UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 27, 1999
Commission file number 1-14019
SCHEIN PHARMACEUTICAL, INC.
(Exact name of registrant as specified in its charter)
Delaware 11-2726505
- ------------------------------------------------ --------------------
(State or other jurisdiction of incorporation or (I.R.S. Employer
organization) Identification No.)
100 Campus Drive, Florham Park, NJ 07932
- ------------------------------------------------ ---------------------
(Address of principal executive offices) (Zip Code)
973-593-5500
--------------------------------
(Registrant's telephone number)
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.......
The number of shares outstanding of the registrant's common stock as of
April 30, 1999 was 32,619,052.
<PAGE>
SCHEIN PHARMACEUTICAL, INC.
INDEX
<TABLE>
<CAPTION>
Part I. FINANCIAL INFORMATION PAGE
<S> <C>
Item 1. Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets as of March 27,
1999 and December 26, 1998 3
Condensed Consolidated Statements of Operations for the
three months ended March 27, 1999 and March 28, 1998 4
Condensed Consolidated Statements of Cash Flows for the
three months ended March 27, 1999 and March 28, 1998 5
Consolidated Statements of Comprehensive Income for the
three months ended March 27, 1999 and March 28, 1998 6
Notes to Condensed Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 11
Item 3. Quantitative and Qualitative Disclosures about Market Risk 15
Part II. OTHER INFORMATION
Item 1. Legal Proceedings 16
Item 6. Exhibits and Reports on Form 8-K 17
SIGNATURES 18
</TABLE>
2
<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
SCHEIN PHARMACEUTICAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
<TABLE>
<CAPTION>
March 27, December 26,
1999 1998
----------- ------------
Assets (unaudited)
------
<S> <C> <C>
Current assets:
Cash and cash equivalents.................................... $ 1,913 $ 377
Accounts receivable, less allowance for possible losses of
$2,377 and $2,486.......................................... 68,771 82,498
Inventories.................................................. 112,743 106,351
Income taxes receivable...................................... 8,500 15,900
Other current assets......................................... 14,924 14,884
----------- ------------
Total current assets.................................... 206,851 220,010
Property, plant and equipment, net............................... 110,300 112,224
Product rights, licenses and regulatory approvals, net........... 110,899 107,769
Other assets..................................................... 18,005 12,993
----------- ------------
$ 446,055 $ 452,996
=========== ============
Liabilities and Stockholders' Equity
------------------------------------
Current liabilities:
Accounts payable and accrued expenses........................ $ 88,174 $ 99,122
Income taxes payable......................................... 9,151 8,626
Revolving credit and current maturities of long-term debt.... 105,401 103,975
----------- ------------
Total current liabilities................................ 202,726 211,723
Long-term debt, less current maturities.......................... 116,861 124,482
Other non-current liabilities.................................... 40,626 38,306
Commitments and contingencies
Stockholders' equity:
Common stock, $.01 par value; 100,000 authorized shares;
issued and outstanding 32,571 and 32,499 shares............ 325 325
Additional paid-in capital................................... 97,651 97,176
Accumulated deficit.......................................... (16,319) (18,543)
Accumulated other comprehensive income (loss)................ 4,185 (473)
----------- ------------
Total stockholders' equity............................... 85,842 78,485
----------- ------------
$ 446,055 $ 452,996
=========== ============
</TABLE>
See accompanying notes to condensed consolidated financial statements.
3
<PAGE>
SCHEIN PHARMACEUTICAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except earnings per share)
(unaudited)
<TABLE>
<CAPTION>
Three Months Ended
-------------------------
March 27, March 28,
1999 1998
---------- ---------
<S> <C> <C>
Net revenues................................................ $ 105,863 $ 146,678
Cost of sales............................................... 69,580 94,793
---------- ----------
Gross profit........................................ 36,283 51,885
Costs and expenses:
Selling, general and administrative................. 20,905 21,572
Research and development............................ 5,168 7,147
Amortization of intangibles and goodwill............ 1,591 2,574
---------- ----------
Operating income............................................ 8,619 20,592
Interest expense, net....................................... 4,652 5,992
Other expenses (income), net................................ 321 (1,522)
---------- ----------
Income before provision for income taxes.................... 3,646 16,122
Provision for income taxes.................................. 1,422 7,000
---------- ----------
Net income.................................................. $ 2,224 $ 9,122
========== ==========
Basic and diluted earnings per share........................ $ 0.07 $ 0.32
========== ==========
Weighted average common shares and equivalents.............. 32,595 28,819
========== ==========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
4
<PAGE>
SCHEIN PHARMACEUTICAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(unaudited)
<TABLE>
<CAPTION>
Three Months Ended
------------------------
March 27, March 28,
1999 1998
--------- ---------
<S> <C> <C>
Cash flows from operating activities:
Net income.................................................... $ 2,224 $ 9,122
Adjustments to reconcile net income to net cash
flows from operating activities:
Depreciation and amortization............................... 5,253 6,357
Deferred income tax benefit................................. (597) (938)
Gain on sale of marketable securities....................... (356) (2,796)
Other....................................................... 1,376 1,476
Changes in assets and liabilities:
Accounts receivable......................................... 13,836 5,793
Inventories................................................. (6,391) (15,948)
Prepaid expenses and other assets........................... 1,202 (655)
Accounts payable, income taxes, accrued expenses
and other liabilities..................................... 3,813 8,710
-------- --------
Net cash provided by operating activities........................ 20,360 11,121
-------- --------
Cash flows from investing activities:
Capital expenditures, net...................................... (1,257) (2,808)
Product rights and licenses.................................... (10,000) (8,766)
International investments...................................... (1,836) (6,234)
Proceeds from the sale of marketable securities................ - 4,107
Other, net..................................................... (11) (609)
-------- --------
Net cash used in investing activities............................ (13,104) (14,310)
-------- --------
Cash flows from financing activities:
Principal payments on, or repayments of, debt.................. (43,532) (50,025)
Proceeds from issuance of debt................................. 37,337 54,115
Proceeds from employee stock purchase plan..................... 475 -
Increase in other non-current assets........................... - (502)
-------- --------
Net cash provided by (used in) financing activities.............. (5,720) 3,588
-------- --------
Net increase in cash and cash equivalents........................ 1,536 399
Cash and cash equivalents, beginning of period................... 377 804
-------- --------
Cash and cash equivalents, end of period......................... $ 1,913 $ 1,203
======== ========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
5
<PAGE>
SCHEIN PHARMACEUTICAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
(unaudited)
<TABLE>
<CAPTION>
Three Months Ended
---------------------------
March 27, March 28,
1999 1998
--------- ---------
<S> <C> <C>
Net income............................................ $ 2,224 $ 9,122
--------- --------
Other comprehensive income, net of tax:
Foreign currency translation adjustment......... 281 (34)
Unrealized holding gains arising during
period.................................... 4,589 1,736
Less: reclassification adjustment for gains
included in net income.................... (212) (1,664)
--------- --------
Other comprehensive income............................ 4,658 38
--------- --------
Comprehensive income.................................. $ 6,882 $ 9,160
========= ========
</TABLE>
Components of accumulated other comprehensive income (loss), included in the
Company's consolidated balance sheets, are as follows:
<TABLE>
<CAPTION>
March 27, December 26,
1999 1998
--------- ------------
<S> <C> <C>
Unrealized gains on marketable securities.......... $ 4,567 $ 190
Cumulative foreign currency translation adjustment. (382) (663)
------- -----
$ 4,185 $(473)
======= =====
</TABLE>
6
<PAGE>
SCHEIN PHARMACEUTICAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
NOTE 1--SUMMARY OF ACCOUNTING POLICIES
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of only normal recurring accruals) considered necessary for a fair presentation
have been included. Operating results and cash flows for the interim period
ended March 27, 1999 are not necessarily indicative of the results that may be
expected for the year ending December 25, 1999. These interim financial
statements should be read in conjunction with the consolidated financial
statements and notes thereto included in the Company's 1998 Annual Report on
Form 10-K.
Basic earnings per share has been computed using the weighted average number of
shares of common stock outstanding during the period. Diluted earnings per share
includes the assumed exercise of stock options using the treasury stock method.
Stock options outstanding with an exercise price greater than the average market
price of the Company's common stock are excluded from the computation of diluted
earnings per share. For the three months ended March 27, 1999 and March 28,
1998, there were no differences between basic and diluted earnings per common
share. The assumed exercise of stock options could potentially dilute earnings
per share amounts in the future.
NOTE 2--INVENTORIES
Inventories are summarized as follows:
<TABLE>
<CAPTION>
March 27, December 26,
1999 1998
--------- ------------
(In thousands)
<S> <C> <C>
Finished products.................................. $ 37,565 $ 29,207
Work-in-process.................................... 30,057 27,574
Raw materials and supplies......................... 45,121 49,570
-------- --------
$112,743 $106,351
======== ========
</TABLE>
7
<PAGE>
SCHEIN PHARMACEUTICAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
NOTE 3--BORROWINGS
The Company's senior floating rate notes are fully and unconditionally
guaranteed jointly and severally by each of the Company's domestic subsidiaries,
each of which is wholly-owned by the Company. These subsidiaries sell all of
their products to Schein Pharmaceutical, Inc., the parent company. Summarized
financial information for these wholly-owned subsidiary guarantors (using the
push-down method of accounting) is as follows:
<TABLE>
<CAPTION>
March 27, December 26,
1999 1998
-------- ------------
(In thousands)
<S> <C> <C>
Current assets:
Inventories........................................... $ 77,727 $ 82,164
Intercompany receivables.............................. 62,530 63,385
Other current assets.................................. 6,910 3,960
Property, plant and equipment, net............................ 101,725 101,139
Product rights, licenses and regulatory approvals, goodwill,
net and other assets................................. 67,431 69,459
Current liabilities........................................... 148,892 119,591
Deferred income taxes and other liabilities................... 36,404 38,271
Long-term debt (pushed down).................................. 116,861 120,000
<CAPTION>
Three Months Ended
-----------------------------
March 27, March 28,
1999 1998
--------- ---------
(In thousands)
<S> <C> <C>
Net revenues.................................................. $88,437 $124,167
Gross profit.................................................. 28,810 40,157
Operating income.............................................. 6,307 14,472
Net income.................................................... 1,347 6,287
</TABLE>
8
<PAGE>
SCHEIN PHARMACEUTICAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
NOTE 4--CONSENT AGREEMENT AND RESTRUCTURING CHARGE
In September 1998, the United States, on behalf of the United States Food and
Drug Administration (FDA), based on actions it filed in federal courts,
initiated seizures of drugs and drug related products manufactured by Steris
Laboratories, Inc. (Steris), a subsidiary of the Company. The actions alleged
certain instances in which the Steris facility was not operating in conformity
with current Good Manufacturing Practices (known as cGMP) regulations. The
actions resulted in the seizure of all drugs and drug related products in the
Company's possession manufactured at the Steris facility and halted the
manufacture and distribution of Steris products, including INFeD(R).
In October 1998, Steris and certain of its officers, without admitting any
allegations of the complaints and disclaiming any liability in connection
therewith, entered into a consent agreement. Under the terms of the consent
agreement, Steris is required, among other things, to demonstrate through
independent certification that Steris' processes, quality assurance and quality
control programs, and management controls comply with cGMP regulations. The
consent agreement also provides for independent certification of Steris'
management controls, quality assurance and quality control programs, and
employee cGMP training. It further requires that Steris develop a timeline and
Corrective Action Plan for implementing these actions and for expert
certification with respect to matters covered in previous FDA inspections of the
facility.
As a result of the actions taken by the FDA and the consent agreement, the
Company recorded a restructuring charge of $135.0 million, net of tax benefit,
in 1998. The Company had restructuring reserves totaling $32.4 million remaining
at December 26, 1998. The following is a summary of activity and the balances
for the three months ended March 27, 1999 (in thousands):
<TABLE>
<CAPTION>
Balance at Balance at
Beginning End
Restructuring Reserves of Period Additions Deductions of Period
- ---------------------- ---------- --------- ---------- -----------
<S> <C> <C> <C> <C>
Inventory and other.............. $32,357 - $17,327 $15,030
========== ========= ========== ===========
</TABLE>
Steris has submitted to the FDA the Corrective Action Plan provided for under
the consent agreement and has begun implementation of that plan. As the Company
previously announced in April 1999, the FDA has permitted the resumption of
INFeD manufacturing on a regular production basis, subject to an independent
third-party consultant's review and assessment of each lot. The Company has been
shipping newly manufactured INFeD and, since the end of the first quarter, has
eliminated its backlog of INFeD.
9
<PAGE>
SCHEIN PHARMACEUTICAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
NOTE 5--LEGAL PROCEEDINGS
In September and October 1998, following the commencement of a seizure action by
the FDA against Steris on September 10, 1998, a number of substantially similar
class action complaints asserting claims under the federal securities laws were
filed in federal court in the District of New Jersey against the Company and
certain of its officers and directors. On December 21, 1998, the court entered
an order consolidating the actions, appointing lead plaintiffs and approving
selection of lead and liaison counsel. On or about March 29, 1999, lead
plaintiffs filed a consolidated and amended class action complaint (the
Complaint), naming as defendants the Company, its directors at the time of the
Company's April 9, 1998 initial public offering (the Offering), and three of the
underwriters of the Offering. Plaintiffs purport to sue on behalf of a class of
persons who purchased shares of the Company's common stock pursuant or traceable
to the Offering during the period from April 9, 1998 through September 28, 1998.
They allege that defendants violated the Securities Act of 1933 and as to the
Company and three of the individual defendants, the Securities Exchange Act of
1934 and Rule 10b-5 by making misrepresentations and omissions of material facts
in connection with the Offering and in the registration statement and prospectus
issued pursuant to the Offering and in statements made immediately following the
FDA seizure action on September 10, 1998. Plaintiffs allege, among other things,
that defendants failed to disclose or misrepresented facts concerning the status
of the Company's internal controls and ability to comply with government
regulations relating to its manufacturing activities, including the status of
the Company's corrective actions at the Steris facility and the effect of the
FDA enforcement action on the Company's operations. Plaintiffs on behalf of the
purported class seek damages, recision and/or recisionary damages. The Company
intends to defend itself vigorously against this action.
In one of the Company's patent challenge litigations filed in the U.S. District
Court for the Southern District of New York, the trial judge ruled against the
Company and upheld the validity of the patent at issue. On October 1, 1998, the
Court awarded attorney's fees to the patent holder and its licensee. The Company
has been informed that the fees sought will be approximately $3 million, subject
to final determination by the Court. The Company intends to appeal this
decision.
In March 1999, an action entitled Marvin Samson v. Schein Pharmaceutical, Inc.,
Martin Sperber and Marsam Pharmaceuticals, Inc. was commenced in Superior Court
of New Jersey, Camden County, Law Division, alleging, among other things,
breaches of plaintiff's employment agreement with Marsam and misrepresentations
concerning responsibilities that would be given to plaintiff, and seeks, among
other things, damages which plaintiff believes exceed $6 million and a
declaration that the "non-competition restrictions" in his employment agreement
are no longer effective. The Company intends to defend itself vigorously against
this action.
10
<PAGE>
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Safe Harbor Statement Under the Private Securities Litigation Reform Act of 1995
Certain statements in this Form 10-Q constitute "forward looking statements"
within the meaning of The Private Securities Litigation Reform Act of 1995,
including those concerning management's expectations with respect to future
events or results. Such forward looking statements may be identified by such
forward looking terms as expect, believe, may, anticipate, will or similar terms
or variations thereof. These forward looking statements involve certain
significant risks and uncertainties, and actual results may differ materially
from the forward looking statements. Some important factors which may cause
results to differ include: the difficulty of predicting United States Food and
Drug Administration (FDA) approvals, uncertainties associated with
implementation of the terms and conditions of the consent agreement affecting
the Company's Steris Laboratories, Inc. (Steris) facility, the uncertainty of
acceptance and demand for the Company's new products, the impact of competitive
products and pricing, the availability of raw materials, uncertainties
associated with litigation (including, without limitation, patent challenges)
and regulatory matters, Year 2000 matters, and fluctuations in operating
results. For further details and discussion of these risks and uncertainties see
the Company's SEC filings including, but not limited to, its Annual Report on
Form 10-K. The Company does not undertake to publicly update or revise any of
its forward looking statements even if experience or future changes show that
the indicated results or events will not be realized.
Regulatory Matters
The Company's Marsam Pharmaceuticals facility is currently undergoing an FDA
inspection. The inspectional observations to date include deficiencies in
certain recordkeeping and laboratory controls. In connection with these
observations, Marsam is conducting data audits, and in some instances additional
testing, of its products and, based on the results to date, is initiating the
recall of three lots manufactured in 1997. The inspection is continuing and
could lead to further actions by Marsam or the FDA.
Results of Operations
The following table sets forth comparisons of product revenues and settlement
revenues for each of the periods shown:
<TABLE>
<CAPTION>
Three Months Ended
-----------------------
March 27, March 28,
1999 1998
--------- ---------
(In millions)
<S> <C> <C>
Generic business:
Generic products.......................................... $ 88.6 $ 94.3
Patent settlement revenue................................. - 30.0
------- -------
Total generic revenues............................. 88.6 124.3
Brand product................................................. 17.3 22.4
------- -------
Total net revenues............................ $ 105.9 $ 146.7
======= =======
</TABLE>
11
<PAGE>
Net revenues for the first quarter of 1999 decreased $40.8 million, or 27.8%,
from $146.7 million in 1998 to $105.9 million in 1999. This decrease was
primarily due to the absence of $30 million of settlement revenue that was
recorded in the first quarter of 1998 and lower sales of Steris products offset
by higher revenues from the Company's other products.
Revenues from generic products decreased $5.7 million or 6.0% from $94.3 million
in 1998 to $88.6 million in 1999. This decrease was due to lower sales of Steris
products of $30.1 million offset by $20.5 million of price increases and unit
growth, and $3.9 million of new product introductions.
Net revenues from the branded business decreased $5.1 million or 22.8% from
$22.4 million in 1998 to $17.3 million in 1999 largely due to reduced unit
volume of INFeD(R). As of April 6, 1999 the FDA has permitted the resumption of
INFeD manufacturing on a regular production basis, subject to an independent
third-party consultant's review and assessment of each lot. The Company has been
shipping newly manufactured INFeD and, since the end of the first quarter, has
eliminated its backlog of INFeD.
Gross profit decreased $15.6 million, or 30.1%, from $51.9 million in 1998 to
$36.3 million in 1999. The gross margin decreased 1.1% in 1999 to 34.3% versus
35.4% in 1998. The decrease in gross profit was principally due to the impact of
the $15.0 million of gross profit contribution associated with the $30 million
settlement revenue received in the first quarter of 1998.
Selling, general and administrative expenses decreased in the first quarter $0.7
million, or 3.1%, from $21.6 million in 1998 to $20.9 million in 1999. The
decrease resulted primarily from cost containment measures implemented during
the fourth quarter of 1998, partially offset by $3.4 million of costs relating
to the implementation of Steris' Corrective Action Plan.
Research and development expenses decreased in the first quarter $2.0 million or
27.7% primarily due to timing of clinical studies and the efficiencies achieved
from the consolidation of research and development operations.
Amortization of intangibles and goodwill decreased $1.0 million in the first
quarter of 1999 compared to the first quarter in 1998 due to the write-off of
goodwill included in the third quarter 1998 restructuring charge.
As a result of the factors discussed above, operating income decreased $12.0
million, from $20.6 million in 1998 to $8.6 million in 1999.
Interest expense decreased $1.3 million, or 22.4%, from $6.0 million in 1998 to
$4.7 million in 1999. The decline in interest expense was principally due to:
(i) lower debt levels as the proceeds from the initial public offering in April
1998 were used to retire senior floating rate notes and (ii) lower interest
rates under the Company's revolving credit and term loan agreement.
Other expenses (income), net, was $0.3 million expense in 1999 and $1.5 million
income in 1998. The change in other income, net, was primarily due to gains on
the sale of marketable securities declining from $2.8 million in 1998 to $0.4
million in 1999.
The Company's effective tax rate was 39.0% in 1999 and 43.4% in 1998. The
decline in the effective tax rate is primarily due to the elimination of
non-deductible goodwill amortization following the Company's write-off of
goodwill in connection with the third quarter 1998 restructuring charge.
12
<PAGE>
Liquidity and Capital Resources
Net cash provided by operating activities was $20.4 million for the three months
ended March 27, 1999. The net cash provided by operating activities was
attributable to net income of $2.2 million as adjusted for the effects of
non-cash items of $5.7 million and changes in assets and liabilities totaling
$12.5 million. Gains on the sales of marketable securities declined from $2.8
million in the three months ended March 28, 1998 to $0.4 million in the three
months ended March 29, 1999. The decrease in accounts receivable of $13.8
million was primarily the result of higher revenues in the fourth quarter of
1998 versus the first quarter of 1999. Inventories increased $6.4 million due to
an increase in production in response to relatively high year end shipments that
reduced inventories. The Company plans to increase inventory levels in the
second and third quarters of 1999 in anticipation of higher demand by customers
with Year 2000 related supply concerns. Prepaid expenses and other assets
decreased by $1.2 million while accounts payable, income taxes, accrued expenses
and other liabilities increased by $3.8 million.
Net cash used in investing activities at March 27, 1999 was $13.1 million. The
net cash used in investing activities consisted primarily of capital
expenditures of $1.3 million and the acquisition of product rights and licenses
of $10.0 million. Product rights and licenses consisted of payments of $5.0
million in connection with a product development agreement with Elan Corporation
plc and $5.0 million under the trademark and distribution agreement related to
Ferrlecit(R). International investments increased $1.8 million.
Net cash of $5.7 million used in financing activities for the three months ended
March 27, 1999 was comprised of net repayments of debt of $6.2 million offset by
proceeds from the employee stock purchase plan of $0.5 million.
Year 2000 Compliance
The Company is devoting significant resources throughout its business operations
to minimize the risk of potential disruption from the Year 2000 (Y2K) problem.
In 1997, a Y2K Compliance Initiative was established within the Company to
address the following areas that are impacted by Y2K issues.
o Business Transaction Systems
o Plant Floor/Laboratory Applications & Devices
o Computer Network
o Supply-Chain Partner Compliance Readiness
o Contingency Planning
The Business Transaction Systems include applications that process and handle
the Company's day-to-day business transactions. These include applications for
customer order/billing, finished goods inventory and distribution, manufacturing
and laboratory support, EDI, contract processing, forecasting and vendor managed
inventory. Twelve of the sixteen applications were assessed as Y2K
non-compliant. Eight of the non-compliant systems have been remediated and
deployed, one retired and the remaining three systems are expected to be
remediated and deployed by the end of the third quarter of 1999.
The Plant Floor/Laboratory Applications & Devices include applications and
devices installed at the Company's manufacturing, laboratory, distribution and
office facilities that are date capable and/or contain embedded systems. The
Computer Network includes PC hardware devices, software, applications and files
installed on the Company's network devices and standalone PCs. The inventory and
assessment of the Plant Floor/Laboratory Applications & Devices and the Computer
Network has been completed; the remediation and deployment of identified
applications and devices is expected to be completed by the end of the fourth
quarter of 1999.
To continue business activities with the Company's trading partners (i.e.,
customers, suppliers, payers, financial institutions, etc.), all entities that
comprise the Company's supply-chain must be Y2K compliant.
13
<PAGE>
Certain failures due to non-compliance may result in significant disruptions to
business activities with possible adverse financial consequences to the Company.
The Company has contacted its suppliers, customers and other parties to
determine their "state of readiness" for Y2K compliance. Any perceived or
potential failures due to Y2K non-compliance will result in the creation of
contingency plans to address breakdowns in the Company's supply-chain
activities.
Company planning includes the assessment of Y2K related risks/threats and the
preparation of procedures for alternative work processes in the event of
possible Y2K disruptions. The sources of risk can include IT systems, embedded
devices, EDI and external dependencies; potential failures related to the
occurrence of these risks can include operational disruptions, financial losses,
damage to assets, personal safety and legal liabilities. The implementation of
Contingency Plans is expected to be completed by the end of the third quarter of
1999.
All costs associated with Y2K compliance are being expensed as incurred and are
not expected to have a material adverse effect on the Company's business,
financial condition and results of operations. Nevertheless, there is
uncertainty concerning the potential costs and effects associated with Y2K
compliance. Thus, if the Company is unsuccessful in identifying or remediating
all Y2K problems in its critical operations, or if it is affected by the
inability of suppliers or major customers to continue operations due to such a
problem, its results of operations or financial condition could be materially
adversely impacted.
Based upon its efforts to date, the Company believes that all critical and
important systems will remain up and running after January 1, 2000. Accordingly,
the Company does not currently anticipate that internal systems failures will
result in any material adverse effect to its operations or financial condition.
During 1999, the Company will also continue and expand its efforts to ensure
that major supply-chain partners and public and private providers of
infrastructure services, such as utilities, communications services and
transportation, will also be prepared for the year 2000, and to develop
Contingency Plans to address any failures on their part to become Y2K compliant.
At this time, the Company believes that the most likely "worst-case" scenario
involves potential disruptions in areas in which the Company's operations must
rely on such third parties whose systems may not work properly after January 1,
2000. While such failures could affect important operations of the Company,
either directly or indirectly, in a significant manner, the Company cannot at
present estimate either the likelihood or the potential cost of such failures.
The nature and focus of the Company's efforts to address the Y2K problem may be
revised periodically as interim goals are achieved or new issues are identified.
In addition, it is important to note that the description of the Company's
efforts necessarily involves estimates and projections with respect to
activities required in the future.
This Y2K Statement is designated a Year 2000 Readiness Disclosure under the Year
2000 Information and Readiness Disclosure Act and is subject to all protections
and exemptions of that Act.
14
<PAGE>
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The carrying amounts of financial instruments, including cash and cash
equivalents, accounts receivable, accounts payable and accrued liabilities,
approximate fair value because of the current nature of these instruments. The
carrying amounts reported for revolving credit and long-term debt approximate
fair value because the interest rates on these instruments are subject to
changes with market interest rates.
In order to manage interest rate exposure, the Company has entered into interest
rate swap agreements to exchange variable rate debt into fixed rate debt without
the exchange of the underlying principal amounts. Net payments or receipts under
the agreements are recorded as adjustments to interest expense.
As of March 27, 1999, the Company had $150 million notional amount outstanding
in interest rate swaps. These swaps are used to convert floating rate debt to
fixed rate debt to reduce the Company's exposure to interest rate fluctuations.
As a result, a weighted average fixed interest rate of 5.43% was substituted for
a weighted average variable LIBOR rate of 5.17%. The swaps expire in September
1999 and February 2001.
15
<PAGE>
PART II. OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
In September and October 1998, following the commencement of a seizure action by
the United States Food and Drug Administration (FDA) against the Company's
Steris Laboratories, Inc. (Steris) facility on September 10, 1998, a number of
substantially similar class action complaints asserting claims under the federal
securities laws were filed in federal court in the District of New Jersey
against the Company and certain of its officers and directors. On December 21,
1998, the court entered an order consolidating the actions, appointing lead
plaintiffs and approving selection of lead and liaison counsel. On or about
March 29, 1999, lead plaintiffs filed a consolidated and amended class action
complaint (the Complaint), naming as defendants the Company, its directors at
the time of the Company's April 9, 1998 initial public offering (the Offering),
and three of the underwriters of the Offering. Plaintiffs purport to sue on
behalf of a class of persons who purchased shares of the Company's common stock
pursuant or traceable to the Offering during the period from April 9, 1998
through September 28, 1998. They allege that defendants violated the Securities
Act of 1933 and as to the Company and three of the individual defendants, the
Securities Exchange Act of 1934 and Rule 10b-5 by making misrepresentations and
omissions of material facts in connection with the Offering and in the
registration statement and prospectus issued pursuant to the Offering and in
statements made immediately following the FDA seizure action on September 10,
1998. Plaintiffs allege, among other things, that defendants failed to disclose
or misrepresented facts concerning the status of the Company's internal controls
and ability to comply with government regulations relating to its manufacturing
activities, including the status of the Company's corrective actions at the
Steris facility and the effect of the FDA enforcement action on the Company's
operations. Plaintiffs on behalf of the purported class seek damages, recision
and/or recisionary damages. The Company intends to defend itself vigorously
against this action.
In one of the Company's patent challenge litigations filed in the U.S. District
Court for the Southern District of New York, the trial judge ruled against the
Company and upheld the validity of the patent at issue. On October 1, 1998, the
Court awarded attorney's fees to the patent holder and its licensee. The Company
has been informed that the fees sought will be approximately $3 million, subject
to final determination by the Court. The Company intends to appeal this
decision.
In March 1999, an action entitled Marvin Samson v. Schein Pharmaceutical, Inc.,
Martin Sperber and Marsam Pharmaceuticals, Inc. was commenced in Superior Court
of New Jersey, Camden County, Law Division, alleging, among other things,
breaches of plaintiff's employment agreement with Marsam and misrepresentations
concerning responsibilities that would be given to plaintiff, and seeks, among
other things, damages which plaintiff believes exceed $6 million and a
declaration that the "non-competition restrictions" in his employment agreement
are no longer effective. The Company intends to defend itself vigorously against
this action.
16
<PAGE>
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27 - Financial Data Schedule
(b) Reports on Form 8-K
None
17
<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.
Schein Pharmaceutical, Inc.
(Registrant)
By: /s/
-----------------------------
Martin Sperber
Chairman of the Board,
Chief Executive Officer and
President
(Principal Executive Officer)
By: /s/
-----------------------------
Dariush Ashrafi
Executive Vice President and
Chief Financial Officer
(Principal Financial and Accounting Officer)
Dated: May 7, 1999
18
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted
from the Company's condensed consolidated balance sheet at March
27, 1999 and the condensed consolidated statement of operations
for the three months ended March 27, 1999 and is qualified in
its entirety by reference to such financial statements.
</LEGEND>
<CIK> 0000948929
<NAME> Schein Pharmaceutical, Inc.
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-25-1999
<PERIOD-START> DEC-27-1998
<PERIOD-END> MAR-27-1999
<CASH> 1,913
<SECURITIES> 0
<RECEIVABLES> 71,148
<ALLOWANCES> 2,377
<INVENTORY> 112,743
<CURRENT-ASSETS> 206,851
<PP&E> 188,390
<DEPRECIATION> 78,090
<TOTAL-ASSETS> 446,055
<CURRENT-LIABILITIES> 202,726
<BONDS> 116,861
0
0
<COMMON> 325
<OTHER-SE> 85,517
<TOTAL-LIABILITY-AND-EQUITY> 446,055
<SALES> 105,863
<TOTAL-REVENUES> 105,863
<CGS> 69,580
<TOTAL-COSTS> 69,580
<OTHER-EXPENSES> 27,985
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 4,652
<INCOME-PRETAX> 3,646
<INCOME-TAX> 1,422
<INCOME-CONTINUING> 2,224
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,224
<EPS-PRIMARY> 0.07
<EPS-DILUTED> 0.07
</TABLE>
