UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the Quarter ended June 30, 1996
Commission File Number 0-19943
PROTOCOL SYSTEMS, INC.
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(Exact name of registrant as specified in its charter)
Oregon 93-0913130
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
8500 SW Creekside Place, Beaverton, OR 97008
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(Address of principal executive offices) (Zip Code)
(503) 526-8500
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(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.
[X] Yes [ ] No
Number of shares of common stock outstanding as of
August 7, 1996:
8,684,208 shares, $.01 par value per share
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<PAGE>2
PROTOCOL SYSTEMS, INC.
Index to Form 10-Q
PART I FINANCIAL INFORMATION Page No.
- ----------------------------- --------
Item 1. Financial Statements
Condensed Consolidated Balance Sheets
as of June 30, 1996 and December 31, 1995 3
Condensed Consolidated Statements of
Operations for the three months and six months
ended June 30, 1996 and 1995 4
Consolidated Statements of Cash Flows for
the six months ended June 30, 1996 and 1995 5
Notes to Condensed Consolidated Financial
Statements 6-8
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 9-12
PART II OTHER INFORMATION
- --------------------------
Item 6. Exhibits and Reports on Form 8-K 13
SIGNATURES 14
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<TABLE>
<PAGE>3
PROTOCOL SYSTEMS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)
(unaudited)
June 30, December 31,
1996 1995
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<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $10,133 $ 3,929
Short-term investments 6,086 8,225
Accounts receivable - net 12,864 13,980
Inventories 8,074 6,301
Deferred taxes 1,416 1,249
Prepaid expenses and other 380 91
------- -------
Total current assets 38,953 33,775
Long-term investments 10,150 12,068
Property and equipment - net 2,344 2,028
Other assets 1,966 2,009
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$53,413 $49,880
======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 2,549 $ 2,058
Accrued salaries, wages and related liabilities 2,422 1,924
Other accrued liabilities 661 627
Income taxes payable 550 1,246
Reserve for warranties 925 908
Deferred revenue and customer deposits 132 140
------- -------
Total current liabilities 7,239 6,903
Deferred taxes 406 446
Shareholders' equity:
Common Stock, $.01 par value. Authorized 30,000 shares;
issued and outstanding 7,473 at 1996 and 7,401 at 1995 75 74
Additional paid-in capital 28,350 27,824
Unrealized holding gain on investments (6) 46
Retained earnings 17,391 14,620
Foreign currency translation adjustment (42) (33)
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Total shareholders' equity 45,768 42,531
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$53,413 $49,880
======= =======
See acompanying notes to condensed consolidated financial statements
</TABLE>
<TABLE>
<PAGE>4
PROTOCOL SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands except per share amounts)
(unaudited)
Three months ended June 30, Six months ended June 30,
1996 1995 1996 1995
------ ------ ------ ------
<S> <C> <C> <C> <C>
Sales $15,017 $10,761 $28,806 $20,937
Cost of sales 6,521 4,856 12,829 9,435
------- ------- ------- -------
Gross profit 8,496 5,905 15,977 11,502
Operating expenses:
Research and development expenses 1,784 1,556 3,579 3,251
Selling, general and administrative
expenses 4,911 3,905 8,994 7,370
------- ------- ------- -------
Total operating expenses 6,695 5,461 12,573 10,621
------- ------- ------- -------
Income from operations 1,801 444 3,404 881
Other income 289 287 609 544
------- ------- ------- -------
Income before income taxes 2,090 731 4,013 1,425
Provision for income taxes 647 207 1,242 399
------- ------- ------- -------
Net Income $ 1,443 $ 524 $ 2,771 $ 1,026
======= ======= ======= =======
Net income per common and
common equivalent share $ 0.18 $ 0.07 $ 0.34 $ 0.13
======= ======= ======= =======
Weighted average number of common
and common equivalent shares
outstanding 8,209 7,603 8,177 7,601
See acompanying notes to condensed consolidated financial statements
</TABLE>
<TABLE>
<PAGE>5
PROTOCOL SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
Six months ended June 30,
1996 1995
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<S> <C> <C>
Cash flows from operating activities:
Net income $ 2,771 $ 1,026
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 674 563
Amortization of bond premium 185 125
Provision for deferred taxes (204) (119)
Changes in assets and liabilities:
Decrease in accounts receivable 1,117 7
Increase in inventories (1,774) (2,475)
(Increase) decrease in prepaid expenses and other assets (274) 241
Increase in accounts payable and accrued liabilities 1,022 269
Decrease in income taxes payable (696) (157)
Increase (decrease) in reserve for warranties 17 (7)
Decrease in deferred revenue and customer deposits (7) (66)
------- -------
Net cash provided by (used in) operating activities 2,831 (593)
Cash flows from investing activities:
Purchase of investments (4,644) (9,232)
Proceeds from maturity of investments 8,464 8,200
Acquisition of property and equipment (892) (939)
Expenditures for software development (80) -
------- -------
Net cash provided by (used in) investing activities 2,848 (1,971)
Cash flows from financing activities:
Proceeds from exercise of stock options and stock purchase plan 526 435
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Net cash provided by financing activities 526 435
Effect of exchange rates on cash and cash equivalents (1) -
------- -------
Net increase (decrease) in cash and cash equivalents 6,204 (2,129)
Cash and cash equivalents at beginning of period 3,929 5,829
------- -------
Cash and cash equivalents at end of period $10,133 $ 3,700
======= =======
Supplemental disclosure of cash flow information:
Cash paid for income taxes $ 1,748 $ 554
See acompanying notes to condensed consolidated financial statements
</TABLE>
<PAGE>6
PROTOCOL SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
BASIS OF PRESENTATION
The accompanying condensed consolidated financial statements have been
prepared by the Company without audit and in conformity with generally
accepted accounting principles for interim financial information.
Accordingly, certain financial information and footnotes have been omitted or
condensed. In the opinion of management, the condensed consolidated financial
statements include all necessary adjustments (which are of a normal and
recurring nature) for the fair presentation of the results of the interim
periods presented. These financial statements should be read in conjunction
with the Company's audited consolidated financial statements for the year
ended December 31, 1995. The results of operations for the interim period
shown in this report are not necessarily indicative of results for any future
interim period or the entire fiscal year.
INVENTORIES
Inventories are valued at the lower of cost or market with cost determined on
the first-in, first-out basis (FIFO). The components of inventories are as
follows:
June 30, December 31,
(in thousands) 1996 1995
- -------------------------------------------------------------------------
Raw materials $3,570 $2,772
Work in process 785 816
Finished goods 1,408 957
Demonstration instruments 2,311 1,756
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Total inventories $8,074 $6,301
====== ======
PROPERTY AND EQUIPMENT
Property and equipment is stated at cost and includes the following:
June 30, December 31,
(in thousands) 1996 1995
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Equipment $6,032 $5,302
Furniture and fixtures 1,053 942
Leasehold improvements 237 233
------ ------
7,322 6,477
Less accumulated depreciation and amortization 4,978 4,449
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Property and equipment - net $2,344 $2,028
====== ======
<PAGE>7
INCOME TAXES
The provision for income taxes has been recorded based on the current estimate
of the Company's annual effective tax rate. This rate differs from the
Federal statutory rate primarily because of the provision for state income
taxes, the benefit of the Company's foreign sales corporation and tax-exempt
interest income earned on investments. See Management's Discussion and
Analysis of Financial Condition and Results of Operations for further
discussion of income taxes.
NET INCOME PER COMMON AND COMMON EQUIVALENT SHARE
Net income per common and common equivalent share is computed using the
weighted average number of common and dilutive common equivalent shares
assumed to be outstanding during the period. Common equivalent shares consist
of options to purchase common stock.
NEW ACCOUNTING PRONOUNCEMENTS
On January 1, 1996 the Company adopted the Financial Accounting Standards
Board's Statement of Financial Accounting Standards (SFAS) No. 123 "Accounting
for Stock Based Compensation." This statement defines a fair value based
method of accounting for employee stock options or similar equity instruments.
However, this statement allows an entity to continue to measure compensation
costs related to such equity instruments in accordance with the intrinsic
value based method of accounting prescribed by APB Opinion No. 25. Entities
which elect to continue to apply the provisions of APB Opinion No. 25 are
required to make pro-forma disclosures of net income and earnings per share
annually as calculated using the fair value based method of accounting
prescribed by SFAS No. 123. The Company has elected to continue to account
for stock based compensation in accordance with APB Opinion No. 25.
Therefore, implementation of this statement has not had a material effect on
the Company's financial position or results of operations.
On January 1, 1996 the Company adopted the Financial Accounting Standards
Board's SFAS No. 121 "Accounting for the Impairment of Long-lived Assets and
for Long-lived Assets to be Disposed Of." This statement specifies when long-
lived assets should be reviewed for impairment, how to determine if such an
asset is impaired and how to measure an impairment loss. This statement also
requires that long-lived assets held for disposal be valued at the lower of
carrying amount or fair value less the cost to sell the asset, except for
assets that constitute part of a discontinued operation. Implementation of
this statement has not had a material effect on the Company's financial
position or results of operations.
<PAGE>8
SUBSEQUENT EVENT
On July 10, 1996 the Company completed the acquisition of Pryon Corporation
("Pryon") pursuant to a merger accounted for as a pooling of interests. As a
result of the merger Pryon became a wholly-owned subsidiary of the Company.
In accordance with the terms of the merger, 1,211,100 shares of Protocol
common stock were exchanged for all of the outstanding capital stock of Pryon.
In addition, the Company issued options to purchase 121,385 shares of the
Company's common stock in replacement of options to purchase Pryon common
stock outstanding immediately prior to the consummation of the merger. These
options vest and become exercisable in accordance with the terms of the
original Pryon stock options. Since this acquisition was not consummated as
of June 30, 1996, the results of Pryon are not included in the accompanying
condensed consolidated financial statements.
The following table presents, on a pro forma basis, the consolidated results
of operations as if the acquisition of Pryon had been consummated as of June
30, 1996:
(in thousands except per share amounts)
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(Unaudited)
Three months ended June 30, Six months ended June 30,
1996 1995 1996 1995
------ ------ ------ ------
Sales $17,097 $13,343 $33,356 $26,287
Net income 1,591 665 3,144 1,478
Net income per share $ .17 $ .07 $ .34 $ .16
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<PAGE>9
MANAGEMENT'S DISCUSSION AND ANALYSIS
LIQUIDITY AND CAPITAL RESOURCES
The Company maintained its strong financial position as of June 30, 1996 with
working capital balances of $31.7 million and a current ratio of 5.4:1 as
compared to working capital of $26.9 million and a current ratio of 4.9:1 at
December 31, 1995. Positive cash flow from operating activities for the first
six months of 1996 was $2.8 million as compared to negative operating cash
flows of $593,000 for the first six months of 1995. Management believes that
current cash and investment balances and future cash flows from operations
will be sufficient to meet the Company's liquidity and capital needs for the
foreseeable future.
ACQUISITION OF SUBSIDIARY
On July 10, 1996 the Company completed the acquisition of Pryon Corporation
pursuant to a merger accounted for as a pooling of interests.
Further discussion of this transaction is included in the Subsequent Event
footnote to the accompanying condensed consolidated financial statements.
RESULTS OF OPERATIONS
Second Quarter 1996 vs. Second Quarter 1995
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Sales. Sales for the second quarter of 1996 increased 39.5% to $15.0 million
from $10.8 million for the second quarter of 1995. Instrument sales
(including monitor options) increased by $4.4 million or 55.2% from the prior
year's second quarter. The growth in instrument sales resulted primarily from
increased unit sales of monitors and monitor options. Additional revenue
growth was generated by increases in sales of accessories and service.
Domestic sales increased 57.2% to $10.3 million (68.9% of total sales) in the
second quarter of 1996 from $6.6 million (61.1% of total sales) in the second
quarter of 1995. The Company attributes its continuing strong domestic sales
growth to increased customer preference for its Flexible Monitoring (TM)
solutions which maximize patient monitor utilization while reducing monitoring
costs and to sales of $1.9 million to the U.S. Department of Defense ("DOD")
in the second quarter of 1996.
International sales increased 25.4% to $4.0 million (26.8% of total sales) in
the second quarter of 1996 from $3.2 million (29.9% of total sales) in the
second quarter of 1995. International sales growth in the second quarter of
1996 was positively impacted by sales of $4.4 million to the DOD in the first
quarter of 1996. As a result of these first quarter 1996 sales to the DOD,
certain international customer orders originally expected to ship in the first
quarter of 1996 were pushed into the second quarter.
Original Equipment Manufacturer ("OEM") sales decreased to $643,000 (4.3% of
total sales) in the second quarter of 1996 from $968,000 (9.0% of total sales)
in the prior year's second quarter. The decrease in OEM sales was primarily
the result of a reduction in the number of GenESA devices sold to Gensia, Inc.
Full production of the GenESA device for the European market began in early
1995. Production of the device for the domestic market must await market
clearance by the FDA.
<PAGE>10
Gross profit. As a percentage of sales, gross profit increased from 54.9% in
the second quarter of 1995 to 56.6% in the second quarter of 1996. The
increase in gross profit as a percentage of sales resulted primarily from
manufacturing efficiencies realized as a result of increased Propaq Encore
monitor production and sales levels.
Research and development. Research and development expenses increased 14.6%
to $1.8 million in the second quarter of 1996 from $1.6 million in the second
quarter of 1995. Research and development expenses as a percentage of sales
decreased to 11.9% from 14.5% in the second quarter of 1995. Research and
development expenses as a percentage of sales were above historical levels in
the second quarter of 1995 as the result of non-recurring expenses incurred in
that quarter related to the final testing and introduction of the Propaq
Encore monitor.
Selling, general and administrative. Selling, general and administrative
expenses increased 25.8% to $4.9 million in the second quarter of 1996 from
$3.9 million in the second quarter of 1995. Rising payroll and related costs
resulting from headcount increases in marketing and administrative personnel
was the primary cause of the increase in expenses. Increased sales commission
expense as a result of the increased sales level also contributed
significantly to the increase in expenses. As a percentage of sales, selling,
general and administrative expenses decreased to 32.7% in the second quarter
of 1996 from 36.3% in the second quarter of 1995.
Other income. Other income remained virtually unchanged from the second
quarter of 1995 as the effects of higher invested balances were offset by
lower interest rates earned on the Company's investments.
Provision for income taxes. The provision for income taxes increased to
$647,000 in the second quarter of 1996 from $207,000 in the second quarter of
1995 representing effective tax rates of 31.0% and 28.3%, respectively. The
increase in the effective tax rate resulted primarily from the expiration of
tax code provisions allowing for research and experimentation tax credits and
a decrease in the tax benefit of the Company's foreign sales corporation
<PAGE>11
Six Months Ended June 30, 1996 vs. Six Months Ended June 30, 1995
- -----------------------------------------------------------------
Sales. Sales for the first six months of 1996 increased 37.6% to $28.8
million from $20.9 million for the first six months of 1995. Instrument sales
(including monitor options) increased by $7.5 million or 46.9% from the prior
year's first six months. The growth in instrument sales resulted primarily
from increased unit sales of monitors and monitor options. Additional revenue
growth was generated by increases in sales of accessories and service.
Domestic sales increased 62.6% to $20.0 million (69.5% of total sales) in the
first six months of 1996 from $12.3 million (58.8% of total sales) in the
first six months of 1995. The Company attributes its continuing strong
domestic growth to increased customer preference for its Flexible Monitoring
(TM) solutions which maximize patient monitor utilization while reducing
monitoring costs and to sales of $6.4 million to the U.S. Department of
Defense in the first six months of 1996.
International sales increased 8.4% to $7.9 million (27.3% of total sales) in
the first six months of 1996 from $7.3 million (34.7% of total sales) in the
first six months of 1995. An increase in sales to NEC, the Company's
exclusive distributor in Japan, contributed significantly to the increase in
international sales.
Original Equipment Manufacturer sales decreased to $906,000 (3.1% of
total sales) in the first six months of 1996 from $1.4 million (6.5% of total
sales) in the prior year's first six months. The decrease in OEM sales was
primarily the result of a reduction in the number of GenESA devices sold to
Gensia, Inc. Full production of the GenESA device for the European market
began in early 1995. Production of the device for the domestic market must
await market clearance by the FDA.
Gross profit. As a percentage of sales, gross profit increased from 54.9% in
the first six months of 1995 to 55.5% in the first six months of 1996. The
increase in gross profit as a percentage of sales resulted primarily from
manufacturing efficiencies realized as a result of increased Propaq Encore
monitor production and sales levels, partially offset by the effect of
significant price discounting on the $6.4 million of orders shipped to the
U.S. Department of Defense in the first six months of 1996.
Research and development. Research and development expenses increased 10.1%
to $3.6 million in the first six months of 1996 from $3.3 million in the first
six months of 1995. Research and development expenses as a percentage of
sales decreased to 12.4% from 15.5% in the first six months of 1995. Research
and development expenses as a percentage of sales were above historical levels
in the first six months of 1995 as the result of non-recurring expenses
incurred in that period to complete development of the Propaq Encore monitor.
Selling, general and administrative. Selling, general and administrative
expenses increased 22.0% to $9.0 million in the first six months of 1996 from
$7.4 million in the first six months of 1995. Rising payroll and related
costs resulting from headcount increases in marketing and administrative
personnel was the primary cause of the increase in expenses. Increased sales
commission expense as a result of the increased sales level also contributed
significantly to the increase in expenses. As a percentage of sales, selling,
general and administrative expenses decreased to 31.2% in the first six months
of 1996 from 35.2% in the first six months of 1995.
<PAGE>12
Other income. Other income increased 11.9% to $609,000 in the first six
months of 1996 from $544,000 in the first six months of 1995 primarily due to
increased interest income resulting from higher invested balances.
Provision for income taxes. The provision for income taxes increased to $1.2
million in the first six months of 1996 from $399,000 in the first six months
of 1995 representing effective tax rates of 30.9% and 28.0%, respectively.
The increase in the effective tax rate resulted primarily from the expiration
of tax code provisions allowing for research and experimentation tax credits
and a decrease in the tax benefit of the Company's foreign sales corporation.
<PAGE>13
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits: 27.1 Financial Data Schedule
(b) During the second quarter of 1996, the Company filed a Current
Report on Form 8-K dated June 14, 1996 to report under Item 5
the determination of the number of shares of the Company's
common stock to be issued for each share of Pryon Corporation
capital stock upon consummation of the merger of the Company and
Pryon.
<PAGE>14
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.
PROTOCOL SYSTEMS, INC.
(Registrant)
Date: August 9, 1996 By /s/ James B. Moon
---------------------
James B. Moon
President and
Chief Executive Officer
By /s/ Craig M. Swanson
---------------------
Craig M. Swanson
Vice-President and
Chief Financial Officer
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from Protocol
Systems, Inc.'s Condensed Consolidated Balance Sheet as of June 30, 1996 and
Condensed Consolidated Statement of Operations for the six months ended June 30,
1996 and is qualified in its entirety by reference to such financial statements.
</LEGEND>
<CIK> 0000883322
<NAME> PROTOCOL SYSTEMS, INC.
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> JUN-30-1996
<CASH> 10,133
<SECURITIES> 16,236
<RECEIVABLES> 12,864<F1>
<ALLOWANCES> 0
<INVENTORY> 8,074
<CURRENT-ASSETS> 38,953
<PP&E> 7,322
<DEPRECIATION> 4,978
<TOTAL-ASSETS> 53,413
<CURRENT-LIABILITIES> 7,239
<BONDS> 0
0
0
<COMMON> 75
<OTHER-SE> 45,963
<TOTAL-LIABILITY-AND-EQUITY> 53,413
<SALES> 28,806
<TOTAL-REVENUES> 28,806
<CGS> 12,829
<TOTAL-COSTS> 12,829
<OTHER-EXPENSES> 11,964
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 4,013
<INCOME-TAX> 1,242
<INCOME-CONTINUING> 2,771
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,771
<EPS-PRIMARY> 0.34
<EPS-DILUTED> 0.34
<FN>
<F1>net of allowance
</FN>
</TABLE>
