughout the country alleging that plaintiffs were injured
by spinal implants manufactured by the Company and others. On August 4,
1994, the Federal Judicial Panel on Multidistrict Litigation ordered that
all federal court lawsuits then existing be transferred to and
consolidated, for pretrial proceedings, including the determination of
class certification, in the Federal District Court for the Eastern District
of Pennsylvania in Philadelphia. Federal court lawsuits filed after August
4, 1994 have also been transferred to and consolidated in
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<PAGE> 9
the Eastern District of Pennsylvania. On February 22, 1995, Chief Judge
Emeritus Louis C. Bechtle denied class certification. The federal court
lawsuits before Judge Bechtle will remain coordinated for further pretrial
purposes but are individual lawsuits. As anticipated and previously
disclosed, as a result of the denial of class certification by Judge
Bechtle, a large number of additional plaintiffs have filed lawsuits
alleging injuries caused by spinal implants manufactured by the Company.
To date, approximately two thousand eight hundred (2,800) plaintiffs have
filed lawsuits against the Company, with a few also naming as defendants
various officers and directors of the Company. Also, plaintiffs' lawyers
have filed several lawsuits involving approximately two thousand (2,000)
claimants alleging a conspiracy theory among doctors, manufacturers
(including the Company), hospitals, teaching institutions, professional
societies and others to promote the use of spinal implants. Various
counsel for plaintiffs have, in certain instances, filed multiple
complaints on behalf of the same individual plaintiffs. The Company cannot
estimate precisely at this time the number of plaintiffs that may file
lawsuits.
The vast majority of such lawsuits were filed in federal courts throughout
the country and are in the preliminary stages. Discovery proceedings,
including the taking of depositions, have been ongoing in certain of the
lawsuits that were first to be filed. Discovery in certain cases filed
later may begin in the third quarter of this year. The trials of a number
of lawsuits involving individual plaintiffs are scheduled to begin in the
last quarter of 1996 and the first six months of 1997, although delays in
trial dates are common. Although plaintiffs have advanced claims under
many different legal theories, the essence of plaintiffs' claims appears to
be that the Company (including Sofamor and its former U.S. distributor)
marketed some of its spinal systems for pedicle fixation in contravention
of FDA rules and regulations (governing marketing and labeling), that
pedicle fixation has not been proven safe and efficacious in the context of
FDA labeling standards and that plaintiffs have suffered a variety of
injuries as a result of the use of the systems for pedicle fixation.
Plaintiffs in these cases typically seek relief in the form of monetary
damages, often in unspecified amounts. Many of the plaintiffs only allege
as monetary damages an amount in excess of the jurisdictional minimum for
the courts in which such cases are filed.
On April 8, 1996, Judge Bechtle issued a ruling that would have resulted in
the dismissal of many of the claims existing against the Company in the
multidistrict litigation. Judge Bechtle's ruling granted defendant AcroMed
Corporation's motion for summary judgment on claims involving failure to
warn, manufacturing, design and testing defects, implied warranty,
negligence and defect per se. (AcroMed Corporation is a spinal implant
manufacturer and a defendant in various of the cases pending in the
multidistrict litigation). The Court held that under applicable Third
Circuit precedent, all of these claims were expressly preempted by the
medical device provisions of the Food, Drug and Cosmetic Law ("FDCA"). The
Court's ruling left only claims for breach of express warranty and unlawful
promotion (excluding device labeling) as a basis for a federal court
lawsuit involving spinal implants. The Court further provided that
plaintiffs may seek reinstatement of some or all of the dismissed claims if
the U.S. Supreme Court's decision in Lohr v. Medtronics, altered the
existing Third Circuit law on federal preemption. On June 26, 1996, the
Supreme Court ruled in Lohr v. Medtronic that the preemption provision
contained in the medical device
9
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amendments of the FDCA does not expressly preempt state tort causes of
actions. On the basis of this decision the Company believes that the
plaintiffs will seek reinstatement of all claims previously dismissed by
Judge Bechtle's April 8, 1996 ruling and that those claims will be
reinstated. The ruling in Lohr v. Medtronic also applies to all pending
state court cases.
Tennessee and Oregon Product Liability Actions:
In January 1995, the Company and other spinal implant manufacturers,
doctors and a hospital were named defendants in a purported class action
product liability lawsuit filed in Nashville, Tennessee state court. This
lawsuit is limited to those individuals whose surgeries were performed at
one specific hospital. Class certification has been denied by the trial
judge in Nashville. Discovery has only recently begun in these individual
cases. In October 1995, the Company was served with an Oregon state court
complaint that purported to be a class action. This Oregon complaint
alleged, among other things, injury based upon various legal theories. In
March 1996, the plaintiffs in this Oregon case withdrew the class
allegations. Discovery has begun in these individual cases. In these
Tennessee and Oregon actions, plaintiffs, who seek relief in the form of
monetary damages of unspecified amounts, are expected to continue their
lawsuits as individual cases.
The Company believes that all product liability lawsuits currently pending
against it are without merit and will continue to defend them vigorously.
All pending cases are currently being defended by insurance carriers,
generally under reservation of rights. As is common in the insurance
industry, the Company's insurance policies covering product liability
claims must be renewed annually. Although the Company has been able to
obtain insurance coverage relating to product liability claims at a cost
and on other terms and conditions that are acceptable to the Company, there
can be no assurance that in the future it will be able to do so.
While the aggregate monetary damages eventually sought by all of these
plaintiffs and the related costs to defend such actions may be substantial
and could exceed the limits of the Company's various insurance policies,
the Company believes that it has affirmative defenses, including, without
limitation, defenses based upon the expiration of the applicable statute of
limitations, the learned intermediary defense and the failure of a cause of
action to exist where no malfunction of the implant has occurred or the
plaintiff has suffered no injury attributable to the Company's product.
The Company has and will continue to assert the affirmative defenses
primarily through the filing of dispositive motions. The Company also
believes that all of these individual lawsuits are without merit.
SECURITIES LAWS ACTIONS
Beginning in April 1994, the Company and four of its officers and directors
were named in five shareholder lawsuits filed in Federal District Court in
Memphis, Tennessee. Four of the lawsuits purport to be class actions. All
of the lawsuits have been consolidated into one case in Federal District
Court in Memphis through an amended complaint which added four new
10
<PAGE> 11
individual defendants who are either current or former directors of the
Company. The lawsuit alleges that the defendants made false and misleading
statements and failed to state material facts to the investing public and
seeks money damages. The alleged securities law violations are premised on
the claim that the defendants failed to disclose that the Company sold its
products illicitly, illegitimately, and improperly and to timely disclose
facts concerning the termination of the former United States distributor of
Sofamor products, National Medical Specialties, Inc. ("NMS"). The
allegations relating to illicit and illegitimate sales of product are, for
the most part, copied from product liability complaints filed against the
Company and other manufacturers currently being coordinated in Federal
District Court for the Eastern district of Pennsylvania referred to above.
The allegations of improper sales relate to one of the Company's selling
programs which has been publicly disclosed since May 1991. The allegations
concerning NMS relate to the termination of the NMS distribution agreement
covering Sofamor products in the United States. On October 3, 1995, the
Federal District Court Judge in Memphis dismissed with prejudice the entire
case against the Company and each of the individual defendants. The
plaintiffs have appealed the dismissal.
SPANISH DISTRIBUTOR ACTION
In late September 1994, a Magistrate of the Commercial Court in Paris ruled
in favor of a former Spanish distributor of Sofamor's products on a claim
of wrongful termination of the distribution agreement in 1992. Prior to
the Combination an accrual was established, with a related charge to
earnings, for this pending litigation. At the Combination date in June
1993, the Company also established a separate indemnity with respect to
potential losses resulting from such lawsuit and placed in escrow shares
issued to the former Sofamor shareholders pending the outcome of this
lawsuit. The $3.0 million award (including interest) rendered by the
French Magistrate exceeded the pre-established accrual. As a result, the
Company recorded an expense of $2.2 million for the non-recurring
litigation award during the third and fourth quarters of 1994. The Company
has appealed this ruling. The appeal process requires a retrial of all
issues.
The Company does not believe that any pending litigation, including the
actions described above, will have a material adverse effect on its
consolidated financial position, results of operations or cash flows
because of, among other reasons, the facts and circumstances existing with
respect to each action, the Company's belief that certain actions are
without merit, certain defenses available to the Company and the
availability of insurance in certain actions.
CONTINGENT FUTURE PAYMENTS
In May 1996, the Company purchased the remaining 80.5% of the outstanding
stock of Surgical Navigation Technologies, Inc. ("SNT"). The Company had
purchased 19.5% of the outstanding stock of SNT in March of 1995. Pursuant
to the purchase agreement, the Company may be required to make future
payments to the former shareholders of SNT for each year through 1999. As
the requirement to make future payments is subject to the
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<PAGE> 12
realization of certain revenues and earnings for each year through 1999,
the Company is unable to determine at this point whether any such payments
will be required.
5. Subsequent Events
During July 1996, the Company acquired certain net assets of TiMesh, Inc.
("TiMesh"). TiMesh is a privately held company located in Las Vegas,
Nevada, that designs, manufactures and markets titanium plates and titanium
alloy screws.
In July 1996, the Company acquired all of the stock of MedNext, Inc.
("MedNext"), a privately held company located in West Palm Beach, Florida,
that designs, manufactures and markets powered surgical instrumentation and
accessories for surgical specialties. The Company will be required to make
future payments to the former shareholders of MedNext in the event that
sales of MedNext products exceed specific annual targets in either 1997,
1998, or 1999. As the requirement to make future payments is subject to
the realization of certain revenues in either 1997, 1998 or 1999, the
Company is unable to determine at this point whether any such payments will
be required.
In July 1996, the Company also entered into an exclusive, worldwide
agreement with The University of Florida Tissue Bank, Inc. ("UFTB") to
distribute certain allograft bone products, including a threaded cortical
bone dowel. The threaded bone dowels are proprietary, patent pending
technology developed at and currently distributed by UFTB.
12
<PAGE> 13
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
The following table sets forth for the periods indicated selected
unaudited financial information expressed as a percentage of net sales
and the period-to-period change in such information.
<TABLE>
<CAPTION>
PERIOD-TO-PERIOD
CHANGE
----------------------
THREE SIX
MONTHS MONTHS
JUNE 30, JUNE 30,
THREE MONTHS SIX MONTHS 1996 1996
ENDED JUNE 30, ENDED JUNE 30, VS VS
1996 1995 1996 1995 1995 1995
------ ------ ------ ------ ------- --------
<S> <C> <C> <C> <C> <C> <C>
Net Sales 100.0% 100.0% 100.0% 100.0% 30.7% 27.0%
Cost of goods sold 17.1 21.1 18.3 22.0 6.0 6.0
----- ----- ----- ------
Gross profit 82.9 78.9 81.7 78.0 37.3 33.0
Operating expenses:
Selling, general and administrative 47.2 49.2 47.6 47.6 25.4 26.6
Research and development 6.9 8.3 6.8 8.0 8.2 8.3
License agreement acquisition charge -- -- -- 51.9 -- (100.0)
----- ----- ----- ------
54.1 57.5 54.4 107.5 22.9 (35.8)
----- ----- ----- ------
Income (loss) from operations 28.8 21.4 27.3 (29.5) 76.2 217.8
Other income 0.2 4.7 1.0 2.8 (95.6) (56.1)
Interest expense (1.4) (2.3) (1.4) (1.3) (20.0) 34.9
----- ----- ----- ------
Income (loss) from operations before
provision (benefit) for and charge in
lieu of income taxes 27.6 23.8 26.9 (28.0) 51.5 221.8
Provision (benefit) for and charge in lieu
of income taxes 8.1 5.2 7.4 (12.7) 103.6 173.5
----- ----- ----- ------
Income (loss) before minority interest 19.5 18.6 19.5 (15.3) 36.9 262.2
Minority interest (0.8) (0.1) (0.8) (0.1) 709.3 601.7
----- ----- ----- ------
Net income (loss) 18.7% 18.5% 18.7% (15.4)% 32.4% 254.4%
===== ===== ===== ======
</TABLE>
See the accompanying notes to the consolidated financial statements.
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<PAGE> 14
OVERVIEW*
In March 1995, Sofamor Danek purchased 19.5% of the outstanding stock of
Surgical Navigation Technologies, Inc. ("SNT") and acquired the exclusive
worldwide license (except in Korea until 1997) to manufacture and distribute
SNT products relating to frameless stereotactic surgery in spinal and
neurological fields. In May 1996, the Company acquired the remaining 80.5% of
the outstanding stock of SNT. Pursuant to the purchase agreement, contingent
upon the generation of certain revenues and earnings relative to SNT products,
the Company may be required to make future payments to the former shareholders
of SNT for each year through 1999. As the requirement to make future payments
is subject to the realization of certain revenues and earnings for each year
through 1999, the Company is unable to determine at this point whether any such
payments will be required.
In July 1996, the Company acquired certain net assets of TiMesh, Inc.
("TiMesh"). TiMesh is a privately held company located in Las Vegas, Nevada,
that designs, manufactures and markets titanium plates and titanium alloy
screws.
In July 1996, the Company acquired all of the stock of MedNext, Inc.
("MedNext"), a privately held company located in West Palm Beach, Florida that
designs, manufactures and markets powered surgical instrumentation and
accessories for surgical specialties. The Company will be required to make
future payments to the former shareholders of MedNext in the event that sales
of MedNext products exceed specific annual targets in either 1997, 1998, or
1999. As the requirement to make future payments is subject to the realization
of certain revenues in either 1997, 1998 or 1999, the Company is unable to
determine at this point whether any such payments will be required.
In July 1996, the Company also entered into an exclusive, worldwide agreement
with The University of Florida Tissue Bank, Inc. ("UFTB") to distribute certain
allograft bone products, including a threaded cortical bone dowel. The
threaded bone dowels are proprietary, patent pending technology developed at
and currently distributed by UFTB.
The SNT, TiMesh and MedNext acquisitions are accounted for by the purchase
method.
- - ----------------------------
* Except for the historical information contained in this Quarterly Report
on Form 10-Q, the matters discussed herein (including, in particular,
those discussed in Part II, Item 1, "Legal Proceedings") are
forward-looking statements that involve risks and uncertainties, including
(without limitation) the timely development and acceptance of new
products, the impact of competitive products, the timely receipt of
regulatory clearances required for new products, the regulation of the
Company's products generally, the disposition of certain litigation
involving the Company and certain other risks and uncertainties detailed
from time to time in the Company's periodic reports (including the Annual
Report on Form 10-K for the year ended December 31, 1995 and the Quarterly
Report on Form 10-Q for the quarter ended March 31, 1996) filed with the
Securities and Exchange Commission.
14
<PAGE> 15
RESULTS OF OPERATIONS
The Company reported NET SALES of $56.8 million and $111.0 million for the
quarter and six months ended June 30, 1996. Second quarter 1996 net sales
increased $13.4 million or 30.7%, compared with the second quarter of 1995.
The growth in net sales included an increase of 8.8% that resulted from the
Company's conversion of certain portions of its international distribution
network to direct sales which resulted in higher selling prices. Other net
pricing changes in existing distribution channels caused an increase of 4.0%.
Net sales for the six months ended June 30, 1996, represented a $23.6 million,
or 27.0% increase, over the same period in 1995. Net sales growth included an
increase of 6.7% that resulted from the Company's conversion of certain
portions of its international distribution network to direct sales which
resulted in higher selling prices. Other net pricing changes in existing
distribution channels caused an increase of 3.7%. Changes in exchange rates
had an immaterial impact on net sales for the quarter and six months ended June
30, 1996.
U.S. SALES increased 24.0% to $37.4 million and 23.9% to $73.1 million during
the second quarter and first six months of 1996, respectively, from the same
periods in 1995. The Company believes the improvement in U.S. sales is
primarily the result of an increased number of instrumented fusions and the
acceptance of new product introductions.
NON-U.S. SALES advanced 46.1% to $19.4 million and 33.5% to $37.9 million
during the second quarter and first six months of 1996, respectively, from the
same periods in 1995. Management believes the strong international sales
growth in the second quarter and first six months of 1996, compared with the
same periods of 1995 primarily reflects the Company's enhanced international
sales and marketing programs. The Company's global objective of establishing a
direct presence in strategic countries contributed to the growth of
international sales. In February 1996, the Company formed a new subsidiary in
Japan, Kobayashi Sofamor Danek K.K. ("KSD"). KSD is owned 50% each by the
Company and Kobayashi Pharmaceutical Co., Ltd. ("KPC"), which has served as the
Company's distributor to Japan. KSD has a total of 9 directors, of whom 5 have
been designated by the Company. The Company controls the operations of KSD
which are consolidated in the Company's financial statements. The Company
sells the product it manufactures to KSD, which in turn resells the product at
near retail prices through KPC's distribution network. The Company's
international sales also benefited from the April 1996 formation of a new
wholly owned subsidiary in Canada and from the subsidiaries formed in the
Benelux region and Poland during the second half of 1995.
The Company's GROSS MARGIN improved as a percentage of net sales during the
second quarter of 1996 to 82.9% from 78.9% in the same quarter of 1995. Gross
margin increased as a percentage of net sales during the six months ended June
30, 1996 to 81.7% from 78.0% in the same period of 1995. The enhancement in
gross margin from the second quarter and the first six months of 1995 is due to
greater leveraging of manufacturing costs due to increased volume, higher
margins due to changes in international distribution, and favorable shifts in
the sales mix of certain products and sales programs.
15
<PAGE> 16
SELLING, GENERAL, AND ADMINISTRATIVE (S,G,&A) EXPENSES decreased to 47.2% of
sales during the second quarter compared with 49.2% during the second quarter
of 1995. The decrease in S,G,&A expenses for the quarter as a percentage of
sales relates mostly to leveraging of administrative costs over greater sales.
S,G,&A expenses were 47.6% of sales for the six months ended June 30, 1996 and
1995.
RESEARCH AND DEVELOPMENT (R&D) EXPENSES totaled $3.9 million or 6.9% of net
sales, for the second quarter of 1996, compared with $3.6 million or 8.3% of
net sales, for the second quarter of 1995. For the first six months of 1996,
research and development expenses were $7.6 million or 6.8% of net sales
compared to $7.0 million or 8.0% of sales for the same period of 1995. These
costs are incurred as the Company continues to enhance existing product lines
and to develop new and complementary products for use in spinal surgery, such
as the interbody fusion devices, biological products for use in spinal
reconstruction, and products related to frameless stereotactic surgery in the
spinal and neurological fields of use. These expenditures demonstrate the
Company's continued commitment to the pursuit of applying new medical
technologies to product opportunities.
In the first quarter of 1995, the Company recorded a $45.3 million one-time
LICENSE AGREEMENT ACQUISITION CHARGE to earnings (which represents the net
present value of $50.0 million of payments due under the terms of the license
agreement between the Company and Genetics Institute ("G.I. Agreement") plus
related transaction costs) to reflect the acquisition by the Company of
exclusive North American rights to Genetics Institute's recombinant human bone
morphogenetic protein (rhBMP-2) for spinal applications.
For the quarter and six months ended June 30, 1996, the company recorded OTHER
INCOME of $90,000, and $1.1 million, respectively, compared with other income
of $2.0 million and $2.4 million, respectively, in the quarter and six months
ended June 30, 1995. Other income was higher during the second quarter of last
year due mainly to foreign exchange gains and the reversal of certain risk
provisions. The primary difference between other income recorded during the
first six months of 1996 and 1995 relates to the reversal of certain risk
provisions.
INTEREST EXPENSE for the second quarter and six months ended June 30, 1996, was
$795,000 and $1.6 million, respectively, compared with $994,000 and $1.2
million, respectively, for the same periods in 1995. The largest component of
interest expense during the first six months of 1996 was the imputed interest
under the G.I. Agreement. There was no interest under the G.I. Agreement
during the first quarter of 1995.
The Company's effective INCOME TAX RATES were 29.4% and 27.4%, respectively,
for the quarter and six months ended June 30, 1996. The effective rate for the
second quarter of 1995 was 21.9% and the effective rate of the net tax benefit
for the six months ended June 30, 1995 was 45.5%. The tax benefit of $11.1
million recorded during the first six months of 1995 resulted primarily from
the one-time license agreement acquisition charge to earnings of $45.3 million
described above. Without the $45.3 million one-time charge, the tax expense
for the first six months of 1995 would have been $4.7 million or a 22.7%
effective tax rate. The difference between the Company's effective and
statutory tax rates for both the quarter and six months
16
<PAGE> 17
ended June 30, 1996 and 1995 resulted primarily from the impact of the effects
of certain elections made for U.S. tax purposes following the combination of
Danek Group, Inc. with Sofamor S.A. ("Sofamor"), and the subsequent
reorganization of Sofamor from a Societe Anonyme (S.A.) under French law to a
Societe en Nom Collectif (S.N.C.) in late 1993. Management cannot be certain
that such a favorable effective income tax rate will be achieved in future
periods, since the effective tax rate calculation is dependent upon the
Company's pre-tax income dollar amount. Higher future pre-tax income could
lead to higher future effective tax rates. At June 30, 1996, the balance sheet
of the Company reflected a net deferred tax asset of $19.7 million, which
resulted primarily from the one-time license agreement acquisition charge. No
valuation allowance was recorded since sufficient taxable income exists in
available carryback periods to recognize fully these net deferred tax assets.
Management believes that inflation has not had a material impact on the
Company's business.
LIQUIDITY AND CAPITAL RESOURCES
Cash generated from operations and the Company's revolving line of credit are
the principal sources of funding available for the growth of the business,
including working capital, additions to property, plant and equipment as well
as debt service requirements and required contractual payments. Cash, cash
equivalents and short-term investments totaled $4.9 million at June 30, 1996,
compared with $13.3 million at December 31, 1995.
In connection with the formation of KSD in February 1996, the Company made a
$15.0 million prepayment of commissions to KPC.
In connection with the G.I. Agreement, the Company has recorded a liability of
$23.0 million at June 30, 1996, which represents the present value of the $25.0
million in remaining scheduled payments. Of this amount, $7.0 million is
classified as long-term debt and $16.0 million is reflected as a current
liability, representing the principal portion of the $17.5 million payable on
June 30, 1997. The final payment of $7.5 million is due in June of 1998.
The Company's working capital decreased $17.0 million during the first half of
1996. The change in working capital was primarily due to the $12.5 million
payment under the G.I. Agreement and the $6.2 million increase in the current
portion of the Genetic's Institute obligation, the payment for the acquisition
of SNT, and the prepayment of commissions to KPC. These uses of working
capital were partially offset by favorable cash flows from routine operations.
Net accounts receivable increased $3.4 million from December 31, 1995, due
primarily to the increase in net sales. Inventories and loaner set inventories
increased $3.7 million due to additional inventory relative to the SNT
acquisition, stocking levels required for recently formed subsidiaries, and the
manufacture of loaner set inventories in preparation for new sales and
marketing programs. Other receivables increased $7.1 million from the
Company's previous year-end, primarily due to amounts recoverable from the
Company's insurance carriers relative to expenses incurred in connection with
product liability litigation.
17
<PAGE> 18
Additions to property, plant and equipment during the first half of 1996 of
$3.1 million were related to capital assets acquired in the formation and
acquisition of new subsidiaries and other capital expenditures necessary to
support the Company's manufacturing and distribution operations. Intangible
assets increased by $13.7 million from December 31, 1995, primarily due to the
acquisition of goodwill and intellectual property during the first six months
of 1996.
The Company has committed lines of credit totaling approximately $47.8 million.
At June 30, 1996, $19.2 million was outstanding relative to the Company's
credit facilities. The committed lines of credit consist primarily of a $40.0
million uncollateralized revolving line of credit with a U.S. bank. Subsequent
to the end of the second quarter of 1996, the revolving line of credit with the
U.S. bank was increased to $50.0 million and the outstanding amount under such
facility increased by approximately $24.2 million in part to fund the
acquisitions and licensing arrangements described in the overview section.
The Company invests available funds in short-term investment grade instruments,
certificates of deposit or direct or guaranteed obligations of the United
States of America. These short-term investments are available to fund the
Company's working capital requirements and acquisitions of capital assets.
FACTORS THAT MAY AFFECT FUTURE OPERATING RESULTS AND FINANCIAL CONDITION
The Company's future operating results and financial condition are subject to
risks and uncertainties, including (without limitation) the following matters:
Regulatory Clearances. The Company manufactures devices that are subject to
regulations of the FDA and, in some cases, to regulations of foreign
governmental authorities. In particular, such devices are subject to marketing
clearance by the FDA before sales can be made in the United States. The
process of obtaining marketing clearances can be time-consuming, and there can
be no assurance that all necessary clearances will be granted to the Company
with respect to new devices or that the FDA review will not involve delays
adversely affecting the marketing and sale of new products and devices by the
Company. FDA regulations depend heavily on administrative interpretation, and
there can be no assurance that future interpretations made by the FDA or other
regulatory bodies, with possible retroactive effect, will not adversely affect
the Company. The Company cannot predict the extent or impact of future
foreign, federal, state or local legislation or regulation.
Potential Impact of Health Care Cost Containment Proposals on Profitability.
In recent years, the cost of health care has risen significantly, and there
have been numerous proposals by legislators, regulators and third party health
care payers to curb these cost increases in the United States and Europe. Some
of these proposals have involved limitations on the amount of reimbursement for
specific surgical procedures. These proposals have been adopted in some cases.
The Company is unable to predict what changes will be made in the
reimbursement methods utilized by third party health care payers. In addition,
hospitals and other health care providers have become increasingly cost
sensitive. To date, the Company does not believe that such health care cost
containment proposals have negatively affected the profitability or growth
18
<PAGE> 19
of its business; however, the Company is not able to predict the future effect
of these proposals on its business.
Product Obsolescence. Spinal implant and other devices are subject to
continuous improvements and modifications and typically are rendered obsolete
within a few years. Success, therefore, requires any medical device company to
devote substantial resources to continued product development. The Company
maintains active research and development programs and has been successful in
developing new products in the past. There can be no assurance that the
Company will be able to develop and introduce new products that will enable it
to remain competitive in the future.
Product Liability; Insurance. In recent years, physicians, hospitals, and
other participants in the health care industry have become subject to an
increasing number of lawsuits alleging malpractice or product liability or
asserting related legal theories. Such lawsuits in the health care industry
can involve substantial claims and defense costs. As described in Part II,
Item 1, "Legal Proceedings," the Company is involved in product liability
litigation. There can be no assurance that additional claims will not be
asserted against the Company in the future. The Company currently maintains
liability insurance intended to cover such claims, although there can be no
assurance that the coverage limits of such insurance policies will be adequate.
Such insurance is expensive, difficult to obtain and may not be available in
the future on terms acceptable to the Company or at all. A successful claim
brought against the Company in excess of insurance coverage could have a
material adverse effect upon the Company and the financial condition, results
of operations and cash flows of the Company. Claims against the Company,
regardless of their merit or eventual outcome, may also have a material adverse
effect upon the reputation and business of the Company. See Part II, Item 1,
"Legal Proceedings."
Competition. Worldwide, there are a number of firms producing spinal implant
devices. The Company currently competes with a number of firms with financial,
marketing and technical resources comparable to or greater than those of the
Company. Because of the significant growth of the number of spinal fusion
procedures performed in recent years, a number of companies, including those
active in producing various orthopaedic and neurological products and having
financial, marketing and technical resources significantly greater than those
of the Company, have begun producing spinal implant devices. The Company
anticipates that additional companies may also begin such production.
Retention of Personnel. The Company is highly dependent upon its senior
management, and the competition for qualified management personnel is intense.
The loss of key personnel or an inability to attract, retain and motivate such
persons could adversely affect the business and prospects of the Company.
There can be no assurance that the Company will be able to retain its existing
senior management personnel or to attract additional qualified personnel if and
as needed. The Company also depends on its contractual relationships with
certain physicians for product ideas, research and advice. There can be no
assurance that the Company will be able to maintain and develop such
relationships.
19
<PAGE> 20
Global Market Risks. A significant portion of the Company's revenue is derived
from its international operations. As a result, the Company's operations and
financial results could be affected by international factors, such as changes
in foreign currency exchange rates or weak economic conditions in the foreign
markets in which the Company distributes its products.
Intellectual Property. The Company is dependent on its proprietary
intellectual property and attempts to protect such intellectual property
through patents, licensing, trade secrets and proprietary know-how. In the
medical device industry, challenges by third parties regarding intellectual
property rights occur frequently. Such challenges may result in litigation
which is often complex and expensive. There can be no assurance that the
Company's proprietary rights will not be challenged, rendered unenforceable or
circumvented and that pending or future patent or trademark applications will
be granted.
20
<PAGE> 21
PART II -- OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
The Company is involved from time to time in litigation on various
matters which are routine to the conduct of this business,
including product liability and intellectual property cases.
PRODUCT LIABILITY LITIGATION
Multidistrict Litigation:
In 1994, the Company and other spinal implant manufacturers were
named as defendants in purported class action product liability
lawsuits in various federal courts throughout the country alleging
that plaintiffs were injured by spinal implants manufactured by the
Company and others. On August 4, 1994, the Federal Judicial Panel
on Multidistrict Litigation ordered that all federal court lawsuits
then existing be transferred to and consolidated, for pretrial
proceedings, including the determination of class certification, in
the Federal District Court for the Eastern District of Pennsylvania
in Philadelphia. Federal court lawsuits filed after August 4, 1994
have also been transferred to and consolidated in the Eastern
District of Pennsylvania. On February 22, 1995, Chief Judge
Emeritus Louis C. Bechtle denied class certification. The federal
court lawsuits before Judge Bechtle will remain coordinated for
further pretrial purposes but are individual lawsuits. As
anticipated and previously disclosed, as a result of the denial of
class certification by Judge Bechtle, a large number of additional
plaintiffs have filed lawsuits alleging injuries caused by spinal
implants manufactured by the Company. To date, approximately two
thousand eight hundred (2,800) plaintiffs have filed lawsuits
against the Company, with a few also naming as defendants various
officers and directors of the Company. Also, plaintiffs' lawyers
have filed several lawsuits involving approximately two thousand
(2,000) claimants alleging a conspiracy theory among doctors,
manufacturers (including the Company), hospitals, teaching
institutions, professional societies and others to promote the use
of spinal implants. Various counsel for plaintiffs have, in
certain instances, filed multiple complaints on behalf of the same
individual plaintiffs. The Company cannot estimate precisely at
this time the number of plaintiffs that may file lawsuits.
The vast majority of such lawsuits were filed in federal courts
throughout the country and are in the preliminary stages.
Discovery proceedings, including the taking of depositions, have
been ongoing in certain of the lawsuits that were first to be
filed. Discovery in certain cases filed later may begin in the
third quarter of this year. The trials of a number of lawsuits
involving individual plaintiffs are scheduled to begin in the last
quarter of 1996 and the first six months of 1997,
21
<PAGE> 22
although delays in trial dates are common. Although plaintiffs
have advanced claims under many different legal theories, the
essence of plaintiffs' claims appears to be that the Company
(including Sofamor and its former U.S. distributor) marketed some
of its spinal systems for pedicle fixation in contravention of FDA
rules and regulations (governing marketing and labeling), that
pedicle fixation has not been proven safe and efficacious in the
context of FDA labeling standards and that plaintiffs have suffered
a variety of injuries as a result of the use of the systems for
pedicle fixation. Plaintiffs in these cases typically seek relief
in the form of monetary damages, often in unspecified amounts.
Many of the plaintiffs only allege as monetary damages an amount in
excess of the jurisdictional minimum for the courts in which such
cases are filed.
On April 8, 1996, Judge Bechtle issued a ruling that would have
resulted in the dismissal of many of the claims existing against
the Company in the multidistrict litigation. Judge Bechtle's
ruling granted defendant AcroMed Corporation's motion for summary
judgment on claims involving failure to warn, manufacturing, design
and testing defects, implied warranty, negligence and defect per
se. (AcroMed Corporation is a spinal implant manufacturer and a
defendant in various of the cases pending in the multidistrict
litigation). The Court held that under applicable Third Circuit
precedent, all of these claims were expressly preempted by the
medical device provisions of the Food, Drug and Cosmetic Law
("FDCA"). The Court's ruling left only claims for breach of
express warranty and unlawful promotion (excluding device labeling)
as a basis for a federal court lawsuit involving spinal implants.
The Court further provided that plaintiffs may seek reinstatement
of some or all of the dismissed claims if the U.S. Supreme Court's
decision in Lohr v. Medtronics, altered the existing Third Circuit
law on federal preemption. On June 26, 1996, the Supreme Court
ruled in Lohr v. Medtronic that the preemption provision contained
in the medical device amendments of the FDCA does not expressly
preempt state tort causes of actions. On the basis of this
decision the Company believes that the plaintiffs will seek
reinstatement of all claims previously dismissed by Judge Bechtle's
April 8, 1996 ruling and that those claims will be reinstated. The
ruling in Lohr v. Medtronic also applies to all pending state court
cases.
Tennessee and Oregon Product Liability Actions:
In January 1995, the Company and other spinal implant
manufacturers, doctors and a hospital were named defendants in a
purported class action product liability lawsuit filed in
Nashville, Tennessee state court. This lawsuit is limited to those
individuals whose surgeries were performed at one specific
hospital. Class certification has been denied by the trial judge
in Nashville. Discovery has only recently begun in these
individual cases. In October 1995, the Company was served with an
Oregon state court complaint that purported to be a class action.
This Oregon complaint alleged, among other things, injury based
upon various legal theories. In March 1996, the plaintiffs in this
Oregon case withdrew the
22
<PAGE> 23
class allegations. Discovery has begun in these individual cases.
In these Tennessee and Oregon actions, plaintiffs, who seek relief
in the form of monetary damages of unspecified amounts, are
expected to continue their lawsuits as individual cases.
The Company believes that all product liability lawsuits currently
pending against it are without merit and will continue to defend
them vigorously. All pending cases are currently being defended by
insurance carriers, generally under reservation of rights. As is
common in the insurance industry, the Company's insurance policies
covering product liability claims must be renewed annually.
Although the Company has been able to obtain insurance coverage
relating to product liability claims at a cost and on other terms
and conditions that are acceptable to the Company, there can be no
assurance that in the future it will be able to do so.
While the aggregate monetary damages eventually sought by all of
these plaintiffs and the related costs to defend such actions may
be substantial and could exceed the limits of the Company's various
insurance policies, the Company believes that it has affirmative
defenses, including, without limitation, defenses based upon the
expiration of the applicable statute of limitations, the learned
intermediary defense and the failure of a cause of action to exist
where no malfunction of the implant has occurred or the plaintiff
has suffered no injury attributable to the Company's product. The
Company has and will continue to assert the affirmative defenses
primarily through the filing of dispositive motions. The Company
also believes that all of these individual lawsuits are without
merit.
SECURITIES LAWS ACTIONS
Beginning in April 1994, the Company and four of its officers and
directors were named in five shareholder lawsuits filed in Federal
District Court in Memphis, Tennessee. Four of the lawsuits purport
to be class actions. All of the lawsuits have been consolidated
into one case in Federal District Court in Memphis through an
amended complaint which added four new individual defendants who
are either current or former directors of the Company. The lawsuit
alleges that the defendants made false and misleading statements
and failed to state material facts to the investing public and
seeks money damages. The alleged securities law violations are
premised on the claim that the defendants failed to disclose that
the Company sold its products illicitly, illegitimately, and
improperly and to timely disclose facts concerning the termination
of the former United States distributor of Sofamor products,
National Medical Specialties, Inc. ("NMS"). The allegations
relating to illicit and illegitimate sales of product are, for the
most part, copied from product liability complaints filed against
the Company and other manufacturers currently being coordinated in
Federal District Court for the Eastern district of Pennsylvania
referred to above. The allegations of improper sales relate to one
of the Company's selling programs which has been publicly
23
<PAGE> 24
disclosed since May 1991. The allegations concerning NMS relate to
the termination of the NMS distribution agreement covering Sofamor
products in the United States. On October 3, 1995, the Federal
District Court Judge in Memphis dismissed with prejudice the entire
case against the Company and each of the individual defendants.
The plaintiffs have appealed the dismissal.
SPANISH DISTRIBUTOR ACTION
In late September 1994, a Magistrate of the Commercial Court in
Paris ruled in favor of a former Spanish distributor of Sofamor's
products on a claim of wrongful termination of the distribution
agreement in 1992. Prior to the Combination an accrual was
established, with a related charge to earnings, for this pending
litigation. At the Combination date in June 1993, the Company also
established a separate indemnity with respect to potential losses
resulting from such lawsuit and placed in escrow shares issued to
the former Sofamor shareholders pending the outcome of this
lawsuit. The $3.0 million award (including interest) rendered by
the French Magistrate exceeded the pre-established accrual. As a
result, the Company recorded an expense of $2.2 million for the
non-recurring litigation award during the third and fourth quarters
of 1994. The Company has appealed this ruling. The appeal process
requires a retrial of all issues.
The Company does not believe that any pending litigation, including
the actions described above, will have a material adverse effect on
its consolidated financial position, results of operations or cash
flows because of, among other reasons, the facts and circumstances
existing with respect to each action, the Company's belief that
certain actions are without merit, certain defenses available to
the Company and the availability of insurance in certain actions.
(See Part I, Item 2, "Management's Discussion and Analysis of
Results of Operations and Financial Condition--Factors That May
Affect Future Operating Results and Financial Condition--Product
Liability; Insurance and Intellectual Property.")
24
<PAGE> 25
Item 4. Submission of Matters to a Vote of Security Holders
a. The Company's annual shareholders' meeting was
held on May 9, 1996, to elect the directors of the Company for
the ensuing year and to approve an amendment to the Sofamor
Danek Group, Inc. Long-Term Incentive Plan and Employee Stock
Purchase Plan.
b. The following directors were elected at the
Annual Meeting of Shareholders:
<TABLE>
<CAPTION>
For Withheld
--- --------
<S> <C> <C>
E.R. Pickard 18,497,066 67,131
James J. Gallogly 18,497,666 66,531
L.D. Beard 18,417,329 146,868
George W. Bryan, Sr. 18,506,666 57,531
Robert A. Compton 18,499,566 64,631
Philippe Cotrel 18,496,319 67,878
Yves Paul Cotrel, M.D. 17,909,736 654,461
Samuel F. Hulbert, Ph.D. 18,507,066 57,131
George F. Rapp, M.D. 18,497,566 66,631
</TABLE>
c. The resolutions passed were as follows:
1. To provide for a new formula plan feature that applies only
to non-employee directors under the Sofamor Danek Group,
Inc. Long-Term Incentive Plan.
For 15,040,473; Against 3,482,281; Abstain 41,443
2. To extend the term of the Sofamor Danek Group, Inc. Employee
Stock Purchase Plan to October 31, 2006.
For 18,219,038; Against 291,856; Abstain 53,303
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibit No. Description
----------- -----------
10.1 Third Amendment to Loan Agreement
between SunTrust Bank, Nashville, N.A.
and Sofamor Danek Group, Inc. dated
August 1, 1996.
27 Financial Data Schedule (For SEC
use only)
b) Reports on Form 8-K
- None
25
<PAGE> 26
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SOFAMOR DANEK GROUP, INC.
-------------------------
(Registrant)
DATE: August 12, 1996 BY: /s/ E. R. Pickard
-------------------- ---------------------------------
E.R. Pickard
Chairman, Chief Executive Officer
and Director
(Principal Executive Officer)
DATE: August 12, 1996 BY: /s/ Laurence Y. Fairey
-------------------- ---------------------------------
Laurence Y. Fairey
Executive Vice President
(Principal Financial Officer)
26
<PAGE> 1
EXHIBIT 10.1
THIRD AMENDMENT TO LOAN AGREEMENT
THIS THIRD AMENDMENT TO LOAN AGREEMENT (the "Amendment") is entered into
this the 1st day of August, 1996 by and between SOFAMOR DANEK GROUP, INC., an
Indiana corporation (the "Borrower") and SUNTRUST BANK, NASHVILLE, N.A.,
formerly Third National Bank in Nashville, a national banking association (the
"Lender").
RECITALS:
A. Borrower and Lender previously entered into that certain loan agreement
dated as of October 14, 1995 (as amended from time to time, the "Loan
Agreement"), in connection with a certain credit facility from Lender to
Borrower in the original principal amount of up to $40,000,000. Borrower and
Lender amended the Loan Agreement pursuant to an Amendment to Loan Agreement
effective June 30, 1995. Borrower and Lender further amended the Loan Agreement
pursuant to a Second Amendment to Loan Agreement and First Amendment to
Revolving Credit Optional Term Note dated October 11, 1995.
B. In connection with the execution of the Loan Agreement, the Borrower
executed that certain Revolving Credit and Optional Term Note (as amended from
time to time, the "Note") in the original principal amount of $40,000,000. The
Note was amended pursuant to the Second Amendment to Loan Agreement and First
Amendment to Revolving Credit and Optional Term Note dated October 11, 1995.
C. Concurrently herewith the Borrower and Lender have amended the Note
pursuant to a Second Amendment to Revolving Credit and Optional Term Note dated
as of the date hereof.
D. Borrower and Lender have agreed to make certain amendments to the Loan
Agreement as set forth herein.
NOW, THEREFORE, in consideration of the premises, and for other good and
valuable consideration, the adequacy and receipt of which are hereby
acknowledged, the parties agree as follows:
1. Section 1 of the Loan Agreement concerning "Definitions," is amended as
follows:
The term "Maturity Date" is deleted and the following is substituted in
lieu thereof to extend the maturity of the Loan:
"Maturity Date" means October 15, 1997 with
respect to the Revolving Credit Loan (unless the
Maturity Date is extended in writing by the Lender)
and with respect to a Term Loan, the 1, 2
<PAGE> 2
or 3-year period elected by Borrower in writing
pursuant to the provisions of Section 2.02 herein.
The term "Maximum Amount" is deleted and the following is
substituted in lieu thereof to increase the principal amount
available under the Loan Agreement to $50,000,000:
"Maximum Amount" means the principal amount of
$50,000,000, which is the maximum principal amount
that may be outstanding at any time under the Loan.
The term "Note" is deleted and the following is substituted in lieu
thereof, with the Exhibit A to the Loan Agreement being amended
accordingly to increase the principal amount to $50,000,000:
"Note" means that certain Promissory Note in the
form set forth in Exhibit A hereto in the principal
amount of up to $50,000,000, including all amendments,
extensions, increases and restatements thereto and
thereof, and all replacements and substitute notes
therefor.
The term "Significant Subsidiary" is amended by adding the following
entities thereto:
Sofamor Danek Canada, Inc.
Sofamor Danek Nevada, Inc.
Surgical Navigation Technologies, Inc.
Sofamor Danek Benelux S.A.
2. Section 2.01 of the Loan Agreement concerning the "Revolving Credit Loan,"
is amended by deleting the reference therein to $40,000,000 and the term
"$50,000,000" is substituted in lieu thereof.
3. Section 7.01(g) of the Loan Agreement concerning "Debts, Guaranties, and
Other Obligations," is amended to delete the reference therein to
$5,000,000, and the term "$15,000,000" is substituted in lieu thereof.
4. Section 7.09 concerning "No Loans," is amended to delete the reference
therein to $1,000,000 and the term "$2,000,000" is substituted in lieu
thereof.
5. Except as amended herein, all other terms, provisions, agreements,
covenants, representations and warranties in the Loan Agreement shall
remain in full force and effect, and Borrower hereby reaffirms all of its
duties, obligations, covenants, agreements, representations and warranties
in the Loan Agreement.
<PAGE> 3
6. Borrower represents, warrants and covenants that no Event of Default has
occurred and is continuing under the Loan Agreement and that no event has
occurred or other condition exists that would relieve Borrower of any of
its obligations to the Lender under the Loan Agreement, as amended.
7. This Amendment shall be governed by Tennessee law.
8. Borrower represents that the execution and performance of this Amendment
have been duly authorized by all necessary and appropriate corporate
action.
9. This Amendment may be executed in multiple counterparts.
IN WITNESS WHEREOF, the parties have executed this Amendment to be
effective as of the date set forth above.
LENDER: BORROWER:
- - ------- ---------
SUNTRUST BANK, NASHVILLE, N.A. SOFAMOR DANEK GROUP, INC.
By: /s/ Bryan W. Ford By: /s/ J. Mark Merrill
---------------------- -----------------------------
Title: Vice President Title: Vice President and Treasurer
---------------------- ----------------------------
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS OF SOFAMOR DANEK GROUP, INC. FOR THE SIX MONTHS ENDED JUNE
30, 1996, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS.<F1>
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> JUN-30-1996
<CASH> 4,787
<SECURITIES> 85
<RECEIVABLES> 55,331
<ALLOWANCES> 1,466
<INVENTORY> 40,259
<CURRENT-ASSETS> 126,739
<PP&E> 41,485
<DEPRECIATION> 17,532
<TOTAL-ASSETS> 228,460
<CURRENT-LIABILITIES> 66,569
<BONDS> 12,034
0
0
<COMMON> 51,472
<OTHER-SE> 96,368
<TOTAL-LIABILITY-AND-EQUITY> 228,460
<SALES> 111,038
<TOTAL-REVENUES> 111,038
<CGS> 20,347
<TOTAL-COSTS> 20,347
<OTHER-EXPENSES> 7,557
<LOSS-PROVISION> 180
<INTEREST-EXPENSE> 1,572
<INCOME-PRETAX> 29,860
<INCOME-TAX> 8,194
<INCOME-CONTINUING> 20,817
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 20,817
<EPS-PRIMARY> .80
<EPS-DILUTED> .80
<FN>
<F1>AMOUNTS IN 000'S EXCEPT FOR EPS
</FN>
</TABLE>
