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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
x | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Fiscal Year Ended May 31, 2005
¨ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For The Transition Period From To .
COMMISSION FILE NUMBER 0-17988
NEOGEN CORPORATION
(Exact name of registrant as specified in its charter)
MICHIGAN | 38-2367843 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) |
620 Lesher Place
Lansing, Michigan 48912
(Address of principal executive offices including zip code)
517-372-9200
(Registrant’s telephone number, including area code)
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, $0.16 par value per share
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes x No ¨
Based on the closing sale price on November 30, 2004, the aggregate market value of the voting stock held by non- affiliates of the registrant was $150,000,000. For these purposes, the registrant considers its Directors and executive officers to be its only affiliates.
The number of shares outstanding of the registrant’s Common Stock was 8,162,000 on July 31, 2005.
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DOCUMENTS INCORPORATED BY REFERENCE
The Registrant’s definitive proxy statement to be prepared pursuant to regulation 14a and filed in connection with solicitation of proxies for its October 13, 2005 annual meeting of shareholders is incorporated by reference into part III of this Form 10-K.
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CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
Forward-looking statements, within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, are made throughout this Annual Report on Form 10-K, including statements relating to management’s expectations regarding new product introductions; the adequacy of the Company’s sources for certain components, raw materials and finished products; and the Company’s ability to utilize certain inventory. For this purpose, any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the foregoing, the words “believes,” “anticipates,” “plans,” “expects,” “seeks,” “estimates,” and similar expressions are intended to identify forward-looking statements. There are a number of important factors that could cause Neogen Corporation’s results to differ materially from those indicated by such forward-looking statements, including those detailed under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies and Estimates” and “- Future Operating Results.”
In addition, any forward-looking statements represent management’s views only as of the day this Annual Report on Form 10-K was first filed with the Securities and Exchange Commission and should not be relied upon as representing management’s views as of any subsequent date. While management may elect to update forward-looking statements at some point in the future, it specifically disclaims any obligation to do so, even if its views change.
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Neogen Corporation and subsidiaries (Neogen or the Company) develop, manufacture, and market a diverse line of products dedicated to food and animal safety. The Company’s food safety segment consists primarily of diagnostic test kits and complementary products (e.g., dehydrated culture media) marketed by company sales personnel in the United States, Canada, the United Kingdom and parts of Europe and by distributors elsewhere to food producers and processors to detect dangerous and/or unintended substances in human food and animal feed, such as foodborne pathogens, natural toxins, food allergens, genetic modifications, ruminant by-products, drug residues, pesticide residues and general sanitation concerns. The diagnostic test kits are generally less expensive, easier to use and provide greater accuracy and speed than conventional diagnostic methods. The majority of the tests are disposable, single-use, immunoassay and gene probe products that rely on the Company’s proprietary antibodies and RNA and DNA probes to produce rapid and accurate test results. The Company’s expanding line of food safety products also includes bioluminescence-based diagnostic technology.
Neogen’s animal safety segment is engaged in the development, manufacture and marketing of pharmaceuticals, rodenticides, disinfectants, vaccines, veterinary instruments, topicals and diagnostic products for the worldwide animal safety market. The majority of these consumable products are marketed through a network of national and international distributors, as well as a number of large farm supply retail chains in the United States and Canada. The Company’s USDA-licensed facility in Tampa, Fla., produces immunostimulant products for horses and dogs, and its unique equine botulism vaccine. The Company’s line of drug detection products are sold worldwide for the detection of abused and therapeutic drugs in animals and animal products.
Management’s vision is for Neogen to become a world leader in development and marketing of products dedicated to food and animal safety. To meet this vision, a growth strategy consisting of the following elements has been developed: (i) increasing sales of existing products; (ii) introducing new products and product lines; (iii) expanding international sales; and (iv) acquiring businesses and forming strategic alliances. While the elements of the strategy are stated in order of importance over the long term, management understands and believes that strategic acquisitions will provide the best opportunity for more rapid growth in the short term. For that reason, an active acquisition program is maintained and financial and other resources are maintained to capitalize on opportunities as they arise.
Neogen Corporation was formed as a Michigan corporation in June 1981 and actual operations began in 1982. The Company’s principal executive offices are located at 620 Lesher Place, Lansing, Michigan 48912-1595 and its telephone number is (517) 372-9200.
Neogen’s Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to those reports are available free of charge via our Internet website (www.neogen.com) as soon as reasonably practicable after such information is filed with, or furnished to, the United States Securities and Exchange Commission.
Trademarks and registered trademarks Neogen markets its products under include:Corporate: Neogen®, Neogen flask®;Food Safety: AccuScan™, AccuPoint®, Acumedia® and logo®, Agri-Scan®, Agri-Screen®, Agri-Screen Ticket®, Alert®, GeneQuence™, Gene-Trak®, ISO-GRID™, Reveal®, Revive ®, Veratox®;Animal Safety: AluShield™, AmVet®, BottomHoof™, BotVax®, Calf Eze™, D3 Needles™, DC&R®, Dr. Frank’s®, ElectroJac®, ELISA Technologies®, EqStim®, EquiMax™, Fura-Zone®, Gnat-Away™, GNatural™, Gold Nugget® and logo®, Gold Wrap™,Havoc®, Ideal®, ImmunoRegulin®, ImmunoVet®, Injecto-Stik™, Insight®, Iso-Prine™, K-Blue®, K-Gold®, MegaShot™, Mini-Shot®, MycAseptic®, NFZ™, NeedleGard®, Paddock & Pasture®, PanaKare™, Poridon®, Pro-Pistol™, Pro-Shot™, Prozap®, Pyril-Pam®, Ramik®, RenaKare™, Shine N’ Glo™, Spec-Tuss™, Squire®, Stam-N-Aid™, Stress-Dex®, TCA Paint™, ThrushCrusher™, TopHoof™, Tri-Hist®, Tri-Seal™, Triple Block™, Triple Cast™, Triple Crown™ and Logo®, Triple Heat™, Tri-Soxsuprine™, UriKare™, UriCon™, Vita-15™.
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PRODUCTS
Neogen operates in two primary business areas: products for the detection of pathogens, natural toxins and other unwanted substances in food and feed products, the Food Safety segment, and products dedicated to animal health, the Animal Safety segment. See Notes to Consolidated Financial Statements elsewhere in this form 10-K for financial information about the Company’s business segments and international operations.
FOOD SAFETY SEGMENT
The products of Neogen’s food safety segment consist primarily of diagnostic test kits and complementary products marketed to food and feed producers and processors to detect dangerous and/or unintended substances in food and animal feed, such as foodborne pathogens, natural toxins, food allergens, genetic modifications, ruminant by-products, drug residues, pesticide residues and general sanitation concerns.
Most of the Neogen’s food safety test kits use immunoassay technology to rapidly detect target substances. The Company’s ability to produce superior antibodies, the most sensitive and specific available, sets its products apart from immunoassay test kits produced and sold by other companies. The Company’s test kits are available in microwell formats, which allow for the rapid processing of a large number of samples and automated procedures, and lateral flow and other similar devices that provide distinct visual results. Each test kit uses antibody-coated test devices and chemical reagents to produce a color change to indicate a positive or negative result for the presence of a target substance in a test sample. The simplicity of the tests, similar in technology to home pregnancy tests, make them accessible to all levels of food producers, processors and handlers with minimal equipment and training.
Neogen’s test kits are used to detect potential hazards in food and animal feed by testers ranging from small local grain elevators to the largest, best-known food and feed processors in the world, and numerous regulatory agencies.
Meat and poultry processors, seafood processors, fruit and vegetable producers and many other market segments are the primary users of the Neogen’s Reveal® and Alert® tests for foodborne bacteria, includingE. coli O157:H7,Salmonella,Listeriaand Campylobacter. Grain producers and processors of all types and sizes use the Company’s Veratox®, Agri-Screen® and Reveal® tests for mycotoxins, including aflatoxin, deoxynivalenol, fumonisin, ochratoxin, zearalenone and T-2 toxin, to help ensure product safety and quality. The world’s largest producers of cookies, crackers, candy, ice cream, and many other foods, use the Company’s market-best Veratox®, Alert® and Reveal® testing products for food allergens to protect their food-allergenic customers from the inadvertent contamination of products with food allergens, such as peanut, milk, egg, almond, wheat and soy residues.
Neogen developed the first rapid immunoassay test kits to detect ruminant by-products in animal feed ingredients and finished feed. The Reveal® tests were designed to help prevent ruminants (cattle, sheep and goats) from being fed rendered materials containing ruminant by-products in an effort to prevent the spread of BSE (a.k.a., “mad cow” disease) from animal to animal. The Company’s specialty products for the seafood market include tests for histamine, a highly allergenic substance that occurs when certain species of fish begin to decay; chloramphenicol, a banned antibiotic in most of the world, but still used by some shrimp farmers to improve the yield of their product; and sulfites, an effective but potentially allergenic shrimp preservative.
Neogen also offers other test methods and products to complement its immunoassay tests. The Company’s line of Gene-Trak® and GeneQuence™ assays utilize DNA probe hybridization technology to create exceptionally sensitive and specific tests to detect foodborne bacteria. Instead of using antibodies as in an immunoassay to “capture” a target pathogen that may be present in a sample, this technology uses a portion of the target pathogen’s unique ribosomal RNA (rRNA) sequence to bind to complementary rRNA strands of the pathogen in a sample. The result is a test with the ease and speed of a rapid test method, but the specificity of a time-consuming conventional laboratory method (specificity is a test’s ability to distinguish between a target pathogen, and a closely-related but innocuous bacterium).
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Neogen’s Acumedia® subsidiary offers dehydrated culture media for varied purposes, including traditional bacterial testing, and growing beneficial bacteria, such as cultures for sausages and beer. The Company’s customers for dehydrated culture media also include commercial and research laboratories and producers of pharmaceuticals, cosmetics and veterinary vaccines.
Neogen manufactures and markets its AccuPoint™ rapid sanitation test for adenosine triphosphate (ATP), a chemical found in all living cells. This easy to use and relatively inexpensive test uses bioluminescence to quickly (in less than 10 seconds) determine if a food contact surface has been sanitized completely. When ATP comes into contact with the firefly reagent luciferin luciferase contained in the test device, a reaction takes place that produces light. The more light, the more present ATP and the greater the need for more thorough sanitation. The Company’s worldwide customer base for its ATP sanitation testing products includes food and beverage processors, the foodservice industry, as well as many other users.
Revenues from Neogen’s Food Safety Division accounted for 44.9%, 49.7%, and 55.5% of the Company’s total revenues for fiscal years ended May 31, 2005, 2004 and 2003, respectively.
ANIMAL SAFETY SEGMENT
Neogen’s animal safety segment is primarily engaged in the development, manufacture and marketing of pharmaceuticals, rodenticides, disinfectants, vaccines, veterinary instruments, topicals and diagnostic products to the worldwide animal safety market.
Neogen’s AmVet® product line provides innovative, value-added, high quality products to the veterinary market. Top AmVet products include PanaKare™, a digestive aid that serves as a replacement therapy where digestion of protein, carbohydrate and fat is inadequate due to exocrine pancreatic insufficiency; Natural Vitamin E-AD, which aids in the prevention and treatment of vitamin deficiencies in swine, cattle and sheep; and RenaKare™, a supplement for potassium deficiency in cats and dogs. The Company’s Triple Crown™ line has been synonymous with quality equine veterinary care since 1971. Products sold under the Triple Crown brand include Vita-15™ and Liver 7, which are used in the treatment and prevention of nutritional deficiencies in horses.
On November 21, 2003, Neogen acquired Hacco, Inc., a manufacturer of rodenticides, including the brands, Ramik®, Havoc® and Prozap®. On the same date, it also acquired Hess & Clark, Inc. Hess & Clark’s principal products are disinfectants, such as DC&R®, used in animal and food production facilities and proprietary anti- bacterials for animals.
Neogen’s in-house equine protozoal myeloencephalitis (EPM) testing service offers veterinarians accurate, timely results for early diagnosis of the disease that can devastate a horse’s central nervous system. In addition, the Company’s BotVax® B vaccine has successfully protected hundreds of thousands of horses and foals against type B botulism, commonly known as Shaker Foal Syndrome. The Company’s product is the only USDA-approved vaccine for the prevention of Type B botulism in horses.
Years of research and many thousands of doses have proven Neogen’s EqStim® immunostimulant to be safe and effective as a veterinarian-administered adjunct to conventional treatment of equine bacterial and viral respiratory infections. The Company’s ImmunoRegulin® product uses similar immunostimulant technology to aid in the treatment of pyoderma (a bacterial skin inflammation) in dogs.
Neogen markets a complete line of veterinary instruments and animal health delivery systems under the Ideal product brand name. Approximately 250 different products are offered, many of which are used to deliver animal health products, such as antibiotics and vaccines. Ideal’s D3 Needles™ are three times stronger than conventional veterinary needles, and are uniquely detectable by common meat processing facility metal detectors—a big market advantage in the safety-conscious beef and swine industries.
Animal safety products offered by Neogen to the retail over-the-counter market include many of the Ideal brand veterinary instruments and products sold under the Squire® and Gold Nugget® brands. Squire products
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include Stress-Dex®, the No. 1 oral electrolyte for performance horses for more than 30 years, and Fura-Zone, for the prevention and treatment of surface bacterial infections in wounds, burns and cutaneous ulcers. Gold Nugget OTC products include GNatural™ Spray, to protect horses from biting insects, and Poridon®, a pour-on insecticide for horses.
Neogen’s line of 80 drug detection immunoassay test kits are sold worldwide for the detection of approximately 200 abused and therapeutic drugs in racing animals, such as horses, greyhounds and camels, as well as for testing fair animals and drug residues in meat and meat products. The test kits are also used for human forensic toxicology drug screening applications. This line includes tests for narcotics, analgesics, stimulants, depressants, tranquilizers, anesthetics, steroids and diuretics.
Neogen also has several products used by researchers for the detection of biologically-active substances. These products include tests for cyclic nucleotides, hormones, leukotrienes, prostaglandins and steroids. Marketed under the trademarks of K-Blue and K-Gold, Neogen offers certain test kit components it uses in its own testing products to other diagnostic test kit manufacturers.
Revenues from Neogen’s Animal Safety Division accounted for 55.1%, 50.3%, and 44.5% of the Company’s total revenues for fiscal years ended May 31, 2005, 2004 and 2003 respectively.
GENERAL SALES AND MARKETING
Neogen’s domestic sales efforts are organized by market segments, rather than by products or geography. During the fiscal year that ended May 31, 2005, the Company had more than 5,000 customers for its products. Since many customers for animal safety products are distributors, and certain animal safety products are offered to the general retail market, the total number of end users of the Company’s products is considerably greater than 5,000. A total of 93 employees are assigned to sales and marketing functions within the Company. No single distributor or customer accounted for 10% or more of the Company’s revenues in any of the past three years.
FOOD SAFETY SALES AND MARKETING
To reach each customer and prospect with expertise and experience, Neogen has a staff of specialized food safety sales representatives assigned to specific markets. This staff sells Company products directly to end users, and also handles many technical support issues that arise with customers.
Neogen’s food safety markets are comprised of: feed and agriculture, including grain elevators, feed mills, pet food manufacturers, grain inspection companies and the USDA’s Grain Inspection, Packers and Stockyards Administration (GIPSA); meat and poultry, including meat and poultry processors, producers of ready-to-eat meat and poultry products, and the USDA’s Food Safety Inspection Service (FSIS); milling and grocery, including flour millers, malters, bakeries, candy and confection manufacturers, manufacturers of prepared meals, nuts, spices, cookies, crackers and other snack foods; fruits and vegetables, including growers and processors of juice and packaged fresh cut grocery items; seafood, including harvesters and processors of a wide variety of seafood products; dairy and beverage, including milk processors and soft drink bottlers; and Acumedia dehydrated culture media, including commercial and research laboratories and producers of pharmaceuticals, cosmetics and veterinary vaccines.
ANIMAL SAFETY SALES AND MARKETING
Neogen markets a broad range of pharmaceuticals, vitamin injectibles, wound care products, topicals, instruments, testing services and a vaccine to the veterinary market. The product range is focused on the food (cattle and pigs) and companion (horses, dogs, and cats) animal markets. Neogen’s sales group works directly with key horse veterinarians, clinics and universities while supporting the efforts of over 500 domestic distributor sales representatives calling on 35,000 plus veterinarians. Neogen supports its veterinary distribution channel through product training, field support, promotions and technical service.
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The over-the-counter (OTC) animal health market is larger than the veterinary market and offers significant growth opportunities for Neogen and its products. Neogen again offers a broad range of animal health products including well recognized brands of rodenticides, disinfectants, instruments, electrolytes and horse care products. To reach the OTC market, Neogen’s sales team works with a large network of animal health distributors including marketing groups, like Durvet, Universal Cooperative and AgriLabs, traditional two-step distributors, catalogers and large retail chains. Some of the retail chains include Tractor Supply Company (TSCO:Nasdaq), PETsMART (PETM:Nasdaq) and Orscheln’s Farm & Home. Support includes product training, field support, planogram solutions, promotions and advertising.
INTERNATIONAL SALES AND MARKETING
FOOD SAFETY:
Internationally, Neogen uses its own sales managers to work closely with and coordinate the efforts of a network of more than 100 distributors in 65 countries. The distributors provide local training and technical support, perform market research, and promote Company products around the world.
Neogen’s March 2003 acquisition of Adgen Ltd., (now Neogen Europe, Ltd.), provides the Company better access to the European Union, and allows it to better serve its network of customers and distributors throughout the EU. Customers in United Kingdom, France and Germany are served by Company employees. Other European region customers are serviced by distributors managed by Neogen Europe personnel. Prior to the acquisition, Adgen was a major distributor of Neogen products in Europe, and a producer and marketer of its own agricultural diagnostic testing products. Adding Adgen’s experienced research and development team continues to be a strong asset in the development of products tailored to meet unique requirements of the European market.
Since 2002, Neogen has continued to maintain a presence in Shanghai, China, to better serve the expanding food safety market, as well as more closely manage its Chinese animal safety manufacturing. Neogen intends to use local distributors to introduce the Company’s products in the Chinese market.
ANIMAL SAFETY:
The Animal Safety’s international sales group has established a strong presence in several key markets with rodenticides, disinfectants, instruments and veterinary products. Primary utilizing in-country distributors and US-based exporters, these markets include Mexico, Canada, Australia, EU, South America, and the Caribbean. Diagnostic products are sold around the world through an extensive distributor network.
GENERAL:
Revenues from Neogen’s international sales accounted for 27.1%, 24.8%, and 20.2% of the Company’s total revenues for fiscal years ended May 31, 2005, 2004 and 2003, respectively.
Risks associated with foreign operations include the need for additional regulatory approvals, possible disruptions of product delivery, the differing product needs of foreign customers, difficulties in building and managing foreign operations, fluctuations in the value of foreign currencies, import/export duties and quotas, and unexpected regulatory, economic or political changes in foreign markets. The level of foreign activities does not currently require hedging to reduce the effect of currency fluctuations.
RESEARCH AND DEVELOPMENT
Management maintains a strong commitment to Neogen’s research and development activities. The Company’s product development efforts are focused on the enhancement of existing product lines and in development of new products that fit its business strategy. The Company employs 24 individuals in its research and development department, including immunologists, chemists, engineers and microbiologists. Research and development expenditures were approximately $2.7 million, $2.9 million and $2.9 million, representing 4%, 5% and 6%, of total revenues in fiscal 2005, 2004 and 2003, respectively. Management currently intends to maintain the Company’s research and development expenditures at approximately 5% to 6% of total revenues.
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Neogen has ongoing development projects for new immunoassay diagnostic tests for the food safety, animal safety and pharmacologics markets, as well as engineering projects for new and improved veterinary instruments. Management expects that these products will be available for marketing in fiscal years 2006 to 2008.
Portions of certain technologies utilized in some products marketed by Neogen were acquired from or developed in collaboration with affiliated partnerships, independent scientists, governmental units, universities and other third parties. The Company has entered into agreements with these parties that provide for the payment of royalties based upon sales of products that utilize the pertinent technology. For fiscal 2005, 2004 and 2003, royalty expense under these agreements amounted to $742,000, $900,000 and $1,524,000, respectively.
PROPRIETARY PROTECTION AND APPROVALS
Patents and trademarks are applied for whenever appropriate. Since its inception, Neogen has acquired and received more than 50 patents and trademarks, and has several pending patents and trademarks. The patents expire at various times over the next 20 years.
Management believes that Neogen has adequate protection as to proprietary rights for its products. However, it is aware that substantial research has taken place at universities, governmental agencies and other companies throughout the world and that numerous patent applications have been filed and that numerous patents have been issued. To the extent some of the Company’s products may now, or in the future, embody technologies protected by patents, copyrights or trade secrets of others, licenses to use such technologies may need to be obtained in order to continue to sell the products. These licenses may not be available on commercially reasonable terms. Failure to obtain any such licenses may delay or prevent the sale of certain new or existing products. In addition, patent litigation is not uncommon. Accordingly, there can be no assurance that the Company’s existing patents will be sufficient to completely protect its proprietary rights.
Neogen uses trade secrets as proprietary protection in numerous of its food and animal safety products. In many cases, the Company has developed unique antibodies capable of detecting microorganisms and residues at minute levels. The supply of these antibodies, and the proprietary techniques utilized for their development, may offer better protection than the filing of patents. Such proprietary reagents are maintained in secure facilities and stored in more than one location to reduce exposure to complete destruction by natural disaster or other means.
One of the major areas affecting the success of biotechnology development involves the time, costs and uncertainty surrounding regulatory approvals. Currently, Neogen products requiring regulatory approval include BotVax B, EqStim and ImmunoRegulin. The Company’s general strategy is to select technical and proprietary products that do not require mandatory approval to be marketed. In China nine of the Company’s immunoassay based test kits are listed in the GB, or National Standard. Listings of these products are expected assist to generate future sales into Government and other laboratories in China.
Neogen utilizes third party validations on many of its disposable test kits as a marketing tool to provide its customers with the proper assurances. These include validation by the Association of Official Analytical Chemists, independently administered third-party, multi-laboratory collaborative studies and approvals by the U.S. Federal Grain Inspection Service and the U.S. Food Safety Inspection Service for the use of Company products in their operations.
PRODUCTION AND SUPPLY
Neogen manufactures its products in Lansing, Michigan; Lexington, Kentucky; Randolph, Wisconsin; Tampa, Florida; and Ayr, Scotland. There are currently approximately 180 full-time employees assigned to
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manufacturing in these six locations. Most locations operate on a one-shift basis, but could be increased to a two-shift basis. Management believes it could increase the current output of its primary product lines by more than 50% using the current space available with a minimum of additional capital equipment.
Manufacturing of diagnostic tests for detection of natural toxins, pathogens, food allergen and pesticides, final kit assembly, quality assurance and shipping takes place from the Company’s facility in Lansing. Proprietary monoclonal and polyclonal antibodies for the Neogen’s diagnostic kits are produced on a regular schedule in the Company’s immunology laboratories. Other reagents are similarly prepared by the chemistry group.
Assembly and shipment of electronic readers and disposable one use samplers takes place in the Company’s facility in Lansing.
Dehydrated culture media products are manufactured in a FDA monitored facility in Lansing. Products are blended following strict formulations or custom blended to customer specification and shipped directly to customers from Lansing.
Manufacture of pharmacological diagnostic test kits, test kits for drug residues and of animal health products takes place from the Company’s facility in Lexington. In general, manufacturing operations including reagent manufacturing, quality assurance, final kit assembly and packaging are performed by Neogen personnel. Certain animal health products that are purchased finished or that are toll manufactured by third party vendors and veterinary instruments are warehoused and shipped from the Company’s Lexington, facility. Other veterinary instruments are produced in the Company’s facilities in Lansing, and are generally then shipped to Lexington, for distribution to customers.
Manufacture of rodenticides and disinfectants takes place in Randolph. Manufacturing consists of blending technical material (active ingredient) with bait consisting principally of various grains.
The Tampa, facility is an USDA-approved manufacturing plant devoted to the production of the biologic products EqStim® and ImmunoRegulin®.P.acnes seed cultures are added to media and then subjected to several stages of further processing resulting in a product that is filled and packaged within the Tampa facility. The Company’s BoxVax B vaccine is also produced in the Tampa, facility, utilizing Type B botulism seed cultures and a traditional fermentation process. All completed product is then shipped to Neogen’s Lexington, facilities for inventory and distribution to customers.
Neogen purchases component parts and raw materials from more than 200 suppliers. Though many of these supplies are purchased from a single source in order to achieve the greatest volume discounts, the Company believes it has identified acceptable alternative suppliers for all of its components and raw materials.
Shipments of products are generally accomplished within a 48-hour turnaround time. As a result of this quick response time, Neogen’s backlog of unshipped orders at any given time is not significant.
COMPETITION
Although competitors vary in individual markets, management knows of no competitor that is pursuing the Neogen’s fundamental strategy of developing a full line of products, ranging from disposable tests and dehydrated culture media to veterinary pharmaceuticals and veterinary instruments for a large number of food safety and animal safety concerns. For each of its individual products, the Company faces intense competition from companies ranging from small businesses to divisions of large international companies. Some of these organizations have substantially greater financial resources than the Company. The Company competes primarily on the basis of ease of use, speed, accuracy, and other similar performance characteristics of its products. The breadth of the Company’s product line, the effectiveness of its sales and customer service organizations and pricing are also components in management’s competitive plan. Management is not aware of any factors within its product lines that place the Company in a negative competitive position relative to its competitors.
Future competition may become even more intense, including the development of changing technologies, which could affect the marketability of the Neogen’s products. The Company’s competitive position also will
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depend on management’s ability to develop proprietary products, attract and retain qualified scientific and other personnel, develop and implement production and marketing plans and obtain patent protection and adequate capital resources.
FOOD SAFETY
Neogen’s Food Safety Division has strong distribution of its products using Company employees domestically and from an active and aggressive distributor group outside of North America. With one of the largest professional sales organizations in the industry, management believes that it maintains a general competitive advantage as sales personnel are in a position to be with customers and prospects more frequently than those of its competitors. Additionally, as an agriculturally based company, Neogen has what is believed to be a unique insight into the food industry as opposed to its clinically based competition.
Competition for pathogen detection products includes traditional methods and antibody and genetic based platforms. Neogen’s product offerings compete across the entire spectrum of methods. Competition for natural toxins and allergen detection products include instrumentation and antibody based tests. Generally, the Company’s products fall within the non-instrument category. While for these and other food safety products the Company’s offerings will not always compete on all platforms in all markets, the products that are offered provide tests that can be well utilized by most customers to meet their testing needs.
Besides its strong product offerings and its superior distribution, the Company focuses its competitive advantage in the areas of customer service and speed and ease of use of its products. Additionally, by aggressively maintaining itself as a low cost producer, Neogen assures that it can be competitive with new market entrants that may choose a low pricing strategy in an attempt to gain market share.
ANIMAL SAFETY
Neogen’s Animal Safety Division faces no one competitor across the products and markets it serves. In the racing industry market, the Company holds the position of dominant market share, facing only one other significant company in the marketplace. In the Life Sciences market, the Company competes against a few other diagnostic and reagent companies but none with the same breadth of product offering.
In the veterinary market, Neogen markets BotVax B, the only USDA approved vaccine for the prevention of botulism Type B in horses. The Company competes on other key products through differentiated product performance and superior customer and technical support. With some of its products, the Company provides a generic drug solution as a lower cost alternative and offers a private label option for its distributors.
Competition in the rodenticide market includes several companies of comparable size that offer products into similar market segments. The rodenticide retail market is dominated by a single brand. While the technical materials used by the competing companies are similar, Neogen uses techniques to better draw rodents to the product and thereby improve the objectives of the product.
Neogen competes in the retail market by providing solutions to common retail problems – stock outs, wasted floor space, and inconsistent brand identity. The Company offers plan-o-grams and reordering systems to maximize turns and profitability for its customers.
GOVERNMENT REGULATION
A significant portion of the Neogen’s products and revenues are affected by the regulations of various domestic and foreign government agencies, including the U.S. Department of Agriculture and the U.S. Food and Drug Administration. Changes in these regulations could affect revenues and/or costs or production and distribution.
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Neogen’s development and manufacturing processes involve the use of certain hazardous material, chemicals and compounds. Management believes that the Company’s safety features for handling and disposing of such commodities comply with the standards prescribed by local, state and federal regulations. The Company’s cost to comply with these regulations is not significant and the Company has no reason to believe that any such future legislation or rules would be materially adverse to its business.
The Company’s rodenticide products generally require registration with U.S. governmental agencies at federal and state levels and with foreign governments.
EMPLOYEES
Currently, the Company employs 363 full-time persons. None of the employees are covered by collective bargaining agreements. There have been no work stoppages or slow downs due to labor-related problems. Management believes that its relationship with its employees is good. All employees having access to proprietary information have executed confidentiality agreements with the Company.
Neogen owns eight separate buildings located in Lansing, Michigan. A 26,000 square foot building located at 620 Lesher Place includes senior corporate administrative offices, food safety sales and marketing offices and research facilities. A 12,000 square foot building located at 600 Lesher Place is used for corporate accounting, human resources, and communications functions. Two adjacent buildings, located nearby at 703 and 720 Shiawassee, total 25,000 square feet and are used for manufacture and warehousing of food safety products. Remaining buildings in Lansing, principally a building at 301 N. Hosmer with a combined total of 49,000 square feet, are used for manufacturing and warehousing of dry culture media and veterinary instruments.
Animal Safety sales and marketing, diagnostic test kit manufacturing, warehousing and distribution of all other Animal Safety products takes place from an 82,000 square foot Company owned facility at 944 Nandino Drive in Lexington, Kentucky.
Animal Safety pharmaceutical, supplement and topical product manufacturing takes place in 16,000 square feet of leased space at 2040 Creative Drive in Lexington, Kentucky. The lease covering the space is a non-cancelable operating lease through December 31, 2007 currently requiring monthly payments of $6,100.
The Company leases 5,200 square feet at 5910 Breckenridge Center Parkway in Tampa, Florida where the manufacturing of three animal safety products takes place. This USDA-approved facility is subject to a non-cancelable lease through September 2009. The lease requires current monthly payments of $4,600.
Neogen Europe Ltd. operations take place in 12,948 square feet in the Cunningham Building at Auchincruive Ayrshire Scotland (on the campus of The Scottish Agricultural College at Ayr). The lease agreement on this property expires May 31, 2018, however, Neogen Europe may terminate the lease after 5 years or 10 years from inception with a payment of 6 months or 3 months rent, respectively. The current rental rate is £50,400 annually increasing to £63,000 in 2008 (all plus value added tax) as more space is acquired for European operations.
Rodenticide and disinfectant manufacturing and warehousing is conducted in 80,000 square feet of Company owned buildings at 110 Hopkins Drive in Randolph, Wisconsin. Additionally the Company leases 9,000 ft. of warehouse space in Cambria, Wisconsin for $1,500 per month. The lease expires October 31, 2007.
These properties are in good condition, well-maintained, and generally suitable and adequate to carry on the Company’s business.
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Neogen is subject to certain legal proceedings in the normal course of business that, in the opinion of management, will not have a material effect on its future results of operations or financial position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the fourth quarter of the fiscal year covered by this report.
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Neogen Common Stock is traded on the NASDAQ National Market under the symbol “NEOG”. The following table sets for, the fiscal periods indicated, the high and low sales prices for the Common Stock as reported on the NASDAQ National Market.
High | Low | |||||
Fiscal Year Ended May 31, 2005 | ||||||
First Quarter | $ | 20.00 | $ | 15.86 | ||
Second Quarter | 21.76 | 17.35 | ||||
Third Quarter | 23.00 | 17.00 | ||||
Fourth Quarter | 18.99 | 12.46 | ||||
Fiscal Year Ended May 31, 2004 | ||||||
First Quarter | $ | 15.52 | $ | 11.33 | ||
Second Quarter | 17.51 | 13.61 | ||||
Third Quarter | 23.52 | 17.01 | ||||
Fourth Quarter | 22.80 | 15.83 |
The stock prices in the above table reflect a stock dividend, having the effect of a 5-for-4 stock split, that was paid on December 31, 2003.
As of July 31, 2005, there were approximately 500 stockholders of record of Common Stock that management believes represents a total of approximately 6,000 beneficial holders. Neogen has never paid any cash dividends on its Common Stock and does not anticipate paying any cash dividends in the foreseeable future.
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ITEM 6. SELECTED FINANCIAL DATA
The following tables set forth selected consolidated financial data of Neogen for each of the five years ended May 31, 2005. The selected consolidated financial data presented below have been derived from the Company’s consolidated financial statements. These financial data should be read in conjunction with the consolidated financial statements, related notes and other financial information appearing elsewhere in this Form 10-K.
Years Ended May 31 | |||||||||||||||
2001 | 2002 | 2003 | 2004 | 2005 | |||||||||||
(In thousands, except share and per share data) | |||||||||||||||
Income Statement Data: | |||||||||||||||
Food Safety Sales | $ | 17,390 | $ | 20,970 | $ | 26,476 | $ | 27,567 | $ | 28,156 | |||||
Animal Safety Sales | 18,366 | 21,095 | 21,209 | 27,931 | 34,600 | ||||||||||
Net Sales | 35,756 | 42,065 | 47,685 | 55,498 | 62,756 | ||||||||||
Cost of Goods Sold | 17,157 | 20,196 | 21,763 | 27,989 | 32,153 | ||||||||||
Sales and Marketing | 8,457 | 9,939 | 12,077 | 12,052 | 13,484 | ||||||||||
General and Administrative | 4,039 | 4,178 | 4,146 | 5,022 | 5,621 | ||||||||||
Research and Development | 1,838 | 2,252 | 2,914 | 2,893 | 2,729 | ||||||||||
Operating Income | 4,265 | 5,500 | 6,785 | 7,542 | 8,769 | ||||||||||
Interest and Other Income | 605 | 460 | 488 | 132 | 147 | ||||||||||
Income Before IncomeTaxes | 4,870 | 5,960 | 7,273 | 7,674 | 8,916 | ||||||||||
Provision for Income Taxes | 1,700 | 2,015 | 2,486 | 2,575 | 3,000 | ||||||||||
Net Income | $ | 3,170 | $ | 3,945 | $ | 4,787 | $ | 5,099 | $ | 5,916 | |||||
Net Income per Share (basic) (1) | $ | .44 | $ | .53 | $ | .63 | $ | .64 | $ | .73 | |||||
Net Income per Share (diluted) (1) | $ | .43 | $ | .49 | $ | .60 | $ | .61 | $ | .70 | |||||
Common Shares Outstanding (diluted) (1) | 7,395 | 7,972 | 7,985 | 8,377 | 8,492 |
May 31 | |||||||||||||||
2001 | 2002 | 2003 | 2004 | 2005 | |||||||||||
(In thousands) | |||||||||||||||
Balance Sheet Data: | |||||||||||||||
Cash and Marketable Securities | $ | 7,182 | $ | 6,353 | $ | 8,897 | $ | 1,696 | $ | 1,972 | |||||
Working Capital | 18,244 | 19,285 | 22,208 | 20,619 | 22,644 | ||||||||||
Total Assets | 33,022 | 40,270 | 48,036 | 59,975 | 63,884 | ||||||||||
Long-Term Debt | 28 | — | — | 3,900 | — | ||||||||||
Stockholders’ Equity | 29,337 | 35,546 | 41,402 | 47,842 | 54,835 |
(1) | On December 31, 2003, the Company paid a 5-for-4 stock split effected in the form of a dividend of its common stock. All share and per share amounts have been adjusted for all periods to reflect the stock split as if it had taken place at the beginning of the period presented. |
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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The information in this Management’s Discussion and Analysis of Financial Condition and Results of Operations contains both historical financial information and forward-looking statements. Neogen Corporation management does not provide forecasts of future financial performance. While management is optimistic about the Company’s long-term prospects, historical financial information may not be indicative of future financial results.
Any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the foregoing, the words “believes,” “anticipates,” “plans,” “expects,” “seeks,” “estimates,” and similar expressions are intended to identify forward-looking statements. There are a number of important factors, including competition, recruitment and dependence on key employees, impact of weather on agriculture and food production, identification and integration of acquisitions, research and development risks, patent and trade secret protection, government regulation and other risks detailed from time to time in the Company’s reports on file at the Securities and Exchange Commission, that could cause Neogen Corporation’s results to differ materially from those indicated by such forward-looking statements, including those detailed in this “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
In addition, any forward-looking statements represent management’s views only as of the day this Report on Form 10-K was first filed with the Securities and Exchange Commission and should not be relied upon as representing management’s views as of any subsequent date. While management may elect to update forward-looking statements at some point in the future, it specifically disclaims any obligation to do so, even if its views change.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The discussion and analysis of the Company’s financial condition and results of operations are based on the consolidated financial statements that have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires that management 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 ongoing basis, management evaluates the estimates, including those related to receivable allowances, inventories and intangible assets. These estimates are based 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. Actual results may differ from these estimates under different, assumptions or conditions.
The following critical accounting policies reflect management’s more significant judgments and estimates used in the preparation of the consolidated financial statements.
Revenue Recognition
Revenue from sales of products is recognized at the time title of goods passes to the buyer and the buyer assumes the risks and rewards of ownership, which is generally at the time of shipment. Where right of return exists, allowances are made at the time of sale to reflect expected returns based on historical experience.
Accounts Receivable Allowance
Management attempts to minimize credit risk by reviewing customers’ credit history before extending credit and by monitoring credit exposure on a regular basis. An allowance for possible losses on accounts receivable is established based upon factors surrounding the credit risk of specific customers, historical trends and other information, such as changes in overall changes in customer credit and general credit conditions. Actual collections can differ from historical experience, and if economic or business conditions deteriorate significantly, adjustments to these reserves could be required.
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Inventory
A reserve for obsolescence is established based on an analysis of the inventory taking into account the current condition of the asset as well as other known facts and future plans. The amount of reserve required to record inventory at lower of cost or market may be adjusted as conditions change. Product obsolescence may be caused by shelf-life expiration, discontinuance of a product line, replacement products in the marketplace or other competitive situations.
Valuation of Intangible Assets and Goodwill
Management assesses goodwill and other non-amortizable intangible assets for possible impairment on no less often than an annual basis. This test was performed in the fourth quarter of fiscal 2005 and it was determined that no impairment exists. There was also no impairment indicated for 2004 or 2003. In the event of changes in circumstances that indicate the carrying value of these assets may not be recoverable, management will make an assessment at any time. Factors that could cause an impairment review to take place would include:
• | Significant underperformance relative to expected historical or projected future operating results. |
• | Significant changes in the use of acquired assets or strategy of the Company. |
• | Significant negative industry or economic trends. |
When management determines that the carrying value of intangible assets may not be recoverable based on the existence of one or more of the above indicators of impairment, the carrying value is compared to a value determined based on projected discounted cash flows using a discount rate commensurate with the risk inherent in the Company’s current business model. Any impairment identified in this computation is given current recognition in any unissued financial statements. Changes to the discount rate used in the analysis or discounted cash flows can have a significant impact on the results of the impairment test.
RESULTS OF OPERATIONS
Executive Overview
On an overall basis, the 2005 fiscal year had a 13% increase in comparison with the fiscal year ended May 31, 2004 primarily as a result of revenue increases in the Animal Safety segment. A portion of the Animal Safety segment’s revenue increases came from the Company’s November 2003 acquisitions of Hacco, Inc. and Hess & Clark, Inc. that were reported as new components of this segment midway through the 2004 year. Additionally, Animal Safety segment revenue growth from continuing products increased 8% following a year in which the segment experienced little growth. Growth came as a result of economic improvements in certain markets and from implementation of the segment’s sales and marketing plans. Food Safety segment revenues increased 2% during the year. Sales of the Company’s products that are affected by weather were unchanged on an overall basis during the year as were sales of products for the detection of bacteria. Food Safety sales during the year were most affected by the change from an outside supplier for the Company’s ATP product to a more user friendly and stable internally produced product with improved margins. But for this change, overall Food Safety sales would have increased 5%. While consolidated revenues were up 13%, net income was up 16% principally as a result of changes in product mix on overall gross margins, the effect of reorganizations during the past two years, net of the cost thereof, the integration costs of the Hacco and Hess & Clark acquisitions, and strong control of other costs.
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REVENUES
Twelve Months Ended | |||||||||||||||
(dollars in thousands)
| May 31, 2005 | Increase (Decrease) | May 31, 2004 | Increase (Decrease) | May 31, 2003 | ||||||||||
Food Safety: | |||||||||||||||
Natural Toxins & Allergens | $ | 10,982 | 5 | % | $ | 10,502 | (7 | )% | $ | 11,252 | |||||
Bacterial & General Sanitation | 9,943 | (5 | )% | 10,457 | — | % | 10,417 | ||||||||
Dry Culture Media & Other | 7,231 | 9 | % | 6,608 | 37 | % | 4,807 | ||||||||
$ | 28,156 | 2 | % | $ | 27,567 | 4 | % | $ | 26,476 | ||||||
Animal Safety: | |||||||||||||||
Life Sciences & Other | $ | 4,331 | 9 | % | $ | 3,973 | 1 | % | $ | 3,924 | |||||
Vaccine | 1,543 | 20 | % | 1,287 | 10 | % | 1,166 | ||||||||
Rodenticides & Disinfectants | 8,815 | 116 | % | 4,076 | — | % | — | ||||||||
Veterinary Instruments & Other | 19,911 | 7 | % | 18,595 | 15 | % | 16,119 | ||||||||
$ | 34,600 | 24 | % | $ | 27,931 | 32 | % | $ | 21,209 | ||||||
Total Revenues | $ | 62,756 | 13 | % | $ | 55,498 | 16 | % | $ | 47,685 | |||||
Within the Food Safety Segment, natural toxin sales were up 5% in fiscal year 2005 in comparison with sales in 2004 and down 7% in fiscal year 2004 in comparison with 2003. A significant portion of the U.S. grain crop was contaminated with aflatoxin in 2002 and the Company’s products were widely used in the Company’s 2003 fiscal year in the identification of contaminated commodities. The 2003 and 2004 crops were largely uncontaminated. The Company continues to enjoy rapid market acceptance of its allergen products. The growth in allergen detection products is fueled by public and producer recognition of this food safety problem and pending food allergen labeling set to take effect January 1, 2006. Sales of diagnostic tests for monitoring bacterial pathogens and general sanitation products decreased by 5% in 2005 and were consistent in 2004 when compared with 2003. While many of the bacteria and general sanitation product line sales were consistent in each year, sales of general sanitation products to detect ATP were down 20% in the 2005 fiscal year in comparison with 2004, following the Company’s launch of a self-manufactured product to replace the general sanitation product that it had previously distributed. The goal of this change to internally produced products is to increase gross margins from these sales. This much-improved product is receiving excellent acceptance in the market with its sales in the later part of the year beginning to approach sales prior to the changes. Dry culture media and other sales increased by 9% in 2005 and by 37% in 2004. The Company continued to make sales gains in the international markets in 2005 by increasing sales by 26%. Other sales grew in 2004 primarily due to substantial orders of test kits from Brazil to detect soybeans that have been genetically modified to make them tolerant to herbicides. Brazil is a leading exporter of soybeans to the European market, which demands assurance that the commodity is GMO free. Sales of GMO detection products grew by 11% in 2005.
Within the Animal Safety Segment, sales of life science and other products increased by 9% in fiscal year 2005 in comparison with 2004 and by 1% in 2004 in comparison with the 2003 fiscal year as the Company’s sales initiatives were more successfully implemented in the 2005 year. Vaccine product sales increased by 20% in 2005 in comparison with 2004 and by 10% in fiscal 2004 in comparison with 2003, fueled by strong increases in sales in international markets. Sales of Neogen’s acquisitions in November of fiscal 2004 of Hacco rodenticides and Hess and Clark disinfectants continued to contribute to the 2005 sales increases and grew by 116% in 2005 with a full year of sales in comparison with a partial year in 2004. Partial year to year comparisons for Hacco are difficult because of the seasonality of the business, however, management believes its marketing efforts have had a positive impact on sales subsequent to the acquisition. Veterinary
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instruments and other sales increased in 2005 by 7% and by 15% in 2004. These 2005 increases were driven by a 33% increase in sales of veterinary instruments including a 17% increase of sales of those products through retail chain distribution. Other 2005 growth contributors in this category include certain of the Company’s wound care products that nearly doubled in the 2005 year and the Company’s unique D3 detectable needle. In 2004 the veterinary and other category rose as a result of a 28% increase in veterinary instrument sales, including significant retail chain store sales. Increases in Triple Crown and AmVet product sales of almost 12% in 2004 and an increase in D3 sales also contributed to the increase in the other category.
COST OF GOODS SOLD
(dollars in thousands)
| 2005 | Increase | 2004 | Increase | 2003 | ||||||||||
Cost of Goods Sold | $ | 32,153 | 15 | % | $ | 27,989 | 29 | % | $ | 21,763 | |||||
Cost of goods sold increased by 15% in 2005 and by 29% in 2004 in comparison with the prior year. This compares against a 13% increase in revenues in 2005 and a 16% increase in revenues in 2004. Expressed as a percentage of revenues, cost of goods sold was 51%, 50% and 46% in 2005, 2004, and 2003 respectively. Overall margins in 2005 and 2004 were affected negatively by costs related to plant closings in Chicago and Baltimore.
Food Safety gross margins were 57%, 57% and 61% in 2005, 2004 and 2003, respectively. Changes in margins between periods relate primarily to changes in product mix. With relatively higher levels of sales of diagnostic kits related to the aflatoxin outbreak in 2003, Food Safety margins were higher in that year than in either 2005 or 2004. Additionally, in 2004 and 2005, the Company incurred certain additional overhead costs related to the new diagnostic manufacturing facility and the new ATP product introduction that adversely affected gross margins. Additionally, margins in 2005 were adversely affected by the cost of moving the Company’s Acumedia unit and the start up costs of the new facility. Food Safety margins sequentially increased during the last nine months of the 2005 year as the effects of efficiencies resulting from investments in manufacturing facilities and the ATP product change began to be realized.
Animal Safety gross margins were 42%, 42% and 45% in 2005, 2004 and 2003, respectively. Changes in margins between periods relate primarily to product mix. In particular, margins on certain products are subject to fluctuations based on market conditions. In general the Company does not maintain any of the particular products that are subject to price fluctuations in inventory. Margins in the 2004 year were adversely affected by costs related to the closing and move of the Company’s Ideal unit.
OPERATING EXPENSES
(dollars in thousands)
| 2005 | Increase (Decrease) | 2004 | Increase (Decrease) | 2003 | ||||||||||||
Operating Expenses: | |||||||||||||||||
Sales and Marketing | $ | 13,484 | 12 | % | $ | 12,052 | — | % | $ | 12,077 | |||||||
General and Administrative | 5,621 | 12 | % | 5,022 | 21 | % | 4,146 | ||||||||||
Research and Development | 2,729 | (6 | )% | 2,893 | (1 | )% | 2,914 |
Sales and marketing expense categories increased in 2005 by 12% and remained consistent in 2004 as compared with 2003. As a percentage of sales, sales and marketing expense decreased in 2005 to 21% from 22% in 2004 and from 25% in 2003. The reduction of sales and marketing expenses as a percentage of revenues resulted from strong cost containment measures and the addition of Hacco sales that require proportionally less sales and marketing support. Also, during 2004, a royalty agreement expired in which the Company was obligated to pay royalties to research corporation investors on natural toxin test kit sales. This royalty contributed 1% of the decrease in expenses. Management plans to continue to expand the Company’s sales and marketing efforts both domestically and internationally in the future and currently expects related expenses to remain between 20% and 25% expressed as a percentage of sales.
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General and administrative expenses increased by 12% in 2005 and by 21% in 2004 from the same period in 2003. Significant increases in 2005 and 2004 resulted primarily from the acquisition of Hacco in November 2003 and Adgen in February of the prior year as well as due to increased levels of operations of the Company. As a percentage of revenue, general and administrative expenses remained at 9% in all three years. These expenses tend to remain more fixed as compared to many other Company expenses.
Research and development expenses decreased by 6% in 2005 in comparison with 2004 and by 1% in 2004 in comparison with 2003. As a percentage of revenue these expenses were 4%, 5% and 6% in the years ended May 31, 2005, 2004 and 2003 respectively. Although some fluctuation in research and development expenses will occur, management expects research and development expenses to approximate 5% to 6% of revenues over time. These expenses approximate 8% to 10% of revenues from products and product lines that are supported by research and development. Other Company products require relatively less in research and development expenses.
OPERATING INCOME
(dollars in thousands)
| 2005 | Increase | 2004 | Increase | 2003 | ||||||||||
Operating Income | $ | 8,769 | 16 | % | $ | 7,542 | 11 | % | $ | 6,785 | |||||
During fiscal year 2005, 2004 and 2003, the Company’s operating income was 14% of revenues. The Company was successful in maintaining its operating income despite fluctuations in gross margins by aggressive controls of other expenses.
OTHER INCOME (EXPENSE)
(dollars in thousands)
| 2005 | Increase | 2004 | (Decrease) | 2003 | ||||||||||
Other Income— Interest and Other | $ | 147 | 11 | % | $ | 132 | (73 | )% | $ | 488 | |||||
Other income increased by 11% in 2005 in comparison with 2004 and decreased significantly in 2004 from 2003 principally as a result of decreased royalties from related limited partnerships that expired in fiscal 2004. The interest income component of other income decreased in 2004 principally as a result of the expenditures of the invested funds on acquisitions. Interest expense in 2004 and 2005 is related to draws on the Company’s credit facility, all of which has been paid at May 31, 2005. During 2005 the Company recognized grant income of $250,000 related to a grant from local governmental units.
FEDERAL AND STATE INCOME TAXES
(dollars in thousands)
| 2005 | Increase | 2004 | Increase | 2003 | ||||||||||
Federal and State Income Taxes | $ | 3,000 | 17 | % | $ | 2,575 | 4 | % | $ | 2,486 | |||||
Federal and state income tax rates used in the computation of income tax expense in the periods remained comparable to those in the prior year. Expressed as a percentage of income before tax, such rates were 33.6%, 33.6% and 34.2% in 2005, 2004 and 2003 respectively.
NET INCOME AND
NET INCOME PER SHARE
(dollars in thousands-except per share data)
| 2005 | Increase | 2004 | Increase | 2003 | ||||||||||
Net Income | $ | 5,916 | 16 | % | $ | 5,099 | 7 | % | $ | 4,787 | |||||
Net Income Per Share-Basic | $ | .73 | $ | .64 | $ | .63 | |||||||||
Net Income Per Share-Diluted | $ | .70 | $ | .61 | $ | .60 |
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Net income and net income per share in 2004 has been reduced by $300,000 or $.04 per share related to the closing of the Company’s Chicago area plant and the relocation of the operation to Lansing and Lexington and in 2005 was reduced by $220,000 or $ .03 per share related to the closing of the Company’s Acumedia production facility in Baltimore, Maryland and its transfer to a new facility in Lansing, Michigan.
FUTURE OPERATING RESULTS
Neogen Corporation’s future operating results involve a number of risks and uncertainties. Actual events or results may differ materially from those discussed in this report. Factors that could cause or contribute to such differences include, but are not limited to, the factors discussed below as well as those discussed elsewhere in this report. Management’s ability to grow the business in the future depends upon its ability to successfully implement various strategies, including:
• | developing, manufacturing and marketing new products with new features and capabilities; |
• | expanding the Company’s markets by fostering increased use of Company products by customers; |
• | strengthening sales and marketing activities in geographies outside of the U.S.; |
• | developing and implementing new technology development strategies; and |
• | identifying and completing acquisitions that enhance existing businesses or create new business areas. |
FINANCIAL CONDITION AND LIQUIDITY
On May 31, 2005, the Company had $1,972,000 in cash, working capital of $22,644,000 and stockholders’ equity of $54,835,000. In addition available bank lines of $15,000,000 were available to, if necessary, support ongoing operations or acquisitions.
Cash and marketable securities increased $276,000 during 2005. Cash provided from operations was $6,722,000, additions to property and equipment and other non-current assets used $2,688,000 and payments on the Company’s credit facility totaled $3,900,000.
Accounts receivable increased $545,000 or 5% when compared to May 31, 2004. This resulted from increased sales offset by a reduction in sales days outstanding. Days sales outstanding decreased from 58 days at May 31, 2004 to 56 days at May 31, 2005.
Inventory levels increased 11% or $1,422,000 in 2005 as compared to an increase in fourth quarter revenues of 5%. The Company maintains sufficient levels of inventory to assure that customer demands can be met on a timely basis.
Acquisitions of long-lived assets totaled $2,688,000 and resulted from purchases and renovations of new manufacturing facilities for Lansing’s Acumedia product line and other expenditures during the year.
Net goodwill and non-amortizable intangible assets increased by $1,383,000 in 2005 primarily as a result of the determination that a portion of customer-based intangible has an indefinite life, the intangible assets related to the acquisition of the distribution business of BAG in Germany, the acquisition of the UriCon product line and a secondary payment related to the purchase of Neogen Europe.
The Company renegotiated its bank line in 2004 and borrowed $4,800,000 to partially finance the purchase of Hacco, Inc. and Hess & Clark, Inc. and buildings in Lansing, Michigan and Lexington, Kentucky. During 2004 the Company repaid $900,000 of the borrowings and during 2005 repaid the remaining $3,900,000. At May 31, 2005, the Company had no material commitments for capital expenditures. Inflation and changing prices have not had and are not expected to have a material effect on the Company’s operations.
On July 1, 2005, the Company signed an agreement with UCB S.A. for the acquisition by the Company of UCB’s dairy antibiotic testing business. Cash consideration of $14,700,000 million will be due at closing that is expected late in the current calendar year. Payment of amounts necessary for closing are expected to come from available cash and drawings under the Company’s credit facility.
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CONTRACTUAL OBLIGATIONS
The Company has the following contractual obligations due by period:
(in thousands)
| Total | Less than one year | 1-3 years | 3-5 years | More than 5 years | ||||||||||
Long-Term Debt | $ | — | $ | — | $ | — | $ | — | $ | — | |||||
Operating Leases | 768,000 | 216,000 | 436,000 | 116,000 | — | ||||||||||
Unconditional Purchase Obligations | 6,500,000 | 6,500,000 | — | — | — | ||||||||||
Other Long-Term Obligations | 250,000 | — | — | 250,000 | — | ||||||||||
$ | 7,518,000 | $ | 6,716,000 | $ | 436,000 | $ | 366,000 | $ | — | ||||||
Neogen has been profitable from operations for its last 49 quarters and has generated positive cash flow from operations during the period. However, the Company’s current funds may not be sufficient to meet the Company’s cash requirements to commercialize products currently under development or its plans to acquire additional technology and products that fit within the Company’s mission statement. Accordingly, the Company may be required to issue equity securities or enter into other financing arrangements for a portion of the Company’s future capital needs.
The Company is subject to certain legal and other proceedings in the normal course of business that, in the opinion of management, will not have a material effect on its results of operations or financial position.
NEW ACCOUNTING PRONOUNCEMENTS
See discussion of any New Accounting Pronouncements in Note 1 to Consolidated Financial Statements.
ITEM 7(A). QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
The Company has minimal interest rate and foreign exchange rate risk exposure and no fixed rate investments or borrowings. The Company’s primary interest rate risk is due to potential fluctuations of interest rates for variable rate borrowings.
Generally, sales are dominated in U.S. dollars, however, because Neogen markets and sells its products throughout the world, it could be significantly affected by weak economic conditions in foreign markets that could reduce demand for its products.
Neogen has assets, liabilities and operations outside of the United States that are located primarily in Ayr, Scotland where the functional currency is the British Pound. The Company’s investment in its foreign subsidiary is considered long-term. Accordingly, the Company does not hedge its net investment or engage in other foreign currency hedging activities due to the insignificance of these balances to the Company as a whole.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA
The response to this item is submitted in a separate section of this report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
There were no disagreements or reportable events with Ernst &Young LLP.
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ITEM 9.A. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures - An evaluation of the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) as of May 31, 2005 was carried out under the supervision and with the participation of the Company’s management, including the President and Chief Executive Officer and the Vice President and Chief Financial Officer (“the Certifying Officers”). Based on that evaluation, the Certifying Officers concluded that the Company’s disclosure controls and procedures are effective to bring to the attention of the Company’s management the relevant information necessary to permit an assessment of the need to disclose material developments and risks pertaining to the Company’s business in its periodic filings with the Securities and Exchange Commission. There was no change to the Company’s internal control over financial reporting during the quarter ended May 31, 2005 that materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
Management’s Report on Internal Control Over Financial Reporting - The management of Neogen Corporation is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f). Neogen Corporation’s internal control system was designed to provide reasonable assurance to the Company’s management and Board of Directors regarding the preparation and fair presentation of published financial statements.
Neogen Corporation’s management assessed the effectiveness of the Company’s internal control over financial reporting as of May 31, 2005 under the supervision and with the participation of the Chief Executive Officer and the Chief Financial Officer. In making this assessment, it used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in Internal Control-Integrated Framework. Based on that assessment, management believes that, as of May 31, 2005 the Company’s internal control over financial reporting is effective.
Neogen Corporation’s independent registered public accounting firm, Ernst & Young LLP, has issued an attestation report on management’s assessment of the Company’s internal control over financial reporting. This report appears below.
Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting
The Board of Directors and Stockholders of Neogen Corporation
We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control over Financial Reporting, that Neogen Corporation maintained effective internal control over financial reporting as of May 31, 2005, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Neogen Corporation’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
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A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, management’s assessment that Neogen Corporation maintained effective internal control over financial reporting as of May 31, 2005, is fairly stated, in all material respects, based on the COSO criteria. Also, in our opinion, Neogen Corporation maintained, in all material respects, effective internal control over financial reporting as of May 31, 2005, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the 2005 consolidated financial statements of Neogen Corporation and our report dated August 9, 2005 expressed an unqualified opinion thereon.
/s/ Ernst & Young LLP
Grand Rapids, Michigan
August 9, 2005
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ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information regarding the Company and certain corporate governance matters appearing under the captions “Election of Directors”, “Audit Committee”, and “Miscellaneous-Section 16(a) Beneficial Ownership Reporting Compliance” in the 2005 proxy statement is included herein by reference.
The Company has adopted a Code of Conduct that applies to all of its directors, officers and employees. The Company has made a copy of this Code of Conduct available on its Website at http://www.neogen.com/pdf/Code_of_Conduct.pdf.
OFFICERS AND OTHER KEY INDIVIDUALS OF THE REGISTRANT
The officers of Neogen are elected by and serve at the discretion of the Board of Directors. The Board of Directors has also named a Scientific Review Council to serve at the pleasure of the Board. The Scientific Review Council meets several times annually to review the research progress of the Company and to recommend or approve new research and product development activities of the Company. The names and occupations of the Company’s officers are set forth below.
Name | Position with the Company | Year Joined the Company | ||
Lon M. Bohannon | Vice President & Chief Operating Officer, Director | 1985 | ||
Edward L. Bradley | Vice President, Food Safety Sales & Marketing | 1995 | ||
Richard R. Current | Vice President & Chief Financial Officer | 1999 | ||
James L. Herbert | President & Chief Executive Officer, Director | 1982 | ||
Kenneth V. Kodilla | Vice President, Manufacturing | 2003 | ||
Joseph M. Madden, Ph.D. | Vice President, Scientific Affairs | 1997 | ||
Anthony E. Maltese | Vice President, Corporate Development | 1999 | ||
Terri A. Morrical | Vice President, Animal Safety Sales & Marketing | 1992 | ||
Mark A. Mozola, Ph.D. | Vice President, Research & Development | 2001 | ||
Paul S. Satoh, Ph.D. | Vice President, Basic and Exploratory Research | 1998 |
There are no family relationships among officers. Information concerning the executive officers of Neogen follows:
Lon M. Bohannon, age 52, joined the Company in October 1985 as Vice President of Finance, was promoted to Chief Financial Officer in June 1987, was promoted to Vice President Administration and Chief Financial Officer in November 1994, was elected to the Board of Directors in October 1996, and was named Chief Operating Officer in September 1999. He is responsible for all Company operations except research, finance, and corporate development. A CPA, he was Administrative Controller for Federal Forge, Inc., a metal forging and stamping firm, from March 1980 until October 1985, and was associated with the public accounting firm of Ernst & Young LLP from June 1975 to March 1980.
Edward L. Bradley, age 45, joined Neogen in February 1995 as Vice President of Sales and Marketing for AMPCOR Diagnostics, Inc. In June 1996, he was made a Vice President of Neogen Corporation. Currently, Mr. Bradley is responsible for all sales and marketing activities focused on food safety products on a worldwide basis. From 1988 to 1995, Mr. Bradley served in several sales and marketing capacities for Mallinckrodt Animal Health, including the position of National Sales Manager responsible for 40 employees in its Food Animal Products Division. Prior to joining Mallinckrodt, he held several sales and marketing positions for Stauffer Chemical Company.
Richard R. Current, age 61, joined the Company in November 1999 as Vice President and Chief Financial Officer. Prior to joining Neogen, Mr. Current served as Executive Vice President and Chief Financial Officer of Integral Vision, Inc. from 1994 to 1999 and as Vice President and Chief Financial Officer of the Shane Group, Inc., a privately held company from 1991 to 1994. Mr. Current was associated with the public accounting firm of Ernst & Young LLP for 24 years and served as Managing Partner of the Lansing, Michigan office from 1986 to 1991.
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James L. Herbert, age 65, has been President, Chief Executive Officer, and a director of the Company since he joined Neogen in June, 1982. From 1999 to 2001 he was Chairman of the Company’s Board. He previously held the position of Corporate Vice President of DeKalb Ag Research, a major agricultural genetics and energy company. He has management experience in animal biologics, specialized chemical research, medical instruments, aquaculture, animal nutrition, and poultry and livestock breeding and production.
Kenneth V. Kodilla, age 48, joined the Company in November 2003 as Vice President of Manufacturing. He has responsibility for all manufacturing, inventory management, shipping and quality system operations for the Company’s Food Safety Division in Lansing, Michigan. Prior to Neogen, Mr. Kodilla served as plant manager for Facet Technologies in Atlanta, Georgia from 2001, as Manufacturing Manager for Becton Dickinson and Difco Laboratories from 1988, and as Quality Manager for Lee Laboratories from 1984. Mr. Kodilla’s manufacturing and regulatory experience includes FDA/ISO regulated Class II and III diagnostic reagents and devices, high volume automated assembly and packaging, materials management and plant operations.
Dr. Joseph M. Madden, age 56, joined Neogen in December 1997 as Vice President of Scientific Affairs after retiring from the Food and Drug Administration as its Microbiology Strategic Manager. He joined the FDA in 1978 and spent his first 10 years as a research microbiologist for the agency. Dr. Madden has served on numerous committees on food safety, including his current appointment to the National Advisory Committee on Microbiological Criteria for Foods. He is regarded by regulatory agencies and the food industry as being one of the nation’s top experts on both scientific and regulatory issues relating to food safety.
Anthony E. Maltese, age 61, joined Neogen on June 1, 1999 as Manager of Corporate Development. He was promoted to Vice President in October, 2000. Prior to joining Neogen, Mr. Maltese served as Vice President of Business Development for Creatogen Biosciences, GmbH of Angsburg, Germany. From 1990 to 1998, he worked in production and special project management positions for REMEL, Inc. including Manager of Business Development. Prior to REMEL, Mr. Maltese spent 20 years at Difco Laboratories, where he served in several management positions in the areas of purchasing, technical sales support, production and research.
Terri A. Morrical, age 40, joined Neogen Corporation on September 1, 1992 as part of the Company’s acquisition of WTT, Incorporated. She currently serves as Vice President and General Manager of the Company’s Lexington division and is responsible for all sales pertaining to animal safety. From 1986 to 1991, she was Controller for Freeze Point Cold Storage Systems and concurrently served in the same capacity for Powercore, Inc. In 1990, she joined WTT, Incorporated as VP/CFO and then became President, the position she held at the time Neogen acquired the business.
Dr. Mark A. Mozola, age 50, became Neogen’s Vice President of Research and Development in 2001 following the Company’s acquisition of GENE-TRAK Systems. He served in various technical and managerial positions at GENE-TRAK Systems for 16 years, most recently as General Manager. He has also served as a Laboratory Director for Silliker Laboratories. Dr. Mozola’s particular technical expertise is in the area of development of modern, rapid methods for the detection of foodborne pathogens.
Dr. Paul S. Satoh, age 68, became Neogen’s Vice President for Research and Development in March 1998 after having spent 26 years as a senior scientist, specialist in information analysis and competitive Intelligence and research manager in the Diagnostic Group at Pharmacia & Upjohn Inc. He joined Neogen after serving nearly six years on Neogen’s Scientific Review Council as an immunology specialist. Dr. Satoh also taught immunopharmacology at the University of Michigan in Ann Arbor while on sabbatical leave from The Upjohn Company. He is an adjunct professor at the National Food Safety and Toxicology Center at Michigan State University since 1998. He has been Vice President for Basic and Exploratory Research since September 2001.
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ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item is incorporated by reference to Neogen’s Proxy Statement to be filed within 120 days of May 31, 2005.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item is incorporated by reference to Neogen’s Proxy Statement to be filed within 120 days of May 31, 2005.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Jack C. Parnell, Chairman of the Board of Directors, is a governmental relations advisor to the law firm of Kahn, Soares & Conway. Kahn, Soares & Conway has been retained by Neogen to represent it in governmental relations matters. The Company pays Kahn, Soares & Conway a monthly fee of $1,750 for ten hours of consulting. The agreement with Kahn, Soares & Conway is terminable by either party at the end of any month.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
During the year ended May 31, 2005 and 2004, Ernst & Young billed Neogen for its services as follows:
Audit Fees: Fees for audit services totaled $220,000 in 2005 and $111,000 in 2004 including fees incurred for the annual audit of the Company’s consolidated financial statements, internal control over financial reporting, interim reviews of quarterly financial information, Form S-8 filings, and consultations concerning accounting matters associated with the annual audit.
Audit-Related Fees: Fees for audit-related services totaled $2,000 in 2005 and $29,000 in 2004. Audit–related fees consist of services associated with accounting consultations that are not related to the annual audit.
Tax Fees: No fees associated with tax matters were incurred with the principal auditing firm in 2005 or 2004.
All Other Fees: There were no other fees incurred with the principal auditing firm in 2005 or 2004.
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ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULE AND REPORTS ON FORM 8-K
(a) (1) and (2) and (c). The response to this portion of ITEM 15 is submitted as a separate section of this report.
(a) (3). The Exhibits listed on the accompanying Exhibits Index, which immediately follows the signature page, is incorporated herein by reference.
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Pursuant to the requirements of Section 13 or 15(d) 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.
NEOGEN CORPORATION
/s/ James L. Herbert | /s/ Richard R. Current | |
James L. Herbert, President | Richard R. Current, Vice President | |
Chief Executive Officer | Chief Financial Officer |
Dated: August 15, 2005
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Signature | Title | Date | ||||
/s/ James L. Herbert | President, Chief Executive Officer, Director (Principal Executive Officer) | August 15, 2005 | ||||
James L. Herbert | ||||||
* | Vice President and Chief Operating Officer | August 15, 2005 | ||||
Lon M. Bohannon | ||||||
* | Secretary and Director | |||||
Thomas H. Reed | ||||||
* | Director | |||||
Herbert D. Doan | ||||||
* | Director | |||||
Robert M. Book | ||||||
* | Director | |||||
Gordon E. Guyer, Ph.D. | ||||||
* | Director | |||||
G. Bruce Papesh | ||||||
* | Director | |||||
Leonard E. Heller, Ph.D. | ||||||
* | Chairman, Board of Directors | |||||
Jack C. Parnell | ||||||
* By: | /s/ James L. Herbert | August 15, 2005 | ||||
James L. Herbert, Attorney-in-fact |
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Neogen Corporation
Annual Report on Form 10-K
Year Ended May 31, 2005
EXHIBIT INDEX
EXHIBIT NO. | DESCRIPTION | |||
3(a)(1) | Articles of Incorporation, as restated. | |||
3(a)(1) | By-Laws, as amended. | |||
10(a)(2) | Neogen Corporation/United States Department of Agriculture License Agreement dated June 29, 1994. | |||
10(b)(3) | Credit Agreement between registrant and Comerica Bank dated November 26, 2003 | |||
10(c)(3) | Stock Purchase Agreement between Registrant and United Agri Products, Inc. dated November 21, 2003, related to purchase of Hacco, Inc. | |||
10(d)(3) | Stock Purchase Agreement between Registrant and United Agri Products, Inc. dated November 21, 2003, related to purchase of Hess & Clark, Inc. | |||
10(e)(4) | Neogen Corporation 2002 Employee Stock Purchase Plan Agreement | |||
10(f)(5) | Neogen Corporation 401(k) Retirement Savings Plan Agreement | |||
10(g)(6) | Neogen Corporation Stock Option Plan, as amended. | |||
10(h) | Sale and purchase agreement between Registrant and UCB S.A. dated July 1, 2005, related to agreement to purchase of UCB’s food diagnostic business. | |||
21 | Subsidiaries of the Registrant | |||
23(a) | Consent of Independent Registered Public Accounting Firm Ernst & Young LLP. | |||
24.2 | Power of Attorney. | |||
31.1 | Section 302 Certification of Principal Executive Officer. | |||
31.2 | Section 302 Certification of Principal Financial Officer. | |||
32 | Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
(1) | Incorporated by reference to the exhibit filed with the Registrant’s Quarterly Report on Form 10-Q dated February 29, 2000. |
(2) | Incorporated by reference to the exhibit filed with the Registrant’s Registration Statement on Form S-2 (No. 333-12193) filed September 17, 1996 and amended on October 18, 1996, which Registration became effective October 22, 1996. |
(3) | Incorporated by reference to the exhibit filed with the Registrant’s Quarterly Report on Form 10-Q dated November 30, 2003. |
(4) | Incorporated by reference to the exhibit filed with the Registrant’s Registration Statement on Form S-8 (No.333-101638) filed December 4, 2002. |
(5) | Incorporated by reference to the exhibit filed with the Registrant’s Registration Statement on Form S-8 (No.333-101639) filed December 4, 2002. |
(6) | Incorporated by reference to the Exhibit filed with the Registration statement on Form S-8 (No. 333-122110) filed January 18, 2005. |
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ANNUAL REPORT ON FORM 10-K
ITEM 15 (a)(1)(2) (3) (a) and (c)
LIST OF FINANCIAL STATEMENTS, EXHIBITS AND FINANCIAL STATEMENT SCHEDULE
YEAR ENDED MAY 31, 2005
NEOGEN CORPORATION
LANSING, MICHIGAN
10-K—ITEM 15(a)(1) AND (2)
NEOGEN CORPORATION AND SUBSIDIARIES
LIST OF FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES
The following consolidated financial statements of Neogen Corporation and subsidiaries are included in ITEM 8:
32 | ||
- F1 - | ||
Consolidated Statements of Income—Years ended May 31, 2005, 2004 and 2003 | - F3 - | |
Consolidated Statements of Cash Flows—Years ended May 31, 2005, 2004 and 2003 | - F5 - | |
Notes to Consolidated Financial Statements |
The following consolidated financial statement schedule of Neogen Corporation and subsidiaries is included in Item 15(a) (2) and 15 (c)
Schedule II—Valuation and qualifying accounts and reserves
All other schedules for which provision is made in the applicable accounting regulation of the United States Securities and Exchange Commission are not required under the related instructions or are inapplicable and, therefore, have been omitted.
10-K – Item 15 (a) (3)
A list of Exhibits required to be filed as a part of this report is set forth in the Exhibit Index, which immediately follows the signature page, and is incorporated herein by reference.
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Report of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders
Neogen Corporation
We have audited the accompanying consolidated balance sheets of Neogen Corporation and subsidiaries as of May 31, 2005 and 2004, and the related consolidated statements of income, stockholders’ equity, and cash flows for each of the three years in the period ended May 31, 2005. Our audits also included the financial statement schedule listed in the Index at Item 15(a). These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Neogen Corporation and subsidiaries at May 31, 2005 and 2004, and the consolidated results of their operations and their cash flows for each of the three years in the period ended May 31, 2005, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Neogen Corporation’s internal control over financial reporting as of May 31, 2005, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated August 9, 2005 expressed an unqualified opinion thereon.
/s/ Ernst & Young LLP
Grand Rapids, Michigan
August 9, 2005
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Neogen Corporation and Subsidiaries
Consolidated Balance Sheets
May 31, | ||||||
2005 | 2004 | |||||
Assets | ||||||
Current Assets | ||||||
Cash | $ | 1,972,000 | $ | 1,365,000 | ||
Marketable securities | 331,000 | |||||
Accounts receivable, less allowance of $531,000 and $571,000 | 10,469,000 | 9,924,000 | ||||
Inventories | 13,796,000 | 12,374,000 | ||||
Deferred income taxes | 768,000 | 651,000 | ||||
Prepaid expenses and other current assets | 1,374,000 | 1,630,000 | ||||
Total Current Assets | 28,379,000 | 26,275,000 | ||||
Property and Equipment | ||||||
Land and improvements | 902,000 | 853,000 | ||||
Buildings and improvements | 8,809,000 | 7,640,000 | ||||
Machinery and equipment | 8,590,000 | 7,561,000 | ||||
Furniture and fixtures | 528,000 | 475,000 | ||||
18,829,000 | 16,529,000 | |||||
Less accumulated depreciation | 6,636,000 | 5,577,000 | ||||
Net Property and Equipment | 12,193,000 | 10,952,000 | ||||
Other Assets | ||||||
Goodwill | 18,599,000 | 18,617,000 | ||||
Other non-amortizable intangible assets | 2,076,000 | 675,000 | ||||
Other non-current assets, net of accumulated amortization of $1,123,000 and $864,000 | 2,637,000 | 3,456,000 | ||||
Total Other Assets | 23,312,000 | 22,748,000 | ||||
$ | 63,884,000 | $ | 59,975,000 | |||
See accompanying notes to consolidated financial statements.
- F1 -
Table of Contents
Neogen Corporation and Subsidiaries
Consolidated Balance Sheets
May 31, | ||||||
2005 | 2004 | |||||
Liabilities and Stockholders’ Equity | ||||||
Current Liabilities | ||||||
Accounts payable | $ | 2,348,000 | $ | 3,063,000 | ||
Accruals | ||||||
Compensation and benefits | 1,342,000 | 1,220,000 | ||||
Federal income taxes | 339,000 | |||||
Other | 1,706,000 | 1,373,000 | ||||
Total Current Liabilities | 5,735,000 | 5,656,000 | ||||
Long-Term Debt | 3,900,000 | |||||
Deferred Income Taxes | 1,300,000 | 874,000 | ||||
Other Long-Term Liabilities | 2,014,000 | 1,703,000 | ||||
Total Liabilities | 9,049,000 | 12,133,000 | ||||
Stockholders’ Equity | ||||||
Preferred stock, $1.00 par value - shares authorized 100,000; none issued and outstanding | ||||||
Common stock, $0.16 par value - shares authorized 20,000,000; 8,147,011 and 8,010,222 shares issued and outstanding | 1,304,000 | 1,282,000 | ||||
Additional paid-in capital | 26,803,000 | 25,785,000 | ||||
Accumulated other comprehensive income | 136,000 | 99,000 | ||||
Retained earnings | 26,592,000 | 20,676,000 | ||||
Total Stockholders’ Equity | 54,835,000 | 47,842,000 | ||||
$ | 63,884,000 | $ | 59,975,000 | |||
See accompanying notes to consolidated financial statements.
- F2 -
Table of Contents
Neogen Corporation and Subsidiaries
Consolidated Statements of Income
Year Ended May 31, | |||||||||||
2005 | 2004 | 2003 | |||||||||
Net Sales | $ | 62,756,000 | $ | 55,498,000 | $ | 47,685,000 | |||||
Cost of Goods Sold | 32,153,000 | 27,989,000 | 21,763,000 | ||||||||
Gross Margin | 30,603,000 | 27,509,000 | 25,922,000 | ||||||||
Operating Expenses | |||||||||||
Sales and marketing | 13,484,000 | 12,052,000 | 12,077,000 | ||||||||
General and administrative | 5,621,000 | 5,022,000 | 4,146,000 | ||||||||
Research and development | 2,729,000 | 2,893,000 | 2,914,000 | ||||||||
21,834,000 | 19,967,000 | 19,137,000 | |||||||||
Operating Income | 8,769,000 | 7,542,000 | 6,785,000 | ||||||||
Other Income (Expense) | |||||||||||
Interest income | 7,000 | 48,000 | 98,000 | ||||||||
Interest expense | (83,000 | ) | (61,000 | ) | |||||||
Royalty and other | 223,000 | 145,000 | 390,000 | ||||||||
147,000 | 132,000 | 488,000 | |||||||||
Income Before Income Taxes | 8,916,000 | 7,674,000 | 7,273,000 | ||||||||
Income Taxes | 3,000,000 | 2,575,000 | 2,486,000 | ||||||||
Net Income | $ | 5,916,000 | $ | 5,099,000 | $ | 4,787,000 | |||||
Net Income Per Share | |||||||||||
Basic | $ | .73 | $ | .64 | $ | .63 | |||||
Diluted | $ | .70 | $ | .61 | $ | .60 |
See accompanying notes to consolidated financial statements.
- F3 -
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Neogen Corporation and Subsidiaries
Consolidated Statements of Stockholders’ Equity
Common Stock | Additional Paid-in | Accumulated Other Comprehensive Income | Retained Earnings | Total Stockholders’ Equity | |||||||||||||||||
Shares | Amount | ||||||||||||||||||||
Balance, June 1, 2002 | 7,635,585 | $ | 1,222,000 | $ | 23,534,000 | $ | 10,790,000 | $ | 35,546,000 | ||||||||||||
Exercise of options, including $571,000 income tax benefit | 127,660 | 20,000 | 1,263,000 | 1,283,000 | |||||||||||||||||
Repurchase of common stock | (52,188 | ) | (8,000 | ) | (550,000 | ) | (558,000 | ) | |||||||||||||
Business acquisition | 39,550 | 6,000 | 335,000 | 341,000 | |||||||||||||||||
Comprehensive income: | |||||||||||||||||||||
Net income for 2003 | 4,787,000 | 4,787,000 | |||||||||||||||||||
Foreign currency translation adjustments | $ | 3,000 | 3,000 | ||||||||||||||||||
Total comprehensive income | 4,790,000 | ||||||||||||||||||||
Balance, May 31, 2003 | 7,750,607 | 1,240,000 | 24,582,000 | 3,000 | 15,577,000 | 41,402,000 | |||||||||||||||
Exercise of options, including $250,000 income tax benefit | 254,573 | 41,000 | 1,148,000 | 1,189,000 | |||||||||||||||||
Issuance of shares under Employee Stock Purchase Plan | 5,042 | 1,000 | 55,000 | 56,000 | |||||||||||||||||
Comprehensive income: | |||||||||||||||||||||
Net income for 2004 | 5,099,000 | 5,099,000 | |||||||||||||||||||
Foreign currency translation adjustments | 96,000 | 96,000 | |||||||||||||||||||
Total comprehensive income | 5,195,000 | ||||||||||||||||||||
Balance, May 31, 2004 | 8,010,222 | 1,282,000 | 25,785,000 | 99,000 | 20,676,000 | 47,842,000 | |||||||||||||||
Exercise of options and warrants, including $219,000 income tax benefit | 149,816 | 24,000 | 1,117,000 | 1,141,000 | |||||||||||||||||
Issuance of warrants | 55,000 | 55,000 | |||||||||||||||||||
Issuance of shares under Employee Stock Purchase Plan | 6,895 | 1,000 | 100,000 | 101,000 | |||||||||||||||||
Repurchase of common stock | (19,922 | ) | (3,000 | ) | (254,000 | ) | (257,000 | ) | |||||||||||||
Comprehensive income: | |||||||||||||||||||||
Net income for 2005 | 5,916,000 | 5,916,000 | |||||||||||||||||||
Foreign currency translation adjustments | 37,000 | 37,000 | |||||||||||||||||||
Total comprehensive income | 5,953,000 | ||||||||||||||||||||
Balance, May 31, 2005 | 8,147,011 | $ | 1,304,000 | $ | 26,803,000 | $ | 136,000 | $ | 26,592,000 | $ | 54,835,000 | ||||||||||
See accompanying notes to consolidated financial statements.
- F4 -
Table of Contents
Neogen Corporation and Subsidiaries
Consolidated Statements of Cash Flows
Year Ended May 31 | ||||||||||||
2005 | 2004 | 2003 | ||||||||||
Cash Flows From Operating Activities | ||||||||||||
Net income | $ | 5,916,000 | $ | 5,099,000 | $ | 4,787,000 | ||||||
Adjustments to reconcile net income to net cash provided by operating activities | ||||||||||||
Depreciation and amortization | 1,703,000 | 1,402,000 | 1,136,000 | |||||||||
Deferred income taxes (credit) | 309,000 | 512,000 | 420,000 | |||||||||
Income tax benefit of stock plan transactions | 219,000 | 250,000 | 571,000 | |||||||||
Other | 55,000 | |||||||||||
Changes in operating assets and liabilities, net of business acquisitions: | ||||||||||||
Accounts receivable | (545,000 | ) | (2,225,000 | ) | (755,000 | ) | ||||||
Inventories | (1,331,000 | ) | (831,000 | ) | (1,055,000 | ) | ||||||
Prepaid expenses and other current assets | 256,000 | (587,000 | ) | 70,000 | ||||||||
Accounts payable | (715,000 | ) | (210,000 | ) | 752,000 | |||||||
Accruals and changes | 855,000 | (429,000 | ) | 775,000 | ||||||||
Net Cash Provided By Operating Activities | 6,722,000 | 2,981,000 | 6,701,000 | |||||||||
Cash Flows From Investing Activities | ||||||||||||
Proceeds from sales of marketable securities | 831,000 | 39,019,000 | 41,184,000 | |||||||||
Purchases of marketable securities | (500,000 | ) | (31,514,000 | ) | (44,679,000 | ) | ||||||
Purchases of property, equipment and other noncurrent assets | (2,688,000 | ) | (5,043,000 | ) | (2,461,000 | ) | ||||||
Business and product line acquisitions, net of cash acquired | (874,000 | ) | (10,034,000 | ) | (1,850,000 | ) | ||||||
Net Cash Used In Investing Activities | (3,231,000 | ) | (7,572,000 | ) | (7,806,000 | ) | ||||||
Cash Flows From Financing Activities | ||||||||||||
Net proceeds from issuance of common stock | 1,023,000 | 995,000 | 712,000 | |||||||||
Repurchase of common stock | (257,000 | ) | (558,000 | ) | ||||||||
Proceeds from (payments on) long-term debt | (3,900,000 | ) | 3,900,000 | |||||||||
Increase in other long-term liabilities | 250,000 | — | — | |||||||||
Net Cash Provided By (Used In) Financing Activities | (2,884,000 | ) | 4,895,000 | 154,000 | ||||||||
Net Increase (Decrease) In Cash | 607,000 | 304,000 | (951,000 | ) | ||||||||
Cash, at beginning of year | 1,365,000 | 1,061,000 | 2,012,000 | |||||||||
Cash, at end of year | $ | 1,972,000 | $ | 1,365,000 | $ | 1,061,000 | ||||||
Supplemental Cash Flow Information | ||||||||||||
Income taxes paid, net of refunds | $ | 1,150,000 | $ | 2,200,000 | $ | 1,050,000 | ||||||
Interest paid | 83,000 | 53,000 | — |
See accompanying notes to consolidated financial statements.
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1. Summary of Accounting Policies
Nature of Operations
Neogen Corporation develops, manufactures, and sells a diverse line of products dedicated to food safety testing and animal health applications.
Basis of Consolidation
The consolidated financial statements include the accounts of Neogen Corporation and its wholly owned subsidiaries (collectively, the Company). The investments in and income from unconsolidated research partnerships are not significant to the consolidated financial statements.
All intercompany accounts and transactions have been eliminated in consolidation.
Use of Estimates
The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from these estimates.
Comprehensive Income
Comprehensive income represents net income and any revenues, expenses, gains and losses that, under U.S. generally accepted accounting principles, are excluded from net income and recognized directly as a component of stockholders’ equity. At May 31, 2005 and 2004, accumulated other comprehensive income consists of foreign currency translation adjustments.
Accounts Receivable and Concentrations of Credit Risk
Financial instruments which potentially subject the Company to concentrations of credit risk consist principally of accounts receivable. Management attempts to minimize credit risk by reviewing customers’ credit history before extending credit and by monitoring credit exposure on a regular basis. An allowance for possible losses on accounts receivable is established based upon factors surrounding the credit risk of specific customers, historical trends and other information. Collateral or other security is generally not required for accounts receivable. No single customer accounted for more than 10% of accounts receivable at May 31, 2005 and 2004.
Fair Values of Financial Instruments
The carrying amounts of marketable securities, accounts receivable, accounts payable, accrued expenses and long-term debt approximate fair value based on either their short maturity or current terms for similar instruments.
Marketable Securities
All marketable securities are classified as available-for-sale and are used to support current operations or to take advantage of short-term investment opportunities. These securities are stated at estimated fair market value that approximates cost. The cost of securities sold is based on the specific identification method.
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Inventories
Inventories are stated at the lower of cost, determined on the first-in, first-out method, or market. The components of inventories were as follows:
2005 | 2004 | |||||
Raw materials | $ | 5,529,000 | $ | 5,487,000 | ||
Work-in-process | 721,000 | 526,000 | ||||
Finished goods | 7,546,000 | 6,361,000 | ||||
$ | 13,796,000 | $ | 12,374,000 | |||
Property and Equipment
Property and equipment is stated at cost. Expenditures for major improvements are capitalized while repairs and maintenance are charged to expense. Depreciation is provided on the straight-line method over the estimated useful lives of the respective assets, which is generally seven to thirty-nine years for buildings and improvements and three to five years for furniture, machinery and equipment. Depreciation expense was $1,444,000, $1,180,000 and $969,000, in 2005, 2004 and 2003, respectively.
Goodwill and Intangible Assets
Goodwill represents the excess of purchase price over fair value of tangible net assets of acquired businesses after amounts allocated to other intangible assets. Other intangible assets include customer relationships trademarks, trade names and patents. Amortizable intangible assets are amortized on either an accelerated or a straight-line basis over five to twenty years. The Company reviews the carrying amounts of goodwill and other non-amortizable intangible assets annually to determine if such assets may be impaired. If the carrying amounts of these assets are not recoverable based upon a discounted cash flow analysis, such assets are reduced by the estimated shortfall of fair value to recorded value.
Long-lived Assets
Management reviews the carrying values of its long-lived assets for possible impairment whenever events or changes in business conditions indicate that the carrying amount of the assets may not be recoverable. Impairment is evaluated on the basis of undiscounted future cash flows from operations before interest for the remaining useful life of the assets. If present, impairment is measured based on the difference between fair value and the net book value of the related assets. Any long-lived assets held for disposal are reported at the lower of these net book values or fair value less estimated costs of disposal.
Stock Options
The Company follows Accounting Principles Board (APB) Opinion No. 25,Accounting for Stock Issued to Employees, in accounting for its stock option plans. Under Opinion No. 25, no compensation expense is recognized because the exercise price of the Company’s stock options equals the market price of underlying stock on the date of grant. Had compensation expense for the Company’s stock-based compensation plans been determined based on the fair value at the grant dates for awards under those plans consistent with Statement of Financial Accounting Standards (SFAS) No. 123,Accounting for Stock-Based Compensation, the Company’s net income and net income per share would have been as follows:
2005 | 2004 | 2003 | ||||||||||
Net income | ||||||||||||
As reported | $ | 5,916,000 | $ | 5,099,000 | $ | 4,787,000 | ||||||
Deduct-compensation expense based on fair value method | (824,000 | ) | (702,000 | ) | (706,000 | ) | ||||||
Pro forma | $ | 5,092,000 | $ | 4,397,000 | $ | 4,081,000 | ||||||
Basic net income per share | ||||||||||||
As reported | $ | .73 | $ | .64 | $ | .63 | ||||||
Pro forma | $ | .63 | $ | .56 | $ | .53 | ||||||
Diluted net income per share | ||||||||||||
As reported | $ | .70 | $ | .61 | $ | .60 | ||||||
Pro forma | $ | .61 | $ | .53 | $ | .52 | ||||||
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The fair value of each option granted is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions for grants in 2005, 2004 and 2003, respectively: dividend yield of 0%; expected volatility of 44.5%, 47.0% and 54.0%; risk free interest rates of 3.25%, 2.7% and 2.7%; and expected lives of four years.
In December 2004, the FASB issued a revision to Statement No. 123, Share-Based payment.This revision supersedes APB Opinion No. 25,Accounting for Stock Issued to Employees,and its related implementation guidance. This revision requires companies to recognize the cost of stock options, based on the grant date fair value, granted pursuant to their employee stock option plans over the period during which the recipient is required to provide services in exchange for the options, typically the vested period. Pursuant to the requirements of the Statement, the Company plans to adopt the provisions of the Statement during the first quarter of 2007. The Company has not presently determined a transition method of adoption. The pro forma effect of adopting this Statement is disclosed above and is not expected to have a material impact in the trend of net earnings or net earnings per share.
Revenue Recognition
Revenue from sales of products is recognized at the time title of goods passes to the buyer and the buyer assumes the risks and rewards of ownership, which is at the time of shipment. Where right of return exists, allowances are made at the time of sale to reflect expected returns based on historical experience.
Shipping and Handling Costs
Shipping and handling costs that are charged to and reimbursed by the customer are recognized as sales, while the related expenses incurred by the Company are recorded in sales and marketing expense and totaled $2,649,000, $2,164,000 and $1,800,000 in 2005, 2004, 2003, respectively.
Research and Development
Research and development expenditures are charged to operations as incurred.
Limited Partnership Royalty Income and Expense
Royalty income from a related research limited partnership (included as a component of other income) was $132,000 in 2004 and $348,000 in 2003. Royalty expense paid to a related research limited partnership (included as a component of sales and marketing expense) was $281,000 in 2004 and $777,000 in 2003. The agreement governing royalty expense paid to a limited partnership expired in October 2003. At that time, substantially all royalty expense and limited partnership income ceased.
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Income Taxes
The Company accounts for income taxes using the liability method. Under this method, deferred income tax assets and liabilities are determined based on differences between the financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates in effect for the years in which the differences are expected to reverse. Deferred income tax expense (credit) represents the change in net deferred income tax assets and liabilities during the year.
Advertising Costs
Advertising costs are expensed as incurred and totaled $264,000, $258,000 and $196,000 in 2005, 2004, and 2003, respectively.
Net Income Per Share
Basic net income per share is based on the weighted average number of common shares outstanding during each year. Diluted earnings per share is based on the weighted average number of common shares and dilutive potential common shares outstanding. The Company’s dilutive potential common shares outstanding during the years result entirely from dilutive stock options and warrants. The following table presents the net income per share calculations:
Year ended May 31, | |||||||||
2005 | 2004 | 2003 | |||||||
Numerator for basic and diluted net income per share | |||||||||
Net income | $ | 5,916,000 | $ | 5,099,000 | $ | 4,787,000 | |||
Denominator | |||||||||
Denominator for basic net income per share weighted average shares | 8,096,683 | 7,910,863 | 7,656,964 | ||||||
Effect of dilutive stock options and warrants | 394,900 | 465,742 | 328,344 | ||||||
Denominator for diluted net income per share | 8,491,583 | 8,376,605 | 7,985,308 | ||||||
Net income per share | |||||||||
Basic | $ | .73 | $ | .64 | $ | .63 | |||
Diluted | $ | .70 | $ | .61 | $ | .60 | |||
In 2005, 100,000 options were excluded from the computations of net income per share as the result of option prices exceeding the average market price of the common shares. No options were excluded in 2004 or 2003.
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2. Goodwill and Other Intangible Assets
The Company follows the provisions of SFAS No. 142,Goodwill and Other Intangible Assets. SFAS No. 142 prohibits the amortization of goodwill and intangible assets with indefinite lives and requires that the Company evaluate these intangibles for impairment on an annual basis. Management has completed the required annual impairment tests of goodwill and intangible assets with indefinite lives as prescribed by SFAS No. 142 as of the first day of the fourth quarter of 2005 and determined that recorded amounts were not impaired and that no write-down was necessary.
The following table summarizes goodwill by business segment:
Food Safety | Animal Safety | ||||||
Balance, June 1, 2003 | $ | 6,219,000 | $ | 6,997,000 | |||
Goodwill acquired | 90,000 | 5,311,000 | |||||
Balance, May 31, 2004 | 6,309,000 | 12,308,000 | |||||
Goodwill acquired (adjusted) | 239,000 | (257,000 | ) | ||||
Balance, May 31, 2005 | $ | 6,548,000 | $ | 12,051,000 | |||
Non-amortizable intangible assets include licenses of $377,000, trademarks of $475,000.
Other amortizable intangible assets consisted of the following and are included in other noncurrent assets within the consolidated balance sheets:
Gross Carrying Amount | Less Accumulated Amortization | Net Carrying Amount | |||||||
Licenses | $ | 1,159,000 | $ | 273,000 | $ | 886,000 | |||
Covenants not to compete | 300,000 | 198,000 | 102,000 | ||||||
Patents | 464,000 | 345,000 | 119,000 | ||||||
Customer Relationship Intangible and other | 1,956,000 | 48,000 | 1,908,000 | ||||||
Balance, May 31, 2004 | $ | 3,879,000 | $ | 864,000 | $ | 3,015,000 | |||
Licenses | $ | 1,174,000 | $ | 367,000 | $ | 807,000 | |||
Covenants not to compete | 310,000 | 257,000 | 53,000 | ||||||
Patents | 464,000 | 365,000 | 99,000 | ||||||
Customer Relationship Intangible and other | 1,221,000 | 134,000 | 1,087,000 | ||||||
Balance, May 31, 2005 | $ | 3,169,000 | $ | 1,123,000 | $ | 2,046,000 | |||
Amortization expense for other intangibles totaled $259,000, $222,000 and $167,000 in 2005, 2004 and 2003, respectively. The estimated amortization expense for each of the five succeeding years is as follows: 2006 - $229,000; 2007 - $210,000; 2008 - $197,000; 2009 - $181,000 and 2010 - $157,000.
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3. Marketable Securities
The Company invests in only high quality, short-term investments with maturity dates of less than one year classified as available-for-sale. As such, there were no significant differences between cost and estimated fair market value at May 31, 2005 and 2004. Additionally, since investments are short-term and carried to maturity, there were no realized gains and losses in 2005, 2004 or 2003. At May 31, 2004 marketable securities consisted of certificates of deposit.
4. Business and Product Line Acquisitions
As of February 28, 2003, the Company acquired the outstanding common stock of Adgen Ltd. of Ayr, Scotland, a company involved in the manufacture and sale of diagnostic test kits for the detection of plant diseases and the distribution of food safety diagnostic test kits. Consideration was net cash of $1,850,000 and 32,000 shares of common stock with a fair value of $341,000. During fiscal 2005 a secondary payment of $226,000 was made under the purchase agreement. Additionally, the Company is obligated to pay contingent consideration up to $224,000 based on future revenue levels. The acquisition was accounted for as a purchase with assets allocated $525,000 to current assets, $49,000 to property and equipment, $359,000 in current liabilities and $1,976,000 to intangible assets, primarily goodwill. If consummated as of the beginning of fiscal 2003, operating results would not have been materially different from amounts previously reported. Adgen continues to be located in Ayr, Scotland.
On November 21, 2003, Neogen Corporation purchased 100% of the common stock of Hacco, Inc. and of Hess & Clark, Inc. from United Agri Products, Inc. a then wholly owned subsidiary of ConAgra, Inc. Hacco has principal offices in Randolph, Wisconsin, and is a producer of rodenticide products. The Hess & Clark acquisition was principally a product line purchase in which the Company acquired lines of disinfectants and antibacterials.
Consideration for the November 21, 2003 acquisitions was $10,000,000 in cash, including related acquisition costs. Allocation of the purchase price included current assets of $1,800,000; property, plant and equipment of $2,600,000; intangible assets of $7,400,000 (including customer intangibles of $1,900,000; patents and trademarks of $200,000 and goodwill of $5,300,000); and liabilities of $1,800,000, including an environmental remediation liability of $1,200,000. The portion of the customer based asset considered to have a definite life is expected to be amortized by accelerated methods over 20 years. The companies are believed to be strong synergistic fits into Neogen’s overall stability of providing food and animal safety solutions.
Unaudited pro forma financial information, as if the acquisitions of Hacco and Hess & Clark had taken place on June 1, 2002 is as follows:
Year ended May 31, | ||||||
2004 | 2003 | |||||
(In thousands except per share amount ) | ||||||
Revenue | $ | 61,898 | $ | 57,234 | ||
Net income | $ | 5,696 | $ | 5,620 | ||
Diluted net income per share | $ | .68 | $ | .70 |
As of October 1, 2004, Neogen Europe, Ltd., the Company’s subsidiary in Scotland, UK, acquired the distribution business of BiologischeAnalysensysteme GmbH (BAG), a privately held company based in Lich, Germany. BAG was a distributor of Neogen Corporation ‘s products in Germany. BAG’s revenues in the 12 months ended September 30, 2004 were approximately $600,000. Consideration for the acquisition was cash of $448,000. The allocation of the purchase price included inventory of $68,000, equipment of $21,000 and customer based intangibles of $359,000. The acquisition is expected to improve distribution of the Company’s products in Germany.
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On October 13, 2004, the Company acquired the UriCon product line of Animal Health Ventures, Inc., a privately held company. UriCon is a product used for the treatment of urinary incontinence in dogs. Consideration for the purchase was cash of $200,000. The allocation of the purchase price included inventory of $23,000 and intangibles of $177,000. The acquisition adds to the Company’s product lines directed toward the treatment of medical disorders in companion animals.
5. Long-Term Debt
The Company maintains a financing agreement with a bank providing for an unsecured revolving line of credit of $15,000,000. Interest is at prime less 1.25% or Eurodollar prime equivalent, plus 150 basis points at the Company’s option (rate elected would have been 4.5625% at May 31, 2005). Financial covenants include maintaining current ratios and debt to earnings ratios (as defined) and specified levels of tangible net worth, all of which are complied with at May 31, 2005. The agreement matures September 1, 2006.
6. Equity Compensation Plans
Qualified and non-qualified options to purchase shares of common stock may be granted to directors, officers and employees of the Company at an exercise price of not less than the fair market value of the stock on the date of grant under the terms of the Company’s stock option plans. The number of shares authorized for issuance under the plans is 4,074,219. At May 31, 2005, options have been granted with three to five year vesting schedules and option terms of five to ten years.
The following is a summary of stock option plan activity:
Shares | Weighted-Average Exercise Price | |||||
Outstanding at June 1, 2002 (288,474 exercisable) | 998,183 | $ | 7.09 | |||
Granted | 323,125 | 9.78 | ||||
Exercised | (127,840 | ) | 5.62 | |||
Forfeited | (30,125 | ) | 7.99 | |||
Outstanding at May 31, 2003 (362,858 exercisable) | 1,163,343 | 7.97 | ||||
Granted | 353,125 | 15.21 | ||||
Exercised | (312,160 | ) | 6.05 | |||
Forfeited | (1,562 | ) | 8.13 | |||
Outstanding at May 31, 2004 (301,839 exercisable) | 1,202,746 | 10.53 | ||||
Granted | 198,500 | 19.36 | ||||
Exercised | (149,502 | ) | 6.77 | |||
Forfeited | (32,625 | ) | 13.74 | |||
Outstanding at May 31, 2005 (455,732 exercisable) | 1,219,119 | $ | 12.31 | |||
Shares available for grant under stock option plans were 985,731, 151,606 and 503,169 at May 31, 2005, 2004 and 2003. The weighted-average grant date fair value of options granted in 2005, 2004 and 2003 was $6.06, $6.03 and $4.33, respectively.
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The following is a summary of stock options outstanding at May 31, 2005:
Options Outstanding | Options Exercisable | |||||||||
Range of Exercise Price | Number | Average Remaining Contractual Life (Years) | Weighted- Average Exercise Price | Number | Weighted- Average Exercise Price | |||||
$ 5.00- 6.30 | 149,953 | 2.2 | $5.21 | 105,077 | $5.31 | |||||
$ 9.52-11.12 | 549,614 | 3.9 | 10.17 | 273,494 | 10.29 | |||||
$15.20-20.45 | 519,552 | 6.0 | 16.74 | 77,161 | 15.21 | |||||
$ 5.00-20.45 | 1,219,119 | 4.6 | $12.31 | 455,732 | $9.98 |
The weighted-average exercise price of shares that were exercisable at May 31, 2004 and 2003 was $8.26 and $6.61.
The following table summarizes warrant activity with non-employees that are expensed at fair value. All warrants are exercisable for common stock of the Company and expire through 2009.
Shares | Weighted -Average Exercise Price | |||||
Outstanding warrants at June 1, 2002 | 21,250 | $ | 8.74 | |||
Warrants exercised during the year | (1,250 | ) | 5.50 | |||
Warrants granted during the year | 16,875 | 9.52 | ||||
Outstanding warrants at May 31, 2003 | 36,875 | 9.21 | ||||
Warrants exercised during the year | (6,250 | ) | 10.48 | |||
Warrants granted during the year | 15,000 | 15.20 | ||||
Outstanding warrants at May 31, 2004 | 45,625 | 11.01 | ||||
Warrants exercised during the year | (10,000 | ) | 9.43 | |||
Warrants granted during the year | 13,000 | 18.19 | ||||
Outstanding warrants at May 31, 2005 | 48,625 | $ | 13.15 | |||
Common stock totaling 100,000 shares is reserved for issuance under the terms of the 2002 Employee Stock Purchase Plan. The plan gives eligible employees the option to purchase common stock (total purchases in any year are limited to 10% of compensation) at 95% of the lower of the market value of the stock at the beginning or end of each participation period. Shares purchased by employees were 6,895 and 5,042 in 2005, and 2004, respectively. There were no employee purchases in 2003.
7. Income Taxes
The provision for income taxes consisted of the following:
Year ended May 31, | |||||||||
2005 | 2004 | 2003 | |||||||
Current: | |||||||||
U.S. Federal and foreign | $ | 2,395,000 | $ | 1,729,000 | $ | 1,745,000 | |||
State | 296,000 | 334,000 | 321,000 | ||||||
Deferred | 309,000 | 512,000 | 420,000 | ||||||
$ | 3,000,000 | $ | 2,575,000 | $ | 2,486,000 | ||||
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Deferred income taxes reflect the tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company’s deferred income tax liabilities and assets are as follows:
May 31, | ||||||||
2005 | 2004 | |||||||
Deferred income tax liabilities | ||||||||
Depreciation and amortization | $ | (1,590,000 | ) | $ | (1,052,000 | ) | ||
Deferred income tax assets | ||||||||
Inventories and accounts receivable | 790,000 | 698,000 | ||||||
Accruals | 268,000 | 131,000 | ||||||
Total deferred income tax assets | 1,058,000 | 829,000 | ||||||
Net deferred income tax liabilities | $ | (532,000 | ) | $ | (223,000 | ) | ||
The reconciliation of income taxes computed at the U.S. federal statutory tax rate to income tax expense is as follows:
Year ended May 31, | ||||||||||||
2005 | 2004 | 2003 | ||||||||||
Tax at U.S. statutory rates | $ | 3,031,000 | $ | 2,609,000 | $ | 2,473,000 | ||||||
Tax credits and other | (226,000 | ) | (254,000 | ) | (199,000 | ) | ||||||
Provisions for state income taxes, net of federal benefit | 195,000 | 220,000 | 212,000 | |||||||||
$ | 3,000,000 | $ | 2,575,000 | $ | 2,486,000 | |||||||
8. Commitments and Contingencies
The Company is involved in environmental remediation and monitoring activities at its Randolph, Wisconsin manufacturing facility and accrues for related costs when such costs are determined to be probable and estimable. The total initial anticipated cost of remediation through 2024 of $1,800,000 has been discounted at 4% and recorded as a non current liability in the consolidated balance sheet at its net present value of $1,098,000 at May 31, 2005. Estimated payments over the succeeding five years are $90,000 annually, with $1,260,000 due thereafter.
The Company has agreements with related research limited partnerships and unrelated third parties that provide for the payment of royalties on the sale of certain products. Royalty expense, including amounts paid to related research limited partnerships, under the terms of these agreements for 2005, 2004 and 2002 was $742,000, $900,000 and $1,524,000 respectively.
The Company leases office and manufacturing facilities under noncancelable operating leases. Rent expense for 2005, 2004 and 2003 was $205,000, $574,000 and $527,000, respectively. Future minimum rental payments for these leases over the next five years are as follows: 2006 - $216,000; 2007 - $231,000; 2008 - $205,000; 2009 - $101,000; and 2010 - $15,000.
The Company is subject to certain legal and other proceedings in the normal course of business that, in the opinion of management, will not have a material effect on its future results of operations or financial position.
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9. Defined Contribution Benefit Plan
The Company maintains a defined contribution 401(k) benefit plan covering substantially all employees. Employees are permitted to defer up to 15% of compensation, with the Company matching 100% of the first 3% deferred and 50% of the next 2% deferred. The Company’s expense under this plan was $343,000, $323,000 and $291,000 in 2005, 2004 and 2003, respectively.
10. Segment Information
The Company has two reportable segments: Food Safety and Animal Safety. The Food Safety segment produces and markets diagnostic test kits and related products used by food producers and processors to detect harmful natural toxins, foodborne bacteria, allergens and levels of general sanitation. The Animal Safety segment is primarily engaged in the production and marketing of products dedicated to animal health, including a complete line of consumable products marketed to veterinarians and animal health product distributors. Additionally, the Animal Safety segment produces and markets a line of rodenticides to assist in the control of rats and mice in and around agricultural, food production and other facilities.
These segments are managed separately because they represent strategic business units that offer different products and require different marketing strategies. The Company evaluates performance based on total sales and operating income of the respective segments. The accounting policies of the segments are the same as those described in Note 1.
Segment information is as follows:
Food Safety | Animal Safety | Corporate and Eliminations (1) | Total | ||||||||||
2005 | |||||||||||||
Net sales to external customers | $ | 28,156,000 | $ | 34,600,000 | $ | — | $ | 62,756,000 | |||||
Operating income | 4,051,000 | 5,284,000 | (566,000 | ) | 8,769,000 | ||||||||
Depreciation and amortization | 908,000 | 794,000 | 1,702,000 | ||||||||||
Interest income | 7,000 | 7,000 | |||||||||||
Income taxes | 1,386,000 | 1,808,000 | (194,000 | ) | 3,000,000 | ||||||||
Total assets | 27,378,000 | 35,738,000 | 768,000 | 63,884,000 | |||||||||
Expenditures for long-lived assets | 1,828,000 | 860,000 | 2,688,000 | ||||||||||
2004 | |||||||||||||
Net sales to external customers | $ | 27,567,000 | $ | 27,931,000 | $ | — | $ | 55,498,000 | |||||
Operating income | 4,223,000 | 3,679,000 | (360,000 | ) | 7,542,000 | ||||||||
Depreciation and amortization | 782,000 | 620,000 | 1,402,000 | ||||||||||
Interest income | 48,000 | 48,000 | |||||||||||
Income taxes | 1,423,000 | 1,105,000 | 47,000 | 2,575,000 | |||||||||
Total assets | 24,079,000 | 34,914,000 | 982,000 | 59,975,000 | |||||||||
Expenditures for long-lived assets | 2,081,000 | 2,962,000 | 5,043,000 | ||||||||||
2003 | |||||||||||||
Net sales to external customers | $ | 26,476,000 | $ | 21,209,000 | $ | — | $ | 47,685,000 | |||||
Operating income | 4,864,000 | 2,542,000 | (621,000 | ) | 6,785,000 | ||||||||
Depreciation and amortization | 661,000 | 475,000 | 1,136,000 | ||||||||||
Interest income | 98,000 | 98,000 | |||||||||||
Income taxes | 1,654,000 | 864,000 | (32,000 | ) | 2,486,000 | ||||||||
Total assets | 21,216,000 | 18,804,000 | 8,016,000 | 48,036,000 | |||||||||
Expenditures for long-lived assets | 2,250,000 | 211,000 | 2,461,000 |
(1) | Includes corporate assets, consisting of marketable securities, and overhead expenses not allocated to specific business segments. Also includes the elimination of intersegment transactions and minority interests. |
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Sales to customers outside the United States amounted to $17,002,000 or 27% of consolidated sales in 2005, $13,781,000 or 25% in 2004 and $9,609,000 or 20% in 2003 and were derived primarily in the geographic areas of South and Central America, Canada, Asia and Europe. The Company does not have sales to any single foreign country or customer exceeding 10% of consolidated net sales.
11. Government Grant
The Company has a $500,000 grant from Ingham County that is restricted for the purchase of machinery and equipment at its location in Lansing, Michigan. The grant is repayable in cash plus interest to the extent not offset by allowances for new employees hired in Lansing over a period of 6 years. Grant monies received from the County for eligible purchases are recognized as a long-term liability. The liability is reduced and other income is recognized for the allowances granted as eligible new employees are hired. The Company recognized other income of $250,000 in 2005 related to the grant.
12. Stock Repurchase
The Company’s Board of Directors has authorized the purchase of up to 1,250,000 shares of the Company’s common stock. As of May 31, 2005, 890,847 shares had been purchased in negotiated and open market transactions for a total price, including commissions, of approximately $5,198,000. Shares purchased under this buy-back program were retired.
13. Summary of Quarterly Data (Unaudited)
Quarter Ended | ||||||||||||
August 2004 | November 2004 | February 2005 | May 2005 | |||||||||
(Dollars in thousands, except per share data) | ||||||||||||
Net sales | $ | 15,212 | $ | 17,133 | $ | 14,403 | $ | 16,008 | ||||
Gross margin | 7,505 | 8,094 | 6,958 | 8,046 | ||||||||
Net income | 1,584 | 1,672 | 1,214 | 1,446 | ||||||||
Basic net income per share | .20 | .21 | .15 | .18 | ||||||||
Diluted net income per share | .19 | .20 | .14 | .17 | ||||||||
Quarter Ended | ||||||||||||
August 2003 | November 2003 | February 2004 | May 2004 | |||||||||
(Dollars in thousands, except per share data) | ||||||||||||
Net sales | $ | 12,233 | $ | 13,246 | $ | 14,717 | $ | 15,302 | ||||
Gross margin | 6,260 | 7,003 | 6,926 | 7,320 | ||||||||
Net income | 1,302 | 1,543 | 1,183 | 1,071 | ||||||||
Basic net income per share | .17 | .20 | .15 | .13 | ||||||||
Diluted net income per share | .16 | .19 | .14 | .13 | ||||||||
Quarterly net income per share is based on weighted-average shares outstanding and potentially dilutive stock options and warrants for the specific period, and as a result, will not necessarily aggregate to total net income per share as computed for the year as disclosed in the consolidated statements of income.
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14. Subsequent Event
On July 1, 2005 the Company announced it signed an agreement with Brussels, Belgium-based UCB to acquire UCB’s dairy antibiotic testing business. Closing is expected to take place late in the 2005 calendar year. UCB’s dairy antibiotic testing products present a strong complementary fit with other testing products that the Company offers the dairy industry. Consideration for the acquisition is $14,700,000 million (U.S.) in cash, and potential future performance-based payments.
Sales of UCB’s dairy testing products approximated $9,000,000 million (U.S.) in its most recent fiscal year, of which over 90% represented sales outside North America. Beta Star, one of UCB’s key dairy antibiotic testing products, does not yet have FDA approval for sale to the large dairy market in the United States, but that approval is being pursued. Milk processors typically test raw milk arriving from dairy farms for antibiotic residues.
Products involved in the acquisition include the widely-used Penzyme product, and the newer technology Beta Star test. The Beta Star test uses a format nearly identical to Neogen’s simple dipstick tests for mycotoxins, food allergens, and ruminant by-products.
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Neogen Corporation and Subsidiaries
Schedule II
Valuation and Qualifying Accounts
Year Ended May 31
| Balance at Beginning of Year | Charged to Costs and Expenses | Acquisitions | Write-Offs | Balance at End of Year | |||||||||||
Valuation Allowance for Accounts Receivable: | ||||||||||||||||
2005 | $ | 571,000 | $ | 134,000 | $ | 174,000 | $ | 531,000 | ||||||||
2004 | 611,000 | 75,000 | $ | 20,000 | (1) | 135,000 | 571,000 | |||||||||
2003 | 537,000 | 170,000 | 11,000 | (2) | 107,000 | 611,000 |
(1) | Acquisitions of Hacco Inc. and Hess & Clark Inc. as of November 21, 2003. |
(2) | Acquisition of Adgen Ltd. as of February 28, 2003. |
Year Ended May 31:
| Balance at Beginning of Year | Charged to Costs and Expenses | Acquisitions | Write-Offs | Balance at End of Year | |||||||||
Valuation Allowance for Inventories: | ||||||||||||||
2005 | $ | 415,000 | $ | 69,000 | $ | 13,000 | $ | 471,000 | ||||||
2004 | 672,000 | 147,000 | 404,000 | 415,000 | ||||||||||
2003 | 633,000 | 77,000 | 38,000 | 672,000 |
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