UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2003
Commission File Number 1-14798
IVAX DIAGNOSTICS, INC.
(Exact name of registrant as specified in its charter)
| Delaware | 11-3500746 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) |
| 2140 North Miami Avenue, Miami, Florida | 33127 | |
| (Address of principal executive offices) | (Zip Code) |
(305) 324-2300
(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.
Yesx No¨
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
Yes¨ Nox
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
27,640,079 shares of Common Stock, $.01 par value, outstanding as of August 6, 2003.
IVAX DIAGNOSTICS, INC.
| PAGE NO. | ||||||
Item 1 — | ||||||
Consolidated Balance Sheets as of June 30, 2003 and December 31, 2002 | 2 | |||||
| 3 | ||||||
Consolidated Statements of Cash Flows for the six months ended June 30, 2003 and 2002 | 4 | |||||
| 6 | ||||||
| Item 2 — | Management’s Discussion and Analysis of Financial Condition and Results of Operations | 12 | ||||
Item 3 — | 20 | |||||
Item 4 — | 21 | |||||
Item 1 — | 22 | |||||
Item 4 — | 23 | |||||
Item 6 — | 23 | |||||
IVAX DIAGNOSTICS, INC. AND SUBSIDIARIES
June 30, 2003 | December 31, 2002 | |||||||
| (Unaudited) | ||||||||
| ASSETS | ||||||||
| Current assets: | ||||||||
Cash and cash equivalents | $ | 15,744,789 | $ | 15,941,663 | ||||
Accounts receivable, net of allowances for doubtful accounts of $2,794,126 in 2003 and $2,392,553 in 2002 | 6,725,179 | 5,721,400 | ||||||
Inventories | 4,165,914 | 4,246,893 | ||||||
Other current assets | 1,729,327 | 1,267,827 | ||||||
Total current assets | 28,365,209 | 27,177,783 | ||||||
| Property, plant and equipment, net | 1,990,847 | 1,995,997 | ||||||
| Goodwill, net | 6,740,514 | 6,794,147 | ||||||
| Equipment on lease | 1,256,359 | 1,189,456 | ||||||
Other assets | 284,329 | 265,321 | ||||||
Total assets | $ | 38,637,258 | $ | 37,422,704 | ||||
| LIABILITIES AND SHAREHOLDERS’ EQUITY | ||||||||
| Current liabilities: | ||||||||
Accounts payable | $ | 536,263 | $ | 881,657 | ||||
Accrued expenses and other current liabilities | 3,670,995 | 2,775,110 | ||||||
Total current liabilities | 4,207,258 | 3,656,767 | ||||||
| Other long-term liabilities | 395,503 | 370,405 | ||||||
| Commitments and contingencies (Note 10) | ||||||||
| Shareholders’ equity: | ||||||||
Common stock, $0.01 par value, authorized 50,000,000 shares, issued and outstanding 27,640,079 in 2003 and 27,519,079 in 2002 | 276,400 | 275,190 | ||||||
Capital in excess of par value | 43,566,399 | 43,095,554 | ||||||
Accumulated deficit | (8,821,535 | ) | (8,426,409 | ) | ||||
Accumulated other comprehensive loss | (986,767 | ) | (1,548,803 | ) | ||||
Total shareholders’ equity | 34,034,497 | 33,395,532 | ||||||
Total liabilities and shareholders’ equity | $ | 38,637,258 | $ | 37,422,704 | ||||
The accompanying Notes to Consolidated Financial Statements are an integral part of these balance sheets.
2
IVAX DIAGNOSTICS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
| Period Ended June 30, | Three Months | Six months | ||||||||||||||
| 2003 | 2002 | 2003 | 2002 | |||||||||||||
Net revenues | $ | 4,491,466 | $ | 3,115,860 | $ | 8,935,034 | $ | 5,622,148 | ||||||||
Cost of sales | 1,769,506 | 1,594,740 | 3,780,635 | 2,844,185 | ||||||||||||
Gross profit | 2,721,960 | 1,521,120 | 5,154,399 | 2,777,963 | ||||||||||||
Operating expenses: | ||||||||||||||||
Selling | 1,391,493 | 1,121,006 | 2,676,721 | 1,915,099 | ||||||||||||
General and administrative | 1,273,980 | 952,345 | 2,438,425 | 1,889,278 | ||||||||||||
Research and development | 343,775 | 351,597 | 690,501 | 710,092 | ||||||||||||
Total operating expenses | 3,009,248 | 2,424,948 | 5,805,647 | 4,514,469 | ||||||||||||
Loss from operations | (287,288 | ) | (903,828 | ) | (651,248 | ) | (1,736,506 | ) | ||||||||
Other income: | ||||||||||||||||
Interest income | 90,413 | 126,210 | 141,620 | 293,016 | ||||||||||||
Other income, net | 112,172 | 34,704 | 150,983 | 19,626 | ||||||||||||
Total other income, net | 202,585 | 160,914 | 292,603 | 312,642 | ||||||||||||
Loss before provision (benefit) for income taxes | (84,703 | ) | (742,914 | ) | (358,645 | ) | (1,423,864 | ) | ||||||||
Provision (benefit) for income taxes | 23,063 | (8,158 | ) | 36,481 | 25,164 | |||||||||||
Net loss | $ | (107,766 | ) | $ | (734,756 | ) | $ | (395,126 | ) | $ | (1,449,028 | ) | ||||
Basic and diluted loss per common share | $ | (.00 | ) | $ | (.03 | ) | $ | (.01 | ) | $ | (.05 | ) | ||||
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING: | ||||||||||||||||
Basic and diluted | 27,538,703 | 28,646,531 | 27,528,945 | 28,641,122 | ||||||||||||
The accompanying Notes to Consolidated Financial Statements are an integral part of these statements.
3
IVAX DIAGNOSTICS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
| Six months Ended June 30, | 2003 | 2002 | ||||||
Cash flows from operating activities: | ||||||||
Net loss | $ | (395,126 | ) | $ | (1,449,028 | ) | ||
Adjustments to reconcile net loss to net cash flows provided by (used in) operating activities: | ||||||||
Depreciation and amortization | 579,628 | 405,731 | ||||||
Provision for losses on accounts receivable | 193,227 | 122,654 | ||||||
Stock option compensation expense | 222,225 | 297,300 | ||||||
Changes in operating assets and liabilities: | ||||||||
Accounts receivable | (800,282 | ) | (1,326,331 | ) | ||||
Inventories | 221,980 | 325,071 | ||||||
Other current assets | (345,098 | ) | 42,655 | |||||
Other assets | 158 | 1,195 | ||||||
Accounts payable and accrued expenses | 387,048 | 404,007 | ||||||
Other long-term liabilities | (10,445 | ) | (57,845 | ) | ||||
Net cash flows provided by (used in) operating activities | 53,315 | (1,234,591 | ) | |||||
Cash flows from investing activities: | ||||||||
Capital expenditures | (131,583 | ) | (290,048 | ) | ||||
Acquisition of business | — | (2,211,747 | ) | |||||
Acquisitions of equipment on lease | (443,262 | ) | (278,421 | ) | ||||
Net cash flows used in investing activities | (574,845 | ) | (2,780,216 | ) | ||||
Cash flows from financing activities: | ||||||||
Proceeds from stock option exercises | 249,830 | 8,760 | ||||||
Change in balance due to IVAX Corporation | — | 82,000 | ||||||
Net cash flows provided by financing activities | 249,830 | 90,760 | ||||||
Effect of exchange rate changes on cash and cash equivalents | 74,826 | 150,897 | ||||||
Net decrease in cash and cash equivalents | (196,874 | ) | (3,773,150 | ) | ||||
Cash and cash equivalents at the beginning of the year | 15,941,663 | 23,282,155 | ||||||
Cash and cash equivalents at the end of the period | $ | 15,744,789 | $ | 19,509,005 | ||||
Supplemental disclosures: | ||||||||
Interest paid | $ | — | $ | — | ||||
Income tax payments | $ | — | $ | — | ||||
The accompanying Notes to Consolidated Financial Statements are an integral part of these statements.
4
IVAX DIAGNOSTICS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Continued)
(Unaudited)
| Six months Ended June 30, | 2003 | 2002 | ||||
Supplemental disclosure of non-cash activities: | ||||||
Acquisition of business: | ||||||
Fair value of assets acquired | $ | — | $ | 2,456,747 | ||
Liabilities assumed | — | 245,000 | ||||
Net assets acquired | $ | — | $ | 2,211,747 | ||
The accompanying Notes to Consolidated Financial Statements are an integral part of these statements.
5
IVAX DIAGNOSTICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1) GENERAL:
The accompanying unaudited interim consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission for reporting on Form 10-Q and, therefore, do not include all information normally included in audited financial statements. However, in the opinion of management, all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the results of operations, financial position and cash flows have been made. The results of operations and cash flows for the six months ended June 30, 2003 are not necessarily indicative of the results of operations and cash flows which may be reported for the remainder of 2003. The interim consolidated financial statements should be read in conjunction with the consolidated financial statements and the notes to consolidated financial statements included in the IVAX Diagnostics, Inc. (“the Company”) Annual Report on Form 10-K for the year ended December 31, 2002. Certain prior period amounts presented in the consolidated financial statements have been reclassified to conform to the current period’s presentation.
On March 14, 2001, b2bstores.com Inc. (“b2bstores.com”), IVAX Corporation (“IVAX”) and IVAX Diagnostics, Inc., a wholly-owned subsidiary of IVAX at that date (the “pre-merger IVAX Diagnostics”), consummated a merger of the pre-merger IVAX Diagnostics into b2bstores.com pursuant to which all of the issued and outstanding shares of the pre-merger IVAX Diagnostics were converted into 20,000,000 shares of b2bstores.com stock and b2bstores.com’s name was changed to IVAX Diagnostics, Inc.
(2) CASH EQUIVALENTS AND SHORT-TERM MARKETABLE SECURITIES:
The Company owns certain short-term investments in marketable debt securities with original maturities of three months or less that are classified as cash equivalents in the accompanying balance sheets.
Substantially all cash and cash equivalents are presently held at one national securities brokerage firm. Accordingly, the Company is subject to credit risk if this brokerage firm is unable to repay the balance in the account or deliver the Company’s securities or if the brokerage firm should become bankrupt or otherwise insolvent. At June 30, 2003 and December 31, 2002, the Company owned no marketable securities with maturities greater than 3 months. It is the Company’s policy to invest in select money market instruments, municipal securities and corporate issuers.
(3) INVENTORIES:
Inventories consist of the following:
June 30, 2003 | December 31, 2002 | |||||
Raw materials | $ | 1,206,743 | $ | 1,188,400 | ||
Work-in-process | 356,808 | 358,936 | ||||
Finished goods | 2,602,363 | 2,699,557 | ||||
Total inventories | $ | 4,165,914 | $ | 4,246,893 | ||
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(4) CONCENTRATION OF CREDIT RISK:
On May 15, 2002, the Company consummated the acquisition of certain assets of the global enzyme immunoassay product line of Sigma Diagnostics, Inc. (“Sigma Diagnostics”), a wholly-owned subsidiary of Sigma-Aldrich Corporation, for approximately $2,212,000 and the assumption of certain liabilities. As a result of the consummation of the transaction with Sigma Diagnostics, the Company no longer sells reagents or instrumentation to Sigma Diagnostics, which had been the Company’s largest customer during 2000 and 2001 and which had marketed such reagents and instruments throughout the world under previous agreements with the Company. Instead, the Company sells enzyme immunoassay instrumentation and reagents directly to Sigma Diagnostics’ former customer base. As a result of the consummation of the transaction with Sigma Diagnostics, the Company’s previous agreements with Sigma Diagnostics have been terminated. Accordingly, our net revenues from Sigma Diagnostics for sales of instruments, replacement parts and diagnostic kits have ceased. Beginning in the third quarter of 2001 and continuing through the consummation of the transaction with Sigma Diagnostics on May 15, 2002, Sigma Diagnostics made no purchases of instruments from the Company. However, net sales of reagents to Sigma Diagnostics accounted for 3.8% of the Company’s total net revenues during the six months ended June 30, 2002. The 2002 pre-acquisition results of operations for the certain assets of Sigma Diagnostics’ global enzyme immunoassay product line acquired by the Company are not available. There can be no assurance that the Company will be able to replace its largest customer or that the acquired assets will be successfully integrated into the Company’s business. Any failure to do so could have a material adverse effect on the Company’s business, prospects, operating results and financial condition.
The Company performs periodic credit evaluations of its customers’ financial condition and provides allowances for doubtful accounts as required. The Company’s accounts receivables are generated from sales made from both the United States and Italy. As of June 30, 2003 and December 31, 2002, $4,814,890 and $3,838,554, respectively, of the Company’s net accounts receivable were due from Italian customers. Of the total net accounts receivable, 58.9% at June 30, 2003 and 54.4% at December 31, 2002 were due from hospitals and laboratories controlled by the Italian government.
(5) LOSS PER SHARE:
A reconciliation of the denominator of the basic and diluted loss per share computation for loss from continuing operations is as follows:
| Three Months | Six months | |||||||
| Period Ended June 30, | 2003 | 2002 | 2003 | 2002 | ||||
Basic and diluted weighted average shares outstanding | 27,538,703 | 28,646,531 | 27,528,945 | 28,641,122 | ||||
Not included in the calculation of diluted loss per share because their impact is antidilutive: | ||||||||
Stock options outstanding | 1,910,828 | 2,185,028 | 1,910,828 | 2,185,028 | ||||
7
(6) INCOME TAXES:
The provisions (benefit) for income taxes consist of the following:
| Three Months | Six months | ||||||||||||
| Period Ended June 30, | 2003 | 2002 | 2003 | 2002 | |||||||||
Current provision (benefit): | |||||||||||||
Foreign | $ | 23,063 | $ | (8,158 | ) | $ | 36,481 | $ | 25,164 | ||||
The Company’s income tax provisions (benefit) for the three months and six months ended June 30, 2003 and 2002 were different from the amount computed on the loss before provision for income taxes at the statutory rate of 35% primarily due to the non-recognition of the benefits of domestic taxable losses. Included in the loss before provision for income taxes was nondeductible stock option compensation expense of $73,575 and $148,650 for the three months ended June 30, 2003 and 2002, respectively, as well as $222,225 and $297,300 for the six months ended June 30, 2003 and 2002, respectively.
The Company has established a full valuation allowance on its net domestic deferred tax assets, which are primarily comprised of net operating loss carryforwards. The portion of these domestic net operating loss carryforwards generated prior to March 14, 2001, the consummation date of the merger between b2bstores.com and the pre-merger IVAX Diagnostics, then a wholly-owned subsidiary of IVAX, were utilized by IVAX. On a separate return basis, no recognition of that utilization is reflected in the accompanying consolidated financial statements. Domestic net operating losses generated by the Company after March 14, 2001 are approximately $5,753,000 and $5,605,000 at June 30, 2003 and December 31, 2002, respectively. These net operating losses will begin to expire in 2021. Foreign deferred tax assets totaled $1,014,846 at June 30, 2003, of which $808,511 is included in other current assets and $206,335 is included in other assets. As of December 31, 2002, foreign deferred tax assets totaled $925,007, of which $736,938 and $188,069 were included in other current assets and other assets, respectively. Realization of the net deferred tax asset is dependent upon generating sufficient future taxable income. Although realization is not assured, management believes that it is more likely than not that the net foreign deferred tax asset will be realized.
(7) COMPREHENSIVE INCOME (LOSS):
The components of the Company’s comprehensive income (loss) are as follows:
| Three Months | Six months | |||||||||||||||
| Period Ended June 30, | 2003 | 2002 | 2003 | 2002 | ||||||||||||
Net loss | $ | (107,766 | ) | $ | (734,756 | ) | $ | (395,126 | ) | $ | (1,449,028 | ) | ||||
Foreign currency translations adjustments | 332,388 | 667,883 | 562,036 | 570,223 | ||||||||||||
Comprehensive income (loss) | $ | 224,622 | $ | (66,873 | ) | $ | 166,910 | $ | (878,805 | ) | ||||||
8
(8) STOCK-BASED COMPENSATION:
The Company’s pro forma net loss and pro forma weighted average fair value of options granted, with related assumptions, assuming the Company had adopted the fair value method of accounting for all stock-based compensation arrangements consistent with the provisions of Statement of Financial Accounting Standard (“SFAS”) No. 148,Accounting for Stock Based Compensation – Transition and Disclosure and SFAS No. 123,Stock-Based Compensation, using the Black-Scholes option pricing model, are indicated below:
| Three Months | Six months | |||||||||||||||
| Period Ended June 30, | 2003 | 2002 | 2003 | 2002 | ||||||||||||
Net loss as reported | $ | (107,766 | ) | $ | (734,756 | ) | $ | (395,126 | ) | $ | (1,449,028 | ) | ||||
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects | 70,511 | 66,040 | 141,041 | 124,762 | ||||||||||||
Pro forma net loss | $ | (178,277 | ) | $ | (800,796 | ) | $ | (536,167 | ) | $ | (1,573,790 | ) | ||||
Pro forma basic and diluted earning per share | $ | (0.01 | ) | $ | (0.03 | ) | $ | (0.02 | ) | $ | (0.05 | ) | ||||
Pro forma weighted average fair value of options granted | — | 121,312 | — | 121,312 | ||||||||||||
Assumptions used in fair value calculation: | ||||||||||||||||
Expected life (years) | 5.0 | 5.0 | 5.0 | 5.0 | ||||||||||||
Risk-free interest rate | 3.5 | % | 3.5 | % | 3.5 | % | 3.5 | % | ||||||||
Expected volatility | 108 | % | 111 | % | 108 | % | 111 | % | ||||||||
Dividend yield | — | — | — | — | ||||||||||||
(9) SEGMENT INFORMATION:
The Company’s management reviews financial information, allocates resources and manages its business by geographic region. The Domestic region, which includes corporate expenditures, contains the Company’s subsidiaries in the United States. The Italian region contains the Company’s subsidiaries located in Italy. The information provided is based on internal reports and was developed and utilized by management for the sole purpose of tracking trends and changes in the results of the regions. The information, including the allocations of expense and overhead, was calculated based on a management approach and may not reflect the actual economic costs, contributions or results of operations of the regions as stand-alone businesses. If a different basis of presentation or allocation were utilized, the relative contributions of the regions might differ but the relative trends would, in management’s view, likely not be materially impacted. The table below sets forth net revenues, income (loss) from operations and assets by region.
9
Net Revenues by Region Period Ended June 30, | Three Months | Six months | |||||||||||||
| 2003 | 2002 | 2003 | 2002 | ||||||||||||
| Domestic | |||||||||||||||
External net revenues | $ | 2,794,032 | $ | 1,853,370 | $ | 5,885,379 | $ | 3,170,865 | |||||||
Intercompany revenues | 238,625 | 275,264 | 458,627 | 449,349 | |||||||||||
| 3,032,657 | 2,128,634 | 6,344,066 | 3,620,214 | ||||||||||||
| Italian | |||||||||||||||
External net revenues | 1,697,434 | 1,262,490 | 3,049,655 | 2,451,283 | |||||||||||
Intercompany revenues | 26,249 | 31,759 | 51,230 | 323,384 | |||||||||||
| 1,723,683 | 1,294,249 | 3,100,885 | 2,774,667 | ||||||||||||
| Elimination | (264,874) | (307,023 | ) | (509,857 | ) | (772,733 | ) | ||||||||
| Consolidated net revenues | $ | 4,491,466 | $ | 3,115,860 | $ | 8,935,034 | $ | 5,622,148 | |||||||
| Income (Loss) from Operations by Region | |||||||||||||||
| Period Ended June 30, | Three Months | Six months | |||||||||||||
| 2003 | 2002 | 2003 | 2002 | ||||||||||||
| Domestic | $ | (367,317) | $ | (868,047 | ) | $ | (676,589 | ) | $ | (1,712,468 | ) | ||||
| Italian | 57,491 | (53,400 | ) | (23,682 | ) | 5,960 | |||||||||
| Elimination | 22,538 | 17,619 | 49,023 | (29,998 | ) | ||||||||||
| Loss from operations | $ | (287,288) | $ | (903,828 | ) | $ | (651,248 | ) | $ | (1,736,506 | ) | ||||
| Total Assets: | June 30, | ||||||||||||||
| 2003 | 2002 | ||||||||||||||
Domestic | $ | 24,051,975 | $ | 27,118,515 | |||||||||||
Italian | 14,742,202 | 13,471,367 | |||||||||||||
Elimination | (156,919) | (215,176 | ) | ||||||||||||
Total assets | $ | 38,637,258 | $ | 40,374,706 | |||||||||||
(10) COMMITMENTS AND CONTINGENCIES:
On March 2, 2001, b2bstores.com received notice that a shareholder of b2bstores.com filed a lawsuit against b2bstores.com and two of its directors. The lawsuit alleges that b2bstores.com violated certain aspects of Section 14(a) of the Securities Exchange Act of 1934, as amended, and that two former director/officers breached their fiduciary duties in connection with the merger between b2bstores.com and the pre-merger IVAX Diagnostics. The suit seeks damages, including punitive damages against the two former directors/officers. The directors and officers of the Company deny the allegations and intend to vigorously defend such claims, but the ultimate outcome of any such legal proceeding cannot be predicted and the Company’s ultimate liability cannot be presently determined.
On February 19, 2003, the Company filed a Complaint in Arbitration with the International Center for Dispute Resolution at the American Arbitration Association against Phoenix Bio-Tech Corporation (“Phoenix”), for breach of contract, specific performance and injunctive relief arising out of Phoenix’s alleged failure to honor its obligations under an exclusive marketing agreement, which the Company had assumed in its transaction with Sigma Diagnostics. Phoenix purports to have terminated the exclusive marketing agreement. Under the
10
Complaint in Arbitration, the Company is seeking (a) damages from Phoenix for Phoenix’s breach of the exclusive marketing agreement, (b) temporary and permanent injunctive relief requiring Phoenix to not breach the exclusive marketing agreement, (c) specific performance requiring Phoenix to perform its obligations under the exclusive marketing agreement, and (d) payment by Phoenix of the Company’s attorneys’ fees and costs incurred in bringing this action. On March 7, 2003, the Company received notice that Phoenix filed an Answering Statement to Complaint in Arbitration and a Counterclaim against the Company. Under the Answer and Counterclaim, Phoenix is seeking (y) damages from the Company currently estimated by Phoenix to be approximately $225,000 for the Company’s alleged breach of the exclusive marketing agreement and (z) a determination of whether the exclusive marketing agreement (i) is enforceable as a result of misrepresentations, (ii) has been breached by the Company, and (iii) has been properly terminated by Phoenix. The Company’s management denies the allegations in the Answer and Counterclaim and intends to vigorously defend such claims, but the ultimate outcome of any such arbitral proceeding cannot be determined and the Company’s ultimate liability cannot presently be determined. If the Company is not successful on the claims in its Complaint in Arbitration or if the Company is not successful in its defense of the claims in the Answer and Counterclaim, then the Company’s business, operating results and financial condition could be materially adversely affected.
The Company is involved in various legal claims and actions and regulatory matters, and other notices and demand proceedings arising in the ordinary course of business. While it is not feasible to predict or determine the outcome of these proceedings, in the opinion of management, based on a review with legal counsel, any losses resulting from such legal proceedings would not have a material adverse impact on the financial position, results of operations or cash flows of the Company.
(11) RECENTLY ISSUED ACCOUNTING STANDARDS:
Financial Accounting Standards Board (“FASB”) Interpretation No. 46, Consolidation of Variable Interest Entities, an interpretation of Accounting Research Bulletin No. 51,Consolidated Financial Statements, addresses consolidation by business enterprises of variable interest entities. It is effective immediately for variable interest entities created or obtained after January 31, 2003. It applies in the first fiscal year or interim period beginning after June 15, 2003, to variable interest entities acquired before February 1, 2003. If it is reasonably possible that an entity will consolidate or disclose information about the variable interest entity, disclosure is required for all financial statements initially issued after January 31, 2003. Based upon the Company’s preliminary review, the Company has neither created nor obtained variable interest entities. Accordingly, the impact of adoption of this interpretation is not expected to be material.
Statement of Financial Accounting Standards (“SFAS”) No. 149,Amendment of Statement 133 on Derivative Instruments and Hedging Activities, amends and clarifies accounting for derivative instruments under SFAS No. 133. It is effective for contracts entered into after June 30, 2003. The impact of adoption of this statement is not expected to be significant.
SFAS No. 150,Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity, establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liability and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). This statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. The impact of adoption of this statement is not expected to be significant.
11
Item 2—Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis should be read in conjunction with the consolidated financial statements and the related notes to consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2002 and the unaudited interim consolidated financial statements and the related notes to unaudited interim consolidated financial statements included in Item 1 of this Quarterly Report on Form 10-Q. Certain prior period amounts have been reclassified to conform to the current period’s presentation.
We have made forward-looking statements, which are subject to risks and uncertainties, in this Quarterly Report on Form 10-Q. These statements are based on the beliefs and assumptions of our management and on the information currently available to it. Forward-looking statements may be preceded by, followed by, or otherwise include the words “may,” “will,” “believes,” “expects,” “anticipates,” “intends,” “plans,” “estimates,” “projects,” “could,” “would,” “should,” or similar expressions or statements that certain events or conditions may occur. Actual results, performance or achievements could differ materially from those contemplated, expressed or implied by these forward-looking statements. These forward-looking statements are based largely on our expectations and the beliefs and assumptions of our management and on the information currently available to it and are subject to a number of risks and uncertainties, including, but not limited to, the risks and uncertainties associated with: economic, competitive, political, governmental and other factors affecting us and our operations, markets and products; the success of technological, strategic and business initiatives; our limited operating revenues and history of operational losses; our agreements with IVAX, third party distributors and key personnel; consolidation of our customers affecting our operations, markets and products; reimbursement policies of governmental and private third parties affecting our operations, markets and products; price constraints imposed by our customers and governmental and private third parties; our ability to replace our largest customer; our ability to consummate potential acquisitions of businesses or products; our ability to integrate acquired businesses or products, including the assets acquired from Sigma Diagnostics; political and economic instability and foreign currency fluctuation affecting our foreign operations; the holding of substantially all of our cash and cash equivalents at a single brokerage firm, including risks relating to the bankruptcy or insolvency of such brokerage firm; litigation regarding products, distribution rights, intellectual property rights and product liability; voting control of our common stock by IVAX; conflicts of interest with IVAX and with our officers, directors and employees; and other factors discussed elsewhere in this Quarterly Report on Form 10-Q. Many of these factors are beyond our control.
RESULTS OF OPERATIONS
SIX MONTHS ENDED JUNE 30, 2003 COMPARED TO THE SIX MONTHS ENDED JUNE 30, 2002
NET REVENUES AND GROSS PROFIT
Net revenues for the six months ended June 30, 2003 totaled $8,935,000, an increase of $3,313,000, or 58.9%, from the $5,622,000 reported in the prior year comparable period. This increase was comprised of an increase of $2,714,000 in external net revenues from domestic operations and an increase in external net revenues of $599,000 from Italian operations. Domestic operations generated external net revenues of $5,885,000 for the six months ended June 30, 2003, compared to $3,171,000 for the six months ended June 30, 2002. This 85.6% increase in domestic external revenues was primarily due to revenue from reagents sold to customers obtained as a result of our transaction with Sigma Diagnostics (as discussed in Note 4, Concentration of Credit Risk, in the Notes to Consolidated Financial Statements) as well as volume increases in reagent revenue generated from new instrumentation placements. External net revenues from Italian operations totaled $3,050,000 for the six months ended June 30, 2003, compared to $2,451,000 for the six months ended June 30, 2002. This 24.4% increase was primarily attributable to an increase in revenue due to fluctuations of the United States dollar relative to the Euro, as further discussed in Currency Fluctuations below. As measured in Euros, increased
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revenue from reagent sales were offset by reduced instrumentation revenue. Gross profit for the six months ended June 30, 2003 increased $2,376,000, or 85.5%, to $5,154,000 (57.7% of net revenues) from $2,778,000 (49.4% of net revenues) for the six months ended June 30, 2002. The increase in gross profit and gross profit as a percentage of net revenues was primarily attributable to increased domestic revenue from both reagents sold to customers obtained as a result of our transaction with Sigma Diagnostics and reagent revenue generated from new domestic instrumentation placements, as well as manufacturing efficiencies generated by the resulting increases in volume.
OPERATING EXPENSES
Selling expenses of $2,677,000 (30.0% of net revenues) for the six months ended June 30, 2003 were composed of expenses of $1,763,000 from domestic operations and $914,000 from Italian operations. For the six months ended June 30, 2002, domestic selling expenses were $1,187,000 while $728,000 was incurred in Italy, totaling $1,915,000 (34.1% of net revenues). This increase in selling expenses of $762,000 was primarily due to greater domestic payroll costs related to the increase in sales personnel obtained as a result of our transaction with Sigma Diagnostics as well as increased domestic sales efforts. The increase in expenses incurred in Italy is primarily due to the effect of exchange rate fluctuations. General and administrative expenses totaled $2,438,000 (27.3% of net revenues) for the six months ended June 30, 2003, an increase of $549,000, from $1,889,000 (33.6% of net revenues) for the six months ended June 30, 2002. General and administrative expenses increased primarily due to increased insurance and legal costs as well as expenses related to the integration of the certain assets acquired from Sigma Diagnostics. Research and development expenses totaled $691,000 for the six months ended June 30, 2003 compared to $710,000 for the six months ended June 30, 2002, representing 7.7% and 12.6% of net revenues, respectively. The decrease of $19,000 consisted of a decrease in domestic research and development expenses from $508,000 in the six months ended June 30, 2002 to $441,000 in the six months ended June 30, 2003, primarily due to reduced supply and consumables expenses. This decrease was partially offset by an increase in Italian research and development expenses to $250,000 in the six months ended June 30, 2003 from $202,000 in the six months ended June 30, 2002 primarily as a result of the effect of exchange rate fluctuations. The future level of research and development expenditures will depend on, among other things, the outcome of ongoing testing of products and instrumentation under development, delays or changes in government required testing and approval procedures, technological and competitive developments, strategic marketing decisions and liquidity.
OPERATING LOSS
Operating losses were $651,000 and $1,737,000 during the six months ended June 30, 2003 and 2002, respectively. Exclusive of intersegment elimination adjustments, which decreased consolidated operating loss by $49,000, operating loss in the six months ended June 30, 2003 was composed of operating losses of $676,000 from domestic operations and $24,000 from Italian operations. Excluding intersegment elimination adjustments, which increased consolidated operating loss by $30,000 in the six months ended June 30, 2002, domestic operations incurred an operating loss of $1,713,000 while Italian operations generated operating income of $6,000.
OTHER INCOME
Interest income decreased to $142,000 for the six months ended June 30, 2003 from $293,000 for the six months ended June 30, 2002. The decrease was primarily due to lower interest rates in 2003 as well as a reduction in cash, cash equivalents and marketable securities. Other income, net, totaled $151,000 during the six months ended June 30, 2003, compared to $20,000 during the six months ended June 30, 2002, an increase
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of $131,000. This increase was due to larger net foreign currency gains recognized in 2003 on transactions by our Italian subsidiary, which were denominated in currencies other than its functional currency.
THREE MONTHS ENDED JUNE 30, 2003 COMPARED TO THE THREE MONTHS ENDED JUNE 30, 2002
NET REVENUES AND GROSS PROFIT
Net revenues for the three months ended June 30, 2003 totaled $4,491,000, an increase of $1,375,000, or 44.1%, from the $3,116,000 reported in the prior year comparable period. This increase was comprised of an increase of $941,000 in external net revenues from domestic operations and an increase in external net revenues of $435,000 from Italian operations. Domestic operations generated external net revenues of $2,794,000 for the three months ended June 30, 2003, compared to $1,853,000 for the three months ended June 30, 2002. This 50.8% increase in domestic external revenues was primarily due to revenue from reagents sold to customers obtained as a result of our transaction with Sigma Diagnostics, as well as volume increases in reagent revenue generated from new instrumentation placements. External net revenues from Italian operations totaled $1,697,000 for the three months ended June 30, 2003, compared to $1,262,000 for the three months ended June 30, 2002. This 34.5% increase was primarily attributable to an increase in revenue due to fluctuations of the United States dollar relative to the Euro, as further discussed in Currency Fluctuations below. When measured in Euros, external net revenues from Italian operations increased due to increased sales volume of both reagents and instrumentation. Gross profit for the three months ended June 30, 2003 increased $1,201,000, or 79.0%, to $2,722,000 (60.6% of net revenues) from $1,521,000 (48.8% of net revenues) for the three months ended June 30, 2002. The increase in gross profit and gross profit as a percentage of net revenues was primarily attributable to increased revenue from both reagents sold to customers obtained as a result of our transaction with Sigma Diagnostics and reagent revenue generated from new domestic instrumentation placements, as well as manufacturing efficiencies generated by the resulting increases in volume.
OPERATING EXPENSES
Selling expenses of $1,391,000 (31.0% of net revenues) for the three months ended June 30, 2003 were composed of expenses of $930,000 from domestic operations and $461,000 from Italian operations. For the three months ended June 30, 2002, domestic selling expenses were $735,000 while $386,000 was incurred in Italy, totaling $1,121,000 (36.0% of net revenues). This increase in selling expenses of $270,000 was primarily due to greater domestic payroll costs related to the increase in sales personnel obtained as a result of our transaction with Sigma Diagnostics as well as increased domestic sales efforts. The increase in expenses incurred in Italy is primarily due to the effect of exchange rate fluctuations. General and administrative expenses totaled $1,274,000 (28.4% of net revenues) for the three months ended June 30, 2003, an increase of $322,000, from $952,000 (30.6% of net revenues) for the three months ended June 30, 2002. General and administrative expenses increased primarily due to increased insurance and legal costs. Research and development expenses totaled $344,000 for the three months ended June 30, 2003 compared to $352,000 for the three months ended June 30, 2002, representing 7.7% and 11.3% of net revenues, respectively. No material differences in the amount of domestic or Italian research and development expenses occurred in the three months ended June 30, 2003 compared to the three months ended June 30, 2002. The future level of research and development expenditures will depend on, among other things, the outcome of ongoing testing of products and instrumentation under development, delays or changes in government required testing and approval procedures, technological and competitive developments, strategic marketing decisions and liquidity.
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OPERATING LOSS
Operating losses were $287,000 and $904,000 during the three months ended June 30, 2003 and 2002, respectively. Exclusive of intersegment elimination adjustments, which decreased consolidated operating loss by $23,000, operating loss in the three months ended June 30, 2003 was composed of operating income of $57,000 from Italian operations and an operating loss of $367,000 from domestic operations. Excluding intersegment elimination adjustments, which decreased consolidated operating loss by $17,000 in the three months ended June 30, 2002, domestic operations incurred an operating loss of $868,000 while Italian operations generated an operating loss of $53,000.
OTHER INCOME
Interest income decreased to $90,000 for the three months ended June 30, 2003 from $126,000 for the three months ended June 30, 2002. The decrease was primarily due to lower interest rates in 2003 as well as a reduction in cash, cash equivalents and marketable securities. Other income, net, totaled $112,000 during the three months ended June 30, 2003, compared to $35,000 during the three months ended June 30, 2002, an increase of $77,000. This increase was due to larger net foreign currency gains recognized in 2003 on transactions by our Italian subsidiary, which were denominated in currencies other than its functional currency.
LIQUIDITY AND CAPITAL RESOURCES
At June 30, 2003, our working capital was $24,158,000 compared to $23,521,000 at December 31, 2002. Cash and cash equivalents totaled $15,745,000 at June 30, 2003, as compared to $15,942,000 at December 31, 2002. Substantially all cash and cash equivalents are presently held at one national securities brokerage firm. Accordingly, we are subject to credit risk if this brokerage firm is unable to repay the balance in the account or deliver our securities or if the brokerage firm should become bankrupt or otherwise insolvent. We only invest in select money market instruments, municipal securities and corporate issuers.
Net cash flows of $53,000 were provided by operating activities during the six months ended June 30, 2003, compared to $1,235,000 that was used by operating activities during the six months ended June 30, 2002. The increase in cash provided by operating activities was primarily the result of improved operating results as well as an increase in cash received from accounts receivables collections. These increases were partially offset by an increase in cash utilized for other current assets.
Net cash flows of $575,000 were used in investing activities during the six months ended June 30, 2003, as compared to $2,780,000 used during the same period of the prior year. The decrease in cash used for investing activities was primarily the result of $2,212,000 used for our acquisition of certain assets of the enzyme immunoassay product line of Sigma Diagnostics in May 2002 (as discussed in Note 4, Concentration of Credit Risk, in the Notes to Consolidated Financial Statements).
Net cash of $250,000 was provided by financing activities during the six months ended June 30, 2003, while $91,000 was provided during the same period of 2002. The increase in cash provided was due to cash of $250,000 generated from the exercise of stock options in the six months ended June 30, 2003 partially offset by $82,000 that was received from IVAX during the six months ended June 30, 2002.
Our product research and development expenditures are expected to be approximately $1,400,000 during 2003. Actual expenditures will depend on, among other things, the outcome of clinical testing of products under development, delays or changes in government required testing and approval procedures, technological and competitive developments, strategic marketing decisions and liquidity. There can be no assurance that these
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expenditures will result in the development of new products or product enhancements, that we will successfully complete products under development, that we will obtain regulatory approval or that any approved product will be produced in commercial quantities, at reasonable costs, and be successfully marketed. In addition, we estimate that cash of $450,000 will be required in fiscal 2003 to improve and expand our facilities, equipment and information systems, primarily as a result of expenditures relating to our efforts to expand our production capabilities as we integrate into our operations sales to customers obtained as a result of our transaction with Sigma Diagnostics. There can be no assurance that we will be able to successfully integrate these assets into our operations.
Our principal source of short term liquidity is existing cash and cash equivalents received as a result of the completion of the merger between b2bstores.com and the pre-merger IVAX Diagnostics, which we believe will be sufficient to meet our operating needs and anticipated capital expenditures over the short term. For the long term, we intend to utilize principally existing cash and cash equivalents as well as internally generated funds, which are anticipated to be derived primarily from the sale of existing diagnostic and instrumentation products and diagnostic and instrumentation products currently under development. To the extent that the aforementioned sources of liquidity are insufficient, we may consider issuing debt or equity securities or curtailing or reducing our operations.
We maintain allowances for doubtful accounts, particularly in Italy for the operations of our Italian subsidiary, for estimated losses resulting from the inability of our customers to make required or timely payments. Payment cycles are longer in Italy than in the United States. If we require additional allowances, our operating results could be materially adversely affected during the period in which the determination to increase the reserve is or was made.
On May 15, 2002, we consummated our acquisition of certain of the assets of the global enzyme immunoassay product line of Sigma Diagnostics for $2,211,747 and the assumption of certain liabilities. The fair value of assets acquired of $2,456,747 includes reagent and instrumentation inventory as well as enzyme immunoassay instrumentation placed at customer locations. As a result of the consummation of the transaction with Sigma Diagnostics, we no longer sell reagents or instrumentation to Sigma Diagnostics, which had been our largest customer during 2001 and 2000 (See Note 4, Concentration of Credit Risk, in the Notes to Consolidated Financial Statements) and which had marketed such reagents and instrumentation throughout the world under previous agreements with us. Instead, we sell enzyme immunoassay instrumentation and reagents directly to Sigma Diagnostics’ former customer base. Accordingly, our net revenues from Sigma Diagnostics for sales of instruments, replacement parts and diagnostic kits have ceased. Net sales of reagents to Sigma Diagnostics represented 3.8% of our total net revenues during the six months ended June 30, 2002. Selected employees previously affiliated with Sigma Diagnostics, primarily in the field sales, instrument service and technical support areas, have joined us. As a result of the consummation of the transaction with Sigma Diagnostics, the previous agreements with Sigma Diagnostics have been terminated. There can be no assurance that we will be able to replace our largest customer or successfully integrate the acquired assets into our business. Any failure to do so could have a material adverse effect on our business, prospects, operating results and financial condition.
We did not repurchase any of our common stock during the six months ended June 30, 2003 as part of the common stock repurchase program approved by our Board of Directors in May 2002. As part of this repurchase program, on November 5, 2002, pursuant to a Redemption Agreement, we repurchased an aggregate of 871,473 shares of our common stock from Randall Davis (who resigned from our Board of Directors on November 4, 2002) and Titanium Holdings Group, Inc., or Titanium Holdings, for an aggregate purchase price of approximately $1,437,900. The repurchased shares have been retired and have resumed the status of authorized and unissued shares. Pursuant to the Redemption Agreement, we also granted a general release to Titanium Holdings, Randall Davis, Steven Etra and Richard Kandel and paid them an aggregate of
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approximately $217,900 for the following: (i) we were granted an option to acquire up to an additional 657,125 shares of our common stock from Titanium Holdings, Steven Etra and Richard Kandel at an exercise price of $4.00 per share at any time on or before May 5, 2004; (ii) the optionees agreed that, until May 5, 2004, they would not transfer the shares of our common stock that are subject to the option to any person or entity other than to us or our affiliates; (iii) Titanium Holdings and Steven Etra further agreed that, until May 5, 2004, they would not transfer an additional 307,125 and 150,000 shares of our common stock owned by them respectively to any person or entity other than to us; and (iv) we and our affiliates received general releases from Titanium Holdings, Randall Davis, Steven Etra and Richard Kandel.
CRITICAL ACCOUNTING POLICIES
Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to product returns, allowance for doubtful accounts, inventories, intangible assets, income and other tax accruals, warranty obligations, and contingencies and litigation. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Our assumptions and estimates may, however, prove to have been incorrect and our actual results may differ from these estimates under different assumptions or conditions. We believe the following critical accounting policies and the judgments and estimates we make concerning their application have significant impact on our consolidated financial statements.
A principal source of revenue is our “reagent rental” program in which customers make reagent kit purchase commitments with us that typically last for a period of three to five years. In exchange, we include a Mago® instrument and any required instrument service, which are paid for by the customer through these reagent kit purchases over the life of the commitment. We recognize revenue from the reagent kit sales when title passes, which is generally at the time of shipment. Should actual reagent kit or instrument failure rates significantly increase, our future operating results could be negatively impacted by increased warranty obligations and service delivery costs.
We maintain allowances for doubtful accounts, particularly in Italy for the operations of our Italian subsidiary, for estimated losses resulting from the inability of our customers to make required payments. In many instances our receivables in Italy, while currently due and payable, take in excess of a year to collect. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, then we may be required to make additional allowances which would adversely affect our operating results during the period in which the determination or reserve is or was made.
We regularly review inventory quantities on hand and, if necessary, record a provision for excess and obsolete inventory based primarily on our estimates of product demand and production requirements. These estimates of future product demand may prove to be inaccurate, in which case any resulting adjustments to the value of inventory would be recognized in our cost of goods sold at the time of such determination.
Pursuant to SFAS No. 142, “Goodwill and Other Intangible Assets,” we analyzed our goodwill for impairment issues and will continue to do so in future periods. In assessing the recoverability of our goodwill and other intangibles, we made assumptions regarding estimated future cash flows, including current and projected levels of income, business trends, prospects and market conditions, to determine the fair value of the respected assets. If these estimates or their related assumptions change in the future, we may be required to record impairment
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charges for these assets not previously recorded. Any resulting impairment loss would be recorded as a charge against our earnings and could have a material adverse impact of our financial condition and results of operations.
We accounted for income taxes on our consolidated financial statements on a stand-alone basis as if we had filed our own income tax returns. However, the pre-merger IVAX Diagnostics reported its income taxes until the merger with b2bstores.com as part of a consolidated group. Therefore, all domestic net operating losses generated prior to the merger were utilized by IVAX. Since the merger, we have experienced domestic losses from operations. Accounting principles generally accepted in the United States require that we record a valuation allowance against the deferred tax asset associated with these losses if it is “more likely than not” that we will not be able to utilize the net operating loss to offset future taxes. Due to the losses from the operations of our domestic operations since the merger, we have provided full valuation reserves against domestic deferred tax assets and currently provide for only foreign income taxes. Over time we may reach levels of profitability that could cause our management to conclude that it is more likely than not that we will realize all or a portion of the net operating loss carryforward. Upon reaching such a conclusion, and upon such time as we reversed the entire valuation against the deferred tax asset, we would then provide for income taxes at a rate equal to our combined federal and state effective rates. Conversely, we have recorded deferred tax assets as a result of losses generated in Italy due to the belief that over time we will return to previous levels of profitability that will permit the deferred asset to be realized. These subsequent revisions to the estimated net realizable value of the deferred tax asset could cause our provision for income taxes to vary significantly from period to period.
The critical accounting policies discussed are not intended to be a comprehensive list of all of our accounting policies. In many cases, the accounting treatment of a particular transaction is specifically dictated by accounting principles generally accepted in the United States, with no need for management’s judgment in their application. There are also areas in which management’s judgment in selecting any available alternative would not produce a materially different result.
RECENTLY ISSUED ACCOUNTING STANDARDS
Financial Accounting Standards Board (“FASB”) Interpretation No. 46,Consolidation of Variable Interest Entities,an interpretation of Accounting Research Bulletin No. 51, Consolidated Financial Statements, addresses consolidation by business enterprises of variable interest entities. It is effective immediately for variable interest entities created or obtained after January 31, 2003. It applies in the first fiscal year or interim period beginning after June 15, 2003, to variable interest entities acquired before February 1, 2003. If it is reasonably possible that an entity will consolidate or disclose information about the variable interest entity, disclosure is required for all financial statements initially issued after January 31, 2003. Based upon our preliminary review, we have neither created nor obtained variable interest entities. Accordingly, the impact of adoption of this interpretation is not expected to be material.
Statement of Financial Accounting Standards (“SFAS”) No. 149,Amendment of Statement 133 on Derivative Instruments and Hedging Activities, amends and clarifies accounting for derivative instruments under SFAS No. 133. It is effective for contracts entered into after June 30, 2003. The impact of adoption of this statement is not expected to be significant.
SFAS No. 150,Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity, establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liability and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). This statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. The impact of adoption of this statement is not expected to be significant.
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CURRENCY FLUCTUATIONS
For the six months ended June 30, 2003 and 2002, approximately 34.1% and 43.2%, respectively, of our net revenues were generated in currencies other than the United States dollar. Fluctuations in the value of foreign currencies relative to the United States dollar affect our reported results of operations. If the United States dollar weakens relative to the foreign currency, then our earnings generated in the foreign currency will, in effect, increase when converted into United States dollars and vice versa. Exchange rate differences resulting from the strength of the United States dollar against the Euro resulted in increases of approximately $564,000 in net revenues for the six months ended June 30, 2003 and $298,000 for the three months ended June 30, 2003 compared to the same periods of the prior year. During the six months ended June 30, 2003 and 2002, none of our subsidiaries were domiciled in highly inflationary environments. The effects of inflation on consolidated net revenues and operating income were not significant.
For the six months ended June 30, 2003, Delta Biologicals, S.r.l., our subsidiary in Italy, represented 34.1% of our net revenues. Conducting an international business inherently involves a number of difficulties, risks, and uncertainties, such as export and trade restrictions, inconsistent and changing regulatory requirements, tariffs and other trade barriers, cultural issues, longer payment cycles, problems in collecting accounts receivable, political instability, local economic downturns, seasonal reductions in business activity in Europe during the traditional summer vacation months, and potentially adverse tax consequences.
INCOME TAXES
We recognized tax provision (benefit) of $23,000 and $(8,000) for the three months ended June 30, 2003 and 2002, respectively, and $36,000 and $25,000 for the six months ended June 30, 2003 and 2002, respectively, which related to foreign operations. Through March 14, 2001, we reported our domestic income taxes as part of a consolidated group with IVAX. All domestic taxable losses generated prior to that date were utilized by IVAX. Effective March 14, 2001, as a result of the merger between b2bstores.com and the pre-merger IVAX Diagnostics, we are no longer included in the consolidated income tax returns of IVAX.
For financial statement purposes, we accounted for income taxes on a stand-alone basis as though we had filed our own income tax returns. Our income tax provisions for the six months ended June 30, 2003 and 2002 were different from the amount computed on the loss before provision for income taxes at the United States federal statutory rate of 35% primarily due to the non-recognition of the benefits of domestic taxable losses which include the previously discussed non-deductible stock option compensation expense.
As of June 30, 2003, we had no net domestic deferred tax asset, as domestic net operating losses generated prior to the merger were utilized by IVAX and a full valuation allowance has been established against domestic deferred tax assets generated subsequent to March 14, 2001. The foreign net deferred tax asset was $1,015,000 at June 30, 2003, of which $809,000 is included in other current assets and $206,000 is included in other assets in the accompanying consolidated balance sheet. Realization of the net deferred tax asset is dependent upon generating sufficient future foreign taxable income. Although realization is not assured, over time we believe we will reach levels of profitability which will permit the net deferred tax asset to be realized.
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RISK OF PRODUCT LIABILITY CLAIMS
Developing, manufacturing and marketing diagnostic test kits, reagents and instruments subject us to the risk of product liability claims. We believe that we continue to maintain an adequate amount of product liability insurance, but there can be no assurance that our insurance will cover all existing and future claims. There can be no assurance that claims arising under any pending or future product liability cases, whether or not covered by insurance, will not have a material adverse effect on our business, results of operations or financial condition. Our current products liability insurance is a “claims made” policy.
Item 3 – Quantitative and Qualitative Disclosures About Market Risk
Market risk represents the risk of loss that may impact the consolidated financial position, results of operations or cash flows of the Company. The Company, in the normal course of doing business, is exposed to the risks associated with foreign currency exchange rates and changes in interest rates.
Foreign Currency Exchange Rate Risk – The Company is exposed to exchange rate risk when its Italian subsidiary enters into transactions denominated in currencies other than its functional currency. For additional information about foreign currency exchange rate risk, see Currency Fluctuations in the Company’s Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Interest Rate Risk – The Company does not have debt obligations and its investments are current. The Company believes that its exposure to market risk relating to interest rate risk is not material.
Commodity Price Risk– The Company does not believe it is subject to any material risk associated with commodity prices.
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Item 4 – Controls and Procedures
As of the end of the period covered by this Quarterly Report on Form 10-Q, the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective in timely alerting them to material information relating to the Company required to be included in the Company’s periodic filings with the Securities and Exchange Commission. That conclusion, however, should be considered in light of the various limitations described below on the effectiveness of those controls and procedures, some of which pertain to most, if not all, business enterprises, and some of which arise as a result of the nature of the Company’s business. The Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, does not expect that the Company’s disclosure controls and procedures and internal control over financial reporting will prevent all error and all improper conduct. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Due to the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of improper conduct, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some person or persons, by collusion of two or more people or by management override of the control. Further, the design of any system of controls also is based in part upon assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions or the degree of compliance with the policies or procedures may deteriorate. Due to the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. No significant changes were made in our internal control over financial reporting or in other factors that could significantly affect those controls subsequent to the date of the Company’s Chief Executive Officer’s and Chief Financial Officer’s evaluation.
Exhibits 31.1 and 31.2 to this Quarterly Report on Form 10-Q are Certifications of the Chief Executive Officer and Chief Financial Officer of the Company which are required under Section 302 of the Sarbanes-Oxley Act of 2002. This Item 4, Controls and Procedures, is the information concerning the evaluation referred to in the Section 302 Certifications and this information should be read in conjunction with the Section 302 Certifications for a more complete understanding of the topics presented.
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On March 2, 2001, b2bstores.com received notice that a shareholder of b2bstores.com filed a lawsuit against b2bstores.com and two of its directors. The lawsuit alleges that b2bstores.com violated certain aspects of Section 14(a) of the Securities Exchange Act of 1934, as amended, and that two former director/officers breached their fiduciary duties in connection with the merger between b2bstores.com and the pre-merger IVAX Diagnostics. The suit seeks damages, including punitive damages against the two former directors/officers. The directors and officers of the Company deny the allegations and intend to vigorously defend such claims, but the ultimate outcome of any such legal proceeding cannot be predicted and the Company’s ultimate liability cannot be presently determined.
On February 19, 2003, the Company filed a Complaint in Arbitration with the International Center for Dispute Resolution at the American Arbitration Association against Phoenix Bio-Tech Corporation, or Phoenix, for breach of contract, specific performance and injunctive relief arising out of Phoenix’s alleged failure to honor its obligations under an exclusive marketing agreement, which the Company had assumed in its transaction with Sigma Diagnostics. Phoenix purports to have terminated the exclusive marketing agreement. Under the Complaint in Arbitration, the Company is seeking (a) damages from Phoenix for Phoenix’s breach of the exclusive marketing agreement, (b) temporary and permanent injunctive relief requiring Phoenix to not breach the exclusive marketing agreement, (c) specific performance requiring Phoenix to perform its obligations under the exclusive marketing agreement, and (d) payment by Phoenix of the Company’s attorneys’ fees and costs incurred in bringing this action. On March 7, 2003, the Company received notice that Phoenix filed an Answering Statement to Complaint in Arbitration and a Counterclaim against the Company. Under the Answer and Counterclaim, Phoenix is seeking (y) damages from the Company currently estimated by Phoenix to be approximately $225,000 for the Company’s alleged breach of the exclusive marketing agreement and (z) a determination of whether the exclusive marketing agreement (i) is unenforceable as a result of misrepresentations, (ii) has been breached by the Company, and (iii) has been properly terminated by Phoenix. The Company’s management denies the allegations in the Answer and Counterclaim and intends to vigorously defend such claims, but the ultimate outcome of any such arbitral proceeding cannot be determined and the Company’s ultimate liability cannot presently be determined. If the Company is not successful on the claims in its Complaint in Arbitration or if the Company is not successful in its defense of the claims in the Answer and Counterclaim, then the Company’s business, operating results and financial condition could be materially adversely affected.
The Company is involved in various legal claims and actions and regulatory matters, and other notices and demand proceedings arising in the ordinary course of business. While it is not feasible to predict or determine the outcome of these proceedings, in the opinion of management, based on a review with legal counsel, any losses resulting from such legal proceedings would not have a material adverse impact on the financial position, results of operations or cash flows of the Company.
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Item 4 – Submission of Matters to a Vote of Security Holders
The Company’s annual meeting of stockholders was held on July 17, 2003. The stockholders voted to re-elect all three nominees for directors of the Company’s Board of Directors. The persons elected to the Company’s Board of Directors and the number of votes cast for and withheld for each nominee for director were as follows:
Director | Term of Office | For | Withheld | |||
| Glenn L. Halpryn | 2004 | 27,024,046 | 16,131 | |||
| Giorgio D’Urso | 2006 | 26,983,128 | 57,049 | |||
| Jose J. Valdes-Fauli | 2006 | 27,024,046 | 16,131 |
Item 6 – Exhibits and Reports on Form 8-K
(a) | Exhibits | |
Exhibit Number | Description | |
| 31.1 | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
| 31.2 | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
| 32.1 | Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | |
| 32.2 | Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | |
| (b) | Reports on Form 8-K | |
On May 15, 2003, the Company filed a Current Report on Form 8-K in which the Company furnished under Item 12 of Form 8-K the Company’s earnings release for the first quarter of 2003.
23
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.
| IVAX Diagnostics, Inc. | ||
By: | /s/ Mark Deutsch | |
Mark Deutsch, Vice President-Finance and Chief Financial Officer | ||
Date: August 14, 2003
24
EXHIBIT INDEX
Exhibit Number | Description | |
| 31.1 | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2003. | |
| 31.2 | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2003. | |
| 32.1 | Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2003. | |
| 32.2 | Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2003. | |
