Our water quality product group includes tests to detect toxicity in drinking water, industrial process water and wastewater, and tests to detect specific traits in soil and other waste matter for use at environmental remediation projects, hazardous waste operations and other applications.
Our antibody product group provides a wide array of antibodies and antibody services, including hybridoma development, calibrators, antigens and reagents and the production of monoclonal and polyclonal antibodies. Such antibodies are incorporated into test kits we manufacture as described above and diagnostic and therapeutic products, and used in clinical research.
We sell products and services in the food safety, water quality and antibody market categories through our U.S. direct sales force, a network of over 50 distributors in Canada, Mexico, Latin America, Europe and Asia and our corporate partners. These products and services are sold to a wide range of customers including water utilities, food processors, pharmaceutical, biotechnology and diagnostic companies and major biomedical research centers.
For the second quarter of 2005, gross profit (defined as total revenues less manufacturing costs) increased 15.7% to $3.29 million, compared to $2.84 million in the second quarter of 2004, and gross margins increased from 52.4% in the second quarter of 2004 to 52.9% in the second quarter of 2005.
Operating expenses for the second quarter of 2005 increased 14.6% to $5.99 million, compared to $5.23 million for the second quarter of 2004, partially due to research expenses incurred of $165,000 related to our investment in the commercialization of new technologies and high throughput production of antibodies.
Research and development spending was $737,000, or 11.9% of net revenues, in the second quarter of 2005, compared to $506,000, or 9.3% of net revenues, in the second quarter of 2004. This increase reflects our continued commitment to customer-centric product development.
Selling, general and administrative expenses were $2.32 million in the 2005 quarter, compared to $2.14 million for the same quarter in 2004. Selling, general and administrative expenses for the second quarter of 2004 reflect a benefit related to the recovery of a $100,000 receivable we had written off in 2001. No comparable benefit was recorded for the second quarter of 2005.
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We recorded interest income, net of interest expense, of $44,000 in the second quarter of 2005 compared to interest income of $10,000 in the prior year second quarter primarily due to higher levels of invested cash during the 2005 period.
Pre-tax income totaled $270,000 for the second quarter of 2005, compared to pre-tax income of $201,000 for the same period in 2004.
Our effective tax rate of 30% for the second quarter of 2005 is below the federal and state statutory rates primarily due to research and development credits and the utilization of foreign net operating losses not previously benefited.
Net income in the second quarter of 2005 was $189,000, compared to $148,000 for the same period in 2004, or $0.01 per diluted share for each quarter. Diluted shares utilized in these computations were 19,811,000 and 19,674,000 for the second quarter of 2005 and 2004, respectively.
Six Months Ended June 30, 2005 vs. June 30, 2004
For the six months ended June 30, 2005, revenues increased 8.5% to $12.77 million, compared to $11.77 million for the same period in 2004. Included in revenues in the six month period ended June 30, 2004 was $212,000 of sales associated with certain “catalog” antibody inventories that were written-off in the fourth quarter of 2003 with no associated cost of goods sold. StarLink™ test kit sales, as described above, decreased to $405,000 for the six month period ended June 30, 2005, compared to $512,000 for the same period in 2004. Sales of our test kits used in other agriculture applications were also down, primarily due to order pattern. We see the agriculture market becoming very competitive among providers of test methods. This market has not expanded as new product introduction has slowed, and existing applications have seen a decrease in testing demand.
Gross profit for the six months ended June 30, 2004 increased $372,000 compared to the first six months of 2004, from $6.57 million to $6.94 million, while gross margins decreased from 55.8% in 2004 to 54.3% in 2005.
For the six months ended June 30, 2005, operating expenses increased 9.2% to $11.98 million, compared to $10.97 million in the same period in 2004, due primarily to research expenses incurred of $297,000 related to our investment in the commercialization of new technologies and high throughput production of antibodies.
For the six months ended June 30, 2005, research and development spending was $1.38 million, or 10.8%, of net revenues, compared to $1.09 million, or 9.3%, for the same period in 2004.
Selling, general and administrative expenses were $4.77 million for the six months ended June 30, 2005, compared to $4.67 million for the same period in 2004. Selling, general and administrative expenses for the six month period ended June 30, 2004 included a charge of $100,000 associated with the termination of a distribution reseller agreement for an instrument we determined was not going to be marketable. No comparable charge was recorded for the six months ended June 30, 2005.
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We recorded interest income, net of interest expense, of $71,000 for the six months ended June 30, 2005 compared to $14,000 for the six months ended June 30, 2004, due to higher levels of invested cash during the 2005 period.
Pre-tax income totaled $867,000 for the six months ended June 30, 2005, compared to $818,000 for the same period in 2004.
Our effective tax rate of 30% for the six months ended June 30, 2005 is below the federal and state statutory rates primarily due to research and development credits and the utilization of foreign net operating losses not previously benefited.
Net income in the six months ended June 30, 2005 was $607,000, compared to $566,000 for the same period in 2004, or $0.03 per diluted share for each six month period. Diluted shares totaling 19,692,000 and 19,719,000 were used in the computation for the first six months of 2005 and 2004, respectively.
Product Groups
Food Safety Products- Food safety revenues were $1.85 million in the second quarter of 2005, compared to $1.41 million in the second quarter of 2004, an increase of 31.1%. For the six months ended June 30, 2005, food safety revenues were $4.35 million, compared to $3.65 million for the same period in 2004, an increase of 19.4%. Food pathogen test sales in the second quarter of 2005 and the six months ended June 30, 2005 were up 139.0% and 125.0%, respectively, compared to the same periods of 2004. Contributing to the increase in food pathogen test sales in the second quarter of 2005 is the impact of the previously announced exclusive agreement with an international distributor.
Water and Environmental Products– Water and environmental revenues increased 2.8% to $1.63 million for the second quarter of 2005, compared to $1.59 million for the same quarter in 2004, but decreased 6.4% to $2.85 million for the six month period ended June 30, 2005, compared to $3.05 million for the same period in 2004. Although this product group has historically had high attrition, our efforts, including the development of new channels to market, adding new products and adding sales professionals, are beginning to have a positive impact on revenues. This is the first quarter in several years where this product line has seen an increase over prior quarters. The previously announced US Biosystems (now Genapure) initiative was commercially launched to the Florida market in July 2005 and resulted in immediate sales.
Antibody Products- antibody revenues increased 13.0% to $2.73 million for the second quarter of 2005 compared to $2.42 million for the same quarter in 2004, and increased 9.6% to $5.57 million in the six months ended June 30, 2005, compared to $5.08 million for the same period in the prior year. The increase in the second quarter of 2005 over the same period in 2004 continues the improvement in the business, which saw a steep decline in revenues in the first half of 2004 associated with the completion of several large, one-time customer projects in 2003, and the discontinuation of low margin business early in 2004.
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Liquidity and Capital Resources
The net cash provided by operating activities of $277,000 for the six months ended June 30, 2005 was primarily the result of cash from operating activities being reduced by increases in current assets. The increase in current assets was primarily the result of the purchase of insurance for the 2005 business year.
Net cash used in investing activities of $544,000 for the six months ended June 30, 2005 was driven by capital expenditures primarily for laboratory and manufacturing equipment related to our investment in the commercialization of new technologies and high throughput production of antibodies. This compares to net cash used in investing activities of $87,000 for the same period in 2004, which was driven by capital expenditures for the period primarily related to purchases of office and manufacturing equipment.
Net cash provided by financing activities of $827,000 for the six months ended June 30, 2005 was primarily driven by proceeds from the exercise of stock options, which was partially offset by net repayments of outstanding debt. The $198,000 provided by financing activities for the same period in 2004 was primarily the result of acquiring a $551,000 loan to finance our 2004 business insurance program, net of debt repayments.
Our working capital, current assets less current liabilities, increased $1.47 million to $15.32 million at June 30, 2005 from $13.85 million at December 31, 2004, primarily due to the increase in current assets described above. Outstanding debt decreased $106,000 from $984,000 at December 31, 2004 to $878,000 on June 30, 2005, due to scheduled repayments.
On May 5, 2000, we entered into a financing agreement with a commercial bank. This agreement provides for a $4.00 million term loan, all of which had been paid on or before December 31, 2002, and for up to a $5.00 million revolving line of credit, none of which was outstanding and approximately $2.69 million of which was available at June 30, 2005, based on eligible assets.
The revolving line of credit bears a variable interest rate of between 1.75% and 2.75% over LIBOR depending upon the ratio of our funded debt to EBITDA, and is subject to a borrowing base determined by our eligible accounts receivable. Our annual effective rate of interest on this line of credit, taking into account the variable interest rate and LIBOR, was approximately 5.07% at June 30, 2005.
On December 13, 2001, we entered into an agreement with a commercial bank to finance the construction of new facilities at our Windham, Maine location. This agreement provides for up to $1.5 million in financing, $878,000 of which was outstanding at June 30, 2005, and is repayable over seven years, with principal payments that began on October 1, 2002. The loan bears a variable interest rate of between 2% and 3% over LIBOR depending upon the ratio of our funded debt to EBITDA. Payments are due monthly, with equal amortization of principal payments plus interest. Our annual effective rate of interest on this loan at June 30, 2005 was approximately 5.32%.
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Under the terms of the above financing, we are required to meet certain quarterly financial covenants that include a ratio of EBITDA to current maturities of debt plus interest and cash paid for taxes greater than 1.50 and a ratio of funded debt to EBITDA not to exceed 3.25. We met all of our financial covenants with respect to this indebtedness at June 30, 2005 and expect that we will be able to meet all of our financial covenants with respect to this indebtedness for the remainder of 2005.
For the six months ended June 30, 2005, we satisfied all of our cash requirements from cash provided by operating activities, cash available and on-hand and from the financing agreements described above. At June 30, 2005, we had $667,000 in long-term debt and stockholders’ equity of $33.38 million. Although we have no material commitments for capital expenditures at June 30, 2005, we do anticipate that we may spend approximately $1 million in 2005 to upgrade or expand certain manufacturing, research & development and office equipment and systems that will drive productivity or generate cost savings, and also to introduce automation into certain manufacturing processes that are currently labor intensive.
Based upon our cash on hand, credit facilities, current product sales and the anticipated sales of new products, we believe we have, or have access to, sufficient resources to meet our operating requirements at least through July 2006. Our ability to meet our long-term capital needs will depend on a number of factors, including compliance with existing and new loan covenants, the success of our current and future products, the focus and direction of our research and development programs, competitive and technological advances, future relationships with corporate partners, government regulation, our marketing and distribution strategy, our successful sale of additional common stock and/or our successfully locating and obtaining other financing, and the success of our plan to make future acquisitions. Accordingly, no assurance can be given that we will be able to meet the future liquidity requirements that may arise from these inherent and similar uncertainties.
Non-GAAP Financial Measures
EBITDA measures are presented as we believe this provides investors and our management with additional information to measure our liquidity. EBITDA measures are not a measure of performance under GAAP, and therefore should not be considered in isolation or as a substitute for net income or cash flows from operations. Additionally, our EBITDA calculations may differ from the EBITDA calculations for other companies.
The calculation of our EBITDA measure (as discussed above), and the reconciliation of our EBITDA measure to net cash provided by operating activities for the six months ended June 30, 2005 and 2004, respectively, is as follows:
| | | Six Months Ended June 30, | |
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| | | 2005 | | | 2004 | |
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Net cash provided by operating activities | | $ | 277 | | $ | 1,076 | |
Changes in assets and liabilities: | | | | | | | |
Receivables | | | 477 | | | 42 | |
Inventories | | | 176 | | | (149 | ) |
Other current assets | | | 525 | | | 172 | |
Other assets | | | 4 | | | — | |
Accounts payable | | | 350 | | | 106 | |
Accrued expenses | | | (344 | ) | | 47 | |
Interest income, net | | | (71 | ) | | (14 | ) |
|
EBITDA | | $ | 1,394 | | $ | 1,280 | |
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Item 3. Quantitative and Qualitative Disclosures About Market Risk
We have exposure to changing interest rates, and are currently not engaged in hedging activities. Interest on approximately $878,000 of outstanding indebtedness is at a variable rate of between 2% to 3% over the published London Interbank Offered Rate (LIBOR), based upon our ratio of funded debt to EBITDA, and was 3% over LIBOR on average for the year. At our current level of indebtedness, each 1% change in the variable interest rate will have an effect of $9,000 on our annual interest expense charges.
We conduct operations in United Kingdom. The consolidated financial statements are presented in U.S. dollars and changes in exchange rates between foreign countries and the U.S. dollar will affect the translation of financial results of foreign subsidiaries into U.S. dollars for purposes of recording our consolidated financial results. Historically, the effects of translation have not been material to the consolidated financial results.
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Item 4. Controls and Procedures
(a) Evaluation of Disclosure Controls and Procedures
Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures, as defined in Rule 13a-15(e) under the Securities Act of 1934, as amended, as of the end of the period covered by this report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures as of the end of the period covered by this report are functioning effectively to provide reasonable assurance that the information required to be disclosed by us in reports filed under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and that information required to be disclosed by us in the reports we file or submit under the Securities Exchange Act of 1934, as amended, is accumulated and communicated to our management, including our principal executive and financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. A controls system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the controls system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected.
(b) Change in Internal Control over Financial Reporting
No change in our internal control over financial reporting occurred during our most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
PART II – OTHER INFORMATION
ITEM 4. Submission of Matters to a Vote of Security Holders.
On May 3, 2005, we held our annual meeting of stockholders. At the annual meeting, the stockholders voted on the election of three directors, each for a two-year term. The voting results at the annual meeting were as follows:
Name of Nominee | | | | | | Votes For | | | | | | Votes Withheld | |
| | | | | | | | | | | | | |
Morton Collins | | | | | | 17,248,955 | | | | | | 132,071 | |
Matthew H. Knight | | | | | | 17,248,360 | | | | | | 132,666 | |
Grover C. Wrenn | | | | | | 17,244,388 | | | | | | 136,638 | |
The terms of Richard J. Defieux, Herbert Lotman, Timothy S. Ramey and Stephen L. Waechter as directors continued after the annual meeting.
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Item 6. Exhibits
10.1 | | | Exclusive Distribution and Supply Agreement, dated as of May 4, 2005, by and between the Registrant and the DuPont Qualicon division of E.I. du Pont de Nemours. * | |
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31.1 | | | Certifications of the Chief Executive Officer of Strategic Diagnostics Inc. required by Rule 13a-14(a) under the Securities Exchange Act of 1934 | |
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31.2 | | | Certifications of the Chief Financial Officer of Strategic Diagnostics Inc. required by Rule 13a-14(a) under the Securities Exchange Act of 1934 | |
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32.1 | | | Certification of the Chief Executive Officer of Strategic Diagnostics Inc. pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of Sarbanes-Oxley Act of 2002 | |
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32.2 | | | Certification of the Chief Financial Officer of Strategic Diagnostics Inc. pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of Sarbanes-Oxley Act of 2002 | |
* Confidential treatment has been requested as to certain portions of this exhibit pursuant to Rule 24b-2 under the Securities Exchange Act of 1934, as amended.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| | STRATEGIC DIAGNOSTICS INC. |
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Date: | August 15, 2005 | /s/ Matthew H. Knight |
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| | Matthew H. Knight |
| | President, Chief Executive Officer |
| | (Principal Executive Officer) |
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Date: | August 15, 2005 | /s/ Anthony J. Simonetta |
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| | Anthony J. Simonetta |
| | Vice President – Finance and Chief Financial Officer |
| | (Principal Financial and Accounting Officer) |
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