<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1997
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 NO. 0-27421
OCULAR SCIENCES, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 94-2985696
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
475 ECCLES AVENUE
SOUTH SAN FRANCISCO, CALIFORNIA 94080
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, INCLUDING ZIP CODE)
(650) 583-1400
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
Indicate by check mark whether the Registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days. YES [X] NO [ ]
As of October 31, 1997, there were outstanding 21,735,246 shares of the
Registrant's Common Stock, par value $0.001 per share.
1
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OCULAR SCIENCES, INC.
INDEX
<TABLE>
<CAPTION>
PART I - FINANCIAL INFORMATION Page
----
<S> <C> <C>
ITEM 1. FINANCIAL STATEMENTS
Consolidated Balance Sheets -
September 30, 1997 and December 31, 1996 3
Consolidated Statements of Income - Three and
Nine Months Ended September 30, 1997 and 1996 4
Consolidated Statements of Cash Flows - Nine
Months Ended September 30, 1997 and 1996 5
Notes to Consolidated Financial Statements 6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 10
PART II - OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS 22
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 23
ITEM 5. OTHER INFORMATION 24
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 24
SIGNATURES 25
</TABLE>
2
<PAGE> 3
PART I - FINANCIAL INFORMATION
ITEM I. FINANCIAL STATEMENTS
OCULAR SCIENCES, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
<TABLE>
<CAPTION>
September 30, December 31,
1997 1996
(unaudited) (audited)
---------------- ----------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 33,923 $ 3,795
Restricted cash 441 1,746
Short-term investments 5,022 --
Accounts receivable, less allowance for sales returns and doubtful
accounts of $1,433 and $1,451 for 1997 and 1996, respectively 16,133 16,022
Inventories 13,119 12,956
Loans to officers and employees 914 --
Other current assets 6,607 1,746
-------- --------
Total current assets 76,159 36,265
Long-term investments 5,168 --
Property and equipment, net 32,141 26,462
Intangible assets, net 8,430 683
Other assets 97 93
-------- --------
Total assets $121,995 $ 63,503
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 3,658 $ 4,006
Accrued liabilities 11,173 8,578
Accrued cooperative merchandise allowances 3,575 2,194
Current portion of long-term debt 442 4,273
Current deferred taxes 200 1,155
Income and other taxes payable -- 941
-------- --------
Total current liabilities 19,048 21,147
Long-term debt, less current portion 3,530 15,572
Long-term related-party debt, less current portion -- 2,895
-------- --------
Total liabilities 22,578 39,614
Stockholders' equity:
Preferred stock, $0.001 par value; 4,000,000 shares
authorized; -0- and 118,168 issued and outstanding
for 1997 and 1996, respectively -- 1
Common stock, par value $0.001 per share; 80,000,000
shares authorized; 21,727,406 and 16,539,570 shares
issued and outstanding for 1997 and 1996, respectively 22 16
Additional paid-in capital 70,357 8,360
Retained earnings 29,029 15,580
Cumulative translation adjustment 9 (68)
-------- --------
Total stockholders' equity 99,417 23,889
-------- --------
Total liabilities and stockholders' equity $121,995 $ 63,503
======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
3
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OCULAR SCIENCES, INC.
CONSOLIDATED STATEMENTS OF INCOME - (UNAUDITED)
(In thousands, except share and per share data)
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
------------------------------ ---------------------------------
1997 1996 1997 1996
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Net sales $ 33,095 $ 25,600 $ 86,064 $ 64,450
Cost of sales 10,391 10,207 30,811 26,135
------------ ------------ ------------ ------------
Gross profit 22,704 15,393 55,253 38,315
Selling and marketing expenses 7,410 4,765 19,382 13,007
General and administrative expenses 5,224 4,649 15,299 13,462
------------ ------------ ------------ ------------
Income from operations 10,070 5,979 20,572 11,846
Interest expense (309) (864) (1,258) (2,423)
Interest income 319 38 386 107
Other (expense) income (453) (137) (416) 21
------------ ------------ ------------ ------------
Income before taxes 9,627 5,016 19,284 9,551
Income taxes (2,889) (1,415) (5,786) (2,691)
------------ ------------ ------------ ------------
Net income 6,738 3,601 13,498 6,860
Preferred stock dividends (8) (21) (49) (62)
------------ ------------ ------------ ------------
Net income applicable to
common stockholders $ 6,730 $ 3,580 $ 13,449 $ 6,798
============ ============ ============ ============
Pro forma net income per share data:
Pro forma net income per share $ 0.31 $ 0.18 $ 0.66 $ 0.35
============ ============ ============ ============
Pro forma weighted average
common and common equivalent
shares outstanding 22,081,497 19,548,355 20,488,889 19,499,439
============ ============ ============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
4
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OCULAR SCIENCES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS - (UNAUDITED)
(In thousands)
<TABLE>
<CAPTION>
Nine months ended September 30,
-----------------------------------
1997 1996
------------------ ----------------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 13,498 $ 6,860
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization 5,238 3,109
Tax benefit from employee stock option exercise 7,869 --
Allowances for sales returns and doubtful accounts 795 77
Provision for excess and obsolete inventory 754 270
Provision for damaged and scrap products 584 255
Exchange loss (gain) 326 (146)
Deferred income taxes (933) --
Changes in operating assets and liabilities,
Accounts receivable (1,030) (526)
Inventory (1,684) (1,328)
Income and other taxes payable (928) 64
Other current and non-current assets (5,817) (1,000)
Accounts payable (274) (1,355)
Accrued liabilities 4,163 2,577
-------- --------
Net cash provided by operating activities 22,561 8,857
-------- --------
Cash flows from investing activities:
Purchase of property and equipment (9,871) (9,630)
Purchase of short-term investments (5,022) --
Purchase of long-term investments (5,168) --
Purchase of marketing rights and license agreement (8,817) --
Payments from restricted cash 1,228 727
-------- --------
Net cash used in investing activities (27,650) (8,903)
-------- --------
Cash flows from financing activities:
Proceeds from issuance of long-term debt 5,929 4,562
Repayment of long-term debt (24,744) (3,907)
Proceeds from initial public offering of common stock, net 53,629 --
Preferred stock dividends (63) (63)
Proceeds from issuance of common stock 504 219
-------- --------
Net cash provided by financing activities 35,255 811
Effect of exchange rate changes on cash and cash equivalents (38) 70
-------- --------
Increase in cash and cash equivalents 30,128 835
Cash and cash equivalents, beginning of period 3,795 3,025
-------- --------
Cash and cash equivalents, end of period $ 33,923 $ 3,860
======== ========
Supplemental disclosure of cash flow information:
Interest paid during period $1,320 $ 2,415
======== ========
Income taxes paid during period $2,775 $ 2,616
======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
5
<PAGE> 6
OCULAR SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - BASIS OF PREPARATION
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X. Accordingly, they do not contain all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, the accompanying unaudited
consolidated financial statements have been prepared on the same basis as the
audited consolidated financial statements and include all adjustments,
consisting only of normal recurring adjustments, necessary for the fair
statement of the Company's financial condition as of September 30, 1997, the
results of its operations for the three and nine month periods ended September
30, 1997 and 1996, and its cash flows for the nine month periods ended September
30, 1997 and 1996. These financial statements should be read in conjunction with
the Company's audited financial statements as of December 31, 1996 and 1995 and
for each of the years in the three-year period ended December 31, 1996,
including notes thereto, included in the Company's registration statement on
Form S-1 relating to its initial public offering. Operating results for the
three and nine month periods ended September 30, 1997 are not necessarily
indicative of the results that may be expected for the quarter and year ending
December 31, 1997.
NOTE 2 - NEW ACCOUNTING POLICIES
Cash Equivalents and Short-term and Long-term Investments
Cash equivalents consist of commercial paper, money market funds, United
States government debt securities, and certificates of deposits with original
maturities of three months or less. Cash equivalents and all of the Company's
short-term and long-term investments are classified as "available-for-sale"
under the provisions of Statement of Financial Accounting Standards (SFAS) No.
115, Accounting for Certain Investments in Debt and Equity Securities.
The amortized cost of available-for-sale debt securities are adjusted
for amortization of premiums and accretion of discounts to maturity. Such
amortization is included in net investment income. As required by SFAS No. 115,
available-for-sale debt securities are recorded at fair value. Unrealized gains
and losses, if material, are reported as a separate component of stockholders'
equity. Realized gains and losses, and declines in value judged to be other than
temporary on available-for-sale securities, are included in net investment
income. The cost of securities sold is based on the specific identification
method. Interest and dividends on securities classified as available-for-sale
are included in interest and investment income, net.
The Company's cash equivalents, short-term and long-term investments in
marketable equity securities are carried at fair value, based on quoted market
prices for these or similar investments.
Cash equivalents, short-term investments and long-term investments
amounted to $24,807,000, $5,022,000 and $5,168,000, respectively, as of
September 30, 1997. As of December 31, 1996, cash equivalents, short-term
investments and long-term investments amounted to $655,000, $-0- and $-0-,
respectively. As of September 30, 1997, the market value of available-for-sale
securities was equal to cost. Cash equivalents, short-term investments and
long-term investments have been classified as available-for-sale securities and
as of September 30, 1997 and December 31, 1996 consisted of the following:
6
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<TABLE>
<CAPTION>
September 30, December 31,
(in thousands) 1997 1996
--------------- ---------------
<S> <C> <C>
Commercial paper $12,000 $ -
Money market funds 9,824 655
Tax-exempt municipal bonds 5,176 -
United States government debt securities 4,990 -
Corporate notes 2,007 -
Certificates of deposit 1,000 -
======= ====
$34,997 $655
======= ====
</TABLE>
Available-for-sale securities as of September 30, 1997, consisted of the
following, by contractual maturity (in thousands):
<TABLE>
<S> <C>
Due in one year or less $29,829
Due in one to three years 5,168
========
$ 34,997
========
</TABLE>
NOTE 3 - SIGNIFICANT EVENTS
Reincorporation and Stock Split
On July 31, 1997, the Company effected a reincorporation into the state
of Delaware. On August 4, 1997, the Company effected a two-for-one stock split.
All applicable share and per share amounts in the accompanying consolidated
financial statements have been retroactively adjusted to reflect the
reincorporation and the stock split.
The Initial Public Offering (the "IPO")
On August 8, 1997, the Company closed its initial public offering of
8,280,000 shares of its Common Stock at an initial public offering price of
$16.50 per share. Of the 8,280,000 shares, 3,600,000 shares were sold by the
Company and the remaining 4,680,000 were sold by certain selling shareholders.
The net proceeds to the Company were $53.6 million, after deducting underwriting
discounts and commissions and estimated offering expenses payable by the
Company. The Company utilized $11.6 million of the proceeds to repay all of the
debt outstanding under the Company's Credit Agreement with Comerica Bank -
California, $2.9 million of the proceeds to repay subordinated debt owed to the
Company's President and $6.7 million of the proceeds as final payment pursuant
to the settlement agreement of certain U.K. litigation. See "Litigation" below.
Litigation
In February 1997, the Company entered into a settlement agreement for
certain litigation in the United Kingdom (the "UK Litigation"). The total
monetary consideration paid by the Company pursuant to this settlement agreement
was $10 million. The Company allocated the $10 million to liabilities released
in the settlement agreement and certain intangible assets that were acquired
pursuant to the settlement agreement, on a pro rata basis. As a result of this
allocation and in accordance with APB Opinion No. 17, "Intangible Assets," the
Company allocated $8.8 million of the consideration to intangible assets
7
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consisting of United Kingdom marketing rights and a prepaid patent license
agreement. The Company has assigned an estimated useful life of 10 years to
these intangible assets. The Company paid $3.3 million of the settlement in
February 1997. Final payment of $6.7 million was made in August 1997 with a
portion of the IPO proceeds.
Compensation Plans
In June 1997, the Company adopted the following compensation plans:
The 1997 Equity Incentive Plan provides for grants of incentive stock
options to employees (including officers and employee directors) and
nonqualified stock options to employees, officers, directors, consultants,
independent contractors and advisors of the Company. The exercise price of all
incentive stock options must be no less than the fair market value of the
Company's common stock on the date of grant. The exercise price of all
nonqualified stock options must be at least equal to 85% of fair market value.
A total of 2,000,000 shares of common stock plus certain shares of common stock
available under the Company's 1989 Stock Option Plan, which was terminated
effective on the Company's IPO, are reserved for issuance under the plan.
The 1997 Director Stock Option Plan provides for grants of nonqualified
stock options to certain non-employee directors of the Company. The exercise
price per share of all options granted under the plan must be equal to the fair
market value of the Company's common stock on the date of grant. A total of
300,000 shares of common stock are reserved for issuance under the plan.
The 1997 Employee Stock Purchase Plan permits employees to purchase
common stock at a price equal to 85% of the fair market value of the Company's
common stock. A total of 400,000 shares of common stock are reserved for future
issuance under the plan. Although the plan has been adopted, the Board has not
approved the implementation of this plan.
Financing
The Company amended its credit agreement (the "Amended Credit Agreement")
with Comerica Bank - California on November 7, 1997. Under the Amended Credit
Agreement, the Company and its Puerto Rican subsidiary can borrow up to $30
million. The Amended Credit Agreement bears interest at prime or at 1% to 1.5%
above the Bank's eurodollar rate based on the Company's ratio of debt to
tangible net worth. The Amended Credit Agreement provides for up to $20 million
of revolving credit loans to the Company and up to $10 million of term loans to
the Company's Puerto Rican subsidiary. The revolving credit loans will be
available through June 30, 2000, and the term loan facility will provide for
advances through April 30, 1999, at which time the principal amount outstanding
will convert to a five and one half year term loan to be amortized over
twenty-two quarterly principal installments, with a final maturity date of
October 31, 2004. The Company is required to maintain minimum ratios of debt to
tangible net worth and current assets to current liabilities. Borrowings by the
Company under the facility are guaranteed by its Puerto Rican subsidiary and
borrowings by the Puerto Rican subsidiary under the facility are guaranteed by
the Company. Borrowings under the Amended Credit Agreement are secured by a
pledge of 100% of the outstanding common stock of the Puerto Rican subsidiary
and 65% of the outstanding common stock of the Company's United Kingdom and
Canadian subsidiaries.
NOTE 4 - RECENT ACCOUNTING PRONOUNCEMENTS
Adoption of New Accounting Policies
8
<PAGE> 9
The Company has adopted SFAS No. 123, "Accounting for Stock-Based
Compensation," and has elected to continue to account for stock-based
compensation using methods prescribed in Accounting Principles Board Opinion
("APB") No. 25, "Accounting for Stock Issued to Employees," and related
Interpretations.
In February 1997, the Financial Accounting Standards Board issued SFAS
No. 128, "Earnings Per Share" which will be effective for financial statement
periods ending after December 15, 1997, including interim periods, and
establishes standards for computing and presenting earnings per share. Earlier
application is not permitted. In its consolidated financial statements for the
year ending December 31, 1997, the Company will make the required disclosures of
basic and diluted earnings per share and provide a reconciliation of the
numerator and denominator of its basic and diluted earnings per share
computations. All prior period earnings per share data will be restated by the
Company upon adoption of SFAS 128. The Company expects that basic earnings per
share will be greater than primary earnings per share and diluted earnings per
share will be substantially similar to pro forma net income per share disclosed
herein.
In June 1997, the Financial Accounting Standards Board issued SFAS Nos. 130
and 131, "Reporting Comprehensive Income" ("SFAS No. 130") and "Disclosures
about Segments of an Enterprise and Related Information" ("SFAS No. 131"),
respectively (collectively, the "Statements"). The Statements are effective for
fiscal years beginning after December 15, 1997. SFAS No. 130 establishes
standards for reporting of comprehensive income and its components in annual
financial statements. SFAS No. 131 establishes standards for reporting financial
and descriptive information about an enterprise's operating segments in its
annual financial statements and selected segment information in interim
financial reports. Reclassification or restatement of comparative financial
statements or financial information for earlier periods is required upon
adoption of SFAS No. 130 and SFAS No. 131, respectively. Application of the
Statements' disclosure requirements will have no impact on the Company's
consolidated financial position, results of operations or earnings per share
data as currently reported.
9
<PAGE> 10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with the
unaudited Consolidated Financial Statements and notes thereto included in Part I
- - Item 1 of this Quarterly Report and the audited Consolidated Financial
Statements and notes thereto and Management's Discussion and Analysis of
Financial Condition and Results of Operations for the year ended December 31,
1996 contained in the Company's Registration Statement on Form S-1 relating to
its initial public offering.
Except for the historical information contained herein, the matters
discussed in this Form 10-Q are forward-looking statements within the
meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and
Section 27A of the Securities Act of 1933, as amended, that involve risks and
uncertainties, including the impact of intense competition, risks of expansion
and automation of manufacturing facilities, risks of trade practice litigation,
fluctuations in operating results, risks of international operations, the
management of growth and the other risks detailed below, including in the
section labeled "Factors That May Affect Future Results", and from time to time
in the Company's other reports filed with the Securities and Exchange
Commission. The actual results that the Company achieves may differ materially
from any forward-looking projections due to such risks and uncertainties. The
Company has identified with a preceding asterisk ("*"), various sentences within
this Form 10-Q which contain such forward-looking statements, and words such as
"believes", "anticipates", "expects", "future", "intends" and similar
expressions are intended to identify forward-looking statements, but are not the
exclusive means of identifying such statements. In addition, the section labeled
"Factors That May Affect Future Results", which has no asterisks for improved
readability, consists primarily of forward-looking statements. The Company
undertakes no obligation to revise any of these forward-looking statements
which may be made to reflect events or circumstances after the date hereof.
RESULTS OF OPERATIONS
Net Sales
<TABLE>
<CAPTION>
Three Months Ended September 30,
---------------------------------------------
1997 % Change 1996
------------ -------- ------------
<S> <C> <C> <C>
U.S. $ 26,341,000 28.8% $ 20,458,000
International $ 6,754,000 31.3% $ 5,142,000
------------ ----- ------------
Net sales $ 33,095,000 29.3% $ 25,600,000
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended September 30,
---------------------------------------------
1997 % Change 1996
------------ -------- ------------
<S> <C> <C> <C>
U.S. $ 68,292,000 28.9% $ 52,997,000
International $ 17,772,000 55.2% $ 11,453,000
------------ ----- ------------
Net sales $ 86,064,000 33.5% $ 64,450,000
</TABLE>
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<PAGE> 11
As a percentage of net sales
<TABLE>
<CAPTION>
Three Months Ended September 30,
------------------------------------------------
1997 1996
---- ----
<S> <C> <C>
U.S. 79.6% 79.9%
International 20.4% 20.1%
----- -----
Net sales 100.0% 100.0%
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended September 30,
------------------------------------------------
1997 1996
---- ----
<S> <C> <C>
U.S. 79.4% 82.2%
International 20.6% 17.8%
----- -----
Net sales 100.0% 100.0%
</TABLE>
Net sales represents gross sales less volume discounts, trial set discounts,
prompt payment discounts and allowances for sales returns. The Company
recognizes sales upon shipment of products to its customers. Discounts and
allowances for sales returns are accrued at the time sales are recognized.
Substantially all of the growth from the quarter and nine months ended September
30, 1996 to the quarter and nine months ended September 30, 1997 resulted from
increased sales of the Company's lenses marketed for weekly disposable
replacement regimens. During the quarter and nine months ended September 30,
1997, 89.2% and 88.3%, respectively, of all lenses sold were for use in
disposable replacement regimens compared to 84.1% and 82.7% during the quarter
and nine months ended September 30, 1996, respectively. Unit sales of the
Company's lenses marketed for annual replacement regimens remained virtually
constant between the nine month periods and decreased 3.4% from the third
quarter of 1996 to the third quarter of 1997, while unit sales of the Company's
lenses marketed for weekly and monthly disposable replacement regimens increased
60.1% from the nine months ended September 30, 1996 to the nine months ended
September 30, 1997 and 54.2% from the third quarter of 1996 to the third quarter
of 1997. Average selling prices for lenses marketed for annual replacement
regimens declined 5.2% and 2.9% from the quarter and nine months ended September
30, 1996 to the quarter and nine months ended September 30,1997, respectively,
while prices for lenses marketed for weekly disposable regimens remained fairly
consistent over the same periods. However, primarily as a result of a shift in
product mix from lenses marketed for annual replacement to lower priced lenses
marketed for disposable replacement, the Company's overall average selling price
declined approximately 11% from the quarter and nine months ended September 30,
1996 to the quarter and nine months ended September 30, 1997, respectively. *The
Company expects that the overall average selling price that it realizes across
its products will continue to decline over time because of (i) shifts in the
Company's product mix from lenses marketed for annual replacement regimens to
lenses marketed for disposable replacement regimens and, within the disposable
category, to lenses that are replaced more frequently, (ii) decreases in the
prices of lenses marketed for disposable replacement regimens and (iii)
increases in products sold internationally through distributors at prices lower
than direct sales prices in the United States. *The Company does not expect
there to be significant growth, if any, in its sales of lenses for annual
replacement as a result of the continuing shift in consumer demand towards more
frequent replacement regimens. Historically, while the Company's fourth quarter
sales have been even with or slightly higher than third quarter sales, the
industry-wide pattern has been that fourth quarter sales tend to be
significantly lower than third quarter sales. *The Company believes that its
seasonality patterns will more closely reflect those of the industry in the
future
11
<PAGE> 12
and that, accordingly, fourth quarter sales will be below third quarter sales.
Gross Profit
<TABLE>
<CAPTION>
Three Months Ended September 30,
-------------------------------------------
1997 % Change 1996
---- -------- ----
<S> <C> <C> <C>
Gross profit $ 22,704,000 47.5% $ 15,393,000
As a percentage of net sales 68.6% 60.1%
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended September 30,
-------------------------------------------
1997 % Change 1996
---- -------- ----
<S> <C> <C> <C>
Gross profit $ 55,253,000 44.2% $ 38,315,000
As a percentage of net sales 64.2% 59.4%
</TABLE>
Cost of sales is comprised primarily of the labor, overhead and material
costs of production and packaging, freight and duty, inventory reserves,
royalties to third parties and amortization of certain intangible assets. A
substantial portion of the Company's cost of sales is fixed and therefore
declines as a percentage of net sales as volume increases. The increase in gross
profit from the quarter and year-to-date ended September 30, 1996 to the quarter
and year-to-date ended September 30, 1997 was due primarily to increased
revenues and the fact that the Company's per unit production cost reductions
resulting from the early implementation of certain process improvements and
manufacturing volume increases were greater than the Company's overall average
selling price decline, resulting in improved margins. *The Company expects cost
reductions resulting from the Company's current production process to be less
significant in the immediate future. *However, the Company intends to add new,
highly automated production lines beginning in the second quarter of 1998, which
are designed to further reduce its per unit cost of production over time. *As
the Company expects that its overall average selling price will continue to
decline over time, the Company will need to continue to reduce its per unit
production costs through increased automation, increased volume and reduced
packaging costs in order to improve, or even to maintain, its gross margins. See
"Factors That May Affect Future Results - Manufacturing Capacity Constraints;
Risks Associated With Expansion and Automation of Manufacturing Facilities."
Selling and Marketing Expenses
<TABLE>
<CAPTION>
Three Months Ended September 30,
--------------------------------------------
1997 % Change 1996
---- -------- ----
<S> <C> <C> <C>
Selling and marketing expenses $ 7,410,000 55.5% $ 4,765,000
As a percentage of net sales 22.4% 18.6%
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended September 30,
--------------------------------------------
1997 % Change 1996
---- -------- ----
<S> <C> <C> <C>
Selling and marketing expenses $ 19,382,000 49.0% $ 13,007,000
As a percentage of net sales 22.5% 20.2%
</TABLE>
Selling and marketing expenses are comprised primarily of cooperative
merchandising allowances, sample diagnostic products provided to eyecare
practitioners without charge, salaries, commissions and benefits for selling and
marketing personnel and postage and freight charges not billed to customers.
Cooperative merchandising allowances are reimbursements made principally to
chain stores and mass merchants for items such as advertising, displays and
mailings that are intended to encourage the fitting and wearing of the Company's
lenses marketed for disposable replacement regimens. These allowances are
limited to a percentage of purchases of lenses marketed for disposable
replacement regimens from the Company. The increase, both in absolute dollars
and as a percentage of net sales,
12
<PAGE> 13
from the quarter and nine months ended September 30, 1996 to the quarter and
nine months ended September 30, 1997 resulted primarily from increases in
cooperative merchandising allowances and, to a lesser extent, a non-recurring
increase in the shipment of diagnostic lenses. *The Company expects selling and
marketing expenses, particularly cooperative merchandising allowances, to grow
at a faster rate than the overall increase in sales as the Company seeks to
increase its market share.
General and Administrative Expenses
<TABLE>
<CAPTION>
Three Months Ended September 30,
--------------------------------------------
1997 % Change 1996
---- -------- ----
<S> <C> <C> <C>
General and administrative expenses $ 5,224,000 12.4% $ 4,649,000
As a percentage of net sales 15.8% 18.2%
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended September 30,
--------------------------------------------
1997 % Change 1996
---- -------- ----
<S> <C> <C> <C>
General and administrative expenses $ 15,299,000 13.6% $ 13,462,000
As a percentage of net sales 17.8% 20.9%
</TABLE>
General and administrative expenses are comprised primarily of salaries and
benefits for distribution personnel, general and administrative personnel,
research and development personnel, professional services, consultants' fees and
non-manufacturing facilities costs. The dollar increase from the third quarter
of 1996 to the third quarter of 1997 was due primarily to a one-time charge for
payroll taxes related to the exercise of employee stock options in the third
quarter of 1997 and increases in research and development related to the
Company's ongoing focus on reducing per unit costs of production. The dollar
increase from the nine months ended September 30, 1996 to the nine months ended
September 30, 1997 was due primarily to sales and use tax provisions, higher
salaries and benefits to employees, fees to regulatory consultants and increased
depreciation, as well as the reasons mentioned above. Substantially all of the
decrease in the percentage of net sales, both over prior quarter and prior year,
came from reductions in professional fees, partially as a result of the
settlement of the Company's UK Litigation in February 1997. *The Company
believes that its general and administrative expenses will increase in absolute
dollars as a result of expenses associated with being a public company and
amortization of intangible assets acquired in connection with the settlement of
the U.K. Litigation. *General and administrative expenses are expected to grow
slower than the rate of growth of net sales, thereby decreasing as a percentage
of sales.
Interest and Other Expense, Net
<TABLE>
<CAPTION>
Nine Months Ended September 30,
--------------------------------------------
1997 % Change 1996
---- -------- ----
<S> <C> <C> <C>
Interest and other expense, net $ (443,000) (54.0%) $ (963,000)
As a percentage of net sales (1.3%) (3.8%)
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended September 30,
--------------------------------------------
1997 % Change 1996
---- -------- ----
<S> <C> <C> <C>
Interest and other expense, net $ (1,288,000) (43.9%) $ (2,295,000)
As a percentage of net sales (1.5%) (3.6%)
</TABLE>
The decrease in interest and other expense, net from the quarter and
nine months ended September 30, 1996 to the quarter and nine months ended
September 30, 1997 resulted primarily from reduced borrowings following the
initial public offering and increased interest earned on the IPO proceeds. This
decrease was partially offset by a foreign currency exchange loss of $385,000
and $326,000 in the third quarter of 1997 and year-to-date 1997,
13
<PAGE> 14
respectively, related principally to the change in exchange rates between the
U.S dollar and the U.K. pound sterling during the third quarter of 1997.
Income Taxes
<TABLE>
<CAPTION>
Three Months Ended September 30,
-------------------------------------------
1997 % Change 1996
---- -------- ----
<S> <C> <C> <C>
Income taxes $ (2,889,000) 104.2% $ (1,415,000)
As a percentage of net sales (8.7%) (5.5%)
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended September 30,
-------------------------------------------
1997 % Change 1996
---- -------- ----
<S> <C> <C> <C>
Income taxes $ (5,786,000) 115.0% $ (2,691,000)
As a percentage of net sales (6.7%) (4.2%)
</TABLE>
The Company's effective tax rate increased from 28.2% in 1996 to 30% in
1997. The increase in the Company's effective tax rate is attributable to an
increase in international earnings which are subject to full taxation as
compared to earnings attributable to the Company's Puerto Rican operation which
are partially exempt from U.S. taxation.
Pro Forma Net Income Per Share
<TABLE>
<CAPTION>
Three Months Ended September 30,
-------------------------------------------
1997 % Change 1996
---- -------- ----
<S> <C> <C> <C>
Net income $ 6,738,000 87.1% $ 3,601,000
Pro forma net income per share $ 0.31 72.2% $ 0.18
Pro forma weighted average
common shares outstanding 22,081,497 13.0% 19,548,355
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended September 30,
-------------------------------------------
1997 % Change 1996
---- -------- ----
<S> <C> <C> <C>
Net income $ 13,498,000 96.8% $ 6,860,000
Pro forma net income per share $ 0.66 88.6% $ 0.35
Pro forma weighted average
common shares outstanding 20,488,889 5.1% 19,499,439
</TABLE>
The increase in weighted average shares from the quarter and nine months
ended September 30, 1996 to the quarter and nine months ended September 30, 1997
was the result of the Company's offering of 3.6 million shares of common stock
in August 1997. *The Company anticipates that weighted average shares will
increase in the fourth quarter of 1997 due to the fact that the newly issued
shares were outstanding for only a portion of the third quarter of 1997 but will
be outstanding for all of the fourth quarter of 1997.
LIQUIDITY AND CAPITAL RESOURCES
At September 30, 1997, the Company had a cash and cash equivalents balance
of $33.9 million and restricted cash of $441,000 held in escrow for the rent of
the Company's United Kingdom facility, compared to a cash and cash equivalents
balance of $3.8 million and restricted cash of $1.7 million at December 31,
1996. Working capital increased from $15.1 million at December 31, 1996 to $57.1
million at September 30, 1997. The increase in
14
<PAGE> 15
both cash and cash equivalents and working capital was attributable to the
Company's public offering of common stock discussed above, partially offset by
the repayment of all of the debt outstanding under the Company's Credit
Agreement with Comerica Bank - California and to a related party and the final
payment for intangible assets pursuant to the settlement agreement of the U.K.
Litigation.
In the first nine months of 1997, net cash provided by operating
activities of $22.6 million, was derived principally from net income of $13.5
million, adjusted for depreciation and amortization of $5.2 million, a tax
benefit of $7.9 million from a gain related to an employee stock option
exercise, provisions and allowances for inventory of $1.3 million, and an
exchange loss of $0.3 million, offset by deferred income taxes and changes in
operating assets and liabilities. The tax benefit from the stock option exercise
reduced the Company's estimated tax payment in the third quarter. In addition,
the Company recorded an income tax receivable of $3.1 million which is included
in "other current assets" in the consolidated balance sheet at September 30,
1997. *The Company expects to fully utilize this income tax receivable, to
offset its fourth quarter estimated tax payment, which should result in a
nominal net tax payment in the fourth quarter. The increase of $13.7 million in
net cash provided by operating activities in the nine months ended September 30,
1997 compared to the nine months ended September 30, 1996 was due primarily to
the increase in net income as well as the tax benefit from the exercise of stock
options.
Net cash used in investing activities in the first nine months of 1997
was $27.7 million. During this period, the Company used $8.8 million to purchase
intangible assets as part of the settlement of the U.K. Litigation, $9.9 million
to purchase property and equipment, and $10.2 million to purchase short and
long-term investments. The increase of $18.7 million in net cash used in
investing activities in the nine months ended September 30, 1997 compared to the
nine months ended September 30, 1996 was due primarily to the settlement of the
U.K. Litigation and the purchase of short and long-term investments using
proceeds from the Company's initial public offering. The Company anticipates
that capital expenditures will be approximately $8.5 million in the fourth
quarter of 1997 and in a range of approximately $20.0 million to $30.0 million
in 1998 as the Company invests in the development and implementation of
automated production lines at its manufacturing facilities and the development
and construction of a new Puerto Rican manufacturing facility. See "Factors That
May Affect Future Results - Manufacturing Capacity Constraints; Risks Associated
With Expansion and Automation of Manufacturing Facilities."
Net cash provided by financing activities in the first nine months of
1997 was $35.3 million. The increase of $34.4 million from the first nine months
of 1996 to the first nine months of 1997 was due primarily to net proceeds from
the Company's initial public offering of $53.6 million, partially offset by net
repayments of long-term debt of $24.7 million.
A provision has been made for income taxes on unremitted earnings of
subsidiaries except in cases in which earnings of foreign subsidiaries are
deemed to be invested indefinitely. *Such earnings would become taxable and
payable upon the sale or liquidation of these subsidiaries or upon remittance of
dividends. *Although it is not practical to estimate the amount of additional
tax that might be payable upon such events, credits for foreign income taxes
paid should be available, at tax rates substantially equal to any resulting U.S.
tax liability and, as such, the Company does not believe there would be a
significant negative cash flow impact.
In addition to cash, cash equivalents, short-term investments and
long-term investments, the Company has available a line of credit under its
Credit Agreement with Comerica Bank - California. As of September 30, 1997, the
Company had no borrowings outstanding under the line of credit, and the
Company's Puerto Rican subsidiary had loans outstanding from Banco Bilbao de
Vizcaya Puerto Rico ("BBV") in the principal amount of $2.4 million.
On November 7, 1997, the Company amended its credit agreement (the "Amended
Credit Agreement") with Comerica Bank - California. Under the new agreement, the
15
<PAGE> 16
Company and its Puerto Rican subsidiary can borrow up to an aggregate of $30
million. The Amended Credit Agreement bears interest at prime or at 1% to 1.5%
above the Bank's eurodollar rate based on the Company's ratio of debt to
tangible net worth. The Amended Credit Agreement provides for up to $20 million
of revolving credit loans to the Company and up to $10 million of term loans to
the Company's Puerto Rican subsidiary. $2.4 million of term loans were borrowed
on November 7, 1997 and used to repay the outstanding loans from the BBV, and
the remaining amount of term loans will be available to finance the construction
and development of the new Puerto Rican manufacturing facility. The revolving
credit loans will be available through June 30, 2000, and the term loan facility
will provide for advances through April 30, 1999, at which time the principal
amount outstanding will convert to a five and one half year term loan to be
amortized over twenty-two quarterly principal installments, with a final
maturity date of October 31, 2004. The Company is required to maintain minimum
ratios of debt to tangible net worth and current assets to current liabilities.
Borrowings by the Company under the facility are guaranteed by its Puerto Rican
subsidiary and borrowings by the Puerto Rican subsidiary under the facility are
guaranteed by the Company. Borrowings under the Amended Credit Agreement are
secured by a pledge of 100% of the outstanding common stock of the Puerto Rican
subsidiary and 65% of the outstanding common stock of the Company's United
Kingdom and Canadian subsidiaries.
*The Company believes that its current cash and cash equivalents, further
borrowings available under its credit facilities and its anticipated net cash
flow from operations, will be sufficient to meet its anticipated cash needs for
working capital, contractual commitments and capital expenditures for at least
the next 12 months.
FACTORS THAT MAY AFFECT FUTURE RESULTS
The Company's future operating results may differ materially from the
results discussed in, or implied by, forward-looking statements made by the
Company. Factors that may cause such differences include, but are not limited
to, those discussed below and elsewhere in this Report.
As referenced in the first paragraph of Part 1 - Item 2, this section
consists primarily of forward-looking statement and associated risks but, for
improved readability, does not include asterisks.
Intense Competition. The market for soft contact lenses is intensely
competitive and is characterized by decreasing prices for many products. As the
number of wearers of contact lenses in the U.S. has not grown significantly in
recent years, and has decreased in some periods, increased market penetration by
the Company will require that wearers of competing products switch to the
Company's products. The Company's products compete with products offered by a
number of larger companies including the Vistakon division of Johnson & Johnson
("Johnson & Johnson"), Ciba-Geigy Corporation ("Ciba-Geigy"), Bausch & Lomb,
Inc. ("Bausch & Lomb"), Wesley Jessen VisionCare, Inc. ("Wesley Jessen") and
Cooper Companies, which recently acquired Aspect Vision Care Ltd. Many of the
Company's competitors have substantially greater financial, manufacturing,
marketing and technical resources, greater market penetration and larger
manufacturing volumes than the Company. Among other things, these advantages may
afford the Company's competitors greater ability to manufacture large volumes of
lenses, reduce product prices and influence customer buying decisions. The
Company believes that certain of its competitors are expanding, or are planning
to expand, their manufacturing capacity, and are implementing new, more
automated manufacturing processes, in order to support anticipated increases in
volume. As many of the costs involved in producing contact lenses are relatively
fixed, if a manufacturer can increase its volume, it can generally reduce its
per unit costs and thereby increase its flexibility to reduce prices. In
addition, competitors may reduce prices to achieve the sales volumes necessary
to utilize their increased capacity. Price reductions by competitors could make
the Company's products less competitive, and there can be no
16
<PAGE> 17
assurance that the Company would be able to reduce its prices in response. The
Company's ability to respond to competitive pressures by decreasing its prices
without adversely affecting its gross margins and operating results will depend
on its ability to decrease its costs per lens. Any significant decrease in the
Company's costs per lens will depend, in part, on the Company's ability to
increase its sales volume and production capacity. There can be no assurance
that the Company will be able to continue to increase its sales volume or reduce
its per unit production costs. In response to competition, the Company may also
increase cooperative merchandising allowances or otherwise increase spending,
which may adversely affect its business, financial condition and results of
operations. The failure of the Company to respond to competitive pressures, and
particularly price competition, in a timely manner would have a material adverse
effect on the Company's business, financial condition and results of operations.
See " - Manufacturing Capacity Constraints; Risks Associated with Expansion and
Automation of Manufacturing Operations."
The disposable replacement market is particularly competitive and
price-sensitive and is currently dominated by the Acuvue product produced by
Johnson & Johnson. The Company believes that the per unit production costs of
Johnson & Johnson and certain of the Company's other competitors are currently
lower than those of the Company. A significant price reduction by Johnson &
Johnson or certain of the Company's other competitors could limit or reduce the
Company's market share in the disposable replacement segment and, as a result,
could materially adversely affect the Company's business, financial condition
and results of operations
The Company also encounters competition from manufacturers of eyeglasses
and from alternative technologies, such as surgical refractive procedures
(including new refractive laser procedures such as PRK, or photorefractive
keratectomy, and LASIK, or laser in situ keratomileusis). If surgical refractive
procedures become increasingly accepted as an effective and safe technique for
permanent vision correction, they could substantially reduce the demand for
contact lenses by enabling patients to avoid the ongoing cost and inconvenience
of contact lenses. Accordingly, there can be no assurance that these procedures,
or other alternative technologies that may be developed in the future, will not
cause a substantial decline in the number of contact lens wearers and thus have
a material adverse effect on the Company's business, financial condition and
results of operations.
Manufacturing Capacity Constraints; Risks Associated with Expansion and
Automation of Manufacturing Operations. The Company's success will depend upon
its ability to increase its production volume on a timely basis while
maintaining product quality and lowering per unit production costs.
Manufacturers often encounter difficulties in increasing production volumes,
including problems involving delays, quality control and shortages of qualified
personnel. Any significant increase in production volume will require that the
Company increase its manufacturing capacity.
The Company intends to add new, highly automated production lines at its
facilities in the United Kingdom and Puerto Rico to increase its manufacturing
capacity and reduce its per unit manufacturing costs. The Company could
encounter significant difficulties and delays in implementing these automated
lines. For example, suppliers could miss their equipment delivery schedules, the
efficiency of the new production lines and facility could improve less rapidly
than expected, if at all, or the equipment or processes could require
redesigning after installation. In addition, the new production lines will
involve processes and equipment with which the Company and its personnel are not
experienced. The installation of these highly automated production lines in
Puerto Rico could increase the Company's tax rate if it results in a significant
reduction in the Company's labor costs in Puerto Rico in relation to its Puerto
Rican earnings.
In addition, the Company is currently experiencing space constraints at
its Puerto Rican facility, which is now operating at or near capacity. As a
result, the Company is in the process of negotiating a lease for a new, larger
facility to be constructed to the Company's specifications. The development and
construction of a new manufacturing facility is subject
17
<PAGE> 18
to significant risks and uncertainties, including cost estimation errors and
overruns, construction delays, weather problems, equipment delays or shortages,
production start-up problems and other factors. As many of such factors are
beyond the Company's control, the Company cannot predict the length of any such
delays, which could be substantial. The Company expects to begin construction of
the new facility during the fourth quarter of 1997 and complete construction
during the second quarter of 1999. There can be no assurances, however, that the
Company will meet this timetable. Before any new manufacturing facility can
begin production, it may be inspected by the U.S. Food and Drug Administration
(the "FDA") for compliance with current good manufacturing practices ("GMP"),
and the inspection and approval process could significantly delay the Company's
ability to begin production in this new facility.
The Company's development of a new facility and implementation of new
automated production lines will result in new fixed and operating expenses,
including substantial increases in depreciation expense that will increase the
Company's cost of sales. If revenue levels do not increase sufficiently to
offset these new expenses, the Company's operating results could be materially
adversely affected. There can be no assurance that the Company will not
encounter unforeseen difficulties, costs or delays in automating its facilities,
in constructing and equipping the new manufacturing facility in Puerto Rico or
in commencing production on the new lines and at the new facility. Any such
difficulties or delays would limit the Company's ability to increase production
volume and lower per unit costs (and consequently prices), would limit the
Company's ability to compete in the disposable replacement regimen market and,
accordingly, could have a material adverse effect on the Company's business,
financial condition and results of operations.
Risk of Trade Practice Litigation; Changes in Trade Practices. The
contact lens industry has been the subject of a number of class action and
government lawsuits and government investigations in recent years. In December
1996, over twenty states sued three of the Company's largest competitors, as
well as certain eyecare practitioners and trade organizations. The suit alleges,
among other things, a conspiracy among such persons to violate antitrust laws by
refusing to sell contact lenses to mail order and other non-practitioner contact
lens providers, so as to reduce competition in the contact lens industry. A
similar lawsuit was filed by the State of Florida in 1994 and several similar
class action lawsuits were also filed in 1994. One of the defendants has agreed
to settle the lawsuits as to itself by agreeing to sell contact lenses to
mail-order and other alternative distribution channels, and to make substantial
cash and product rebates available to consumers.
In an unrelated matter, one of the Company's largest competitors was
sued in a class action lawsuit brought in the Federal District Court in the
Northern District of Alabama in 1994 (the "Alabama Lawsuit"). This suit alleged
that the defendant engaged in fraudulent and deceptive practices in the
marketing and sale of contact lenses by selling identical contact lenses, under
different brand names and for different replacement regimens, at different
prices. The defendant subsequently modified certain of its marketing practices
and ultimately settled the lawsuit in August 1996 by making substantial cash and
product payments available to consumers. In August 1997, such competitor also
settled an investigation by 17 states into similar matters by agreeing to
certain restrictions on its future contact lens marketing practices and making
certain payments to each of the states. In October 1996, a class action lawsuit
was brought against another of the Company's largest competitors in the Superior
Court of New Jersey-Camden (the "New Jersey Lawsuit"). This suit alleges that
the defendant engaged in fraudulent and deceptive practices in the marketing and
sale of contact lenses by selling interchangeable contact lenses, under
different brand names and for different replacement regimens, at different
prices.
Although the Company has not been named in any of the foregoing
lawsuits, the Company from time to time receives claims or threats similar to
those brought against its competitors, and in one circumstance a suit was filed
against the Company making allegations similar to those made in the Alabama and
New Jersey Lawsuits, which suit was dismissed without prejudice for
non-substantive reasons. There can be no assurance that the
18
<PAGE> 19
Company will not face similar actions relating to its marketing and pricing
practices or other claims or lawsuits in the future. The defense of any such
action, lawsuit or claim could result in substantial expense to the Company and
significant diversion of attention and effort by the Company's management
personnel. There can be no assurance that any such lawsuit would be settled or
decided in a manner favorable to the Company, and a settlement or adverse
decision in any such action, lawsuit or claim could have a material adverse
effect on the Company's business, financial condition and results of operations.
In addition to the foregoing lawsuits, there is substantial federal and
state governmental regulation related to the prescribing of contact lenses.
These regulations relate to who is permitted to prescribe and fit contact
lenses, the prescriber's obligation to provide prescriptions to its patients,
the length of time a prescription is valid, the ability or obligation of
prescribers to prescribe lenses by brand rather than by generic equivalent or
specification, and other matters. Although these regulations primarily affect
contact lens prescribers, and not manufacturers or distributors of lenses such
as the Company, changes in these regulations, or their interpretation or
enforcement, could adversely affect the effectiveness of the Company's marketing
strategy to eyecare practitioners, most notably the effectiveness of the
Company's channel-specific and private label branding strategies. Additionally,
given the Company's strategic emphasis on focusing its marketing efforts on
eyecare practitioners, the Company may be more vulnerable than its competitors
to changes in current trade practices. Finally, although cost controls or other
requirements imposed by third party health-care payors such as insurers and
health maintenance organizations have not historically had a significant effect
on contact lens prices or distribution practices, this could change in the
future, and could adversely affect the Company's business, financial condition
and results of operations. Adverse regulatory or other decisions affecting
eyecare practitioners, or material changes in the selling and prescribing
practices for contact lenses, could have a material adverse effect on the
Company's business, financial condition and results of operations.
Fluctuations in Operating Results; Seasonality; Decreasing Average Sales
Prices. The Company's quarterly operating results have varied significantly in
the past and are likely to vary significantly in the future based upon a number
of factors. The Company's quarterly results can be affected significantly by
pricing changes by the Company or its competitors, the Company's ability to
increase manufacturing capacity efficiently and to reduce per unit manufacturing
costs, the time and costs involved in expanding existing distribution channels
and establishing new distribution channels, discretionary marketing and
promotional expenditures such as cooperative merchandising allowances paid to
the Company's customers, timing of the introduction of new products by the
Company or its competitors, inventory shortages, timing of regulatory approvals
and other factors. The Company's customers generally do not have long-term
commitments to purchase products and products are generally shipped as orders
are received. Consequently, quarterly sales and operating results depend
primarily on the volume and timing of orders received during the quarter, which
are difficult to forecast. A significant portion of the Company's operating
expenses are relatively fixed, and planned expenditures are based on sales
forecasts. If sales levels fall below expectations, operating results are likely
to be materially adversely affected. In particular, net income may be
disproportionately affected because only a small portion of the Company's
expenses varies with net sales in the short term. In response to competition,
the Company may reduce prices, increase cooperative merchandising allowances or
otherwise increase marketing expenditures, and such responses may adversely
affect the Company's business, financial condition and results of operations.
Due to the foregoing factors, the Company believes that period-to-period
comparisons of its results of operations are not necessarily meaningful and
should not be relied upon as indications of future performance. Further, it is
likely that in some future quarter the Company's net sales or operating results
will be below the expectations of public market analysts and investors. In such
event, the price of the Company's Common Stock would likely be materially
adversely affected.
Sales in the contact lens industry historically have exhibited
significant seasonality, with the third quarter having the highest sales in a
given year.
19
<PAGE> 20
The Company's sales have historically deviated somewhat from this pattern, with
fourth quarter sales being even with or higher than third quarter sales, and
sales in the first quarter of the following year being lower than the preceding
two quarters. The Company believes that its seasonality patterns will more
closely reflect those of the industry in the future. In addition, due to the
relatively high proportion of the Company's fixed costs to its total costs, the
Company's level of profitability has historically increased significantly with
increasing sales volumes, resulting in disproportionately better results in the
second half of each year. There can be no assurance that these patterns will not
continue in future years although the pattern may be somewhat less pronounced if
the Company's sales seasonality patterns become more like the rest of the
industry, and if the Company continues to increase the proportion of sales
represented by lenses marketed for more frequent replacement regimens.
The Company expects that the overall average selling price that it
realizes across its products will decline over time because of (i) shifts in the
Company's product mix from lenses marketed for annual replacement regimens to
lenses marketed for disposable replacement regimens and, within the disposable
segment, to lenses that are marketed for more frequent replacement, (ii)
decreases in the prices of lenses marketed for disposable replacement regimens
and (iii) increases in products sold internationally through distributors at
prices lower than direct sales prices in the United States. The Company does not
expect there to be significant growth in its sales of lenses marketed for annual
replacement. Accordingly, the Company will need to continue to reduce its per
unit production costs through increased automation, increased volume and reduced
packaging costs in order to improve, or even to maintain, its gross margins, and
the Company does not believe that its recent net sales and operating income
growth rates are indicative of the Company's long-term growth rates.
Need to Increase Sales of Lenses Marketed for Disposable Replacement
Regimens. The market for contact lenses is shifting from lenses marketed for
annual replacement regimens, where the Company has significant experience and a
leading market position, to lenses marketed for disposable replacement regimens,
where the Company is less experienced and has a significantly smaller market
share. The Company's success depends on both continued growth of the disposable
replacement market and increased penetration of this market by the Company's
products. There can be no assurance that the Company's contact lenses marketed
for disposable replacement regimens will achieve widespread consumer acceptance,
or that net sales or net income from the sale of such lenses will be sufficient
to offset the decline in the Company's net sales or net income from its contact
lenses marketed for annual replacement regimens, which have higher prices and
gross margins. The Company anticipates that prices for its products targeted for
disposable replacement regimens will decline in the future. In addition, the
lenses currently offered in the United States by the Company in the disposable
lens segment are marketed for weekly and monthly replacement regimens. Certain
of the Company's competitors have introduced lenses for daily replacement at
lower prices than their current weekly and bi-weekly disposable lenses. The
Company's ability to enter and to compete effectively in the market for daily
disposable lenses will depend in large part upon the Company's ability to expand
its production capacity and reduce its per unit production costs.
Risks Relating to International Operations; Need to Increase Sales in
International Markets. In 1995, 1996 and the first nine months of 1997, the
Company's international sales represented 17.6%, 18.1% and 20.6%, respectively,
of the Company's net sales. In addition, a substantial portion of the Company's
products are manufactured in the United Kingdom. As a result, the Company's
business is subject to the risks generally associated with doing business
abroad, such as foreign consumer preferences, disruptions or delays in
shipments, changes in currency exchange rates, longer accounts receivable
payment cycles and greater difficulties in collecting accounts receivable,
foreign tax laws or tariffs, political unrest and changing economic conditions
in countries in which the Company's products are sold or
20
<PAGE> 21
manufacturing facilities are located. These factors, among others, could
adversely affect the Company's ability to sell its products in international
markets, as well as its ability to manufacture its products. If any such factors
were to render the conduct of business in a particular country undesirable or
impractical, there could be a material adverse effect on the Company's business,
financial condition and results of operations. The Company and its
representatives, agents and distributors are also subject to the laws and
regulations of foreign jurisdictions in which they operate or in which the
Company's products are sold, and there can be no assurance that new laws or
regulations will not have a material adverse effect on the Company's business,
financial condition and results of operations.
A substantial portion of the Company's sales and expenditures are
collected or paid in currencies other than the U.S. dollar. Therefore, the
Company's operating results are affected by fluctuations in foreign currency
exchange rates. In the three and nine months ended September 30, 1997, the
Company had an exchange loss of $385,000 and $326,000, respectively, primarily
relating to changes in exchange rates between the U.S. dollar and the U.K. pound
sterling. There can be no assurance that in the future exchange rate movements
will not have a material adverse effect on the Company's sales, gross profit,
operating expenses or foreign currency exchange gains and losses.
The Company's continued growth is dependent on the expansion of
international sales of its products. This expansion will involve operations in
markets with which the Company is not experienced and there can be no assurance
that the Company will be successful in capturing a significant portion of these
markets for contact lenses. In addition, the Company will not be able to market
and sell its products in certain international markets, such as Japan, until it
obtains regulatory approval. The failure of the Company to increase its
international sales substantially could have a material adverse effect on the
Company's business, financial condition and results of operations.
Uncertain Ability to Manage Growth; Risks Associated with Implementation
of New Management Information Systems. The Company has experienced rapid growth
in recent years. Continued rapid growth may place a significant strain on
management, operational infrastructure, working capital and financial and
management control systems. Growth in the Company's business has required, and
is expected to continue to require, significant personnel management and other
infrastructure resources. The Company's ability to manage any future growth
effectively will require it to attract, train, motivate and manage new employees
successfully, to integrate new employees into its overall operations and to
continue to improve its operational, financial and management information
systems. The Company is in the process of replacing its management information
systems. The new systems will significantly affect many aspects of the Company's
business, including its manufacturing, sales and marketing, and accounting
functions, and the successful implementation of these systems will be important
to facilitate future growth. Implementation of the new management information
systems could cause significant disruption in operations. If the Company is not
successful in implementing its new systems or if the Company experiences
difficulties in such implementation, the Company could experience problems with
the delivery of its products or an adverse impact on its ability to access
timely and accurate financial and operating information.
21
<PAGE> 22
PART II - OTHER INFORMATION
ITEM 2: CHANGES IN SECURITIES AND USE OF PROCEEDS
On July 31, 1997, the Company reincorporated in Delaware through a
merger of the Company's California predecessor ("OSI California") into the
Company.
Between July 1, 1997 and September 30, 1997, the Company and OSI
California sold the following equity securities that were not registered under
the Securities Act of 1933.
<TABLE>
<CAPTION>
Aggregate
Purchase Price and
Class of Number of Exemption from Form of
Purchasers Date of Sale Title of Securities Securities Registration Consideration
- ---------- ------------ ------------------- ---------- ------------ -------------
<S> <C> <C> <C> <C> <C>
Employees (1) 07/02/97 Common Stock 1,200 Rule 701 (1) $ 1,503.24
President (1) 08/04/97 Common Stock 1,280,000 Rule 701 (1) $375,808.00
</TABLE>
- ----------------------------------------------------
(1)Represents shares issued upon exercise of stock options
The Company's registration statement (the "Registration Statement") on
Form S-1, registering the offer and sale of an aggregate of 8,280,000 shares of
the Company's common stock in connection with the Company's initial public
offering (Securities and Exchange Commission File No. 333-27421) was declared
effective by the Securities and Exchange Commission on August 4, 1997, the
offering date for the initial public offering. The managing underwriters for the
offering were Morgan Stanley Dean Witter Incorporated, Bear, Stearns & Co. Inc.
and Cowen and Company.
In August 1997, the Company completed its initial public offering in
which 8,280,000 shares of its Common Stock were sold to the public at a price of
$16.50 per share (including shares sold pursuant to the underwriters'
over-allotment option). The shares sold consisted of 3,600,000 shares sold by
the Company at an aggregate public offering price of $59.4 million and 4,680,000
shares sold by selling stockholders at an aggregate public offering price of
$77.2 million. Effective immediately prior to the closing of the initial public
offering, all outstanding shares of the Company's then outstanding preferred
stock were automatically converted into shares of common stock.
Expenses incurred by the Company in connection with the initial public
offering were:
<TABLE>
<S> <C>
Underwriting discounts and commissions.....................$4,158,000*
Expenses paid to or for underwriters...........................93,000
Other expenses..............................................1,520,000
Total expenses..............................................5,771,000
</TABLE>
None of such payments were direct or indirect payments to directors or
officers of the Company or any of their associates, to persons holding ten
percent or more of any class of equity securities of the Company or to
affiliates of the Company.
The aggregate net offering proceeds to the Company from the initial
public offering after deducting the total expenses described above were $53.6
million. From the effective date of the Registration Statement through September
30, 1997, such proceeds were used for the following purposes:
- --------
* excludes discounts and commissions of $5.4 million paid by the selling
stockholders.
22
<PAGE> 23
<TABLE>
<S> <C>
Construction of plant, building and facilities ..................... $ 200,000
Purchase and installation of machinery and equipment................ 2,139,000
Repayment of indebtedness........................................... 14,495,000
Working capital .................................................... 0
Cash equivalents (1)................................................ 19,920,000
Short-term and long-term investments (2)............................ 10,190,000
Final payment pursuant to UK settlement agreement................... 6,685,000
</TABLE>
- -------------------------------------------
(1)Represents investments with original maturities of three months or less
(2)Represents investments with original maturities of more than three months
None of such payments were direct or indirect payments to directors or
officers of the Company or any of their associates, to persons holding ten
percent or more of any class of equity securities of the Company or to
affiliates of the Company, except that $2,895,000 of the net proceeds were used
to repay indebtedness owed to John Fruth, the Company's Chief Executive Officer
and a Director and holder of in excess of ten percent of the Company's common
stock.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
In June 1997, OSI California solicited the written consent of its
shareholders to approve the following maters: (i) the change of the state of
incorporation of the Company from California to Delaware; (ii) the approval of
the Company entering into Indemnity Agreements with its officers and directors;
(iii) the adoption by the Company of a 1997 Equity Incentive Plan and the
reservation for issuance thereunder of 2,000,000 shares of Common Stock of the
Company; (iv) the adoption by the Company of a 1997 Directors' Stock Option Plan
and the reservation for issuance thereunder of 300,000 shares of Common Stock of
the Company; (v) the adoption by the Company of a 1997 Employee Stock Purchase
Plan and the reservation for issuance thereunder of 400,000 shares of Common
Stock of the Company; and (vi) the deletion from the Certificate of
Incorporation of the Company of the terms of the preferred stock of the Company
after the closing of the Company's initial public offering and the resulting
conversion of the Company's preferred stock to Common Stock. OSI California
received the consent of 15,830,266 shares of outstanding Common Stock (94%) and
236,336 shares of its outstanding preferred stock (100%) approving each of the
foregoing matters. Consents were not returned with respect to 375,862 shares of
the Company's outstanding Common Stock.
In July 1997, OSI California solicited the written consent of its
shareholders to approve the following matters: (i) the amendment of the
Certificate of Incorporation of the Company to (a) increase the number of
authorized shares of the Company's Common Stock from 40,000,000 to 80,000,000
and (b) effect a 2-for-1 split of the Company's Common Stock; (ii) the approval
of the amendment and restatement by the Company of its 1997 Equity Incentive
Plan; (iii) the approval of the amendment and restatement by the Company of its
1997 Directors Stock Option Plan; (iv) the approval of the amendment and
restatement by the Company of its 1997 Employee Stock Purchase Plan, and (v) the
amendment of the Company's Certificate of Incorporation to be filed after the
conversion of all shares of the Company's outstanding preferred stock into
Common Stock in connection with the public offering. OSI California received the
consent of 13,859,730 shares of outstanding Common Stock (83%) and 236,336
shares of its outstanding preferred stock (100%) approving each of the foregoing
matters. Consents were not returned with respect to 2,731,460 shares of the
Company's outstanding Common Stock.
The matters described above as having received the consent of the
shareholders of OSI California also each received the consent of the then sole
stockholder of the Company.
23
<PAGE> 24
ITEM 5. OTHER INFORMATION
Effective October 15, 1997, the Company appointed Norwick "Wick" B.H.
Goodspeed as its President and Chief Operating Officer and as a director. Mr.
Goodspeed had served as the President and Chief Executive Officer of McGaw, Inc.
since January 1994.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
The following exhibits are filed herewith:
Exhibit
Number Exhibit Title
- ------ -------------
11.01 - Statement regarding computation of pro forma net income per share
27.01 - Financial Data Schedule
(b) Reports on Form 8-K
The Company did not file a report on Form 8-K during the period ended September
30, 1997.
24
<PAGE> 25
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.
OCULAR SCIENCES, INC.
(Registrant)
Date: November 11, 1997 /s/ Gregory E. Lichtwardt
----------------------------------------
Gregory E. Lichtwardt
Vice President, Finance, Chief
Financial Officer, and Treasurer
(Duly Authorized Officer and Chief
Accounting Officer)
25
<PAGE> 26
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
Exhibit Description Page
- ------- ----------- ----
Number
- ------
<S> <C> <C>
11.01 Statement Regarding Computation of Pro Forma Net Income Per Share 27
27.01 Financial Data Schedule 28
</TABLE>
<PAGE> 1
EXHIBIT 11.01
OCULAR SCIENCES, INC.
STATEMENT REGARDING COMPUTATION OF PRO FORMA NET INCOME PER SHARE
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
--------------------------- ---------------------------
1997 1996 1997 1996
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Net income $ 6,738,000 $ 3,601,000 $13,498,000 $ 6,860,000
=========== =========== =========== ===========
Weighted average shares outstanding 20,087,540 16,749,266 17,899,991 16,725,037
Weighted average shares of stock options under the
treasury stock method 1,993,957 2,782,622 2,571,192 2,767,083
Additional weighted average shares of stock options under
the treasury stock method issued one year prior to
initial filing of the registration statement dated
August 4,1997 -- 16,467 17,706 7,319
----------- ----------- ----------- -----------
Pro forma weighted average number of common and common
equivalent shares outstanding 22,081,497 19,548,355 20,488,889 19,499,439
=========== =========== =========== ===========
Pro forma net income per share $ 0.31 $ 0.18 $ 0.66 $ 0.35
=========== =========== =========== ===========
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEET, CONSOLIDATED STATEMENT OF INCOME AND CONSOLIDATED
STATEMENT OF CASH FLOWS INCLUDED IN THE COMPANY'S FORM 10-Q FOR THE PERIOD ENDED
SEPTEMBER 30, 1997, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> SEP-30-1997
<CASH> 34,364
<SECURITIES> 5,022
<RECEIVABLES> 17,567
<ALLOWANCES> 1,434
<INVENTORY> 13,119
<CURRENT-ASSETS> 76,159
<PP&E> 45,491
<DEPRECIATION> 13,350
<TOTAL-ASSETS> 121,995
<CURRENT-LIABILITIES> 19,048
<BONDS> 0
0
0
<COMMON> 22
<OTHER-SE> 99,395
<TOTAL-LIABILITY-AND-EQUITY> 121,995
<SALES> 86,064
<TOTAL-REVENUES> 86,064
<CGS> 30,811
<TOTAL-COSTS> 34,681
<OTHER-EXPENSES> 1,288
<LOSS-PROVISION> 795
<INTEREST-EXPENSE> 1,258
<INCOME-PRETAX> 19,284
<INCOME-TAX> 5,786
<INCOME-CONTINUING> 13,498
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 13,498
<EPS-PRIMARY> 0.66
<EPS-DILUTED> 0.66
</TABLE>
