<PAGE> 1
Form 10-QSB
U.S. Securities and Exchange Commission
Washington, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
[ ] TRANSITION REPORT PURSUANT TO 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
-------- --------
Commission file number 0-29486
Merge Technologies Incorporated
-------------------------------
(Exact name of small business issuer as specified in its
charter.)
Wisconsin 39-1600938
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
1126 South 70th Street, Milwaukee, WI 53214-3151
------------------------------------------------
(Address of principal executive offices)
414-475-4300
------------
(Issuer's telephone number)
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
--- ---
As of November 12, 1998, the issuer had 5,778,216 shares of Common
Stock outstanding.
<PAGE> 2
INDEX
<TABLE>
<CAPTION>
Page
PART I FINANCIAL INFORMATION
<S> <C> <C>
Item 1. Consolidated Financial Statements.................................................1
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations.....................................................6
PART II OTHER INFORMATION
Item 2. Changes in Securities............................................................11
Item 6. Exhibits and Reports on Form 8-K.................................................12
Signatures.......................................................................13
Exhibit Index....................................................................14
</TABLE>
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PART I FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
MERGE TECHNOLOGIES INCORPORATED AND SUBSIDIARY
CONSOLIDATED BALANCE SHEET
SEPTEMBER 30, 1998 (UNAUDITED)
<TABLE>
<CAPTION>
ASSETS
Current assets:
<S> <C>
Cash and cash equivalents .................................................... $ 4,544,764
Accounts receivable, net of allowance for doubtful accounts of $92,000 at
September 30, 1998 ........................................................... 2,197,243
Inventory .................................................................... 2,056,721
Prepaid expenses.............................................................. 215,956
Other current assets.......................................................... 54,996
------------
Total current assets ........................................................... 9,069,680
------------
Property and equipment:
Computer equipment ............................................................. 1,777,045
Office equipment................................................................ 340,136
------------
2,117,181
Less accumulated depreciation................................................. 888,268
------------
Net property and equipment ..................................................... 1,228,913
License agreement, net of accumulated amortization of $130,157 at September
30, 1998 ....................................................................... 177,541
Purchased and developed software, net of accumulated amortization of
$2,866,304 at September 30, 1998 ............................................... 3,390,163
Other intangibles, net of accumulated amortization of $20,269 at September
30, 1998 ....................................................................... 39,118
Other........................................................................... 13,008
------------
Total assets ................................................................... $ 13,918,423
============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable ............................................................. $ 797,070
Current portion of obligations under capital leases........................... 20,293
Customer deposits............................................................. 134,412
Accrued wages................................................................. 392,749
Other accrued liabilities..................................................... 97,695
------------
Total current liabilities ...................................................... 1,442,219
------------
Obligations under capital leases, excluding current portion..................... 20,487
------------
Total liabilities ........................................................... 1,462,706
Shareholders' equity
Preferred stock, $0.01 par value: authorized 5,000,000, no shares issued..... --
Common stock, $0.01 par value: authorized 30,000,000, 5,778,216 shares
issued and outstanding at September 30, 1998 ................................ 57,782
Additional paid-in capital .................................................. 13,933,184
Accumulated deficit.......................................................... (1,571,400)
Accumulated other comprehensive income-cumulative translation
adjustment .................................................................. 36,151
------------
Total shareholders' equity .................................................... 12,455,717
------------
Total liabilities and shareholders' equity .................................... $ 13,918,423
============
</TABLE>
See accompanying notes to consolidated financial statements.
1
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MERGE TECHNOLOGIES INCORPORATED AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 1997 AND 1998 AND
NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1998
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------- ----------------------------
1997 1998 1997 1998
------------------------------- ----------------------------
<S> <C> <C> <C> <C>
Net sales................................................ $2,994,203 $2,852,541 $6,799,626 $7,430,315
Cost of goods sold:
Purchased components................................... 693,000 670,253 1,573,817 1,965,297
Amortization of purchased and developed software....... 147,180 211,964 442,162 554,217
---------- ---------- ---------- ----------
Total cost of goods sold................................. 840,180 882,217 2,015,979 2,519,514
---------- ---------- ---------- ----------
Gross profit............................................. 2,154,023 1,970,324 4,783,647 4,910,801
---------- ---------- ---------- ----------
Operating costs and expenses:
Sales and marketing.................................... 615,647 1,082,060 1,604,864 2,703,572
Product research and development....................... 414,256 477,575 1,133,223 1,440,817
General and administrative............................. 469,272 675,986 1,090,224 1,862,697
---------- ---------- ---------- ----------
Total operating costs and expenses....................... 1,499,175 2,235,621 3,828,311 6,007,086
---------- ---------- ---------- ----------
Operating income (loss).................................. 654,848 (265,297) 955,336 (1,096,285)
---------- ---------- ---------- ----------
Other income (expenses):
Interest expense....................................... (502,295) (3,905) (565,646) (36,210)
Interest income........................................ 6,483 72,484 10,952 217,269
Other, net............................................. (3,164) 45,931 (43,644) 24,426
---------- ---------- ---------- ----------
Total other income (expenses)............................ (498,976) 114,510 (598,338) 205,485
---------- ---------- ---------- ----------
Income tax expense....................................... --- 11,973 --- 11,973
Net income (loss)........................................ $ 155,872 $ (162,760) $ 356,998 $ (902,773)
============ ============ =========== ===========
Basic and diluted net income (loss) per share
common equivalent share.................................. $ 0.04 $ (0.03) $ 0.08 $ (0.16)
============ ============ =========== ===========
Shares used to compute basic and diluted net
income (loss) per share.................................. 4,088,191 5,778,216 4,712,994 5,557,019
============ ============ =========== ===========
</TABLE>
See accompanying notes to consolidated financial statements
2
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MERGE TECHNOLOGIES INCORPORATED AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1998 (UNAUDITED)
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
-------------------------------
1997 1998
------------- --------------
<S> <C> <C>
Cash flows from operating activities:
Net income (loss) .................................................................. $ 356,998 $ (902,773)
Adjustments to reconcile net income (loss) to net cash provided by (used in)
operating activities
Depreciation and amortization .................................................... 645,975 798,902
Amortization of discount on Sirrom loan .......................................... 426,423 --
Provision for doubtful accounts receivable ....................................... (5,597) 57,784
Change in assets and liabilities:
Accounts receivable ............................................................ (13,025) (432,210)
Inventory ...................................................................... (344,963) (878,228)
Prepaid expenses ............................................................... -- (192,530)
Accounts payable ............................................................... (854,934) (790,043)
Accrued expenses ............................................................... 24,244 60,141
Customer deposits .............................................................. 59,358 95,231
Other .......................................................................... (76,069) (77,262)
----------- ------------
Net cash provided by (used in) operating activities .................................. 218,410 (2,260,988)
----------- ------------
Cash flows from investing activities:
Purchases of property and equipment ................................................ (262,335) (637,009)
Development of software ............................................................ (743,952) (1,132,452)
----------- ------------
Net cash used in investing activities ................................................ (1,006,287) (1,769,461)
----------- ------------
Cash flows from financing activities:
Proceeds from loan agreement with Sirrom ........................................... 2,000,000 --
Financing fees associated with loan agreement with Sirrom .......................... (63,371) --
Proceeds from revolving credit agreement ........................................... 470,000 --
Payments on loan agreement with Sirrom ............................................. -- (2,000,000)
Repayment of revolving credit agreement ............................................ (1,223,000) --
Issuance of common stock, net of expenses .......................................... -- 11,215,408
Proceeds from exercise of stock options ............................................ 8,250 1,715
Payment for call of common stock ................................................... -- (806,592)
Payment of warrant termination fee ................................................. -- (196,096)
Principal payments under capital leases ............................................ (35,696) (45,237)
----------- ------------
Net cash provided by financing activities ............................................ 1,156,183 8,169,198
----------- ------------
Effect of exchange rate changes on cash .............................................. -- (22,256)
Net increase in cash and cash equivalents ............................................ 368,306 4,116,493
Cash and cash equivalents, beginning of period ....................................... 287,098 428,271
----------- ------------
Cash and cash equivalents, end of period ............................................. $ 655,404 $ 4,544,764
=========== ============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest ............................................................... $ 132,000 $ 58,000
NON-CASH FINANCING AND INVESTING ACTIVITIES:
Property and equipment acquired through capital leases ............................... $ 30,000 $ 4,900
Accretion of put options related to redeemable common stock and stock warrants........ $ 90,000 $ --
</TABLE>
See accompanying notes to consolidated financial statements
3
<PAGE> 6
MERGE TECHNOLOGIES INCORPORATED AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
THREE MONTHS ENDED SEPTEMBER 30, 1997 AND 1998 AND
NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1998
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------ ------------------------
1997 1998 1997 1998
--------- ---------- ---------- -----------
<S> <C> <C> <C> <C>
Comprehensive income:
Net income (loss) .......................... $155,872 $(162,760) $356,998 $(902,773)
Other comprehensive income (loss)-cumulative
translation adjustment ................... 17,507 (22,555) 41,320 (20,908)
-------- --------- -------- ---------
Comprehensive net income (loss) ............ $173,379 $(185,315) $398,318 $(923,681)
======== ========= ======== =========
</TABLE>
See accompanying notes to consolidated financial statements
4
<PAGE> 7
MERGE TECHNOLOGIES INCORPORATED AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been
prepared pursuant to the rules and regulations for reporting on Form 10-QSB.
Accordingly, certain information and notes required by generally accepted
accounting principles for complete financial statement are not included herein.
The interim statements should be read in conjunction with the audited
consolidated financial statements and notes thereto included in the Company's
Annual Report on Form 10-KSB for the year ended December 31, 1997.
The accompanying unaudited consolidated financial statements of the
Company have been prepared on the same basis as the audited consolidated
financial statements and include all adjustments of a normal recurring nature
which are, in the opinion of management, necessary to present a fair statement
of the financial conditions and results. The operating results from interim
periods presented are not necessarily indicative of the results expected for a
full year.
(2) REVENUE RECOGNITION
Revenue from product sales is recognized upon shipment. No significant
Company obligations exist with regard to delivery or customer acceptance
following shipment. Revenues from software maintenance are deferred and
recognized straight-line over the contract support period, which is generally
one year.
(3) INITIAL PUBLIC OFFERING
On January 29, 1998, the Company completed an initial public offering
of 1,900,000 shares of common stock at an offering price of $6.00 per share. On
February 27, 1998, the underwriter exercised its over allotment option and
offered an additional 285,000 shares to the public at $6.00 per share. As a
result of the initial public offering, the Company received net proceeds of
approximately $11,800,000 and increased its total shares of common stock
outstanding by 2,185,000 shares. The net proceeds of the offering of 1,900,000
shares of common stock were used to repay in full the outstanding principal and
interest on the $2,000,000 note with Sirrom Capital, to redeem 424,757 shares of
stock held by Alpha Capital Venture Partners at $1.90 per share, to terminate an
unexercised warrant held by Sirrom Capital for $196,000, and to provide general
working capital. The net proceeds received by the Company in connection with the
exercise of the underwriters overallotment option were applied to general
working capital.
(4) RECENT ACCOUNTING PRONOUNCEMENTS
On October 27, 1997, the American Institute of Certified Public
Accountants issued Statement of Position ("SOP") No. 97-2, Software Revenue
Recognition. SOP 97-2 provides guidance on applying generally accepted
accounting principles in recognizing revenue on software transactions. This SOP
supersedes SOP 91-1, Software Revenue Recognition and is effective for
transactions entered into in fiscal years beginning after December 15, 1997. The
Company has applied SOP 97-2 in its interim financial statements.
Statement of Financial Accounting Standards No. 130 (FAS 130),
"Reporting Comprehensive Income" was issued in June of 1997. This statement
establishes standards of reporting and display of comprehensive income and its
components in a full set of general purpose financial statements. It is
effective for financial statements for periods beginning after December 15,
1997. The Company has adopted FAS 130 effective January 1, 1998.
5
<PAGE> 8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
SPECIAL NOTE ON FORWARD-LOOKING STATEMENTS
Certain statements in this report that are not historical facts
constitute forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of
1933, as amended (the Securities Act) and Section 21E of the Securities Exchange
Act of 1934, as amended (the Exchange Act). Discussions containing such
forward-looking statements may be included herein in the material set forth
under "Management's Discussion and Analysis of Financial Condition and Results
of Operations" as well as within this report generally. In addition, when used
in this report, the words "believes," "intends," "anticipates," "expects" and
similar expressions are intended to identify forward-looking statements. These
statements are subject to a number of risks and uncertainties, including, among
others, the Company's lack of consistent profitability, history of operating
losses, fluctuations in operating results, credit and payment risks associated
with end-user sales, involvement with rapidly developing technology in highly
competitive markets, dependence on major customers, expansion of its
international sales effort, broad discretion of management and dependence on key
personnel, risks associated with product liability and product defects, costs of
complying with government regulation, changes in external competitive market
factors which might impact trends in the Company's results of operation,
unanticipated working capital and other cash requirements, general changes in
the industries in which the Company competes, and various other competitive
factors that may prevent the Company from competing successfully in the
marketplace. Actual results could differ materially from those projected in the
forward-looking statements. The Company undertakes no obligation to publicly
release the result of any revisions to these forward-looking statements that may
be made to reflect any future events or circumstances.
OVERVIEW
The Company provides software, hardware and systems integration
products and services that enable health care organizations to network otherwise
incompatible image-producing and image-using devices. The Company's products
provide a communications bridge among incompatible devices, permit radiologists
to use either video images on electronic workstations or film as a diagnostic
medium and create a diagnostic-quality electronic archive of imaging results. In
addition, the Company's products and services permit the information generated
and used by medical imaging devices to be included in a health care
organization's information network or an electronic patient record ("EPR").
The components of the Company's net sales by product line are as
follows (unaudited and in thousands):
<TABLE>
<CAPTION>
THREE MONTHS NINE MONTHS
ENDED ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------- -------------------
1997 1998 1997 1998
------ ------ ------ ------
PRODUCT LINE
- ------------
<S> <C> <C> <C> <C>
MergeWorks Connectivity Products......................... $2,331 $1,905 $5,019 $5,207
OEM Interface Products................................... 584 750 1,567 1,860
Network Integration Products and Services................ 79 105 214 270
Networked Image Management Products...................... 0 93 0 93
====== ====== ====== ======
$2,994 $2,853 $6,800 $7,430
====== ====== ====== ======
</TABLE>
6
<PAGE> 9
RESULTS OF OPERATIONS
Three Months Ended September 30, 1998 Compared to Three Months Ended September
30, 1997
Net sales. Net sales decreased by 5% to $2,852,000 in the three months
ended September 30, 1998 from $2,994,000 in the three months ended September 30,
1997. The only product line that experienced a decline in net sales was
MergeWorks Connectivity Products, which decreased $426,000 or 23%, to $1,905,000
in the three months ended September 30, 1998 from $2,331,000 in the three months
ended September 30, 1997. A decrease in distribution of clinical networks to the
end user channel was first reported in the second quarter of 1998. Sales to the
end user channel were again lower in the three months ended September 30, 1998
than in the comparable period in 1997. However, in the three months ended
September 30, 1998, the Company implemented end user program initiatives that
resulted in a 178% increase in sales through the end user channel over the three
months ended June 30, 1998. The Company expects further increases in net sales
within this channel in the fourth quarter of 1998. Net sales of OEM Interface
Products increased by 29% to $750,000 in the three months ended September 30,
1998 from $584,000 in the three months ended September 30, 1997 due to increases
in royalties for MergeCOM Tool Kits. Net sales of Network Integration Products
and Services, which includes consulting, training, and the new MergeDPM DICOM
protocol analyzer software application, increased by 33%, to $105,000 in the
three months ended September 30, 1998 from $79,000 in the three months ended
September 30, 1997. Net sales of Networked Image Management Products, which
consists primarily of MergeARK, a new medical image archival system, were
$93,000 during the three months ended September 30, 1998.
Cost of goods sold. Cost of goods sold consists of purchased components
and the amortization of purchased and developed software. The cost of purchased
components as a percentage of net sales remained level at 23%. The cost of
purchased components may vary depending on product mix; however, the Company
anticipates that, overall, the cost of purchased components as a percentage of
net sales will remain at or near the current level. Amortization of purchased
and developed software increased to $212,000 or 7% of net sales in the three
months ended September 30, 1998 from $147,000 or 5% of net sales in the three
months ended September 30, 1997 due to the commencement of amortization on
several completed software projects.
Gross profit. Gross profit decreased by 9% to $1,970,000 in the three
months ended September 30, 1998 from $2,154,000 in the three months ended
September 30, 1997. As a percentage of net sales, gross profit was 69% in the
three months ended September 30, 1998 compared to 72% in the three months ended
September 30, 1997.
Sales and marketing. Sales and marketing expense increased by 76% to
$1,082,000 in the three months ended September 30, 1998 from $616,000 in the
three months ended September 30, 1997. The majority of sales and marketing
expense currently relates to compensation of sales, marketing and service
personnel. The Company increased its sales and marketing department staff to 21
persons as of September 30, 1998 from 13 persons as of September 30, 1997, and
it increased its service personnel to 13 persons as of September 30, 1998 from
five persons as of September 30, 1997. The Company expects to increase marketing
expense in the fourth quarter of 1998 due to costs related to exhibiting at the
annual Radiological Society of North America trade show and also continued
investments in end user program initiatives.
Product research and development. Product research and development
expense increased by 15% to $477,000 in the three months ended September 30,
1998 from $414,000 in the three months ended September 30, 1997. The increase in
research and development expense consists primarily of compensation to
additional product engineers engaged in software design and the development of
specialized computer hardware. The Company believes that advanced technology is
a key element in the success of its business, and it expects to increase its
research and development expenditures.
General and administrative. General and administrative expense
increased by 44% to $676,000 in the three months ended September 30, 1998 from
$469,000 in the three months ended September 30, 1997. The increase was due
primarily to additional expenses associated with operating as a publicly held
company.
7
<PAGE> 10
Such expenses include legal, audit and investor relations services, directors
and officers insurance, and preparing, filing and publishing periodic and other
reports.
Total other expense, net. Total other expense, net was $(114,000) in
the three months ended September 30, 1998 versus $499,000 in the three months
ended September 30, 1997. This change was due to (i) a decrease in interest
expense of $498,000, which was due primarily to a non-cash charge of $426,000
in the three months ended September 30, 1997 for amortization of a debt
discount related to an outstanding note with Sirrom Capital Corporation, (ii)
an increase in net interest income of $66,000 arising from investment of funds
raised in the Company's initial public offering and (iii) a benefit in
unrealized transaction expense that was a result of an increase in the value of
the Dutch guilder relative to the U.S. dollar. The guilder is the functional
currency of the Company's European branch. Net sales in 1998 denominated
in currencies other than the U.S. dollar accounted for 6% of total net sales
and the Company believes that its foreign currency risk is minimal at this
time.
Income taxes. The Company recorded $12,000 in income tax in the three
months ended September 30, 1998, which relates to an alternative minimum tax
liability arising from the nondeductibility of non-cash financing charges. In
the three months ended September 30, 1997, the Company did not pay federal
income taxes or recognize an income tax expense.
Nine Months Ended September 30, 1998 Compared to Nine Months Ended September 30,
1997
Net sales. Net sales increased by 9% to $7,430,000 in the nine months
ended September 30, 1998 from $6,800,000 in the nine months ended September 30,
1997. Net sales of MergeWorks Connectivity Products increased $427,000 or 2% to
$5,094,000 in the nine months ended September 30, 1998 from $5,019,000 in the
nine months ended September 30, 1997. Net sales of OEM Interface Products
increased by 19% to $1,861,000 in the nine months ended September 30, 1998 from
$1,567,000 in the nine months ended September 30, 1997. Net sales of Network
Integration Products and Services, which includes consulting, training, and the
new MergeDPM DICOM protocol analyzer software application increased by 27%, to
$270,000 in the nine months ended September 30,1998 from $214,000 in the nine
months ended September 30, 1997. The Company began reporting net sales of
Networked Image Management Products during the nine months ended September 30,
1998 with net sales of $205,000 for MergeARK, a new medical image archival
system.
Cost of goods sold. Cost of goods sold consists of purchased components
and the amortization of purchased and developed software. The cost of purchased
components as a percentage of net sales in the nine months ended September 30,
1998 increased to approximately 26% compared to 24% in the nine months ended
September 30, 1997, primarily due to differences in product mix that reflect
greater sales of lower margin products. While product mix may vary from quarter
to quarter, the Company anticipates that overall, the cost of purchased
components as a percentage of net sales will remain at or near the current
level. Amortization of purchased and developed software increased to 7% of net
sales in the nine months ended September 30, 1998 from 6% in the nine months
ended September 30, 1997 due to the commencement of amortization on several
completed software projects.
Gross profit. Gross profit increased by 3% to $4,911,000 in the nine
months ended September 30, 1998 from $4,784,000 in the nine months ended
September 30, 1997. As a percentage of net sales, gross profit was 66% in the
nine months ended September 30, 1998 and 70% in the nine months ended September
30, 1997.
Sales and marketing. Sales and marketing expense increased by 68% to
$2,703,000 in the nine months ended September 30, 1998 from $1,605,000 in the
nine months ended September 30, 1997. The majority of these expenses currently
relate to compensation of sales, marketing and service personnel. The Company
increased its sales and marketing department staff to 21 persons as of September
30, 1998 from 13 persons as of September 30, 1997, and it increased its service
personnel to 13 persons as of September 30, 1998
8
<PAGE> 11
from five persons as of September 30, 1997. The Company expects to increase
marketing expense in the fourth quarter of 1998 due to costs related to
exhibiting at the annual Radiological Society of North America trade show and
also continued investments in end user program initiatives.
Product research and development. Research and development expense
increased by 27% to $1,441,000 in the nine months ended September 30, 1998 from
$1,133,000 in the nine months ended September 30, 1997. The increase in research
and development expense consists primarily of compensation to additional product
engineers engaged in software design and the development of specialized computer
hardware. The Company believes that advanced technology is a key element in the
success of its business, and it expects to increase its research and development
expenditures.
General and administrative. General and administrative expense
increased by 71% to $1,863,000 in the nine months ended September 30, 1998 from
$1,090,000 in the nine months ended September 30, 1997. The increase was due to:
(i) additional expenses associated with operating as a publicly held company,
(ii) expenses related to expanded administrative services at its European branch
including hiring additional personnel, and (iii) establishment of an information
services group responsible for internal computer systems. The rate of increase
in general and administrative expense has begun to moderate in the second half
of 1998. General and administrative expense is expected to continue to increase
in dollar terms; however, it is expected to decrease as a percentage of sales as
sales increase.
Total other expense, net. Total other expense was $(205,000) in the
nine months ended September 30, 1998 versus $598,000 in the nine months ended
September 30, 1997. This change resulted from (i) a decrease in interest expense
of $530,000, which was due primarily to a non-cash charge of $426,000 in the
three months ended September 30, 1997 for amortization of a debt discount
related to an outstanding note with Sirrom Capital Corporation and (ii) an
increase in interest income of $206,000 from investment of funds raised in the
Company's initial public offering, which occurred on January 29, 1998.
Income taxes. The Company recorded $12,000 in income tax in the nine
months ended September 30, 1998, which relates to an alternative minimum tax
liability arising from the nondeductibility of non-cash financing charges. In
the nine months ended September 30, 1997, the Company did not pay federal income
taxes or recognize an income tax expense.
LIQUIDITY AND CAPITAL RESOURCES
Cash provided by (used in) operating activities was $(2,283,000) in the
nine months ended September 30, 1998 compared to $218,000 in the nine months
ended September 30, 1997. In the nine months ended September 30, 1998, the
Company incurred a net loss of $903,000 and incurred depreciation and
amortization expense of $799,000. Significant changes in assets and liabilities
in the nine months ended September 30, 1998 include an increase in inventory of
$878,000, reflecting components purchased in anticipation of higher sales; a
$790,000 reduction in accounts payable achieved using a portion of the proceeds
of the IPO; and an increase in accounts receivable of $432,000 due to an
increase in net sales.
Investing activities include net additions to capital equipment of
$637,000 and $262,000, and additions to capitalized software development of
$1,132,000, and $744,000 both in the nine months ended September 30, 1998 and
September 30, 1997, respectively.
Cash provided by financing activities for the nine months ended
September 30, 1998 and September 30, 1997 was $8,169,000 and $1,156,000,
respectively. Cash provided by financing activities in the nine months ended
September 30, 1998 consists primarily of net proceeds of the initial public
offering, which occurred on January 29, 1998. In the nine months ended September
30, 1997, the Company received cash of $2,000,000 from a loan agreement with
Sirrom Capital and applied $655,000 of the proceeds to repayment of a revolving
credit facility with Biltmore Investors Bank, which were part of the Company's
total principal payments of $1,223,000.
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<PAGE> 12
The Company had cash and cash equivalents of $4,545,000 and $428,000,
and working capital (deficits) of $7,627,000 and $(1,972,000) at September 30,
1998 and December 31, 1997, respectively. The increase in working capital was
due to the increase in cash and repayment of certain current liabilities with
proceeds of the IPO.
The Company believes that the net proceeds from the initial public
offering in 1998, together with internally generated funds will satisfy for at
least 12 months the Company's projected requirements for sales and distribution,
research and development, working capital and commitments under its employment
agreements with its European employees (all of which the Company believes to be
at fair market wage rates) and with Mr. Mortimore, the Company's President and
Chief Executive Officer, under the terms of which the Company is obligated to
pay Mr. Mortimore an annual salary of $160,000. Thereafter, if cash generated
from operations is insufficient to satisfy the Company's projected requirements,
or if the Company subsequently elects to use funds for acquisitions or other
matters, the Company may be required to sell additional equity or debt
securities or obtain additional bank financing or other credit facilities. There
can be no assurance that the Company will be able to sell such securities or
obtain such credit facilities on acceptable terms in the future, if at all. The
sale of additional equity or debt securities could result in additional dilution
to the Company's shareholders.
The Company is currently negotiating with Bank One to arrange for a
line of credit. Completion of the loan is subject to finalizing mutually
acceptable loan documents.
YEAR 2000
In the year 2000, many existing computer programs that use only two
digits, rather than four, to identify a year in the date field could fail or
create erroneous results if not corrected.
As part of Merge's comprehensive approach to assessing the impact of
Year 2000 issues, we have obtained Year 2000 compliance statements from
suppliers of all Merge manufacturing equipment, critical facilities equipment
and internal business systems. We also have also commenced a program to verify
that our suppliers of services and products have effective Year 2000 Compliance
processes. This will help ensure that our business systems will also operate
reliably before, during, and into the new millennium.
All Merge Technologies software products have been tested internally
for Year 2000 compliance. The following product lines have been determined to
meet the Company's Year 2000 compliance criteria: MergeCOM, MergeAPS, MergeXPI,
MergeARK, and MergeDPM. The only exception to full Year 2000 compliance is
MergeMVP.
MergeMVP products are reviewed on an ongoing basis to assess Year 2000
compliance. An MVP normally transmits data in the exact form that it is received
from an imaging device. The Company is offering to device manufacturers MVP
upgrades that convert two-digit date to four-digit dates as an alternative for
correcting Year 2000 problems inherent to the software on the imaging device.
The first series of such upgrades has already been developed, tested
and accepted by a customer. Revenues are expected beginning in January, 1999.
The Company believes based on its research and successful completion of the
first Year 2000 MVP upgrade that the possibility of experiencing technical
delays in further MVP Year 2000 product upgrades is remote. However, if the
Company does experience an unanticipated delay, it may elect to refrain from
offering for sale certain upgraded MVP models. Should Year 2000 MVP development
projects be canceled due to such technical delays, product development engineers
would be assigned to other projects, which the Company believes would generate
revenues comparable to the Year 2000 MVPs. The Company expects to evaluate
progress on Year 2000 MVP development at regular intervals in order to ensure
that development costs do not exceed the original estimate. Internal costs
associated with upgrading legacy MVPs to convert two-digit dates to four-digit
dates are expected to be less than $20,000. A Year 2000 upgrade is considered to
be no more complicated than any other Merge product, so we are expecting no
significant change in the rate of calls for customer support.
The Company cannot quantify its risk for potential additional Year 2000
compliance costs at this time, but it anticipates that the effect of this
computer program flaw on the operations of the Company will not be significant.
However, the Company may be required to spend time and monetary resources
addressing any necessary computer program changes.
In the Company's assessment, the most reasonably likely worst case
scenario caused by Year 2000 issues relates to potential redirection of hospital
information technology budgets for solving Year 2000 problems unrelated to Merge
product offerings. Should expenses for an institution's Year 2000 remediation
exceed its budget allocation, funds that would have been invested in networking
and image management products (such as those sold by Merge) may be reallocated
to Year 2000 fixes. The Company may, in that circumstance, encounter delays in
anticipated orders. Should order delays occur, the Company would market its
products to other customers with funds available in their capital equipment
budgets. Management currently believes that order delays due to external Year
2000 problems will not have a material impact on the Company's future financial
performance. The Company is continuing to develop a contingency plan for
maintaining revenues in the event of order delays caused by Year 2000 issues.
10
<PAGE> 13
PART II OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES
On January 29, 1998, the Company completed an initial public offering
of 1,900,000 shares of common stock at an offering price of $6.00 per share. On
February 27, 1998, the underwriter exercised its over allotment option and
offered an additional 285,000 shares to the public at $6.00 per share. As a
result of the initial public offering, the Company received net proceeds of
approximately $11,800,000 and increased its total shares of common stock
outstanding by 2,185,000 shares. The net proceeds of the offering of 1,900,000
shares of common stock were used to repay in full the outstanding principal and
interest on the $2,000,000 note with Sirrom Capital, to redeem 424,757 shares of
stock held by Alpha Capital Venture Partners at $1.90 per share, to terminate
unexercised warrant held by Sirrom Capital for $196,000, and for general working
capital. The net proceeds received by the Company in connection with the
exercise of the underwriters overallotment option were applied to general
working capital.
On June 16, 1998, the Company's shareholders voted to amend the
Company's Articles to increase the number of authorized shares of common stock
of the Company, par value $0.01 per share, from 10,000,000 to 30,000,000.
11
<PAGE> 14
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
See Exhibit Index
(b) No Reports on Form 8-K were filed during the third fiscal quarter.
12
<PAGE> 15
SIGNATURES
In accordance with the requirements of the Securities Exchange Act of 1934, the
Registrant caused this Report to be signed on its behalf by the undersigned,
thereunto duly authorized.
MERGE TECHNOLOGIES INCORPORATED
By: /s/ William C. Mortimore Date: November 13, 1998
-----------------------------------
William C. Mortimore
President and Chief Executive Officer
By: /s/ Colleen M. Doan Date: November 13, 1998
-----------------------------------
Colleen M. Doan
Chief Financial Officer, Treasurer
and Secretary
(Principal Financial Officer
and Principal Accounting Officer)
13
<PAGE> 16
<TABLE>
<CAPTION>
EXHIBIT INDEX
<S> <C>
3.1 Articles of Incorporation of Registrant (1)
3.2 Amended and Restated By-Laws of Registrant as of February 3, 1998 (2)
4.1 Form of Lock-Up Agreement (1)
4.2 Common Stock Certificate (1)
4.3 Representative's Warrant (2)
10.1 Employment Agreement dated September 1, 1997 between Registrant and William C. Mortimore (1)
10.2 Merge/Sirrom Revised Modification Agreement dated as of October 30, 1997 (1) and Amendment
dated May 29, 1998 (3)
10.3 OEM Purchase Agreement between Registrant and Philips Medical Systems Nederland B.V. dated
September 24, 1994 and First Amendment dated June 4, 1996 (1)
10.4 Distribution Agreement with Picker International, Inc. (1)
10.5 1996 Stock Option Plan for Employees of Registrant dated May 13, 1996 (1)
10.6 Office Lease for West Allis Center dated May 24, 1996 between Registrant and Whitnall
Summit Company, LLC, Supplemental Office Lease dated July 3, 1997 (1) and
Supplemental Office Space Lease dated January 30, 1998 (2)
10.7 Alpha Capital Venture Partners Limited Agreement dated March 1, 1997 (1)
10.8 1998 Stock Option Plan For Directors (2)
21 Subsidiaries of Registrant (1)
27.1 Financial Data Schedule
</TABLE>
- - - - - - - - - - - - - - - - -
(1) Incorporated by reference to Registration Statement on Form SB-2 (No.
333-39111) effective January 29, 1998.
(2) Incorporated by reference to Annual Report on Form 10-KSB for the
fiscal year ended December 31, 1997.
(3) Incorporated by reference to Registration Statement on Form SB-2 (No.
333-58973), effective August 28, 1998
14
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
registrant's Form 10-Q for the quarter ended September 30, 1998 and is qualified
in its entirety by reference to such financial statements included in such
report.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 4,544,764
<SECURITIES> 0
<RECEIVABLES> 2,289,243
<ALLOWANCES> 92,000
<INVENTORY> 2,056,721
<CURRENT-ASSETS> 9,069,680
<PP&E> 2,117,181
<DEPRECIATION> 888,268
<TOTAL-ASSETS> 13,918,423
<CURRENT-LIABILITIES> 1,442,219
<BONDS> 0
0
0
<COMMON> 13,990,966
<OTHER-SE> (1,535,249)
<TOTAL-LIABILITY-AND-EQUITY> 13,918,423
<SALES> 0
<TOTAL-REVENUES> 7,430,315
<CGS> 2,519,514
<TOTAL-COSTS> 6,007,086
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 36,210
<INCOME-PRETAX> (890,800)
<INCOME-TAX> 11,973
<INCOME-CONTINUING> (902,773)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (902,773)
<EPS-PRIMARY> 0
<EPS-DILUTED> (0.16)
</TABLE>
