UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1997
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _____ to _____
Commission File Number 0-28240
EXACTECH, INC.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
FLORIDA 59-2603930
------------------------------ -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
4613 NW 6TH STREET
GAINESVILLE, FL
32609
----------------------------------------
(Address of principal executive offices)
(352) 377-1140
----------------------------------------------------
(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 [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the close of the latest practicable date.
Class Outstanding at November 12, 1997
Common Stock, $.01 par value 4,886,663
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EXACTECH, INC.
INDEX
PAGE
NUMBER
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<S> <C> <C>
PART 1. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONDENSED BALANCE SHEETS AS OF DECEMBER 31, 1996 AND SEPTEMBER 30, 1997 2
CONDENSED STATEMENTS OF INCOME FOR THE THREE MONTH AND NINE MONTH
PERIODS ENDED SEPTEMBER 30, 1996 AND SEPTEMBER 30, 1997 4
CONDENSED STATEMENT OF CHANGES IN COMMON SHAREHOLDERS' EQUITY
FOR THE NINE MONTH PERIOD ENDED SEPTEMBER 30, 1997 5
CONDENSED STATEMENTS OF CASH FLOWS FOR THE NINE MONTH PERIODS ENDED
SEPTEMBER 30, 1996 AND SEPTEMBER 30, 1997 6
NOTES TO CONDENSED FINANCIAL STATEMENTS FOR THE THREE MONTH AND
NINE MONTH PERIODS ENDED SEPTEMBER 30, 1996 AND SEPTEMBER 30, 1997 7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS 10
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 17
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS 18
ITEM 2. CHANGES IN SECURITIES 18
ITEM 3. DEFAULTS UPON SENIOR SECURITIES 18
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 18
ITEM 5. OTHER INFORMATION 18
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 18
SIGNATURES 19
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<CAPTION>
Item 1. Financial Statements
EXACTECH, INC.
CONDENSED BALANCE SHEETS
(UNAUDITED)
DECEMBER 31, SEPTEMBER 30,
1996 1997
------------ ------------
<S> <C> <C>
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 3,992,442 $ 3,472,035
Short-term investments 3,083,788 --
Trade receivables 2,462,864 3,105,049
Prepaid expenses and other assets 194,009 260,931
Inventories 7,625,756 10,158,761
------------ ------------
Total Current Assets 17,358,859 16,996,776
PROPERTY AND EQUIPMENT
Machinery and equipment 4,174,394 5,932,665
Furniture and fixtures 115,089 121,645
Construction in progress -- 470,039
------------ ------------
Total 4,289,483 6,524,349
Accumulated depreciation (1,322,392) (1,842,348)
------------ ------------
Net property and equipment 2,967,091 4,682,001
OTHER ASSETS
Land held for future use 263,301 263,301
Biologic products license -- 106,494
Investment in subsidiary 100,638 --
Deferred financing costs, net 21,296 17,500
Advances and deposits 2,442 206,430
Patents and trademarks (net of amortization) 393,445 435,447
------------ ------------
Total Other Assets 781,122 1,029,172
------------ ------------
TOTAL ASSETS $ 21,107,072 $ 22,707,949
============ ============
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See notes to condensed financial statements
2
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<CAPTION>
EXACTECH, INC.
CONDENSED BALANCE SHEETS
(UNAUDITED)
DECEMBER 31, SEPTEMBER 30,
1996 1997
----------- -----------
<S> <C> <C>
LIABILITIES AND EQUITY
Current Liabilities
Accounts payable $ 1,430,321 $ 1,783,170
Income taxes payable 40,986 6,761
Current portion of long-term debt and leases 32,861 5,143
Commissions payable 373,900 434,526
Royalties payable 168,387 206,672
Other liabilities 135,823 94,487
----------- -----------
Total Current Liabilities 2,182,278 2,530,759
Deferred income taxes 326,875 326,875
Long-term debt and capital lease-net of current portion 18,144 13,820
----------- -----------
Total Liabilities 2,527,297 2,871,454
COMMON SHAREHOLDERS' EQUITY:
Common stock 48,604 48,866
Additional paid in capital 14,815,588 14,937,406
Retained earnings 3,715,583 4,850,223
----------- -----------
Total Common Shareholders' Equity 18,579,775 19,836,495
----------- -----------
TOTAL LIABILITIES AND EQUITY $21,107,072 $22,707,949
=========== ===========
</TABLE>
See notes to condensed financial statements
3
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<CAPTION>
EXACTECH, INC.
CONDENSED STATEMENTS OF INCOME
(UNAUDITED)
THREE MONTH PERIOD NINE MONTH PERIOD
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
1996 1997 1996 1997
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
NET SALES $ 3,257,284 $ 4,242,293 $ 10,081,147 $ 12,576,476
COST OF GOODS SOLD 964,692 1,433,809 3,448,231 4,102,230
------------ ------------ ------------ ------------
Gross profit 2,292,592 2,808,484 6,632,916 8,474,246
OPERATING EXPENSES:
Sales and marketing 869,824 1,204,897 2,501,316 3,550,248
General and administrative 399,413 433,146 965,198 1,208,335
Research and development 178,606 234,373 511,131 716,778
Depreciation and amortization 141,335 212,312 370,306 563,419
Royalties 117,862 206,672 400,092 599,962
------------ ------------ ------------ ------------
Total operating expenses 1,707,040 2,291,400 4,748,043 6,638,742
------------ ------------ ------------ ------------
INCOME FROM OPERATIONS 585,552 517,084 1,884,873 1,835,504
OTHER INCOME (EXPENSE)
Interest income (expense) 93,519 34,739 (76,861) 175,314
Income from sublicense
agreement 100,000 0 100,000 0
Equity in net loss of
subsidiary (20,155) (158,909) (52,354) (183,909)
------------ ------------ ------------ ------------
INCOME BEFORE INCOME TAXES 758,916 392,914 1,855,658 1,826,909
PROVISION FOR INCOME TAXES 296,047 149,308 712,809 692,269
------------ ------------ ------------ ------------
NET INCOME 462,869 243,606 1,142,849 1,134,640
PREFERRED STOCK DIVIDENDS 0 0 10,154 0
------------ ------------ ------------ ------------
NET INCOME AVAILABLE TO $ 462,869 $ 243,606 $ 1,132,695 $ 1,134,640
COMMON SHAREHOLDERS ============ ============ ============ ============
NET INCOME PER COMMON AND $ 0.09 $ 0.05 $ 0.29 $ 0.23
COMMON SHARE EQUIVALENT ============ ============ ============ ============
WEIGHTED AVERAGE COMMON 4,893,414 4,937,647 3,878,950 4,941,998
AND COMMON SHARE
EQUIVALENTS OUTSTANDING
</TABLE>
See notes to condensed financial statements
4
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<CAPTION>
EXACTECH, INC.
CONDENSED STATEMENT OF CHANGES IN COMMON SHAREHOLDERS' EQUITY
(UNAUDITED)
TOTAL
ADDITIONAL COMMON
COMMON STOCK PAID-IN RETAINED SHAREHOLDERS'
SHARES AMOUNT CAPITAL EARNINGS EQUITY
---------- ----------- ----------- ----------- ------------
<S> <C> <C> <C> <C> <C>
Balance, December 31,
1996 4,860,434 $ 48,604 $14,815,588 $ 3,715,583 $18,579,775
Exercise of stock
options 26,229 262 121,818 -- 122,080
Net income -- -- -- 1,134,640 1,134,640
---------- ----------- ----------- ----------- -----------
Balance, September 30,
1997 4,886,663 $ 48,866 $14,937,406 $ 4,850,223 $19,836,495
========== =========== =========== =========== ===========
</TABLE>
See notes to condensed financial statements
5
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<CAPTION>
EXACTECH, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
NINE MONTH PERIOD ENDED SEPTEMBER 30,
1996 1997
------------ -----------
<S> <C> <C>
OPERATING ACTIVITIES:
Net Income $ 1,142,849 $ 1,134,640
Adjustments to reconcile net income to net
cash used in operating activities:
Depreciation and amortization 370,306 563,419
Equity in net loss of subsidiary 52,354 183,909
Deferred income taxes 4 --
Increase in trade receivables (183,932) (642,185)
Decrease (increase) in inventories 49,641 (2,533,005)
Increase in other prepaids and assets (127,304) (267,114)
Decrease in income taxes payable (46,763) (34,225)
(Decrease) increase in accounts payable (410,367) 352,849
(Decrease) increase in other liabilities (26,520) 57,575
------------ -----------
Net cash provided by (used in) operating activities 820,268 (1,184,137)
------------ -----------
INVESTING ACTIVITIES:
Purchases of property and equipment, net (1,873,172) (2,251,978)
(Purchases) sales of short-term investments (3,073,287) 3,083,788
Purchase of biologic product license -- (106,494)
Investment in subsidiary (92,137) (83,272)
Cost of patents and trademarks (31,862) (68,353)
------------ -----------
Net cash provided by (used in) investing activities (5,070,458) 573,691
------------ -----------
FINANCING ACTIVITIES:
Proceeds under line of credit (1,844,266) --
Proceeds from issuance of debt 284,763 --
Principal payments on debt (1,420,962) (32,042)
Repayments of subordinated debentures (465,000) --
Proceeds from issuance of common stock 14,725,100 122,081
Payment of offering costs (2,052,093) --
Preferred dividends paid (10,154) --
Repayments of preferred stock (75,960) --
------------ -----------
Net cash provided by financing activities 9,141,428 90,039
------------ -----------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 4,891,238 (520,407)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 201,979 3,992,442
------------ -----------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 5,093,217 $ 3,472,035
------------ -----------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for:
Interest $ 214,703 $ 37,175
Income taxes 761,168 664,556
Noncash investing and financing activities:
Conversion of subordinated debt to common stock 50,000 --
Conversion of preferred stock to common stock 215,260 --
Financing of insurance premiums 296,106 --
</TABLE>
SEE NOTES TO CONDENSED FINANCIAL STATEMENTS
6
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EXACTECH, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
FOR THE THREE AND NINE MONTH PERIODS ENDED SEPTEMBER 30, 1996 AND 1997
(UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited condensed financial statements, which are
for interim periods, have been prepared in accordance with the rules and
regulations of the Securities and Exchange Commission relating to interim
financial statements. These unaudited condensed financial statements do not
include all disclosures provided in the annual financial statements. The
condensed financial statements should be read in conjunction with the financial
statements and notes thereto contained in the Annual Report on Form 10-K for the
year ended December 31, 1996 of Exactech, Inc. (the "Company"), as filed with
the Securities and Exchange Commission.
All adjustments of a normal recurring nature which, in the opinion of
the Company's management, are necessary to present a fair statement of results
for the interim periods have been made. Results of operations for the three and
nine month periods ended September 30, 1997 are not necessarily indicative of
the results to be expected for the full year.
2. INVESTMENT SECURITIES
The Company invests its excess funds in various high-quality and
low-risk investment securities. Debt securities for which the Company has the
positive intent and ability to hold to maturity are classified as held to
maturity and reported at amortized cost. Securities are classified as trading
securities if bought and held principally for the purpose of selling them in the
near future. Securities not classified as held to maturity or trading are
classified as available for sale, and reported at fair value with unrealized
gains and losses excluded from earnings and reported net of tax as a separate
component of shareholders' equity until realized. No investments are held for
trading purposes or are available for sale.
3. COMMITMENTS
In September 1997, the Company commenced construction of an
approximately 38,000 square foot building to be used for administrative offices
and manufacturing on land owned by the Company in Gainesville, Florida. On
November 13, 1997, the Company entered into an agreement with a lending
institution to finance the construction of this new plant through a $3,900,000
letter of credit enhanced, lower floater industrial development bond facility.
The interest rate on this facility is at a floating rate and will be equivalent
to A1/P1 commercial paper rate after inclusion of applicable fees. The credit
facility requires interest payments annually with principal reductions beginning
in 2000 until fully paid in 2017.
7
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EXACTECH, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
FOR THE THREE AND NINE MONTH PERIODS ENDED SEPTEMBER 30, 1996 AND
SEPTEMBER 30, 1997
(UNAUDITED)
4. DEBT
LONG-TERM DEBT AND CAPITAL LEASE OBLIGATIONS: DECEMBER 31, SEPTEMBER 30,
1996 1997
------------ -------------
<S> <C> <C>
Capitalized lease obligation payable in monthly installments $ 23,539 $ 18,963
of $611 through July 2000, collateralized by equipment with a
carrying value of approximately $27,000 as of December 31, 1996
Notes payable to finance company bearing interest 27,466 -
at 7.43% payable in monthly installments through
February 1997; proceeds used to finance insurance policies
--------- ---------
Total long-term debt and capital lease obligations 51,005 18,963
Less current portion (32,861) (5,143)
--------- ---------
$ 18,144 $ 13,820
========= =========
</TABLE>
The following is a schedule of future minimum lease payments under the
capital leases, together with the present value of minimum lease payments as of
September 30, 1997:
CAPITAL LEASE
OBLIGATIONS
-------------
1997......................................... $ 1,833
1998......................................... 7,333
1999......................................... 7,333
2000......................................... 7,188
-------
Total .............................. 23,687
Less interest on capital lease obligations... (4,724)
-------
$18,963
=======
5. CONTINGENCIES
On January 28, 1997, a competitor filed a complaint and jury demand for
patent infringement against the Company. Management has examined the patent and
concluded that the structure of the Company's product differs significantly from
the teachings of the patent. In addition, the Company has sought the advice of
patent counsel who has rendered a reasoned opinion to the effect that the
Company's products do not infringe the competitor's patent.
On August 21, 1997, a domestic sales competitor filed a complaint
alleging that the Company induced several of the competitor's sales agents to
breach their employment agreements when the Company contracted with these agents
to sell the Company's products. The plaintiff is seeking an unspecified monetary
award and punitive damages in the amount to be determined at trial. The
plaintiff also sought to
8
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EXACTECH, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
FOR THE THREE AND NINE MONTH PERIODS ENDED SEPTEMBER 30, 1996 AND 1997
(UNAUDITED)
5. CONTINGENCIES - (CONTINUED)
enjoin the Company from soliciting plaintiff's employees, interfering with their
customer relationships and selling products to their former customers. The
Company believes that the allegations are without merit. At a hearing in the
Superior Court of New Jersey on October 8, 1997, the judge denied the
plaintiff's request for injuctive relief.
The Company, in the normal course of business, is also subjected to
claims and litigation in the areas of product and general liability. Management
does not believe any of such claims will have a material adverse impact on the
Company's financial position.
6. COMMON SHAREHOLDERS' EQUITY
OPTIONS AND STOCK AWARDS:
The Company sponsors an Employee Stock Option and Incentive Plan which
provides for the issuance of stock options and restricted stock awards to key
employees and a Director's Stock Option Plan which provides for the issuance of
stock options to non-employee directors (collectively the "Plans"). The Company
also issues stock options to sales agents and other individuals. The maximum
number of common shares issuable under the Plans is 600,000 shares. A summary of
stock option activity follows:
NUMBER OF EXERCISE NUMBER OF
SHARES PRICE SHARES
UNDER OPTION PER SHARE EXERCISABLE
------------ ---------- -----------
Outstanding at December 31, 1996 560,199 $2.30-8.80 172,907
-------- ----------
Granted 28,000 7.50-9.00
Exercised (26,229) 2.30-6.67
Expired (2,925) 6.67
--------- ---------
Outstanding at September 30, 1997 559,045 $2.30-9.00 233,054
======== ==========
The remaining nonexercisable options as of September 30, 1997 become exercisable
as follows:
1997 21,790
1998 87,552
1999 85,792
2000 85,117
2001 43,590
2002 2,150
-------
325,991
=======
9
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
GENERAL
The following discussion should be read in conjunction with the condensed
financial statements and related notes appearing elsewhere herein, and the
Management's Discussion and Analysis of Financial Condition and Results of
Operations included in the Company's Annual Report on Form 10-K for the year
ended December 31, 1996.
The Company develops, manufactures, markets and sells orthopaedic implant
devices and related surgical instrumentation to hospitals and physicians. Sales
of hip implant products historically accounted for most of the Company's
revenues and profits; however, since 1995, sales of knee implant products have
accounted for an increasingly significant portion of its revenues and profits.
The Company anticipates that sales of knee implant products will continue to
account for an increasingly significant portion of its revenues and profits.
The following table sets forth for the periods indicated information with
respect to the number of units of the Company's products sold and the dollar
amount and percentages of revenues derived from such sales (dollars in
thousands):
<TABLE>
<CAPTION>
EXACTECH, INC.
SALES SUMMARY BY PRODUCT LINE ($1,000'S)
NINE MONTHS ENDED
------------------------------------------------------
SEPTEMBER 30, 1996 SEPTEMBER 30, 1997
HIP PRODUCTS UNITS $ % UNITS $ %
------ ----- ------ ------- ------ -----
<S> <C> <C> <C> <C> <C> <C>
Cemented 3,954 1,734 17.2% 4,012 1,770 14.1%
Porous Coated 4,064 1,469 14.6% 3,761 1,335 10.6%
Bipolar 640 346 3.4% 655 312 2.5%
Revision -- -- 0.0% 27 68 0.6%
------ ------ ------ ------ ------ -----
Total Hip Products 8,658 3,549 35.2% 8,455 3,485 27.7%
KNEE PRODUCTS
Cemented Cruciate Sparing 6,558 3,278 32.5% 8,588 4,118 32.7%
Cemented Posterior Stabilized 2,404 1,200 11.9% 4,480 2,918 23.2%
Porous Coated 986 1,382 13.7% 1,060 1,115 8.9%
Revision -- -- 0.0% 1,477 514 4.1%
------ ------ ------ ------ ------ -----
Total Knee Products 9,948 5,860 58.1% 15,605 8,665 68.9%
Instrument Sales and Rental 621 6.2% 376 3.0%
Miscellaneous 51 0.5% 50 0.4%
====== ====== ====== =====
TOTAL 10,081 100.00% 12,576 100.0%
EXACTECH, INC.
SALES SUMMARY BY PRODUCT LINE ($1,000'S)
THREE MONTHS ENDED
-----------------------------------------------------
SEPTEMBER 30, 1996 SEPTEMBER 30, 1997
HIP PRODUCTS UNITS $ % UNITS $ %
----- ------ ---- ------ ----- -----
Cemented 1,346 564 17.3% 1,315 541 12.8%
Porous Coated 1,272 477 14.7% 1,135 452 10.7%
Bipolar 249 125 3.8% 256 117 2.8%
Revision -- -- 0.0% 11 31 0.7%
----- ------ ----- ------ ------ -----
Total Hip Products 2,867 1,166 35.8% 2,717 1,141 26.9%
KNEE PRODUCTS
Cemented Cruciate Sparing 2,037 1,159 35.6% 2,883 1,391 32.8%
Cemented Posterior Stabilized 752 392 12.1% 1,753 1,095 25.8%
Porous Coated 244 460 14.1% 282 288 6.8%
Revision 0.0% 482 187 4.4%
----- ------ ----- ------ ------ -----
Total Knee Products 3,033 2,011 61.8% 5,400 2,961 69.8%
Instrument Sales and Rental 66 2.0% 122 2.9%
Miscellaneous 14 0.4% 18 0.4%
====== ===== ====== ======
TOTAL 3,257 100.0% 4,242 100.0%
</TABLE>
10
<PAGE>
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 1997, COMPARED TO THREE MONTHS ENDED SEPTEMBER
30, 1996
Net sales increased by $985,009, or 30.2%, to $4,242,293 in the quarter
ended September 30, 1997, from $3,257,284 in the quarter ended September 30,
1996. The increase in net sales resulted primarily from increased unit volume of
the Company's knee implant products. Sales of knee implant products increased by
78.0% on a unit basis and by 47.2% on a dollar basis from the quarter ended
September 30, 1996 to the quarter ended September 30, 1997, as the Company
continued to penetrate new markets with the Optetrak(R) knee system. Sales of
hip implant products decreased by 5.2% on a unit basis and decreased by 2.1% on
a dollar basis from the quarter ended September 30, 1996, to the quarter ended
September 30, 1997. Although the average unit selling price of hip products
increased in the three months ended September 30, 1997, the Company believes
that more competitive pricing throughout the industry will result in slight
selling price reductions for the balance of the year. Although the Company
believes that the competitive pricing will continue, it does not believe the
pricing will have a material adverse effect on its results of operations because
lower average selling prices for existing products should be partially offset by
higher selling prices for newer products including the AuRA revision hip
components.
Gross profit increased by $515,892, or 22.5%, to $2,808,484 in the quarter
ended September 30, 1997, from $2,292,592 in the quarter ended September 30,
1996. As a percentage of sales, gross profit decreased to 66.2% in the quarter
ended September 30, 1997, from 70.4% in the quarter ended September 30, 1996.
The profit margin decrease was primarily the result of an increased mix of
international sales. International sales were 13.2% of sales in the quarter
ended September 30, 1997 as compared to 5.9% for the quarter ended September 30,
1996. International sales are at a significantly lower margin than domestic
sales resulting in a reduced overall gross profit margin.
Total operating expenses increased by $584,360, or 34.2%, to $2,291,400 in
the quarter ended September 30, 1997, from $1,707,040 in the quarter ended
September 30, 1996. Sales and marketing expenses, the largest component of total
operating expenses, increased by $335,073, or 38.5%, to $1,204,897 in the
quarter ended September 30, 1997, from $869,824 in the quarter ended September
30, 1996. Sales and marketing expenses increased as a percentage of sales to
28.4% in the quarter ended September 30, 1997, from 26.7% in the quarter ended
September 30, 1996. The Company's sales and marketing expenses are largely
variable costs based on sales levels, with the largest component being
commissions. The Company's increased effort to expand its worldwide distribution
and marketing network through sales agent recruitment and other promotions was a
primary factor in the increase of sales and marketing expenses.
General and administrative expenses increased by $33,733, or 8.4%, to
$433,146 in the quarter ended September 30, 1997, from $399,413 in the quarter
ended September 30, 1996. As a percentage of sales, general and administrative
expenses decreased to 10.2% in the quarter ended September 30, 1997, from 12.3%
in the quarter ended September 30, 1996. Total general and administrative
expenses decreased as a percentage of sales largely due to relatively flat
expenses spread over a larger sales base.
Research and development expenses increased by $55,767, or 31.2%, to
$234,373 in the quarter ended September 30, 1997, from $178,606 in the quarter
ended September 30, 1996. Research and development expenses were 5.5% of sales
in both the quarters ended September 30, 1997 and 1996. The Company expects
research and development expenses to increase for the full year of 1997 as
compared to 1996, due to continued development expenses associated with the
Company's revision knee system, revision hip system and biologic products.
Depreciation and amortization increased by $70,977, or 50.2%, to $212,312
in the quarter ended
11
<PAGE>
September 30, 1997, from $141,335 in the quarter ended September 30, 1996, as a
result of the continued increase in instrumentation for the Company's hip and
knee systems. During the quarter ended September 30, 1997, $752,119 of knee and
hip instrumentation was placed in service, resulting in the increase in
depreciation expense.
Royalty expenses increased by $88,810, or 75.4%, to $206,672 in the
quarter ended September 30, 1997, from $117,862 in the quarter ended September
30, 1996, primarily as a result of growth in sales of knee implant products
which incur a higher royalty rate. As a percentage of sales, royalty expenses
were 4.9% and 3.6% in the quarters ended September 30, 1997 and 1996,
respectively. Royalty expenses increased as a percentage of sales due to the
larger percentage of knee product sales as compared to hip product sales.
The Company's income from operations decreased by $68,468, or 11.7%, to
$517,084 in the quarter ended September 30, 1997, from $585,552 in the quarter
ended September 30, 1996. The decrease was attributable to the overall increase
in operating expenses as the Company continued to invest in research and
development and the expansion of its worldwide distribution and marketing
network.
The Company realized net interest income of $34,739 in the quarter ended
September 30, 1997, as compared to $93,519 in the quarter ended September 30,
1996. This decrease resulted primarily from a reduction in short-term
investments in the quarter ended September 30, 1997 as compared to the quarter
ended September 30, 1996. Interest expense of $17,345 for the quarter ended
September 30, 1997, was offset by $52,084 of interest income earned on the
remaining proceeds of the Company's initial public offering ("IPO") consummated
in June 1996 which were invested in short-term and government backed securities.
In July 1995, the Company purchased a 50% interest in Techmed S.p.A.
("Techmed"), its Italian distributor. The investment previously had been
accounted for by the equity method. During September 1997, the Company charged
off the remaining book value of the investment in Techmed of $158,909. Although
Techmed continues operations, the Company has concerns about the long-term
viability of the enterprise. The Company is currently pursuing avenues to divest
itself of its interest in Techmed.
The Company did not realize income from any sublicense agreements in the
quarter ended September 30, 1997, while the Company realized income from a
sublicense agreement of $100,000 in the quarter ended September 30, 1996.
Income before provision for income taxes decreased by $366,002, or 48.2%,
to $392,914 in the quarter ended September 30, 1997, from $758,916 in the
quarter ended September 30, 1996. The provision for income taxes was $149,308 in
the quarter ended September 30, 1997, compared to $296,047 in the quarter ended
September 30, 1996.
As a result of the foregoing, the Company had net income available to
common shareholders of $243,606 in the quarter ended September 30, 1997,
compared to $462,869 in the quarter ended September 30, 1996, a 47.4% decrease.
Net income available to common shareholders dropped as a percentage of sales to
5.7% in the quarter ended September 30, 1997 as compared to 14.2% in the quarter
ended September 30, 1996.
NINE MONTHS ENDED SEPTEMBER 30, 1997, COMPARED TO NINE MONTHS ENDED SEPTEMBER
30, 1996
Net sales increased by $2,495,329, or 24.8%, to $12,576,476 in the nine
months ended September 30, 1997, from $10,081,147 in the nine months ended
September 30, 1996. The increase in net sales resulted
12
<PAGE>
primarily from increased unit volume of the Company's knee implant products.
Sales of knee implant products for the nine months ended September 30, 1997
increased by 56.9% on a unit basis and by 47.9% on a dollar basis as compared to
the nine months ended September 30, 1996. Sales of hip implant products
decreased by 2.3% on a unit basis and decreased by 1.8% on a dollar basis during
the nine months ended September 30, 1997, as compared to the nine months ended
September 30, 1996.
Gross profit increased by $1,841,330, or 27.8%, to $8,474,246 in the nine
months ended September 30, 1997, from $6,632,916 in the nine months ended
September 30, 1996. As a percentage of sales, gross profit increased to 67.4% in
the nine months ended September 30, 1997, from 65.8% in the nine months ended
September 30, 1996. The profit margin increase was primarily the result of a
reduction in costs of the Optetrak(R) knee system components as production
volumes increased.
Total operating expenses increased by $1,890,699, or 39.8%, to $6,638,742
in the nine months ended September 30, 1997, from $4,748,043 in the nine months
ended September 30, 1996. As a percentage of sales, total operating expenses
increased to 52.8% in the nine months ended September 30, 1997, from 47.1%. The
increase in total operating expense as a percentage of sales was primarily due
to the increase in sales and marketing expenses as the Company expanded its
worldwide marketing and distribution network. Sales and marketing expenses, the
largest component of total operating expenses, increased by $1,048,932, or
41.9%, to $3,550,248 in the nine months ended September 30, 1997, from
$2,501,316 in the nine months ended September 30, 1996. As a percentage of
sales, sales and marketing expenses increased to 28.2% from 24.8% for the nine
month period.
General and administrative expenses increased by $243,137, or 25.2%, to
$1,208,335 in the nine months ended September 30, 1997, from $965,198 in the
nine months ended September 30, 1996. As a percentage of sales, general and
administrative expenses remained constant at 9.6%.
Research and development expenses increased by $205,647, or 40.2%, to
$716,778 in the nine months ended September 30, 1997, from $511,131 in the nine
months ended September 30, 1996. The Company expects research and development
expenses to increase for the full year of 1997 as compared to 1996, due to
continued development expenses associated with the Company's revision knee
system, revision hip system and biologic products. As a percentage of sales,
research and development expenses increased to 5.7% in the nine months ended
September 30, 1997 from 5.1% for the nine months ended September 30, 1996.
Depreciation and amortization increased to $563,419 in the nine months
ended September 30, 1997, from $370,306 in the nine months ended September 30,
1996. The increase in depreciation expenses is primarily the result of
additional investment in knee and hip instrumentation. During the nine months
ended September 30, 1997, $1,637,923 of such assets were placed in service. As a
percentage of sales, depreciation and amortization expenses were 4.5% and 3.7%
in the nine months ended September 30, 1997 and September 30, 1996,
respectively.
Royalty expenses increased by $199,870, or 50.0%, to $599,962 in the nine
months ended September 30, 1997, from $400,092 in the nine months ended
September 30, 1996. The increase in royalty expenses is attributable generally
to the overall growth in sales and specifically to the growth in sales of knee
implant products which incur a higher royalty rate. As a percentage of sales,
royalty expenses were 4.8% and 4.0% in the nine months ended September 30, 1997
and September 30, 1996, respectively.
The Company's income from operations decreased by $49,369, or 2.6%, to
$1,835,504 in the nine months ended September 30, 1997, from $1,884,873 in the
nine months ended September 30, 1996. The Company realized net interest income
of $175,314 in the nine months ended September 30, 1997, as compared to net
interest expense of $76,861 in the nine months ended September 30, 1996.
13
<PAGE>
The Company did not realize income from any sublicense agreements in the
nine months ended September 30, 1997, while the Company realized income from a
sublicense agreement of $100,000 in the nine months ended September 30, 1996.
In July 1995, the Company purchased a 50% interest in Techmed, its Italian
distributor. The investment previously had been accounted for by the equity
method. During September 1997, the Company charged off the remaining book value
of the investment in Techmed of $158,909. During the nine months ended September
30, 1997, the Company recognized $183,909 in losses associated with Techmed.
Although Techmed continues operations, the Company has concerns about the
long-term viability of the enterprise. The Company is currently pursuing avenues
to divest itself of its interest in Techmed.
As a result of the consummation of the IPO in June 1996, all outstanding
shares of preferred stock were either converted to common stock or redeemed in
the nine months ended September 30, 1996, therefore there were no preferred
stock dividends paid in the nine months ended September 30, 1997. Preferred
stock dividends for the nine months ended September 30, 1996 were $10,154.
As a result of the foregoing, the Company had net income available to
common shareholders of $1,134,640 in the nine months ended September 30, 1997,
compared to $1,132,695 in the nine months ended September 30, 1996, a 0.2%
increase. Net income available to common shareholders decreased as a percentage
of sales to 9.0% in the nine months ended September 30, 1997, as compared to
11.2% in the nine months ended September 30, 1996.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, the Company has financed its operations primarily through
borrowings, the sale of equity securities and cash flow from operations. At
September 30, 1997, the Company had working capital of $14,466,017 compared to
$15,176,581 at December 31, 1996. As a result of operating, investing and
financing activities, cash and cash equivalents at September 30, 1997 decreased
to $3,472,035 from $3,992,442 at December 31, 1996. The reduction in cash and
cash equivalents is primarily the result of the increased investment in
instrumentation and inventory for all of the Company's products to support the
expansion of the Company's worldwide distribution and marketing network. The
Company projects that the current working capital will be sufficient to fund
operations and expand the business for at least the next nine months.
The Company has a line of credit of $3,000,000 with a financial
institution. At September 30, 1997, there was no amount outstanding under the
line of credit. The line of credit bears interest at the current "30 Day
Commercial Paper Rate" as published in the Wall Street Journal plus 2.65% and
expires in June of 1998. Borrowings under the line of credit are available to
the extent of 80% of eligible receivables plus 50% of eligible inventory.
In September 1997, the Company commenced construction of an approximately
38,000 square foot building to be used for administrative offices and
manufacturing on land owned by the Company in Gainesville, Florida. The Company
estimates that the costs of constructing and equipping this new plant will
aggregate approximately $5,000,000. On November 13, 1997, the Company entered
into a $3,900,000 letter of credit enhanced, lower floater industrial
development bond facility. The credit facility will require interest payments
annually with principal reductions beginning in 2000 until fully paid in 2017.
The Company expects to fund the balance of the costs of this new plant from
working capital.
14
<PAGE>
OPERATING ACTIVITIES
Operating activities used net cash of $1,184,137 in the nine months ended
September 30, 1997 compared to providing net cash of $820,268 in the nine months
ended September 30, 1996. The primary reason for the change was the $2,533,005
increase in inventory that occurred in the nine months ended September 30, 1997,
as compared to the $49,641 reduction in inventory that occurred in the nine
months ended September 30, 1996. The significant increase in inventory was a
direct result of the Company's plan to support the expansion of the worldwide
distribution and marketing network. During the first nine months of 1997, the
Company significantly increased its ability to support additional sales agents
through its increased investment in inventory.
The other key component in the use of cash for operating activities was
the increase in accounts receivable. As a result of the increase in average
monthly sales, net trade receivables increased $642,185 for the period ended
September 30, 1997 as compared to $183,932 in the nine month period ended
September 30, 1996. During the nine month period ended September 30, 1997, the
Company increased the allowance for doubtful accounts to $118,330 as the overall
receivables outstanding increased. Included in this allowance was a specific
allowance of $71,996 for receivables due from Techmed, the Company's Italian
distributor.
INVESTING ACTIVITIES
Net cash provided by investing activities was $573,691 in the nine
months ended September 30, 1997, as compared to cash used by investing
activities of $5,070,458 in the nine months ended September 30, 1996. The
primary reason for the change in cash flows between these two periods was the
change in short-term investment activity. During the nine month period ended
September 30, 1997, $3,083,788 in investments matured as compared to the
purchase of $3,073,287 in investments in the nine month period ended September
30, 1996. As of September 30, 1997, $2,863,178 was invested in Merrill Lynch's
daily maturing Institutional Fund comprised of commercial paper and government
backed securities with a current yield of 5.4%.
FINANCING ACTIVITIES
Financing activities provided net cash of $90,039 in the nine month
period ended September 30, 1997, as compared to $9,141,428 in the period ended
September 30, 1996. The primary reason for the change in cash provided by
financing activities was the change in the proceeds from issuance of common
stock. During the nine month period ended September 30, 1997, $122,081 in
proceeds were received from issuance of common stock due to stock option
exercises as compared to proceeds of $14,725,100 in the nine month period ended
September 30, 1996 as a result of the IPO.
15
<PAGE>
RECENT ACCOUNTING PRONOUNCEMENTS
In March 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS
No. 128"). SFAS No. 128 establishes standards for computing and presenting
earnings per share ("EPS") and applies to all entities with publicly held common
stock or potential common stock. SFAS No. 128 replaces the presentation of
primary EPS and fully diluted EPS with a presentation of basic EPS and diluted
EPS, respectively. Basic EPS excludes dilution and is computed by dividing
earnings available to common stockholders by the weighted-average number of
common shares outstanding for the period. Similar to fully diluted EPS, diluted
EPS reflects the potential dilution of securities that could share in the
earnings. SFAS No. 128 is not expected to have a material effect on the
Company's reported EPS amounts. SFAS No. 128 is effective for the Company's
financial statements for the year ended December 31, 1997.
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive
Income" ("SFAS No. 130"), effective for fiscal years beginning after December
15, 1997. SFAS No. 130 requires that all items that are required to be
recognized under accounting standards as components of comprehensive income be
reported in a financial statement that is displayed with the same prominence as
other financial statements. SFAS No. 130 does not require a specific format for
that financial statement but requires that an entity display an amount
representing total comprehensive income for the period in that financial
statement. SFAS No. 130 requires that an entity classify items of other
comprehensive income by their nature in a financial statement. For example,
other comprehensive income may include foreign currency and unrealized gains and
losses on certain investments in debt and equity securities. In addition, the
accumulated balance of other comprehensive income must be displayed separately
from retained earnings and additional paid in capital in the equity section of a
statement of financial position. Reclassification of financial statements for
earlier periods, provided for comparative purposes, is required. The Company has
not determined the impact that the adoption of SFAS No. 130 will have on its
financial statements. The Company will adopt this accounting standard on January
1, 1998, as required.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments
of an Enterprise and Related Information" ("SFAS No. 131") effective for fiscal
years beginning after December 15, 1997. SFAS No. 131 establishes standards for
reporting information about operating segments in annual financial statements
and requires selected information about operating segments in interim financial
reports issued to shareholders. It also establishes standards for related
disclosures about products and services, geographic areas and major customers.
Operating segments are defined as components of an enterprise about which
separate financial information is available that is evaluated regularly by the
chief operating decision maker in deciding how to allocate resources and in
assessing performance. SFAS No. 131 requires reporting of segment profit or
loss, certain specific revenue and expense items and segment assets. It also
requires reconciliations of total segment revenues, total segment profit or
loss, total segment assets, and other amounts disclosed for segments to
corresponding amounts reported in the financial statements. Restatement of
comparative information for earlier periods presented is required in the initial
year of application. Interim information is not required until the second year
of application, at which time comparative information is required. The Company
has not determined the impact that the adoption of SFAS No. 131 will have on its
financial statement disclosures. The Company will adopt this accounting standard
on January 1, 1998, as required.
16
<PAGE>
CAUTIONARY STATEMENT RELATING TO FORWARD LOOKING STATEMENTS
The foregoing Management's Discussion and Analysis contains various
"forward looking statements" within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934 which
represent the Company's expectations or beliefs concerning future events,
including, but not limited to, statements regarding growth in sales of the
Company's products, profit margins and the sufficiency of the Company's cash
flow for its future liquidity and capital resource needs. These forward looking
statements are further qualified by important factors that could cause actual
results to differ materially from those in the forward looking statements. These
factors include, without limitation, the effect of competitive pricing, the
Company's dependence on the ability of its third-party manufacturers to produce
components on a basis which is cost-effective to the Company, market acceptance
of the Company's products and the effects of governmental regulation. Results
actually achieved may differ materially from expected results included in these
statements as a result of these or other factors.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not Currently Required.
17
<PAGE>
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
On August 21, 1997, Oxford Medical, Inc., a competitor of the Company,
filed an action against the Company in the Superior Court of Essex
County, New Jersey alleging that the Company induced several of its
sales agents to breach their employment agreements when the Company
contracted with these agents to sell its products. The plaintiff is
seeking an unspecified monetary award and punitive damages in the amount
to be determined at the trial. The plaintiff sought to enjoin the
Company from soliciting plaintiff's employees, interfering with their
customer relationships and selling products to their former customers.
The Company denies the allegations. At a hearing held on October 8,
1997, the judge denied the plaintiff's request for injuctive relief.
Item 2. Changes in Securities
Not Applicable
Item 3. Defaults Upon Senior Securities
Not Applicable
Item 4. Submission of Matters to a Vote of Security Holders
Not Applicable
Item 5. Other Information
Not Applicable
Item 6. Exhibits and Reports on Form 8-K
a) Exhibits:
EXHIBIT DESCRIPTION
------- -----------
11 Statement re: computation of per share earnings
27 Financial Data Schedule
b) Reports on Form 8-K
None.
18
<PAGE>
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.
Date: November 12, 1997 By: /s/ TIMOTHY J. SEESE
-------------------------
Timothy J. Seese
President and Chief
Operating Officer
Date: November 12, 1997 By: /s/ JOEL C. PHILLIPS
--------------------
Joel C. Phillips
Treasurer
19
EXHIBIT 11
EARNINGS PER SHARE COMPUTATIONS
The table below details the number of common shares and common stock equivalents
used in the computation of primary and fully diluted earnings per share
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
1996 1997 1996 1997
-------- --------- --------- ---------
<S> <C> <C> <C> <C>
Primary:
Weighted average common shares outstanding 4,829,058 4,886,523 3,806,842 4,875,050
Effect of shares issuable under stock option plans 62,708 47,778 68,392 61,007
using the treasury stock method
Effect of shares issuable upon exercise of warrants 1,648 3,346 3,716 5,941
using the treasury stock method
--------- ---------- ----------- ----------
Shares used in computing primary earnings per share 4,893,414 4,937,647 3,878,950 4,941,998
========= ========== =========== ==========
Primary Earnings Per Share $ 0.05 $ 0.23
========== ==========
Fully Diluted:
Weighted average common and common equivalent 4,893,414 4,937,647 3,878,950 4,941,998
shares outstanding
Effect of period end market price over average price 11,198 1,407 3,926
for common stock equivalents
Effect of shares contingently issuable under warrants 34,403
issued with the 8% subordinated debentures using
the treasury stock method
Effect of assumed conversion of convertible subordinated 33,424
debentures using if converted method
--------- ---------- ---------- ----------
Shares used in computing fully diluted earnings per share 4,938,036 4,939,054 3 ,917,279 4,941,998
========= ========== ========== ==========
Increase in net income available to common shareholders
due to above assumed repayment and redemption $ 3,736 $ -- $ 5,394 $ --
========= ========== =========== ==========
Fully Diluted Earnings Per Share $ 0.05 $ 0.23
========== ==========
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> SEP-30-1997
<CASH> 3,472,035
<SECURITIES> 0
<RECEIVABLES> 3,105,049
<ALLOWANCES> (118,330)
<INVENTORY> 10,158,761
<CURRENT-ASSETS> 17,466,815
<PP&E> 6,054,310
<DEPRECIATION> (1,842,348)
<TOTAL-ASSETS> 22,707,949
<CURRENT-LIABILITIES> 2,530,759
<BONDS> 0
0
0
<COMMON> 48,866
<OTHER-SE> 19,787,629
<TOTAL-LIABILITY-AND-EQUITY> 22,707,949
<SALES> 4,242,293
<TOTAL-REVENUES> 4,242,293
<CGS> 1,433,809
<TOTAL-COSTS> 1,433,809
<OTHER-EXPENSES> 2,291,400
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (34,739)
<INCOME-PRETAX> 392,914
<INCOME-TAX> 149,308
<INCOME-CONTINUING> 243,606
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 243,606
<EPS-PRIMARY> 0.05
<EPS-DILUTED> 0.05
</TABLE>
