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SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
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FORM 10-QSB
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For Quarter Ended September 30, 1998
Commission File Number 1-31070
DERMA SCIENCES, INC.
(Exact name of small business issuer as specified in its Charter)
Pennsylvania 23-2328753
(State or other jurisdiction (IRS employer
of Incorporation) identification number)
214 Carnegie Center, Suite 100
Princeton, NJ 08540
(609) 514-4744
(Address including zip code and telephone
number, of principal executive offices)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days.
Yes [ X ] No [ ]
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date.
Date: September 30, 1998 Class: Common Stock, par value $.01 per share
Shares Outstanding: 6,261,247
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<PAGE>
DERMA SCIENCES, INC.
FORM 10-QSB
INDEX
Description Page
- - ----------- ----
Part I - Financial Information
Item 1. Condensed Consolidated Financial Statements
Consolidated Balance Sheet - September 30, 1998............. 2
Consolidated Statements of Operations - Three months ended
September 30, 1998 and September 30, 1997................ 3
Consolidated Statements of Operations - Nine months ended
September 30, 1998 and September 30, 1997................ 4
Consolidated Statements of Cash Flows - Nine months ended
September 30, 1998 and September 30, 1997................ 5
Notes to Condensed Consolidated Financial Statements........ 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations...................... 11
Part II - Other Information
Item 1. Legal Proceedings....................................... 18
Item 2. Changes in Securities and Use of Proceeds............... 18
Item 4. Submission of Matters to a Vote of Security Holders..... 19
Item 6. Exhibits and Reports on Form 8-K........................ 19
<PAGE>
DERMA SCIENCES, INC.
CONSOLIDATED BALANCE SHEET
September 30, 1998
(Unaudited)
<TABLE>
<CAPTION>
ASSETS
<S> <C>
CURRENT ASSETS
Cash and cash equivalents $ 5,465,839
Accounts receivable, net 952,094
Inventory 1,528,595
Prepaid expenses and other current assets 337,131
------------
Total Current Assets 8,283,659
PROPERTY AND EQUIPMENT, NET 236,996
OTHER ASSETS, NET 377,853
------------
Total Assets $ 8,898,508
============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Bank line of credit $ 689,000
Accounts payable 1,374,208
Accrued expenses and other current liabilities 1,042,244
------------
Total Current Liabilities 3,105,452
SHAREHOLDERS' EQUITY
Common stock, $.01 par value, authorized 15,000,000 shares,
issued and outstanding 6,261,247 shares 62,612
Convertible preferred stock, $.01 par value, authorized 5,083,333
shares, issued and outstanding 5,070,833 50,708
Additional paid-in capital 10,741,436
Accumulated deficit (5,061,700)
------------
Total Shareholders' Equity 5,793,056
------------
Total Liabilities and Shareholders' Equity $ 8,898,508
============
</TABLE>
See accompanying notes.
2
<PAGE>
DERMA SCIENCES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended
September 30,
---------------------------
1998 1997
------------ ------------
NET SALES $ 2,008,047 $ 1,835,508
COST OF SALES 437,606 500,550
------------ ------------
GROSS PROFIT 1,570,441 1,334,958
OPERATING EXPENSES 1,726,037 1,998,205
------------ ------------
LOSS FROM OPERATIONS (155,596) (663,247)
------------ ------------
OTHER INCOME (EXPENSE)
Interest income/(expense), net 40,527 17,346
Merger Costs (198,024) 0
Restructuring Costs (550,000) 0
------------ ------------
Total Other Income (Expense) (707,497) 17,346
------------ ------------
LOSS BEFORE INCOME TAXES (863,093) (645,901)
Income taxes 0 30,000
------------ ------------
NET LOSS ($ 863,093) ($ 675,901)
============ ============
NET LOSS PER COMMON SHARE
BASIC AND DILUTED ($ 0.14) ($ 0.12)
============ ============
WEIGHTED AVERAGE NUMBER OF COMMON
SHARES OUTSTANDING 6,253,361 5,749,102
============ ============
See accompanying notes.
3
<PAGE>
DERMA SCIENCES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Nine Months Ended
September 30,
---------------------------
1998 1997
------------ ------------
NET SALES $ 6,512,346 $ 4,787,843
COST OF SALES 1,450,844 1,409,999
------------ ------------
GROSS PROFIT 5,061,502 3,377,844
OPERATING EXPENSES 5,084,130 5,482,772
------------ ------------
LOSS FROM OPERATIONS (22,628) (2,104,928)
------------ ------------
OTHER INCOME (EXPENSE)
Interest income/(expense), net 55,363 21,391
Merger Costs (198,024) 0
Restructuring Costs (550,000) 0
Litigation settlement (819,353) 0
------------ ------------
Total Other Income (Expense) (1,512,014) 21,391
------------ ------------
LOSS BEFORE INCOME TAXES (1,534,642) (2,083,537)
Income taxes 0 35,500
------------ ------------
NET LOSS ($1,534,642) ($2,119,037)
============ ============
NET LOSS PER COMMON SHARE
BASIC AND DILUTED ($ 0.25) ($ 0.37)
============ ============
WEIGHTED AVERAGE NUMBER OF COMMON
SHARES OUTSTANDING 6,253,181 5,749,102
============ ============
See accompanying notes.
4
<PAGE>
DERMA SCIENCES, INC.
STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
----------------------------
1998 1997
------------ ------------
OPERATING ACTIVITIES
<S> <C> <C>
Net Loss ($1,534,642) ($2,116,801)
Adjustments to Reconcile Net Loss to Net Cash
Used in Operating Activities
Depreciation and amortization 189,264 193,948
Medicaid rebate adjustments (795,866) 0
Provision for bad debts 1,658 536,975
Changes in operating assets and liabilities:
Accounts receivable (49,883) 244,935
Inventory (219,084) 181,509
Prepaid expenses and other current assets (62,142) 26,825
Other assets 65,959 (123,254)
Accounts payable 500,844 (48,489)
Accrued expenses and other current liabilities 790,082 (112,164)
------------ ------------
Net Cash Used in Operating Activities (1,113,810) (1,216,516)
------------ ------------
INVESTING ACTIVITIES
Decrease in short-term investments 0 1,325,728
Purchases of property and equipment, net (39,332) (99,475)
Increase inpatents and trademarks 0 (37,602)
------------ ------------
Net Cash Provided by (Used in) Investing Activities (39,332) 1,188,651
------------ ------------
FINANCING ACTIVITIES
Net change in bank line of credit 139,367 (11,000)
Principal paymnets on long term debt (4,504) (4,112)
Proceeds from issuance of convertible
securities, net of issuance costs 3,955,000 0
Proceeds from issuance of common stock 14,558 281
Collection of officers' notes receivable 0 182,233
------------ ------------
Net Cash Provided by Financing Activities 4,104,421 167,402
------------ ------------
NET INCREASE IN CASH AND
CASH EQUIVALENTS 2,951,279 139,537
CASH AND CASH EQUIVALENTS AT BEGINNING
OF PERIOD 2,514,560 253,154
------------ ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 5,465,839 $ 392,691
============ ============
</TABLE>
See accompanying notes.
5
<PAGE>
DERMA SCIENCES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1 - THE COMPANY
Derma Sciences, Inc. (the "Company") is engaged in the development, marketing
and sale of proprietary sprays, ointments and dressings for the management of
certain chronic non-healing skin ulcerations such as pressure and venous ulcers,
surgical incisions and burns. The Company markets its products principally
through independent distributors, mainly to healthcare agencies throughout the
United States. In addition, the Company's products are available in selected
markets throughout the world through strategic alliances with local companies.
On September 9, 1998, the Company acquired Genetic Laboratories Wound Care, Inc.
("GLWC"), in a business combination accounted for as a pooling of interests.
GLWC markets proprietary wound care products; primarily wound closure strips,
specialty fasteners, and net dressings. Sales are made primarily to medical
supply distributors throughout the United States and in foreign countries,
mainly Europe, utilizing independent sales representatives. GLWC became a wholly
owned subsidiary of the company through the exchange of 1,690,791 shares of the
Company's common stock for all the outstanding stock of GLWC. The accompanying
financial statements for the nine months and the three months ended September
30, 1998 are based on the assumption that the companies were combined for the
full period, and financial statements of prior periods have been restated to
give effect to the combination.
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation - The consolidated financial statements include the
accounts of Derma Sciences, Inc. and its wholly owned subsidiary Genetic
Laboratories Wound Care, Inc. All significant intercompany accounts and
transactions have been eliminated in consolidation.
Use of Estimates - The preparation of consolidated financial statements in
conformity with generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amount of assets and
liabilities and disclosure of contingent asset and liabilities as the date of
the consolidated financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
Cash and Cash Equivalents - For purposes of presenting cash flows, the Company
considers cash and cash equivalents as amounts on hand, on deposit in financial
institutions and highly liquid investments purchased with an original maturity
of three months or less.
6
<PAGE>
DERMA SCIENCES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Net loss per common share - Efective December 31, 1997 the Company adopted SFAS
No. 128, "Earnings per Share" ("SFAS 128"), which supersedes Accounting
Principles Board Opinion No. 15, "Earnings per Share." SFAS 128 requires dual
presentation of basic and diluted earnings per share ("EPS") for complex capital
structures on the face of the statement of operations. Basic EPS is computed by
dividing the income (loss) by the weighted average number of common shares
outstanding for the period. Diluted EPS reflects the potential dilution from the
exercise or conversion of securities into common stock, such as stock options.
NOTE 3 - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-QSB and Item 310(b)
of Regulation S-B. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the nine-month period ended September 30,
1998, are not necessarily indicative of the results that may be expected for the
year ending December 31, 1998. For further information, refer to the financial
statements and footnotes thereto for the year ended December 31, 1997, included
in Form 10-KSB filed with the Securities and Exchange Commission.
There were no intercompany transactions or adjustments required to the net
assets or retained earnings of the combined companies due to the business
combination. Summarized results of operations of the separate companies for the
period from January 1 to August 31, 1998, (the date of acquisition is September
9, 1998), are as follows:
COMPANY GLWC TOTAL
------------ ------------ ------------
NET SALES $ 3,585,853 $ 2,048,992 $ 5,634,845
INCOME (LOSS) FROM OPERATIONS (67,855) 61,086 (6,769)
OTHER INCOME (EXPENSE), NET (763,990) 676 (763,314)
NET INCOME (LOSS) $ (831,845) $ 61,762 $ (770,083)
7
<PAGE>
DERMA SCIENCES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 3 - BASIS OF PRESENTATION (CONTINUED)
RESULTS OF OPERATIONS OF THE INDIVIDUAL COMPANIES FOR THE THREE MONTHS AND NINE
MONTHS ENDED SEPTEMBER 30, 1998 ARE AS FOLLOWS:
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1998
COMPANY GLWC TOTAL
------------ ------------ ------------
NET SALES $ 1,162,779 $ 845,268 $ 2,008,047
COST OF SALES 123,983 313,623 437,606
GROSS PROFIT 1,038,796 531,645 1,570,441
OPERATING EXPENSES 1,249,421 476,616 1,726,037
INCOME (LOSS) FROM OPERATIONS (210,625) 55,029 (155,596)
OTHER INCOME (EXPENSE), NET (643,698) (63,799) (707,497)
INCOME (LOSS) BEFORE INCOME TAXES (854,323) (8,770) (863,093)
INCOME TAXES -- -- --
NET INCOME (LOSS) $ (854,323) $ (8,770) $ (863,093)
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1997
COMPANY GLWC TOTAL
------------ ------------ ------------
NET SALES $ 983,367 $ 852,141 $ 1,835,508
COST OF SALES 183,446 317,104 500,550
GROSS PROFIT 799,921 535,037 1,334,958
OPERATING EXPENSES 1,547,279 450,926 1,998,205
INCOME (LOSS) FROM OPERATIONS (747,358) 84,111 (663,247)
OTHER INCOME (EXPENSE), NET 16,136 1,210 17,346
INCOME (LOSS) BEFORE INCOME TAXES (731,222) 85,321 (645,901)
INCOME TAXES -- 30,000 30,000
NET INCOME (LOSS) $ (731,222) $ 55,321 $ (675,901)
8
<PAGE>
DERMA SCIENCES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 3 - BASIS OF PRESENTATION (CONTINUED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998
COMPANY GLWC TOTAL
------------ ------------ ------------
NET SALES $ 4,121,670 $ 2,390,676 $ 6,512,346
COST OF SALES 564,584 886,260 1,450,844
GROSS PROFIT 3,557,086 1,504,416 5,061,502
OPERATING EXPENSES 3,677,349 1,406,781 5,084,130
INCOME (LOSS) FROM OPERATIONS (120,263) 97,635 (22,628)
OTHER INCOME (EXPENSE), NET (1,450,883) (61,131) (1,512,014)
INCOME (LOSS) BEFORE INCOME TAXES (1,571,146) 36,504 (1,534,642)
INCOME TAXES -- -- --
NET INCOME (LOSS) $(1,571,146) $ 36,504 $(1,534,642)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997
COMPANY GLWC TOTAL
------------ ------------ ------------
NET SALES $ 2,531,346 $ 2,256,497 $ 4,787,843
COST OF SALES 593,153 816,846 1,409,999
GROSS PROFIT 1,938,193 1,439,651 3,377,844
OPERATING EXPENSES 4,173,937 1,308,835 5,482,772
INCOME (LOSS) FROM OPERATIONS (2,235,744) 130,816 (2,104,928)
OTHER INCOME (EXPENSE), NET 20,130 1,261 21,391
INCOME (LOSS) BEFORE INCOME TAXES (2,215,614) 132,077 (2,083,537)
INCOME TAXES -- 35,500 35,500
NET INCOME (LOSS) $(2,215,614) $ 96,577 $(2,119,037)
9
<PAGE>
DERMA SCIENCES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 4 - INCOME TAXES
The Company accounts for income taxes under the liability method. Under this
method, deferred tax assets and liabilities are determined based on differences
between financial reporting and tax bases of assets and liabilities.
As of December 31, 1997 the Company had a Federal net operating loss
carryforward of approximately $3,240,000 expiring in years 2011 and 2016.
Accordingly, no provision for income taxes has been included in the accompanying
financial statements.
NOTE 5 - RECLASSIFICATION
Certain items in prior periods have been reclassified to conform to current
period classifications. The company has reclassified net sales to include
certain sales growth and volume incentive rebates as a reduction to net sales.
The rebates were previously reflected as a selling expense under operating
expenses in the Statement of Operations. Such reclassifications had no effect on
previously reported net income.
NOTE 6 - RESTRUCTURING
Beginning in September 1998, the Company instituted a plan to consolidate its
corporate and operating facilities, including support services. Restructuring
charges represent certain non-recurring cost and expenses associated therewith,
including but not limited to moving expenses, severance pay, lease penalty
payments and professional fees. Restructuring is expected to be completed in
nine months.
NOTE 7 - SUBSEQUENT EVENT
On October 29, 1998, the Company acquired all of the issued and outstanding
stock of Sunshine Products, Inc. (Sunshine), in a business combination accounted
for as a purchase for $1.5 million in cash. Sunshine is a manufacturer of
general purpose and specialized skincare products for hospitals, nursing homes
and other institutional facilities. The net assets acquired were comprised
principally of accounts receivable, inventory, fixed assets and intangible
assets. Based on unaudited financial statements for the year ended June 30,
1998, Sunshine reported net sales of $2.9 million and net income before taxes of
$120,000.
10
<PAGE>
DERMA SCIENCES, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
QUARTER ENDED SEPTEMBER 30, 1998 COMPARED TO QUARTER ENDED SEPTEMBER 30, 1997
RESULTS OF OPERATIONS
Net Sales and Gross Profit
Net sales for the third quarter, 1998 increased $172,539, or 9%, to $2,008,047
from $1,835,508 in the third quarter, 1997. Components of the increase in the
Company's net sales were a decrease in net product sales of $327,079 or 18%, and
a refund of Medicaid rebates $499,618. Medcaid rebates paid by the Company are
reflected as a reduction in sales. Medicaid rebate adjustments reflect final
settelments with several states regarding prior period filings and payments.
The Company introduced new product lines during the first quarter of 1998
consisting of Alginate Dressings (NutraStat and DermaStat), Hydrocolloid
Dressings (NutraCol and DermaCol) and Film Dressings (DermaFilm and DermaSite).
New product sales were not a material revenue-producing factor in the third
quarter of 1998.
Medicaid rebates incurred by the Company are reflected as a reduction to sales.
The quarter ended September 30, 1998 included Medicaid rebate adjustments, which
resulted in a net increase to sales of $460,866.
Cost of sales, expressed as a percentage of net sales, decreased from 27% in the
third quarter, 1997 to 22% in the third quarter, 1998. This decrease is
primarily attributable to the increase in net sales resulting from the
adjustment of Medicaid rebates as discussed above. Aggregate cost of sales
decreased $62,944, or 13%, to $437,606 in the third quarter, 1998 from $500,550
in the third quarter, 1997. The decrease in aggregate cost of sales is
attributable to the decrease in net product sales discussed above.
Gross profit, expressed as a percentage of net sales, increased from 73% in the
third quarter, 1997 to 78% in the third quarter, 1998. Aggregate gross profit
increased $235,483, or 18%, to $1,570,441 in the third quarter, 1998 from
$1,334,958 in the third quarter, 1997. The increase in the gross profit
percentage is the net result of the Medicaid rebate adjustments and the decrease
in net products sales discussed above. The increase in the aggregate gross
profit is attributable to the same items affecting the gross profit percentage.
11
<PAGE>
Operating Expenses
Operating expenses decreased, from $1,998,205 in the third quarter, 1997 to
$1,726,037 in the third quarter, 1998. The decrease represents the net effect of
a decrease in selling, general and administrative expense and an increase in
product development expense discussed below.
Product development expense for the third quarter, 1998 increased $81,982 to
$169,284 from $87,302 in the third quarter, 1997. This increase is attributable
to licensing fees incurred on new product lines discussed above, expenses
incurred related to clinical studies and increases to salaries, employee
benefits and rent expense.
Selling, general and administrative expense for the third quarter, 1998
decreased $354,150, or 10%, to $1,556,753 in the third quarter, 1998 from
$1,910,903 in the third quarter, 1997. This decrease is attributable to a
decrease in bad debt expense of $370,948 during the third quarter, 1998 compared
to the third quarter, 1997.
Loss from Operations
The Company generated a loss from operations for the third quarter, 1998 in the
amount of $155,596 compared to a loss from operations of $663,247 for the third
quarter, 1997. This decreased loss from operations is attributable to the
increase in net sales and decrease in operating expenses discussed above under
"Net Sales and Gross Profit" and "Operating Expenses."
Merger Costs
The Company incurred merger costs associated with the acquisition of Genetic
Laboratories Wound Care, Inc. in the amount of $198,024. Merger costs consists
primarily of professional fees and printing /filing costs.
Restructuring Costs
In connection with the acquisition of Genetic Laboratories Wound Care, Inc., the
Company recorded restructuring charges of $550,000. Restructuring costs consists
primarily of salaries and benefits for terminated employees and costs incurred
for closing and consolidating certain facilities and service functions.
Net Loss
The Company generated a net loss of $863,093, or $0.14 per share, for the third
quarter, 1998 compared to a loss of $675,901, or $0.12 per share, for the third
quarter, 1997. The net loss for the third quarter, 1998 is attributable to the
factors discussed above under "Income (Loss) from Operations" and the "Merger
Costs" and "Restructuring Costs" charge to operations of $198,024 and $550,000
respectively.
12
<PAGE>
Other Events
On May 12, 1998, the Company announced the execution of a nonbinding letter of
intent to acquire Genetic Laboratories Wound Care, Inc. ("GLWC"). The
acquisition would be accomplished by the merger of a newly formed, wholly owned
subsidiary of the Company into GLWC. GLWC markets proprietary wound care
products; primarily wound closure strips, specialty fastners, and net dressings.
Sales are made primarily to medical supply distributors throughout the United
States and in foreign countries, mainly Europe, utilizing independent sales
representatives. GLWC shareholders would receive 0.7 shares of the Company's
common stock for each share GLWC common stock owned. The Boards of Directors of
the Company and GLWC approved the acquisition on June 26, 1998. Approval of the
acquisition by majority vote of the shareholders of the Company and GLWC
occurred on September 9, 1998.
Further, on July 14, 1998 the Company announced that it closed its private
placement of Convertible Securities effective June 30, 1998 in which an
aggregate of $4 million was raised. Terms of the Securities require that upon
approval of the Company's shareholders of a new class of Series B Convertible
Preferred Shares ("Preferred Stock"), the Securities will automatically convert
into units ("Unit(s)"), as hereafter defined, at the rate of $1.20 per Unit.
Each Unit will consist of one share of Preferred Stock convertible into one
share of Common Stock and one warrant ("Warrant(s)") to purchase one share of
Common Stock exercisable at $1.35 per share.
Subsequent Event
On October 29, 1998, the Company acquired all of the issued and outstanding
stock of Sunshine Products, Inc. ("Sunshine") for $1,500,000 in a transaction
accounted for as a purchase. Sunshine is a manufacturer of general purpose and
specialized skincare products for hospitals, nursing homes and other
institutional facilities. Based on unaudited financial statements, the year
ended June 30, 1998 reflected net sales of $2.9 million and net income before
taxes of $120,000. For more information relative to this transaction, please
refer to the Company's Current Report on Form 8-K filed with the Securities and
Exchange Commission on November 13, 1998.
13
<PAGE>
DERMA SCIENCES, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
NINE MONTHS ENDED SEPTEMBER 30, 1998 COMPARED TO NINE MONTHS ENDED
SEPTEMBER 30, 1997
RESULTS OF OPERATIONS
Net Sales and Gross Profit
Net sales for the nine months ended September 30, 1998 increased $1,724,503, or
36%, to $6,512,346 from $4,787,843 in the nine months ended September 30, 1997.
The increase in net sales is attributable to a $949,890 increase in net product
sales and an increase in Medicaid rebate adjustments of $774,613.
The Company introduced new product lines during the first quarter of 1998
consisting of Alginate Dressings (NutraStat and DermaStat), Hydrocolloid
Dressings (NutraCol and DermaCol) and Film Dressings (DermaFilm and DermaSite).
New product sales were not a material revenue producing factor in the nine
months ended September 30, 1998.
Medicaid rebates incurred by the Company are reflected as a reduction to sales.
The nine months ended September 30, 1998 included Medicaid rebate adjustments,
which resulted in a net increase to sales of $630,866 compared to a net expense
of $143,747 for the nine months ended September 30, 1997.
Cost of sales, expressed as a percentage of net sales, decreased from 30% in the
nine months ended September 30, 1997 to 22% in the nine months ended September
30, 1998. This decrease is attributable primarily to the adjustment of Medicaid
rebates as discussed above, in addition to a more favorable sales mix of items
with lower cost of sales percentages. Aggregate cost of sales increased $40,845,
to $1,450,844 in the nine months ended September 30, 1998 from $1,409,999 in the
nine months ended September 30, 1997. The increase in aggregate cost of sales is
attributable to the increase in net sales discussed above.
Gross profit, expressed as a percentage of net sales, increased from 70% in the
nine months ended September 30, 1997 to 78% in the nine months ended September
30, 1998. Aggregate gross profit increased $1,683,658, or 50%, to $5,061,502 in
the nine months ended September 30, 1998 from $3,377,844 in the nine months
ended September 30, 1997. The increase in the gross profit percentage is
attributable to the Medicaid rebate adjustments as discussed above. The increase
in the aggregate gross profit is attributable to the Medicaid rebate adjustments
in addition to the sales increases, discussed above.
14
<PAGE>
Operating Expenses
Operating expenses decreased $398,642 or 7%, from $5,482,772 in the nine months
ended September 30, 1997 to $5,084,130 in the nine months ended September 30,
1998. This decrease is attributable to an increase in product development
expense and a decrease in selling, general and administrative expense discussed
below.
Product development expense for the nine months ended September 30, 1998
increased $237,485, or 75% to $554,896 from $317,411 in the nine months ended
September 30, 1997. This increase is attributable to licensing fees incurred on
new product lines discussed above, expenses incurred related to clinical studies
and increases to salaries, employee benefits and rent expense.
Selling, general and administrative expense for the nine months ended September
30, 1998 decreased $636,127, or 12%, to $4,529,234 in the nine months ended
September 30, 1998 from $5,165,361 in the nine months ended September 30, 1997.
The aggregate decrease is primarily attributable to decrease in bad debt expense
of $536,975. Additionally, severance expense of $135,000 was incurred during the
nine months ended September 30, 1997. No comparable costs were incurred during
the nine months ended September 30, 1998.
Loss from Operations
The Company generated a loss from operations for the nine months ended September
30, 1998 in the amount of $22,628 compared to a loss from operations of
$2,104,928 for the nine months ended September 30, 1997. This decreased loss
from operations is attributable to the increase in net sales and decrease in
operating expenses discussed above under "Net Sales and Gross Profit," and
"Operating Expenses."
Litigation Settlement
On June 8, 1998 the Company and ABS LifeSciences, Inc. ("ABS"), a subsidiary of
Integra Life Sciences, Inc. , agreed to a settlement of their respective claims
and counter claims asserted in the civil action ABS LifeSciences, Inc. v. Derma
Sciences, Inc. (the "Action"). The settlement provided that the Company pay ABS
a total of $550,000 and return all unsold Chronicure inventory. The settlement
further provides for the dismissal of all claims and counter claims asserted in
the action. The settlement resulted in a charge to operations of $819,353 in the
quarter ended June 30, 1998.
Net Loss
The Company generated a net loss of $1,534,642 or $0.25 per share, for the nine
months ended September 30, 1998 compared to a loss of $2,119,037 or $0.37 per
share, for the nine months ended September 30, 1997. The net loss for the nine
15
<PAGE>
months ended September 30, 1998 is attributable to the factors discussed above
under "Loss from Operations" and the "Merger Costs," "Restructuring Costs," and
"Litigation Settlement."
Other Events
Please refer to "Quarter Ended September 30, 1998 Compared to Quarter Ended
September 30, 1997."
LIQUIDITY AND CAPITAL RESOURCES
The Company's cash, cash equivalents and short-term investments at September 30,
1998 increased $5,073,148 to $5,465,839 from $392,691 at September 30, 1997. The
Company's working capital at September 30, 1998 increased $3,953,661, to
$5,178,776 from $1,225,115 at September 30, 1997. The increase is primarily due
to private financings discussed below. The Company utilized its short-term
investments in operations during 1997 to fund the Company's losses and to reduce
the outstanding balance on the bank line of credit by $100,000.
In November, 1997 the Company issued convertible securities and received
$1,571,211 net of issuance costs. Please refer to Form 10-KSB filed by the
Company on March 31, 1998 and "Part II - Other Information, Item 2. Changes in
Securities and Use of Proceeds."
The Company issued convertible securities in June 1998 which resulted in the
Company receiving $3,955,000 net of issuance costs.
Through September 30, 1998, the Company has a bank line-of-credit, secured by
accounts receivable, inventory and the Company's United States patent and
trademarks, whose balance at September 30, 1998 was $689,000. This
line-of-credit was paid in full on October 30, 1998. The Company procured a
$1,000,000 line of credit facility with a new bank in October 1998. This
facility expires October 1999.
Statements that are not historical facts, including statements about the
Company's confidence and strategies, and expectations about new or existing
products, technologies and opportunities, market demand or acceptance of new or
existing products are forward-looking statements that involve risks and
uncertainties. These uncertainties include, but are not limited to, product
demand and market acceptance risks, impact of competitive products and prices,
product development, commercialization or technological delays or difficulties,
and trade, legal, social, financial and economic risks.
Year 2000 Compatibility
The year 2000 issue is the result of computer programs being written using two
digits rather than four to define the applicable year. In other words,
date-sensitive software may recognize a date using "00" as the year 1900 rather
than the year 2000. This could result in system failures or miscalculations
causing disruptions of operations, including, among others, a temporary
inability to process transactions and information or engage in similar normal
business activities.
The Company is working to resolve the potential impact of the year 2000 on the
ability of the Company's computerized information systems to accurately process
16
<PAGE>
information that may be date-sensitive. The Company believes that it does not
have significant year 2000 issues related to its computerized information
systems and is currently reviewing these systems. This review is expected to be
completed during 1999.
In addition, it is also possible that certain computer systems or software
products of the Company's suppliers and contractors may not be year 2000
compatible. The Company is requesting assurances from all software vendors from
which it has purchased or from which it may purchase software that such software
will correctly process all date information at all times. Furthermore, the
Company is querying its suppliers and contractors as to their progress in
identifying and addressing problems that their computer systems will face in
correct processing date information as the year 2000 approaches. The Company
expects this assessment to be completed during 1999 and currently believes that
costs of addressing this issue will not have a material adverse impact on the
Company's financial position. However, if the Company and third parties upon
which it relies are unable to address this issue in a timely manner, it could
result in a material financial risk to the Company. In order to assure that this
does not occur, the Company plans to devote all resources required to resolve
any significant year 2000 issues in a timely manner.
To date the Company has not made any contingency plans to address third-party
year 2000 risks. The Company plans to formulate contingency plans to the extent
necessary in 1999.
17
<PAGE>
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
Information required by Item 103 of Regulation S-B and required hereunder, as
filed with the Securities and Exchange Commission on Form 10-KSB and on Form 8-K
on March 31, 1998 and on June 10, 1998, respectively , is incorporated herein by
reference.
Item 2. Changes in Securities and Use of Proceeds
On May 13, 1994, the Company consummated an initial public offering of 900,000
shares of its $.01 par value common stock and received net proceeds of
$3,221,273. On November 19, 1997 the Company closed on an offering of
convertible securities ("November Securities") and received net proceeds of
$1,571,211. On July 14, 1998 the Company closed on an offering of convertible
securities ("July Securities") and received net proceeds of $3,955,000. Offering
proceeds have been used for the following purposes: repayment of indebtedness
($470,000), working capital ($2,208,475), professional services relative to and
an abandoned merger ($498,024), acquisition of Morgan Paris, Inc., a former
master distributor of the Company ($285,000), payments related to the settlement
of litigation with ABS LifeSciences, Inc. ($400,000) an acquisition of Sunshine
Products, Inc. ($1,500,000). For information concerning the Sunshine Products,
Inc. acquisition, please refer to the Company's Current Report on Form 8-K filed
November 13, 1998. The remainder of the Debenture proceeds, $4,885,985, are
invested in short-term investment grade commercial paper and Money Market funds.
In September, 1998, the July Securities converted into units consisting of one
share of Series B Preferred Stock convertible into one share of Common Stock and
one warrant to purchase one share of Common Stock exercisable at $1.35 per
share.
For additional information about the July Securities, please refer to the
Company's Current Report on Form 8-K filed with the Securities and Exchange
Commission on July 10, 1998.
Item 4. Submission of Matters to a Vote of Security Holders
At special meetings of shareholders held on September 9, 1998, the following
matters were approved by the shareholders: (1) issuance of up to 1,683,000
shares of common stock in the merger with GLWC; (2) amendment of the Company's
Stock Option Plan (the "Plan") to increase the number of shares of common stock
authorized to be issued under the Plan from 450,000 to 1,500,000 and to allow
officers, directors, employees, associates, consultants and advisors of the
Company's subsidiaries to participate in the Plan; (3) amendment to the Articles
of Incorporation authorizing creation of additional shares of preferred stock;
(4) issuance of up to 3,333,400 shares of Series B Convertible Preferred Stock
in connection with the Company's private sale of $4,000,000 in aggregate
principal amount of convertible debentures.
18
<PAGE>
<TABLE>
<CAPTION>
Vote of Holders of Common Stock
For Against Abstentions
<S> <C> <C> <C>
(1) Issue GLWC Merger Shares 2,565,922 43,694 83,213
(2) Amend Stock Option Plan 2,548,347 60,057 84,425
(3) Amend Articles of Incorporation 2,438,542 135,922 17,103
(4) Issue Series B Preferred Shares 2,437,529 138,922 15,116
Vote of Holders of Series A Preferred Stock
For Against Abstentions
(1) Issue GLWC Merger Shares 1,006,250 0 0
(2) Amend Stock Option Plan 1,006,250 0 0
(3) Amend Articles of Incorporation 1,081,250 0 0
(4) Issue Series B Preferred Shares 1,081,250 0 0
</TABLE>
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits. With the exception of the following, all exhibits required by Item
601 of Regulation S-B and required hereunder, as filed with the Securities and
Exchange Commission on: (1) Form 10-KSB on March 31, 1998, (2) Form 10-QSB on
August 14, 1998, and (3) Forms 8-K on June 10, 1998, July 10, 1998 and September
23, 1998, are incorporated herein by reference.
Item Description
27 Financial Data Schedule (filed electronically with
the U. S. Securities and Exchange Commission only)
(b) Reports on Form 8-K. On July 10, 1998 the Company filed a Current Report on
Form 8-K with a date of report of July 8, 1998, reporting on Item 5, Other
Events, relative to closing on a private placement of convertible debentures in
which an aggregate of $4 million was raised. On July 13, 1998, the Company filed
a Current Report on Form 8-K with a date of report of July 8, 1998 reporting on
Item 5, Other Events, announcing a non-binding letter of intent to acquire
Sunshine Products, Inc. On September 23, 1998, the Company filed a Current
Report on Form 8-K with a date of report of September 9, 1998 reporting on Item
2, Acquisition or Disposition of Assets, relating to the acquisition of GLWC by
merger as a result of which GLWC became a wholly-owned subsidiary of the
Company.
19
<PAGE>
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
DERMA SCIENCES, INC.
Dated: November 16, 1998 By: /s/ Stephen T. Wills
--------------------------
Stephen T. Wills, CPA, MST
Chief Financial Officer
20
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
Company's unaudited financial statements for the quarter ended September 30,
1998 and is qualified in its entirety by reference to such financial statements.
</LEGEND>
<CIK> 0000892160
<NAME> Derma Sciences, Inc.
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-1-1998
<PERIOD-END> SEP-30-1998
<CASH> 5,465,839
<SECURITIES> 0
<RECEIVABLES> 952,094
<ALLOWANCES> 0
<INVENTORY> 1,528,595
<CURRENT-ASSETS> 8,283,659
<PP&E> 236,996
<DEPRECIATION> 0
<TOTAL-ASSETS> 8,898,508
<CURRENT-LIABILITIES> 3,105,452
<BONDS> 0
0
50,708
<COMMON> 62,612
<OTHER-SE> 5,679,736
<TOTAL-LIABILITY-AND-EQUITY> 8,898,508
<SALES> 6,512,346
<TOTAL-REVENUES> 6,512,346
<CGS> 1,450,844
<TOTAL-COSTS> 1,450,844
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (55,363)
<INCOME-PRETAX> (1,534,642)
<INCOME-TAX> 0
<INCOME-CONTINUING> (1,534,642)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,534,642)
<EPS-PRIMARY> (0.25)
<EPS-DILUTED> (0.25)
</TABLE>
