UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K/A [x] Amendment No. 2 to Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 (Fee Required) for the Fiscal Year Ended December 31, 1996. or [ ] 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 0-16864 GULL LABORATORIES, INC. ------------------------- (Exact Name of Registrant as Specified in its Charter) UTAH 87-0404754 ----------- ----------------- (State of Incorporation) (IRS Employer Identification Number) 1011 E. Murray Holladay Road Salt Lake City, UT 84117 ------------------------------ ---------- (Address of principal executive offices) (Zip Code) Registrant's telephone number: (801) 263 - 3524 Securities registered under Section 12(b) of the Exchange Act: Common Stock $.001 par value registered on the American Stock Exchange Securities registered under Section 12(g) of the Exchange Act: None Indicate by check/mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the proceeding twelve 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 ninety days. [x] Yes [ ] No Indicate by check/mark if disclosure of delinquent filers pursuant to Item 405 of Regulation 5K 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. [ ] The aggregate market value of the voting stock of the registrant held by non-affiliates of the registrant as of March 17, 1997 was $21,784,940 based upon the closing price on such date. The number of shares of common stock outstanding as of March 17, 1997 was 6,588,696. Documents Incorporated by reference: None -1- The Registrant's Form 10-K for the Fiscal Year ended December 31, 1996 is hereby amended and restated so as to read in its entirety as follows: PART I ITEM 1: DESCRIPTION OF BUSINESS BUSINESS DEVELOPMENT Diagnostic Products Gull Laboratories, Inc. (the "Company") started doing business in 1974. It develops, manufactures and markets diagnostic test kits and materials designed to detect past or present infection caused by certain microbial agents such as viruses, bacteria, and protozoa and to detect certain autoimmune disorders. The products are based on established immunological assay methods including indirect immunofluorescent antibody assay (IFA), enzyme-linked immunosorbent assay (ELISA), immunodiffusion and Western Blot. The Company's diagnostic products are used by private laboratories and hospital clinical laboratories worldwide. The Company has direct sales forces in the United States, Belgium, France and the Netherlands to sell its diagnostic products. In other areas throughout the world, the Company uses a network of distributors and OEM relationships to market its products. The Company uses a systems approach to market its diagnostic products, coupling diagnostic reagents with instrumentation obtained from equipment manufacturers. A private or hospital clinical laboratory is able to gain operating efficiencies by automating its test methods and the Company is able to secure a long-term commitment for the sale of its products. The Company has an exclusive worldwide distribution agreement to market an automated clinical laboratory sample processor called DUET(tm), which addresses the needs of the moderate to high volume laboratory testing market. The Company's other instrumentation offerings focus on the low and the high volume markets. In March 1996, the Company announced that it was developing a new diagnostic test system, called GeneSTAR(tm), that uses DNA based technology. The GeneSTAR technology is expected to be able to detect five separate genetic targets simultaneously without favoring any individual target and also confirm performance with a genetic internal control. Current commercially available products have only been able to detect up to two targets. The GeneSTAR(tm) technology also provides more rapid sample processing and can easily be adapted to instrumentation already in use in many private and hospital clinical laboratories. The Company expects to launch the first GeneSTAR(tm) product in Europe and to begin clinical trials in the United States in late 1997. The initial application of the technology will focus on the detection of up to five different gastrointestinal pathogens in fecal samples which are extremely difficult to isolate and assay and contain large amounts of interfering substances. Additional applications are planned for respiratory infections and systemic blood infections. GeneSTAR(tm) is designed -2- to detect infectious agents in a wide range of specimens, including serum, whole blood, sputum, bronchial lavage, tissue culture, fecal samples, and cerebral spinal fluid. In July 1996, the Company released XTRAX, a patented component of its GeneSTAR technology that extracts genomic DNA from patient samples. In January 1997, the Company announced that it had entered into an exclusive distribution agreement with Genaco Biomedical Products to market XTRAX into the People's Republic of China for use in the medical laboratory market for cancer screening, diagnosis of infectious disease, and prenatal screening. While the People's Republic of China is a large potential market for the Company, sales to Genaco are not expected to have a material impact on the Company's revenues in 1997. In 1996, Gull also entered into three strategic alliances in order to broaden its product offerings and strengthen its distribution channels. In June 1996, the Company entered into a collaborative arrangement with Associated Regional Pathologists, Inc., a reference laboratory specializing in esoteric testing, to develop new diagnostic products and to provide Gull with clinical evaluations of new technology. In August 1996, the Company entered into an agreement with Shield Diagnostics ("Shield") to distribute Shield's autoimmune products and for Shield to distribute certain of Gull's DNA products in the United Kingdom. In September 1996, Gull entered into two agreements with American Biogenetic Sciences ("ABS") to manufacture and distribute, in various automated microELISA formats, ABS's proprietary Thrombus Precursor Protein ("TpP") assay, which measures blood levels of soluble fibrin polymer, the immediate precursor to a blood clot. The Company is currently sponsoring clinical trials to evaluate the effectiveness of TpP in detecting the formation of thrombus in dialysis and surgical patients. Because these strategic alliances are in their developmental stages, the Company does not believe that any of these strategic alliances will have a material impact on the Company's revenues in 1997. Bioreagents Through its wholly owned subsidiary, Biodesign, Inc. ("Biodesign"), which the Company acquired in 1993, the Company also distributes, manufactures and sells bioreagents and other related products to both the industrial and scientific communities throughout the world. Biodesign has its own direct sales force for sales to key customers in the United States but principally uses telemarketing and direct mailings to market its products worldwide. College of American Pathologists The Company also supplies proficiency challenge materials to the College of American Pathologists ("CAP") which provides the principal proficiency and accreditation service for U.S. clinical laboratories. Sales to CAP in 1996, 1995, and 1994 ran $2,776,045, $2,718,761, and $1,922,373 or 16%, 14%, and 12% of the Company's sales, respectively. The benefits of the -3- CAP contracts go beyond increased direct sales. The Company's management believes that the Company's reputation for high quality products is enhanced in clinical laboratories which participate in CAP proficiency testing programs. As such, the Company will devote significant resources to securing additional commitments to supply materials for future CAP surveys as well as other contract manufacturing business. Other A controlling interest in the Company is held by Fresenius AG, a multinational manufacturer and distributor of pharmaceutical, diagnostic and medical systems products. Fresenius AG also owns a majority of the voting shares of Fresenius Medical Care AG, the world's largest fully integrated dialysis products and services company. Fresenius AG, through the diagnostics business unit of its I+D Division, has marketed the Company's products in Germany and is its single largest customer of non-CAP related products. In 1996, 1995, and 1994 the Company's sales to Fresenius AG totaled $1,535,943, $2,370,977, and $1,106,528, or 9%, 13%, and 7% of the Company's consolidated sales, respectively. See "Item 13 - - Certain Relationships and Related Transactions" for a discussion of the Company's acquisition of certain assets of the diagnostics business unit of the I + D Division of Fresenius AG. Dr. George R. Evanega was hired as the Company's Chief Executive Officer and President in October 1995 and Jacques Bagdasarian was named as the general manager of the Company's European operations in January of 1996. Mr. Bagdasarian resigned effective December 31, 1996 due to health reasons. He has been replaced by John Turner. The geographic distribution of the Company's sales is as follows: ------------------------------------------------ Year Ended December 31 Area 1996 1995 1994 ------------------------------------------------ United States 57% 48% 42% Europe 36% 42% 49% Pacific Rim 6% 6% 5% Other 1% 4% 4% Total 100% 100% 100% ------------------------------------------------ No customer or distributor other than CAP and Fresenius AG accounted for more than 10% of the Company's consolidated sales during any period. The Company's common stock is listed on the American Stock Exchange where it is traded under the symbol "GUL." -4- COMPETITION The Company competes in a diversified market characterized by a few strong companies and numerous smaller companies that manufacture and sell diagnostic tests similar to those sold by the Company. Many of these competitors have greater financial, technological and personnel resources than the Company. The primary bases of competition include price, product quality, and labor saving potential to the client through instrumentation and the breadth of a company's overall product offering. In response to worldwide healthcare cost containment pressures, there has been a trend toward the consolidation of suppliers and customers within the diagnostics industry. This trend could lead to a few large companies supplying the majority of the diagnostics market to a smaller number of larger private laboratories and hospital clinical laboratories with many smaller niche companies supplying the remaining needs of the market. Management believes that the future success of the Company will be contingent upon its ability to identify and exploit such market niches and new product opportunities, to continue supplying quality, cost effective solutions to its customer's needs, and to strengthen its worldwide distribution network. Newly designed diagnostic methods and product innovations are important potential sources of change in market share in the biomedical industry. Competing companies with greater resources can be expected to spend substantially greater amounts than the Company on research and development activities and on marketing their products. The Company believes, however, that it currently possesses sufficient capabilities through the development and rapid market introduction of innovative new products to maintain or improve its market position. The Company's competitors are also responding to healthcare cost containment pressures by moving their product lines rapidly toward full automation which is less labor intensive. Many of these companies are already offering instrumentation to customers, while the Company entered that area of the diagnostics market at the end of 1993. The Company believes, however, that by automating its high quality diagnostic tests with instrumentation obtained through alliances with manufacturers it will be able to expand its market position. In addition to competitors with the same type of products, the Company also competes with companies which manufacture and sell devices that detect antibodies and infectious agents by alternate methods. For example, radioimmunoassay (RIA), which uses radioactive isotopes for detection, may be used instead of the Company's current products. The Company's products have been competitive with these and other alternative tests methods for several years. SOURCES AND AVAILABILITY OF RAW MATERIALS Although certain raw materials and key components of the Company's products are now purchased from a single supplier, the Company has not experienced difficulty in obtaining the raw materials necessary to manufacture its products. Alternative sources of supply for all of the Company's raw materials or key components are available and the Company would not sustain a significant interruption to its business if it were unable to obtain a certain item from one of its current suppliers. -5- TRADEMARKS AND PATENTS The Company relies upon its technical expertise and trade secrets to maintain its position in the industry and uses its best efforts, where appropriate, to obtain patents on new processes and techniques as they are developed. The Company has filed for several patents and trademarks and has received one patent relating to its new GeneSTAR(tm) technology, which is currently under development. The Company has also received registration of the trademark and trade name "Gull" in the United States and other countries throughout the world through the Intellectual Property Organization. REGULATION Regulatory Approval The diagnostic products manufactured or distributed in the United States by the Company for use by private laboratories and hospital clinical laboratories are subject to the requirements imposed by the Food, Drug and Cosmetic Act, as amended by the Medical Device Amendments Act of 1976, which requires that any company proposing to market a medical device must notify the Food and Drug Administration ("FDA") of its intentions at least 90 days before doing so. Historically, the Company could generally expect approval to market a new diagnostic product intended for use outside of the human body 90 to 120 days after notifying the FDA of its intent to do so, providing such product was substantially equivalent to one already on the market. Currently, the FDA is taking from 120 to 180 days to approve products for market. This has the impact of delaying the introduction of any new products into the United States market 120 to 180 days from the time that they can be introduced into certain other foreign markets. The Company must also comply with certain regulations imposed by foreign government agencies comparable to the FDA in the various foreign countries that it markets its products. Most of these regulations are less stringent than those imposed by the FDA and the Company has not experienced any significant problems complying with the regulations. Good Manufacturing Practices In the United States, the Company must operate its manufacturing operations in conformity with Good Manufacturing Practices ("GMP") as prescribed in U.S. Code of Federal Regulations ("CFR") governing the manufacture of medical devices. The Company's facilities and its operations are subject to inspection by the FDA. The Company believes that it is in conformity with all such regulations. Additionally, member nations of the European Community are developing a standardized quality system similar to GMP called EN 29000 that is anticipated to be effective no sooner than 1998 and will allow a three year period to conform to the directive. The Company will also be required to conform to the EN 29000 regulations for any product sold in the European Community. EN 29000 is not expected to be any more stringent that the FDA's GMP. -6- Healthcare Cost Containment Governments and other third party payors of healthcare costs worldwide are examining methods to control the rising costs of providing healthcare. Decreasing or eliminating reimbursements for costs that are determined to be discretionary or non-essential is one method that is being discussed or has already been implemented. Regulations and market trends such as the above could affect the Company's ability to sell its products and, to the extent that the Company is unable to effect commensurate cost reductions, could decrease the Company's profitability. Environmental Regulations There have been no significant incremental costs incurred by the Company to comply with environmental regulations. As part of its compliance with GMP requirements, the Company has already implemented what it believes to be prudent and effective programs to ensure a high level of environmental safety. The Company has no plans to increase expenditures for environmental control capability in the foreseeable future. RESEARCH AND DEVELOPMENT The Company has ongoing research and product development programs in the area of medical diagnostics, focusing primarily on methods that clinical laboratories use to detect the body's immune response to specific disease agents, cardiovascular diseases, and autoimmune disorders. The Company's new GeneSTAR(tm) technology also uses DNA based methods to directly detect specific infectious agents of numerous other diseases. During 1996, the Company continued its research and development focus on developing tests which use ELISA methods. Several other tests for the detection of infectious disease agents are currently under consideration for development. Additionally, tests for the detection of noninfectious diseases with new methodologies are being explored. For the years ended December 31, 1996, 1995, and 1994, the Company expended approximately $1,423,000, $902,000, and $1,220,000, respectively, for research and development. This represented approximately 8% of sales in 1996, 5% of sales in 1995, and 8% in 1994. The 1995 decrease in research and development expenditures was directly attributable to cutbacks in the Company's European operations, while research and development expenditures in the United States increased. Management anticipates research and development expenditures will remain constant or increase slightly as a percentage of sales in 1997. The Company has also taken over the research and development activities of the business to be acquired from Fresenius AG. EMPLOYEES At December 31, 1996, the Company had 144 employees of which 10 were part time. None of the Company's employees at December 31, 1996 were -7- unionized. Upon consummation of the acquisition of the Fresenius AG diagnostics business unit, the Company will have 182 employees. ITEM 2: DESCRIPTION OF PROPERTY The Company's executive offices and principal United States manufacturing facilities are located in two buildings totaling 33,000 square feet in Salt Lake City, Utah. The facilities house modern offices, production and product development facilities. The headquarters facilities are financed by a long-term mortgage with an unrelated third party that is secured by the land and the buildings. In 1994, the Company received zoning approval to construct a 30,000 square foot addition to its manufacturing facilities on 2.17 acres of undeveloped property adjacent to the building that has been reserved for future expansion. The Company has not yet determined whether or when the new addition might be constructed. The approval extends through the end of 1997 and can be extended again if allowed to expire. In 1996, the Company relocated its European operations headquarters to Louvain-La-Neuve, Belgium where it rents approximately 5,800 square feet of a facility that houses administration, distribution, and limited manufacturing facilities. The Company also rents a small sales office in France. ITEM 3: LEGAL PROCEEDINGS The Company is a party to various legal proceedings incidental to its business. Management currently believes that none of the proceedings will have a material adverse effect on the Company's business or financial condition. There are no material legal proceedings known to be contemplated by any governmental authority. 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 1996. PART II ITEM 5: MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Market Information The Company's common stock is listed on the American Stock Exchange where it is traded under the symbol "GUL." -8- The following table sets forth, for the periods indicated, the prices of the Company's common stock, based on the closing sale quotation without markup, markdown, commissions or adjustments. ------------------------------------------------ Prices of Common Stock ================================================ Quarter Ended Low High ------------------------------------------------ 1995 March 31, 4.000 6.375 June 30, 5.000 5.875 September 30, 5.000 6.500 December 31, 4.250 5.875 ------------------------------------------------ 1996 March 31, 3.625 5.500 June 30, 4.250 5.500 September 30, 4.125 7.125 December 31, 5.875 12.500 ------------------------------------------------ Security Holders On June 15, 1997 there were approximately 1,000 beneficial owners of the Company's common stock. Dividends No cash dividends have been paid by the Company since its inception. The Company intends to use future earnings to finance additional growth and, therefore, does not anticipate paying dividends in the foreseeable future. ITEM 6: SELECTED CONSOLIDATED FINANCIAL DATA The following table sets forth selected consolidated financial information with respect to the Company for the periods indicated. This information should be read in conjunction with the Company's consolidated financial statements and related notes and "Management's Discussion and Analysis of Financial Condition and Results of Operations" appearing herein. -9- - ------------------------------------------------------------------------------ Statement of Operations (000's Omitted) - ------------------------------------------------------------------------------ Year Ended December 31, - ------------------------------------------------------------------------------ 1996 1995 1994 1993 1992 ---------------------------------------------- Sales $17,909 $18,828 $15,842 $15,406 $14,646 Net Income (loss) 241* 353* (311) (401) (507) Net income (loss) per common and common equivalent share 0.04 0.05 (0.05) (0.06) (0.08) - ------------------------------------------------------------------------------ *See "1996 Compared to 1995" in "Results of Operations" below. There were no cash dividends declared in the periods presented above. - ------------------------------------------------------------------------------ Balance Sheet Data (000's Omitted) - ------------------------------------------------------------------------------ Year Ended December 31, - ------------------------------------------------------------------------------ 1996 1995 1994 1993 1992 ----------------------------------------------- Working capital $ 2,740 $ 125 $ 1,910 $ 2,064 $ 933 Total assets 12,353 12,318 11,502 10,446 11,336 Total long-term obligations 2,786 132 2,478 2,347 3,549 Stockholder's equity 4,975 4,741 4,080 4,493 3,177 - ------------------------------------------------------------------------------ ITEM 7: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This Annual Report contains both historical facts and forward-looking statements. Any forward-looking statements involve risks and uncertainties, including but not limited to risk of product demand, market acceptance, government regulation, economic conditions, competitive products and pricing, difficulties in product development, commercialization and technology and other risks detailed in this filing. Although the Company believes it has the product offerings and resources for continuing success, future revenue and margin trends cannot be reliably predicted. Factors external to the Company can result in volatility of the Company's Common Stock price. Because of the foregoing factors, recent trends should not be considered reliable indicators of future stock prices or financial performance. -10- LIQUIDITY AND CAPITAL RESOURCES In 1996, working capital increased by $2,615,028 to $2,739,891, as compared to $124,863 in 1995. The Company's current ratio of current assets divided by current liabilities increased from 1.0 in 1995 to 1.7 in 1996 and the Company's ratio of total liabilities to equity decreased from 1.6 to 1 in 1995 to 1.5 to 1 in 1996. The mortgage on the Company's headquarters facility became due in July 1996. As such, the mortgage was classified as part of the current maturities of long-term debt and included in current liabilities. The Company obtained a new mortgage in 1997. Without reflecting the balloon payment as a current liability, working capital at December 31,1995 would have been $1,910,604 or approximately $725,000 less than the 1996 working capital level and the current ratio of current liabilities divided by current assets would have been 1.4. The Company sells and leases laboratory equipment in order to help customers gain operating efficiencies through automating their operations and to compete with industry practices. Equipment is normally placed with a customer for a 90 day evaluation period. Following the evaluation, the equipment may be sold, leased or rented to the customer or returned to the Company. This program has required and will continue to require a significant capital investment by the Company. At December 31,1996, the Company had approximately $725,000 available under lines of credit with its banks and had commitments of approximately $430,000 for the purchase of capital assets. The Company believes that cash flow generated from operations and its existing lines of credit will be sufficient to meet its short-term working capital requirements. As part of the acquisition of the Fresenius AG diagnostics business unit, the Company has committed to implement a data processing system which the Company believes can be implemented at a cost of less than $100,000.00. The cost of implementing the data processing system was contemplated as part of certain financing that Fresenius AG has agreed to make available to the Company in connection with the Company's acquisition of the Fresenius AG diagnostics business unit. As the Company continues to grow, and if losses in the Company's European operations increase, the Company will need to obtain additional financing to fund the Company's operations and instrumentation program and to increase building and equipment capacity. Although as of December 31, 1996, the Company does not have any funding commitments, to the extent that working capital needs cannot be financed through internally generated funds, the Company believes that additional debt, equity and lease financing can be obtained to meet the Company's long-term financing needs. INDUSTRY TRENDS There is an increasing effort by governmental agencies worldwide to control rising healthcare costs. Decreasing or eliminating reimbursements to patients for medical expenses that are determined to be discretionary or non-essential is one of the methods that is being discussed or has already been implemented. These efforts are causing the diagnostics market to shift away from the Company's more profitable IFA (Immuno Florescence Assay) products to the less profitable ELISA (Enzyme Linked Immuno-Sorbent Assay) products, which are less expensive for private laboratories and hospital clinical laboratories to perform on a cost per test basis to the customer and -11- can be automated. IFA tests are more profitable because there is less competition in the marketplace and because the manufacturing cost per test is lower for IFA products than for ELISA products. The trend toward consolidation into larger volume laboratories has also increased the level of automation and related volume discounts. This trend, which is likely to continue, is expected to put pressure on the Company to maintain or decrease the prices of many of its existing products. The Company is aggressively moving to offset these pressures through programs to increase productivity, lower manufacturing costs and expand its distribution network. As mentioned above, the Company assists its customers in automating their operations to gain operating efficiencies by offering laboratory equipment under sales, lease or rental agreements. Under the terms of the lease and rental agreements, the customer commits to purchase a minimum monthly level of product from the Company in exchange for the Company placing the instrument in the laboratory. The customer is charged for the reagents plus a charge for the use of the instrument on a pay-as-you-use basis. This type of program enables the Company to sell to larger clinical and hospital laboratories. However, the program causes downward pressure on gross profit margins on reagent sales due to larger volume purchase discounts. Also because the Company does not manufacture the instrumentation, the Company realizes a smaller gross profit on the sale of the equipment than on its reagent sales. RESULTS OF OPERATIONS 1996 Compared to 1995 In 1996, the Company had net income of $240,712 compared to net income of $212,456 in 1995. In 1995, the Company had nonrecurring income of approximately $520,000 resulting from the sale of its European Operations' headquarters. This gain was recorded as "Other Income." Without this one time gain, the Company would have lost approximately $310,000 in 1995. There were no such items in 1996. Consolidated sales in 1996 decreased 5% to $17,908,752 compared to $18,827,853 in 1995. The sales decrease was due to changes in volume rather than changes in prices. Sales of the United States' operations in 1996 were comparable to the sales level in 1995. A 26% increase in the sales of the Company's Bioresearch Operations (Biodesign) and a 12% increase in instrumentation and domestic ELISA reagent sales were offset by decreases in worldwide IFA reagent sales and export ELISA sales. Export sales from the United States in 1996 decreased 17% compared to 1995 sales. Sales to unaffiliated customers of the Company's European Operations decreased 13%, principally due to the loss of significant distribution product lines, product shortages and increased competition. The loss of distribution product lines resulted in a sales decrease of approximately $190,000 in 1996 as compared to 1995. The Company found a replacement vendor for some of the products but the vendor was not able to adequately supply products to meet the Company's needs. Product shortages also occurred when the Company contracted with an outside vendor for the production of a product that it had previously manufactured in Europe. The technology transfer process took longer than anticipated and the Company was placed in a back order position for approximately seven months. The effect on sales of the product shortages cannot be specifically quantified. -12- The Company's gross profit margin increased from 52% in 1995 to 53% in 1996. The increase in the gross profit margin, caused by manufacturing efficiencies and lower inventory write offs, was partially offset by the continued shift from the Company's IFA products to less profitable ELISA products. Also, the Company's new DUET(tm) instrument has higher gross profit margins than other instrument offerings. In 1995, the Company wrote off over $200,000 of excess and obsolete inventories in its European operations due to the discontinuation of its internally developed autoimmune product line and shortfalls in forecasted product demand. Selling, General and Administrative expenses of $6,856,018 or 38% of sales in 1996 were comparable with the 1995 cost level of $7,415,244 or 39% of sales. Research and development costs increased from $901,633 or 5% of sales in 1995 to $1,422,926 or 8% of sales in 1996. The Company shifted substantially all of its research and development efforts to the United States in 1995, causing a decrease in research and development costs both in absolute dollar terms as well as on a percentage of sales basis. Expenditures for research and development increased substantially in 1996 as the Company increased its efforts to identify and develop technologies, such as GeneSTAR, that will give it a sustainable competitive advantage. 1995 Compared to 1994 In 1995, the Company had net income of $212,456 compared to a $311,102 net loss in 1994. Consolidated sales increased 19% to $18,827,853 in 1995 compared to $15,841,606 in 1994. The sales increase was due to changes in volume rather than changes in prices. Sales of the United States' operations increased 27% due to a 20% increase in ELISA sales and a 41% increase in sales to the College of American Pathologists. Instrumentation sales increased from $25,572 in 1994 to $877,431 or 5% of consolidated sales in 1995. Sales of the Company's European operations decreased 13%, principally due to the loss of a significant distributed product line and due to increased competition in the Netherlands autoimmune market. The Company's gross profit margin decreased from 55% in 1994 to 52% in 1995. The decrease in gross profit margins in 1995 is due to the continued shift from the Company's IFA products to less profitable ELISA products, the increase in less profitable instrumentation sales as a percentage of total sales and due to a $200,000 write off of excess and obsolete inventories in Europe. Also, the Company's new DUET(tm) instrument has higher gross profit margins than other instrument offerings. Selling, General and Administrative costs increased 22% from $6,101,852 or 39% of sales in 1994 to $7,415,244 or 39% of sales in 1995. Approximately $200,000 of the increase was due to recruiting and relocation costs incurred in hiring a new Chief Executive Officer and President. The increase was also caused by increases in distribution and hazardous material packaging costs, consulting fees, new product validations and promotion and advertising costs associated with the launch of the Company's new DUET(tm) instrumentation. Additionally, the Company incurred significant travel costs associated with monitoring its European operations while it was hiring new European management. -13- Research and development costs decreased from $1,219,582 or 8% of sales in 1994 to $901,633 or 5% of sales in 1995. The Company shifted substantially all of its research and development efforts to the United States in 1995, causing a decrease in research and development costs both in absolute dollar terms as well as on a percentage of sales basis. In an effort to bring its European operations to profitability, the Company incurred restructuring charges of $371,225 and $775,000 in 1993 and 1994, respectively. Due to continuing large losses in 1995, it became apparent that additional restructuring of the European operations was required. Therefore, the Company terminated the management of its European operations and decreased the European head count from 31 employees to 18. The Company recorded $505,260 in restructuring costs relating to the additional reduction in head count in 1995. Other income in 1995 included approximately $520,000 realized on the sale of its European Operations' headquarters. Interest income also increased approximately $73,500 in 1995 due to interest earned on notes receivable arising from the sale of instruments. Inflation The Company believes that inflation has not had a material impact on its operations or liquidity to date. ITEM 8: FINANCIAL STATEMENTS The Financial Statements and Schedules of the Company are submitted as a separate section of this report and listed in the index thereto. ITEM 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE There have been no Form 8-K filings reporting a change of accountants or reporting disagreement on any matter of accounting principle or financial statement disclosure during the two most recent fiscal years or in any period subsequent thereto. -14- PART III ITEM 10: DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT Certain information concerning the members of the Board of Directors is set forth below: - ------------------------------------------------------------------------- Has Served as Director Name of Director Age Company Position Since - ------------------------------------------------------------------------- Myron W. Wentz 56 Director 1974 Chairman of the Board Matthias Schmidt 38 Director 1997 Anne-Marie Ricart 55 Director 1993 Gerd Krick 58 Director 1994 Ulrich Wagner 53 Director 1994 Peter Gladkin 49 Director 1995 George R. Evanega 61 Director 1995 Chief Executive Officer President - ------------------------------------------------------------------------- In 1994, Fresenius AG purchased a controlling interest in the Company from Gull Holdings Ltd. ("GHL"), an Isle of Man corporation wholly owned by Dr. Myron W. Wentz, a Director and Chairman of the Company. In connection with the purchase, Fresenius AG agreed, to the extent allowed by applicable law and the fiduciary responsibilities of Fresenius AG, to cause Dr. Wentz to be nominated to the Board of Directors and to endeavor to cause Dr. Wentz to be elected as Chairman of the Board of Directors. GHL agreed that, for a period of seven years commencing on the date of the sale, GHL and its affiliates would not, without the prior written consent of Fresenius AG: (a) make or participate in any solicitation of proxies, or seek to advise or influence any person with respect to the voting of any securities of the Company; (b) form, join or in any way participate in a "group" within the meaning of sec. 13(d)(3) of the Securities Exchange Act with respect to the voting securities of the Company; -15- (c) induce or attempt to induce or give encouragement to any other person to initiate any proposal or tender or exchange offer for equity securities or change of control of the Company; or (d) otherwise act, alone or in concert with others, to seek to control or influence the management, Board of Directors or policies of the Company. There are no family relationships among any of the members of the Board of Directors or among such members and the current management of the Company. Directors Myron W. Wentz Myron W. Wentz, Ph.D., has been Chairman and a Director of the Company since 1974, and continues to serve in those positions. Until 1992, Dr. Wentz was President of the Company. He developed the IFA products currently being manufactured and marketed by the Company. From 1969 to 1973, Dr. Wentz served as Director of Microbiology for three hospitals in Illinois. Dr. Wentz received a Ph.D. in microbiology, with a specialty in immunology from the University of Utah, a M.S. degree in microbiology from the University of North Dakota and a B.S. degree in biology from North Central College. Dr. Wentz is also Chairman and President of USANA, Inc., a publicly-traded company that manufactures and distributes nutritional products. Matthias Schmidt Dr. Matthias Schmidt became a director and vice chairman of the Company in January 1997. Dr. Schmidt has been Chairman of the Supervisory Board of Fresenius Medical Care AG ("Fresenius Medical Care"), the world's largest integrated provider of renal dialysis products and services, since September 1996. Fresenius AG owns 50.3% of the outstanding Ordinary Shares of Fresenius Medical Care, which is listed on the New York Stock Exchange. Dr. Schmidt has served as president of the Pharmaceuticals Division of Fresenius AG since September 1986, interim president of the Intensive Care + Diagnostics Division (the "I+D Division") of Fresenius AG since November 1996, and a member of the Management Board of Fresenius AG since July 1985. Dr. Schmidt is also a director of Hemosol Inc., a Canadian development stage biopharmaceutical company listed on the Toronto Stock Exchange and engaged in development of a human blood substitute and stem cell research. Anne-Marie Ricart Anne-Marie Ricart became a Director of the Company in June 1993. Ms. Ricart founded Biolab SA, a subsidiary of the Company now known as Gull Diagnostics SA, with Dr. J. A. Engels in 1971, and still serves as a Director of Gull Diagnostics SA. Previously, Ms. Ricart co-owned and was Administrateur-Delegue of a private endocrinology laboratory and held laboratory positions in Belgium and Salt Lake City, Utah. She studied chemistry for two years at the Institute Meurice in Belgium. -16- Gerd Krick Dr. Gerd Krick has been Chairman of the Managing Board and Chief Executive Officer of Fresenius AG since August 1993 and Chairman of the Managing Board and Chief Executive Officer of Fresenius Medical Care since September 1996. Prior to August 1993, he held various positions with Fresenius AG, including Deputy Chairman of the Managing Board and Director of the Medical Systems Division. Dr. Krick holds a Ph.D. degree in mechanical engineering from T.H. University, Munich, Germany. He is also Chairman of the Board of Directors of Fresenius National Medical Care Holdings, Inc. ("FNMC"), a publicly held subsidiary of Fresenius Medical Care and Chairman of the Board of Directors of Fresenius USA, Inc. ("FUSA"), a manufacturer and distributor of dialysis equipment and related disposable products (including products manufactured by Fresenius Medical Care). FUSA was publicly held until September 1996, when it became a wholly owned subsidiary of FNMC. Ulrich Wagner Dr. Ulrich Wagner has been a partner of O'Melveny & Myers LLP, a law firm which represents Fresenius AG, since 1982. He served as a director of FUSA from October 1989 through October 1989 and from March 1992 until September 1996. Dr. Wagner received his J.D. degree at the University of Frankfurt (Germany) and holds L.L.M. and J.D. degrees from the University of California at Berkeley. Peter Gladkin Peter Gladkin was elected to the Board in 1995. For the past three years, Mr Gladkin was the President and Chief Operating Officer of Health Data Sciences Corporation ("HDS"). Prior to joining HDS, he gained a broad range of senior management experience in twenty-three years at Hewlett Packard Company's domestic and European operations. Mr. Gladkin's most recent position at Hewlett Packard was General Manager of the Healthcare Information Systems unit. He obtained B.S. degrees in chemistry and physics from the University of Illinois and an M.B.A. degree from the Northwestern Graduate School of Business. George R. Evanega George R. Evanega, Ph.D. was appointed Chief Executive Officer, President and a Director of Gull in October 1995. He came to Gull from Oncor, Inc., where he had served since 1991 as President, Chief Operating Officer and Director. He was also President of Oncor Image Instruments from 1993 until October 1995. Previously Dr. Evanega was Corporate Vice President and Chief Administrative Officer and Director with Miles, Inc. He earned a B.S. degree in chemical engineering from Lehigh University, and M.S. and Ph.D. degrees in organic chemistry from Yale University. Dr. Evanega's experience in the biomedical industry includes positions as Vice President of research, marketing and sales, as well as a broad range of management positions with Boehringer Mannheim, Pfizer Pharmaceutical and Union Carbide. -17- The Company has adopted a policy of paying outside Board members compensation of $8,000 per year for service as a Board member. Total Board compensation for 1996 was $40,000. Executive Officers The executive officers of the Company are as follows: -------------------------------------------------------------------- Name Age Position with the Company -------------------------------------------------------------------- Myron W. Wentz 56 Chairman of the Board of Directors George R. Evanega 61 Chief Executive Officer and President Fred Rachford 56 Senior Vice President Regulatory Affairs/Quality Assurance Ernest Sumsion 50 Senior Vice President Operations Michael B. Malan 41 Secretary/Treasurer John Turner 50 European General Manager and Vice President Andrew Taylor 54 Vice President Sales and Marketing Linxian Wu, Ph.D. 42 Vice President Research and Development ------------------------------------------------------------------ Each officer has been elected to hold office until his successor has been duly elected or he sooner resigns or is removed in accordance with law and the Company's bylaws. For biographical information with respect to Dr. Wentz and Dr. Evanega, see "Directors." Fred Rachford Fred Rachford, Ph.D., joined the Company in October 1983. Dr. Rachford directs the Regulatory Affairs and Quality Assurance departments of the Company and administers the contracts with the College of American Pathologists. Prior to joining the Company, he was employed by Baxter-Travenol Laboratories in Research and Development. Dr. Rachford received his Ph.D. and M.S.P.H. degrees from the University of North Carolina and a B.A. degree from Chico State College. -18- Ernest Sumsion Mr. Sumsion has been employed by the Company since August 1984 and has been in charge of Operations since 1993. Mr. Sumsion became a Senior Vice President of the Company in 1996. He served as Interim President of the Company from May to October 1995. He earned a B.S. degree in microbiology from Brigham Young University and a M.B.A. degree from the University of Utah. Michael B. Malan Michael B. Malan, M.B.A., C.P.A., joined the Company as its Director of Finance in January 1992 and became its Secretary and Treasurer in February 1992. From 1988 to 1991, Mr. Malan was the Chief Financial Officer of Professional Lithographers, Inc. in Provo, Utah. From 1981 to 1988, Mr. Malan was employed with a national accounting firm. Mr. Malan received M.B.A. and B.A. degrees in accounting and finance from the University of Utah. John Turner Mr. Turner joined the Company in January 1997. He previously held several executive positions with the Diagnostics Division of Beckman Instrumentation from 1990 to December 1996, most recently as the General Manager of its French operations. Mr. Turner also has sales and marketing experience with Pharmacia Diagnostics and Technicon International. He earned a degree in biochemistry from the Bromley School of Technology in Kent, England. Andrew Taylor Mr. Taylor joined the Company in 1993. From 1986 to 1993, he was Vice President of Marketing and Sales for Mountain Medical, Inc. He has twenty-five years of experience in medical products sales and marketing, holding executive and management positions with such companies as Mountain Medical, Becton Dickinson Immunodiagnostics, United States Surgical, and Pfizer Diagnostics. Mr. Taylor received a B.S. degree in science education from East Carolina University. Linxian Wu, Ph.D. Dr. Wu obtained his Ph.D. degree in microbiology and infectious disease from the University of Alberta, Edmonton, Canada, and his B.S. degree in microbiology from Amoy University, China. He served in several scientific posts for the governments of China and the United States and performed post- doctoral work in molecular virology at the Medical College of Pennsylvania. He joined Gen Trak, Inc. in March 1992, as Senior Scientist and subsequently was named Director of Research and Development. Dr. Wu joined the Company in May 1994. An additional, significant employee is Holly Scribner. ------------------------------------------------------------------- Name Age Position with the Company ------------------------------------------------------------------- Holly Scribner 40 President and Director Biodesign, Inc. ------------------------------------------------------------------- -19- Holly Scribner Ms. Scribner has been President and a Director of Biodesign since its inception in 1987. The Company acquired Biodesign in February 1993. She founded Biodesign and is responsible for the management and daily operations of the Company. From 1979 to 1986, she was employed by Ventrex Laboratories (Hycor) in various marketing and scientific management positions in relation to diagnostics and biotechnology products. She received her B.S. degree (cum laude) in biological sciences from the University of Maine. Ms. Scribner also serves as an advisory board member for the Center for Innovation in Biomedical Technology, established by the State of Maine to promote the biomedical industry. Section 16(a) of the Securities Exchange Act of 1934 requires the Company's officers and directors, affiliates and persons who own more than 10% of the Company's common stock, to file reports of ownership and changes in ownership with the Securities Exchange Commission. Specific due dates for these reports have been established and the Company is required to report any failure to file by such dates. Based solely on review of the copies of such forms furnished to the Company, the Company believes that during its 1996 fiscal year, all Section 16(a) filings applicable to its officers, directors and greater than 10% beneficial owners were made as required except that the forms relating to the issuance of options to purchase an aggregate of 100,000 shares of the Company's common stock were filed late by Dr. Rachford, Mr. Sumsion, Mr. Malan and Dr. Wu. ITEM 11: EXECUTIVE COMPENSATION The following table sets forth the compensation of the Company's chief executive officer for the periods indicated and the only other executive officer of the Company who received total annual salary and bonus in excess of $100,000 during the fiscal year ended December 31, 1996 (collectively, the "Named Executive Officers"). -20- - -------------------------------------------------------------------------------------------------------------- Summary Compensation - -------------------------------------------------------------------------------------------------------------- Annual Compensation Awards Payouts - -------------------------------------------------------------------------------------------------------------- Other Annual Restricted Securities All Other Name/ Compen- Stock Underlying LTIP Compen- Principal Position Year Salary Bonus sation Awards Options (#) Payouts sation - -------------------------------------------------------------------------------------------------------------- George Evanega(1) 1996 $180,000 $ -0- -0- $ 9,000 (2) CEO/President 1995 $ 29,187 $ 50,000 200,000 $50,000 (3) 1994 _______ ______ _______ ______ Andrew Taylor 1996 $107,977 $ 4,750 _______ $ 7,000 (2) Vice President Sales/Marketing 1995 $104,446 $ 5,000 _______ $ 7,000 (2) 1994 $ 84,344 -0- _______ $ 7,000 (2) - -------------------------------------------------------------------------------------------------------------- (1) Dr. Evanega joined the Company in October 1995. (2) Represents an amount paid as a car allowance. (3) Amount represents allowance for relocation costs of which $5,266 was paid in 1995 and $44,734 was paid in 1996. No options were granted to any of the Named Executive Officers in 1996. The following table presents information concerning stock options exercised during1996 and the value of unexercised stock options held by the Named Executive Officers at December 31, 1996. - ------------------------------------------------------------------------------------------------------ Option Exercises in Last Fiscal Year and Value of Stock Options at December 31, 1996 - ------------------------------------------------------------------------------------------------------ Name of Securities Value of Unexercised Underlying In-the-Money Unexercised options Options at at December 31, 1996 December 31, 1996 ($) Shares on Acquired Value Exercisable/ Exercisable/ Name Exercise (#) Realized ($) Unexercisable Unexercisable - ------------------------------------------------------------------------------------------------------ George R. Evanega -0- $-0- 150,000/50,000 $881,750/$293,750 Andrew Taylor -0- $-0- 18,750/7,500 $121,875/$48,750 - ------------------------------------------------------------------------------------------------------ Vesting of the options awarded to Dr. Evanega has been accelerated because the average daily closing price of the Company's common stock exceeded certain levels for a consecutive thirty calendar day period as provided in his employment agreement with the Company. In addition, in February 1996, the Board of Directors ratified the reduction of the exercise price of the shares covered by the options awarded to Dr. Evanega to $4.50 per share from $5.625 per share. -21- All stock options held by Dr. Evanega and Mr. Taylor at December 31, 1996 were "in-the-money." The Company has an employment agreement with Dr. George Evanega, its President and Chief Executive Officer and a member of its Board of Directors. Under the terms of the agreement, Dr. Evanega is paid an annual salary of $180,000,with cost-of-living adjustments, and, commencing with the Company's 1996 fiscal year, was eligible to receive an annual "targeted" performance bonus of up to $50,000. The performance bonus is contingent upon the achievement of a level of "Net Earnings Before Income Taxes" that has been agreed upon by the Company's Board of Directors for the fiscal year. The performance bonus could range from nothing to $50,000 plus $1,000 for every 1% that the Company's "Net Earnings Before Income Taxes" exceeds the agreed upon target. Dr. Evanega did not receive a bonus in 1996 because the Company did not meet its projected target of "Net Earnings Before Income Taxes." Dr. Evanega also receives a monthly car allowance of $750. Additionally, in 1995, Dr. Evanega received a $50,000 bonus for entering into his employment agreement, received a stock option, expiring October 2005, to purchase 200,000 shares of the Company stock at $4.50, and became eligible to receive reimbursement for relocation costs of up to $50,000, of which $5,266 was paid in 1995 and $44,734 was paid in 1996. Dr. Evanega's employment agreement can be canceled by either party upon the occurrence of certain events. If the Company terminates the employment agreement for certain reasons, including for cause, Dr. Evanega will not be entitled to any additional compensation. Otherwise, he will be entitled to the continuation of his base compensation for a one year period from the date of termination. The Company also entered into an employment agreement with Ernest Sumsion, its Senior Vice President in May 1996. The term of the agreement is two years with options to renew annually for additional two year periods. If at the expiration of the first two year period the Company does not renew Mr. Sumsion's employment, Mr. Sumsion is entitled to receive severance payments for nine months. The Company's Chief Executive Officer has the discretion to extend the severance payments for an additional three months if Mr. Sumsion has not found employment during the nine month period. Under the terms of the agreement, Mr. Sumsion is paid an annual salary of $120,000 per year, a bonus for "targeted" performance, and an annual car allowance of $6,000. Mr. Sumsion was also granted an option to purchase 30,000 shares of the Company's stock, with vesting to occur at the rate of 25% per year for the four years following the grant of the option. The Company has also agreed to grant Mr. Sumsion options to purchase 200,000 shares of the Company's stock over a ten year period with 20,000 shares vesting per year with the first option to be granted on January 1, 1998. The Company agreed to terms of a severance agreement with Michael B. Malan, its Secretary/Treasurer, on February 28, 1997. If Mr. Malan's employment is terminated, he will be entitled to receive severance payments for nine months. The Company's Chief Executive Officer has the discretion to extend the severance payments for an additional three months if Mr. Malan has not found employment during the nine month period. -22- The Company does not have employment agreements with any of its other executive officers. See "Certain Relationships and Related Transactions" for information regarding a bonus agreement proposed to be entered into between the Company and Dr. Wentz. The Company does not have any other compensatory plans or arrangements which would result from the resignation, retirement or other termination of an executive officer of the Company due to a change in control of the Company or a change in the executive officer's responsibilities due to a change in control of the Company. Compensation Committee Interlocks and Insider Participation Dr. Wentz, a former President and Chief Executive Officer of the Company, is a member of the Company's Compensation Committee. Mr. Krammer, who was a member of the Compensation Committee during 1996, was a member of the Managing Board of Fresenius AG until December 1996. Dr. Schmidt, who is currently a member of the Compensation Committee, is currently a member of the Fresenius AG Managing Board. In 1996, sales by the Company to Fresenius AG represented 9% of total sales. See "Certain Relationships and Related Transactions." ITEM 12: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT As of the close of business on June 15, 1997, the Company has issued and outstanding 6,616,784 shares of common stock, par value $.001 per share. Each share is entitled to one vote on matters brought before the shareholders of the Company. Shareholders are not allowed to cumulate their shares in voting for directors. The following table sets forth, as of June 15, 1997, the name and share holdings of any person known by the Company to be the beneficial owner of more than 5% of the Company's Common Stock and the name and share holdings of (i) each current director of the Company and each officer named in the Summary Compensation Table below, and (ii) all officers and directors of the Company as a group: -23- - ------------------------------------------------------------------------------ Security Ownership of Certain Beneficial Owners and Management - ------------------------------------------------------------------------------ Amount and Nature of Percentage of Name/Address Beneficial Ownership (1)(2) of Class (2) - ------------------------------------------------------------------------------ Principal Shareholders: Fresenius AG Borkenberg 14 61440 Oberursel, Germany 3,610,693 (3)(4) 55% Anne-Marie Ricart La Grande Buissiere 25 1380 Ohain Belgium 852,155 13% - ------------------------------------------------------------------------------ Officers and Directors: Myron W. Wentz Director/Chairman c/o Gull Laboratories, Inc. 1011 East Murray Holladay Road Salt Lake City, UT 84117 10,000 (5) * Matthias Schmidt Director Fresenius AG Borkenberg 14 61440 Oberursel, Germany -0- * Gerd Krick Director Fresenius AG Borkenberg 14 61440 Oberursel, Germany -0- * Anne-Marie Ricart Director See Above Ulrich Wagner Director O'Melveny & Myers LLP 153 East 53rd Street New York, NY 10022 -0- * Peter Gladkin Director Health Data Sciences 268 West Hospitality Lane 3rd Floor San Bernadino, CA 92408 -0- * George R. Evanega President/CEO/Director Gull Laboratories, Inc. 1011 East Murray Holladay Road Salt Lake City, UT 84117 200,000 (6) 3% Andrew Taylor Vice President-Sales/Marketing Gull Laboratories, Inc. 1011 East Murray Holladay Road Salt Lake City, UT 84117 -0- * - ------------------------------------------------------------------------------ All officers and directors as a group (13 persons) (7) 1,193,605 17% - ------------------------------------------------------------------------------ -24- * Less than 1%. (1) Except as provided below, each person listed exercises sole voting and investment power over the shares of common stock listed for such person in this table. (2) Number of shares and percentages include shares issuable upon exercise of all options to purchase common stock exercisable within sixty days of May 9, 1997 held by each listed person. See "Executive Compensation." All percentages have been rounded to the nearest whole percentage point. (3) The share capital of Fresenius AG consists of ordinary shares and non- voting preference shares ("Fresenius AG Ordinary Shares" and "Fresenius AG Preference Shares," respectively), both of which are issued only in bearer form. Accordingly, Fresenius AG has no way of determining who its shareholders are or how many shares any particular shareholder owns. However, under the German Securities Exchange Law, holders of voting securities of a German company listed on a stock exchange within the European Union are obligated to notify the company of the level of their holding whenever their holding reaches or exceeds thresholds of 5%, 10%, 25%, 50% and 75%. In addition, under the German Stock Corporation Law, notification to a company is required upon acquisition of 25% and 50% of the voting securities of that company. The Else Kroner-Fresenius-Stiftung (the "Foundation") has informed Fresenius AG that it owns 55.96% of the Fresenius AG Ordinary Shares. The Foundation serves to promote medical science, primarily in the fields of research and treatment of illnesses, including the development of apparatuses and preparations, e.g. artificial kidneys. The Foundation may promote only those research projects the results of which will be generally accessible to the public. The Foundation further serves to promote the education of physicians or of others concerned with the treatment and care of sick persons, primarily those working in the field of dialysis, as well as to promote the education of particularly gifted pupils and students. The administrative board of the Foundation consists of Mr. Hans Goring, Frankfurt/Main, Professor Dr. Volker Lang, Gauting, Mr. Hans Kroner, and Dr. Karl Schneider. Pursuant to the terms of the will of the late Mrs. Else Kroner, under which the Foundation acquired most of its shares, Mrs. Kroner's executors exercise voting and dispositive power over the shares held by the Foundation. The executors under Mrs. Kroner's will are Mr. Kroner, Dr. Schneider, and Dr. Alfred Stiefenhofer. Mr. Kroner's address is Dipl. Volkswirt Hans Kroner, Postfach 1852, 61288 Bad Homburg v.d.H., Germany. Dr. Schneider's address is Werderstrasse 42, 68165 Mannheim, Germany. Dr. Stiefenhofer's address is Norr, Stiefenhofer & Lutz, Brienner Strasse 28, 80333 Munich, Germany. Mr. Kroner is the Honorary Chairman of the Fresenius AG Supervisory Board. Dr. Schneider is a member of the Fresenius AG Supervisory Board. Dr. Stiefenhofer is Chairman of the Fresenius AG Supervisory Board. In addition, on March 28, 1995, AW Beteiligungs-GmbH ("AW") informed Fresenius AG that it owns 9% of the Fresenius AG Ordinary Shares and 15% of the Fresenius AG Preference Shares, and on May 4, 1995 , H.O.F.- Beteiligungs-GmbH ("HOF") informed Fresenius AG that it owns 22.4% of the Fresenius AG Ordinary Shares. According to published reports, HOF is 50% owned by Dresdner Bank AG and 50% owned by the Foundation. Pursuant to a pooling agreement relating to the shares held by the Foundation, AW and HOF, the Foundation has voting power over the shares held by AW and HOF. Accordingly, through (i) their dispositive power over the shares of Fresenius AG held by the Foundation and (ii) their power to direct the vote of the shares held by the Foundation (including the shares subject to the pooling agreement), Dr. Stiefenhofer and Mr. Kroner may be deemed, under the rules of the Securities and Exchange Commission (as distinguished from the German concept of beneficial ownership), to beneficially own 87.36% of the voting shares of Fresenius AG. (4) Does not include 1,320,000 shares issuable to Fresenius AG in connection with the Company's agreement to acquire certain assets of the diagnostics business unit of the I+D Division of Fresenius AG. See Item 13, "Certain Relationships and Related Transactions." (5) Represents 10,000 shares issuable upon exercise of options as described in note (2) above. (6) Represents 200,000 shares issuable upon exercise of options as described in note (2) above. (7) Includes all shares subject to exercisable options referred to in note (2) above, and 95,000 additional shares held or subject to options exercisable by officers and directors of the Company not named in the table. The Company is not aware of any arrangement which may at a subsequent date result in any change of control of the Company. -25- ITEM 13: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Fresenius AG, currently the beneficial owner of approximately 55% of Gull's outstanding Common Stock, distributes certain of the Company's products in Europe and is a major customer of the Company. During the years ended December 31, 1996, 1995 and 1994 sales of Company products to Fresenius totaled $1,535,943, $2,370,977 and $1,106,582, or approximately 9%, 13% and 7%, respectively, of total sales. Dr. Gerd Krick and Dr. Matthias Schmidt, each of whom is a director of the Company, are the Chairman and a member, respectively, of the Management Board of Fresenius AG. In January 1995, the Company sold all of the intangible assets relating to its German operations to Fresenius AG for approximately $313,500. The intangible assets had no recorded cost on the Company's financial records. The transaction was negotiated on an arm's length basis between the Company's management and representatives from the I+D Division. On April 21, 1997 Fresenius AG, Gull GmbH, a wholly owned subsidiary of the Company (the "Purchaser") and the Company entered into an Asset Purchase Agreement (the "Asset Purchase Agreement"), setting forth their agreement for the Purchaser's acquisition of certain assets of the diagnostics business unit (the "Business") of the I+D Division of Fresenius AG. The Purchaser has assigned all of its rights under the Asset Purchase Agreement to the Company. After the Closing Date, the Company intends to transfer the assets of the Business to the Purchaser in exchange for non-voting stock of the Purchaser. Under the Asset Purchase Agreement, the Company, through the Purchaser, agreed to purchase, and Fresenius AG agreed to sell, all fixed assets, all inventory stocks, and all rights belonging to the Business as of the date of the Asset Purchase Agreement ("Assets") as well as certain industrial property rights, intangible objects and rights of usage related thereto. "Assets" does not include receivables, checks, cash or credit balances existing or accrued as of December 31, 1996. The closing date (the "Closing Date") is presently anticipated to occur after all of the conditions to closing have been satisfied and, if appropriate, at the end of a fiscal quarter. Under the Asset Purchase Agreement, the purchase price for the Business will be 1,320,000 shares of the Company's Common Stock, subject to adjustment, as described below. The purchase price will be payable in shares of the Company Common Stock, with each share having an agreed value of $8.29, which was the average of closing sale prices of a share of the Company Common Stock on the American Stock Exchange for the twenty trading days preceding and the twenty trading days following the first public announcement of the execution of the letter of intent on December 13, 1996. The Purchaser has agreed to assume all liabilities pertaining to the operations of the Business after December 31, 1996 (the "Effective Date"). Fresenius AG has agreed to operate the Business from the Effective Date to the Closing Date on behalf and for the account of the Purchaser. Fresenius AG has also agreed that from April 21, 1997 to the Closing Date, it will conduct the operations, activities, and practices of the Business in the ordinary course of business, consistent with past practices. In addition, Fresenius AG has agreed to enter into certain service contracts with the Purchaser, and to lease to the Purchaser certain real property currently occupied by the Business. The consummation of the sale of the Business is subject to receipt of the following approvals: (a) Fresenius AG Supervisory Board approval, which approval has been obtained; (b) the Company Board of Directors approval, including the unanimous approval of the members of the Special Committee of Independent Directors, which approval has been obtained, (c) approval of a majority of the non-Fresenius AG shareholders actually voting at the Company annual meeting, and (d) approval for listing by the American Stock Exchange of -26- the shares of Common Stock to be issued to Fresenius AG. Conditions precedent include: (a) delivery to the Company Board of Directors of a satisfactory opinion of Vector Securities, in form and substance satisfactory to Fresenius AG, the Company and the Purchaser, to the effect that the purchase price for the Business and the other terms and conditions of the Asset Purchase Agreement are fair, from a financial point of view, to the shareholders of the Company (other than Fresenius AG), which opinion has been delivered; (b) non- denial of the asset sale by the German Federal Cartel Office; and (c) execution of a Registration Rights Agreement, as described below. There can be no assurance that acquisition of the Business by the Company will be consummated. Assuming a closing under this Asset Purchase Agreement, Fresenius AG's beneficial ownership of the Company's Common Stock will increase from approximately 55% to approximately 62%. Pursuant to a Retransfer of Shares Agreement by and among Fresenius AG, the Purchaser and the Company, dated April 21, 1997, the purchase price described above is subject to adjustment under certain circumstances and could change the number of shares to be issued to Fresenius AG. The parties agreed that the purchase price would be reduced by the amount of 33,000 shares of the Company Common Stock if the present commercial relationship between Fresenius AG and a certain supplier to the Business (the "Supplier") is entirely terminated ("Entire Termination") on or before December 31, 1997. If the commercial relationship between Fresenius AG and the Supplier relating to certain products of the Supplier is terminated ("Partial Termination") on or before such date, the purchase price would only be reduced by an amount of 18,721 shares of the Company Common Stock. If either an Entire Termination or a Partial Termination takes place after payment of the purchase price, Fresenius AG will be obliged to retransfer the 33,000 or 18,721 shares of Common Stock, as applicable, to the Company. Likewise, if within two years after Entire Termination or Partial Termination, the Purchaser, the Company or an affiliate of either enters into a commercial relationship with the Supplier or a successor to the Supplier, which is in quality and volume comparable with the terminated commercial relationship between Fresenius AG and the Supplier, then the Company and the Purchaser shall transfer the 33,000 or 18,721 shares of Common Stock, as applicable, back to Fresenius AG. In connection with the execution of the Asset Purchase Agreement, Fresenius AG and the Company agreed that at the closing under the Asset Purchase Agreement, they would enter into a Registration Rights Agreement pursuant to which Fresenius AG would have the right on two separate occasions to require that the Company file a registration statement under the securities Act of 1933, as amended (the "1933 Act") for the registration of shares of Common Stock issued to Fresenius AG as the consideration for the Business. The Registration Rights Agreement provides that the Company will bear the costs of registering such shares, up to a maximum of $20,000. Fresenius AG would also have the right to include such shares in certain registration statements filed by the Company under the 1933 Act for its own account or for the registration of shares of Common Stock held by other persons. The description of the Asset Purchase Agreement and the Retransfer of Shares Agreement set forth above are qualified in their entirety by reference to such agreements, copies of which are on file with the Securities and Exchange Commission and the American Stock Exchange. The Board of Directors of the Company and Dr. Wentz have discussed the terms of a bonus agreement. Under the terms of the proposed bonus agreement, for a period of seven years from the date of the bonus agreement, -27- Dr. Wentz would be paid a performance bonus of 2% of the net receipts from sales of certain new tests for coronary artery disease. Consideration for the payment of the performance bonus would be based, among other things, upon the assignment to the Company by Dr. Wentz of all improvements and inventions hereafter developed by Dr. Wentz and Dr. Wentz's agreement to continue to provide the Company with the benefit of his experience, knowledge and skill. Under the bonus agreement, the Company would be required to provide reasonable support for research, development and testing with respect to these tests until such time as the Company commences commercial production of products using the tests or notifies Dr. Wentz that it has abandoned development thereof. In the latter event, Dr. Wentz would have a first right to acquire ownership of all related inventions, patents, copyrights, discoveries, etc., relating to the tests on terms to be negotiated by Dr. Wentz and the Company. Signatures Pursuant to the requirements of Section 13 or 15(d) of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. GULL LABORATORIES, INC. Date: July 1, 1997 By: /s/ George R. Evanega ---------------------------- George R. Evanega, Ph.D. President and CEO -28- 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. /s/ George R. Evanega Date: July 1, 1997 - ----------------------------------------- ------------------ George R. Evanega President and Chief Executive Officer (Principal Executive Officer) Director /s/ Michael B. Malan Date: July 1, 1997 - ----------------------------------------- ------------------ Michael B. Malan Secretary/Treasurer (Principal Financial & Accounting Officer) /s/ Myron W. Wentz Date: July 1, 1997 ----------------------------------------- ------------------ Myron W. Wentz Chairman of the Board of Directors /s/ Matthias Schmidt Date: July 1, 1997 ----------------------------------------- ------------------ Matthias Schmidt Director, Vice Chairman ___________________________________________ Date:____________________ Gerd Krick Director /s/ Ulrich Wagner Date: July 1, 1997 ----------------------------------------- ------------------ Ulrich Wagner Director ___________________________________________ Date:____________________ Anne-Marie Ricart Director ___________________________________________ Date:____________________ Peter Gladkin Director -29- EXHIBITS -30- GULL LABORATORIES, INC. Consolidated Financial Statements December 31, 1996 and 1995 (With Independent Auditors' Report Thereon) Independent Auditors' Report ---------------------------- The Board of Directors and Stockholders Gull Laboratories, Inc.: We have audited the accompanying consolidated balance sheets of Gull Laboratories, Inc. and subsidiaries as of December 31, 1996 and 1995, and the related consolidated statements of operations, stockholders' equity, and cash flows (as restated) for each of the years in the three-year period ended December 31, 1996. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. 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 consolidated financial statements referred to above present fairly, in all material respects, the financial position of Gull Laboratories, Inc. and subsidiaries as of December 31, 1996 and 1995, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1996, in conformity with generally accepted accounting principles. KPMG Peat Marwick LLP Salt Lake City, Utah January 28, 1997, except for the last paragraph of note 11 which is as of July 3, 1997 F-1 GULL LABORATORIES, INC. Consolidated Balance Sheets December 31, 1996 and 1995 1995 Assets 1996 (note 11) -------- ------------- ----------- Current assets: Cash $ 301,033 219,415 Accounts receivable, less allowance for doubtful accounts of $314,194 in 1996 and $253,747 in 1995 (note 5) 2,406,222 2,778,952 Net investment in sales-type leases (notes 6, 7, and 8) 262,831 145,200 Income tax refund receivable (note 9) 134,743 264,506 Inventories (notes 3 and 5) 3,324,408 3,393,924 Prepaid expenses 399,774 242,088 Deferred income taxes (note 9) 108,000 124,000 ------------- ----------- Total current assets 6,937,011 7,168,085 ------------- ----------- Property, plant, and equipment, net (notes 4, 6, and 7) 3,616,171 3,572,899 Net investment in sales-type leases (notes 6, 7, and 8) 810,419 507,018 Other assets, net (note 2) 989,101 1,069,628 ------------- ----------- $ 12,352,702 12,317,630 ============= =========== Liabilities and Stockholders' Equity -------------------------------------- Current liabilities: Notes payable (note 5) $ 1,675,322 2,286,123 Accounts payable 1,648,036 1,693,480 Accrued expenses 471,825 1,221,990 Current installments of long-term debt and capital lease obligations (notes 6 and 7) 401,937 1,841,629 ------------- ----------- Total current liabilities 4,197,120 7,043,222 Long-term debt and capital lease obligations, excluding current 2,785,893 131,826 installments (notes 6 and 7) Deferred income taxes (note 9) 298,000 304,600 Other long-term liabilities 96,503 96,503 ------------- ----------- Total liabilities 7,377,516 7,576,151 ------------- ----------- Commitments and contingencies (notes 7 and 16) Stockholders' equity (note 12): Preferred stock, $.01 par value. Authorized 5,000,000 shares; no shares issued or outstanding - - Common stock, $.001 par value. Authorized 50,000,000 shares; 6,563,934 shares issued and outstanding in 1995 6,564 6,564 and 1996 Additional paid-in capital 7,051,345 7,051,345 Foreign currency translation adjustment (192,833) (185,828) Accumulated deficit (1,889,890) (2,130,602) ------------- ----------- Total stockholders' equity 4,975,186 4,741,479 ------------- ----------- $ 12,352,702 12,317,630 ============= =========== See accompanying notes to consolidated financial statements. F-2 GULL LABORATORIES, INC. Consolidated Statements of Operations Years ended December 31, 1996, 1995, and 1994 1995 1996 (note 11) 1994 ------------- ------------ ------------ Sales $ 17,908,752 18,827,853 15,841,606 Cost of sales 8,395,238 9,020,172 7,159,067 ------------- ------------ ------------ 9,513,514 9,807,681 8,682,539 ------------- ------------ ------------ Expenses: Selling, general, and administrative 6,856,018 7,415,244 6,101,852 Research and development 1,422,926 901,633 1,219,582 Restructuring charge (note 14) - 505,260 775,000 ------------- ------------ ------------ Total expenses 8,278,944 8,822,137 8,096,434 ------------- ------------ ------------ Operating income 1,234,570 985,544 586,105 ------------- ------------ ------------ Other income (expense): Interest expense (535,786) (647,656) (588,626) Other (note 11) 32,697 731,868 258,044 ------------- ------------ ------------ Total other income (expense) (503,089) 84,212 (330,582) ------------- ------------ ------------ Income before provision for income taxes 731,481 1,069,756 255,523 Income tax expense (note 9) 490,769 857,300 566,625 ------------- ------------ ------------ Net income (loss) $ 240,712 212,456 (311,102) ============= ============ ============ Income (loss) per common and common equivalent share $ 0.04 0.03 (0.05) ============= ============ ============ See accompanying notes to consolidated financial statements. F-3 GULL LABORATORIES, INC. Consolidated Statements of Stockholders' Equity Years ended December 31, 1996, 1995, and 1994 Addi- Foreign Total tional currency stock- Common stock paid-in translation Accumulated holders' Shares Amount capital adjustment deficit equity ----------- --------- ----------- ------------ ------------- ------------ Balances, December 31, 1993 6,513,267 $ 6,513 6,408,467 110,424 (2,031,956) 4,493,448 Stock options exercised 41,667 42 58,083 - - 58,125 Tax benefit from exercise of stock options - - 59,000 - - 59,000 Net loss - - - - (311,102) (311,102) Foreign currency translation adjustment - - - (219,439) - (219,439) ----------- --------- ----------- ------------ ------------- ------------ Balances, December 31, 1994 6,554,934 6,555 6,525,550 (109,015) (2,343,058) 4,080,032 Stock options exercised 9,000 9 15,178 - - 15,187 Sale of Biolab Germany (note 11) - - 313,500 - - 313,500 Tax benefit from exercise of stock options - - 197,117 - - 197,117 Net income (note 11) - - - - 212,456 212,456 Foreign currency translation adjustment - - - (76,813) - (76,813) ----------- --------- ----------- ------------ ------------- ------------ Balances, December 31, 1995 (note 11) 6,563,934 6,564 7,051,345 (185,828) (2,130,602) 4,741,479 Net income - - - - 240,712 240,712 Foreign currency translation adjustment - - - (7,005) - (7,005) ----------- --------- ----------- ------------ ------------- ------------ Balances, December 31, 1996 (note 11) 6,563,934 $ 6,564 7,051,345 (192,833) (1,889,890) 4,975,186 =========== ========= =========== ============ ============= ============ See accompanying notes to consolidated financial statements. F-4 GULL LABORATORIES, INC. Consolidated Statements of Cash Flows Years ended December 31, 1996, 1995, and 1994 1995 1996 (note 11) 1994 ----------- ----------- ----------- Cash flows from operating activities: Net income (loss) $ 240,712 212,456 (311,102) Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: Depreciation and amortization 660,097 667,196 778,832 Loss (gain) on disposal of property, plant, and equipment 11,214 (371,176) 24,118 Provision for losses on accounts receivable 63,754 93,649 127,616 Provision for loss on leases 65,470 86,765 - Provision for inventory reserve 163,613 302,123 - Provision for warranty reserve 84,515 84,609 - Tax benefit from exercise of stock options - 197,117 59,000 Gain on sales-type leases (246,484) (275,662) - Amortization of unearned income on sales-type leases (100,892) (53,448) - Changes in assets and liabilities: Accounts receivable 233,625 (154,109) (332,355) Income tax refund receivable 129,765 (110,681) 116,673 Inventories (492,999) (805,879) (871,498) Prepaid expenses (166,370) (6,834) 135,533 Other assets 5,541 (206,905) (125,323) Accounts payable and accrued expenses (743,719) 216,585 (190,732) Other liabilities - - 96,500 Deferred income taxes 9,400 29,700 10,400 ----------- ----------- ----------- Net cash provided by (used in) operating activities (82,758) (94,494) (482,338) ----------- ----------- ----------- Cash flows from investing activities: Increase in sales-type leases (233,960) (344,854) - Payments received on sales-type leases 421,966 226,384 - Proceeds from sale of property, plant, and equipment 24,889 989,127 70,814 Purchase of property, plant, and equipment (681,924) (663,766) (668,858) Proceeds from the sale of Gull GmbH - 313,500 - ----------- ----------- ----------- Net cash provided by (used in) investing activities (469,029) 520,391 (598,044) ----------- ----------- ----------- Cash flows from financing activities: Principal payments on long-term debt and capital lease obligations (2,057,957) (1,394,241) (1,371,652) Net increase (reduction) in line-of-credit (634,583) 469,346 1,014,693 Proceeds from issuance of long-term debt and capital lease obligations 3,167,095 180,866 1,302,466 Proceeds from issuance of common stock - 15,187 58,125 ----------- ----------- ----------- Net cash provided by (used in) financing activities 474,555 (728,842) 1,003,632 ----------- ----------- ----------- Effect of foreign exchange rate changes on cash 158,850 154,206 38,989 ----------- ----------- ----------- Net increase (decrease) in cash 81,618 (148,739) (37,761) Cash at beginning of year 219,415 368,154 405,915 ----------- ----------- ----------- Cash at end of year $ 301,033 219,415 368,154 =========== =========== =========== F-5 GULL LABORATORIES, INC. Consolidated Statements of Cash Flows (continued) Years ended December 31, 1996, 1995, and 1994 1995 1996 (note 11) 1994 ----------- ----------- ----------- Supplemental Disclosure of Cash Flow Information - ------------------------------------------------ Cash paid during the year for: Interest $ 533,554 644,009 611,194 Income taxes 321,624 1,050,800 372,000 Supplemental Disclosures of Noncash Investing and Financing Activities - ---------------------------------------------------------------------- Note payable incurred for equipment $ 127,808 60,491 - Transfer of inventory to net investment in sales-type leases 327,133 236,605 - See accompanying notes to consolidated financial statements. F-6 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements December 31, 1996, 1995, and 1994 (1)Summary of Significant Accounting Policies (a) Business Presentation Gull Laboratories, Inc. (the Company or Gull) is in the business of developing, manufacturing, and selling medical diagnostic kits and bioreagents. The Company operates in a global market with direct sales representatives in the United States, Belgium, France, and the Netherlands and distributors in approximately 30 other foreign countries. The accompanying consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All significant intercompany transactions and accounts have been eliminated in consolidation. Fresenius AG, a German company, owns 55Epercent of the outstanding common stock of the Company. Although the Company purchases certain raw materials from a single supplier, alternative sources of supply are available for all raw materials. (b) Accounts Receivable As a general policy, collateral is not required for receivables, but customers' financial condition and credit worthiness are regularly evaluated and historical losses have not been material. The Company maintains an allowance for losses based upon the expected collectibility of all accounts receivable. (c) Inventories Inventories are stated at the lower of cost or market using the first-in, first-out method. (d) Property, Plant, and Equipment Property, plant, and equipment are recorded at cost and are depreciated on the straight-line method over their estimated useful lives of twenty to thirty-two years for buildings and improvements and three to eight years for all other classes of depreciable property. (e) Other Assets Other assets include the excess of cost over fair value of assets acquired (goodwill), marketing rights, deposits, and certain deferred costs. Goodwill is amortized on the straight-line basis over ten years and other assets are amortized on the straight-line basis over their estimated lives of five to ten years. (f) Research and Development, and Advertising Research and development, and advertising costs are expensed as incurred. F-7 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements (g) Income Taxes Income taxes are accounted for under the asset and liability method. Deferred tax assets and deferred tax liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and deferred tax liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and deferred tax liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. (h) Earnings Per Common and Common Equivalent Share Earnings per share is based on the weighted average number of common shares and dilutive common stock equivalents (stock options) outstanding during the period. The weighted average number of shares used in computing earnings per share for 1996, 1995, and 1994, were 6,651,902, 6,559,245, and 6,538,176, respectively. Primary and fully diluted earnings per share are the same for 1996. (i) Foreign Currency Translation Assets and liabilities of foreign operations are translated at exchange rates in effect at year-end, and statements of operations are translated at the average exchange rates for the year. Adjustments resulting from translation are reported as a separate component of stockholders' equity until the foreign entity is sold or liquidated. Gains and losses resulting from foreign currency transactions are generally included in income. (j) Use of Estimates The preparation of the consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. F-8 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements (k) Disclosure About Fair Value of Financial Instruments At December 31, 1996, the book value of all of the CompanyOs financial instruments approximates fair value except for long-term debt. The fair value of the CompanyOs long-term debt was estimated by discounting the future cash flows of each instrument at prevailing rates currently offered for similar debt instruments of comparable maturities. The estimated fair value of the long-term debt, excluding capital leases as disclosed in note 6, at December 31, 1996 and 1995, was approximately $2,220,000 and $2,133,000, respectively. (k) Disclosure About Fair Value of Financial Instruments (continued) The fair value of the CompanyOs financial instruments are based on judgments regarding current economic conditions, risk characteristics of financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumption could significantly affect the estimates. (l) Stock-Based Compensation Effective January 1, 1996, the Company adopted the footnote disclosure provisions of Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation. SFAS No. 123 encourages entities to adopt a fair-value based method of accounting for stock options or similar equity instruments. However, it also allows an entity to continue measuring compensation cost for stock-based compensation using the intrinsic-value method of accounting prescribed by Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees (APB 25). The Company has elected to continue to apply the provisions of APB 25 and provide pro forma footnote disclosures required by SFAS No. 123. (m) Impairment of Long-Lived Assets Management periodically reviews long-lived assets including intangible assets for possible impairment. Recoverability of assets is measured by comparison of the carrying amount of the asset to net future cash flows expected to be generated from the asset. No impairment has been recognized in the accompanying consolidated financial statements. (n) Reclassification Certain amounts in 1995 and 1994 have been reclassified to conform with the 1996 presentation. (2)Other Assets Other assets consist of the following at December 31: 1996 1995 ---------- ---------- Goodwill $ 897,166 897,166 Deposits 26,372 111,029 Patents, organizational costs, and 288,135 77,671 marketing rights Other 153,949 262,900 Less accumulated amortization (376,521) (279,138) ---------- ---------- $ 989,101 1,069,628 ========== ========== F-9 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements (3)Inventories Inventories consist of the following at December 31: 1996 1995 ----------- ---------- Raw materials $ 945,795 1,141,163 Work-in-process 822,576 176,624 Finished goods 858,540 1,625,523 Equipment held for lease or sale 697,497 450,614 ----------- ---------- $3,324,408 3,393,924 =========== ========== (4)Property, Plant, and Equipment Property, plant, and equipment consist of the following at DecemberE31: 1996 1995 ---------- ---------- Land and improvements $ 649,835 649,835 Building and improvements 2,841,102 2,734,237 Machinery and equipment 2,033,393 1,685,018 Office furniture and equipment 1,426,579 1,463,401 Transportation equipment 70,812 78,784 Construction-in-progress 3,610 16,216 ---------- ---------- 7,025,331 6,627,491 Less accumulated depreciation and amortization 3,409,160 3,054,592 ---------- ---------- $3,616,171 3,572,899 ========== ========== (5)Notes Payable Notes payable consist of the following at December 31: 1996 1995 ---------- ---------- Line of credit $1,601,116 1,492,128 Bank overdraft facility 74,206 293,995 Equipment line of credit - 500,000 ---------- ---------- Total notes payable $1,675,322 2,286,123 ========== ========== The Company maintains lines of credit with banks totaling approximately $2,400,000 which are either due on demand or expire in May 1997. Borrowings under the lines of credit are limited to certain levels of accounts receivable and inventories. The rates of interest charged range from the bank's reference rate plus .25 percent to the banks reference rate plus .4 percent (effective rates from 7.15 to 8.65 percent at DecemberE31, 1996). The lines of credit are secured by accounts receivable and inventories. Among other restrictions, debt covenants related to the line of credit require the Company to maintain certain levels of tangible net worth. F-10 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements (6)Long-term Debt Long-term debt consists of the following at December 31: 1996 1995 ----------- ---------- Mortgage notes payable to a bank at 10% interest, payable in monthly installments of $17,115, including interest, based on a 30- year amortization with a balloon payment in July 1996. The note is secured by land and a building $ - 1,785,741 Mortgage note payable to a bank at 10.06% interest, payable in monthly installments of $19,605, including interest, based on a 15-year amortization with a balloon payment in June 2006. The note is secured by land and a building 1,776,499 - Note payable to a bank at 9.38% interest, payable in monthly installments of $3,391, including interest, through October 1999. The note is secured by equipment 100,769 130,270 Mortgage note payable to a bank at 8.81% interest, payable in monthly installments of $572, including interest, based on a 20-year amortization with a balloon payment in February 2001. The note is secured by a building 62,792 - Note payable to lending institution at 11% interest, payable in monthly payments of $15,798 through August 1997 and decreasing thereafter incrementally through May 2001. The note is secured by equipment and the proceeds of certain sales-type leases 452,746 - Capitalized lease obligations (note 7) 795,024 - Other - 57,444 ----------- ---------- Total long-term debt 3,187,830 1,973,455 Less current portion 401,937 1,841,629 ----------- ---------- Long-term debt, excluding current installments $2,785,893 131,826 =========== ========== Principal maturities of long-term debt and capital lease obligations for the years subsequent to December 31, 1996 are as follows: 1997 $ 401,937 1998 335,788 1999 347,456 2000 355,032 2001 254,972 Thereafter 1,492,645 ---------- $3,187,830 ========== F-11 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements (7)Lease Obligations Capital Leases - The Company leases equipment under a master capital lease agreement with a financial institution and under other capital lease agreements. At December 31, 1996, the obligation under the master lease agreement was $713,000 (increasing to $1.1 million subsequent to year-end). Minimum rentals of these leases have been capitalized at the present value of the rentals at the inception of the lease and the obligation for such amount is recorded as a liability. Interest is accrued on the basis of the outstanding lease obligation. Assets securing such leases had an approximate net book value of 829,000 at December 31, 1996. Operating Leases - The Company leases administrative offices, manufacturing facilities, and certain equipment under noncancelable operating lease agreements expiring through August 2005. Total rent expense approximated $81,000, $44,000, and $68,000 in 1996, 1995, and 1994, respectively. Required future minimum lease payments and the present value of the future minimum capital lease payments at December 31, 1996 are as follows: Capital Operating leases leases Year ending: ---------- ---------- 1997 $ 298,604 92,004 1998 282,324 84,804 1999 282,324 70,404 2000 275,346 70,404 2001 217,137 70,404 Thereafter 6,403 258,148 ---------- ---------- Total future minimum lease payments 1,362,138 $ 646,168 ========== Less amount representing interest and executory costs 567,114 ---------- Present value of future minimum lease payments (see note 6) $ 795,024 ========== F-12 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements (8)Net Investment in Sales-Type Leases The Company has invested in certain equipment financing agreements under sales-type leases. Each sales-type lease is collateralized by a security interest in the financed equipment. At December 31, 1996 and 1995, the net investment reflected in the accompanying consolidated balance sheets for these sale-type leases consisted of the following: 1996 1995 ---------- ---------- Gross minimum sales-type lease receivables $ 1,605,283 921,038 Less allowance for uncollectible receivables (128,622) (86,765) ---------- ---------- Net minimum sales-type lease receivables 1,476,661 834,273 Unearned interest income (403,411) (182,055) ---------- ---------- Net investment in sales-type leases 1,073,250 652,218 Less current portion (262,831) (145,200) ---------- ---------- Net investment in sales- type leases, excluding current portion $ 810,419 507,018 ========== ========== Minimum gross receipts from sales-type lease receivables for the next five years are as follows: Year ending December 31: 1997 $ 420,882 1998 379,380 1999 368,731 2000 305,657 2001 130,633 ---------- Total $ 1,605,283 ========== (9)Income Taxes Income tax expense for the years ended December 31, 1996, 1995, and 1994 is as follows: 1996 1995 1994 ---------- ---------- ----------- Current: Federal $ 404,369 695,600 467,225 State 77,000 132,000 89,000 ---------- ---------- ----------- 481,369 827,600 556,225 ---------- ---------- ----------- Deferred: Federal 7,900 24,700 8,400 State 1,500 5,000 2,000 ---------- ---------- ----------- 9,400 29,700 10,400 ---------- ---------- ----------- Total provision $ 490,769 857,300 566,625 ========== ========== =========== F-13 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements (9)Income Taxes (continued) Income tax expense differs from the amounts computed by applying the U.S. federal income tax rate of 34 percent to income from operations as follows: 1996 1995 1994 ---------- ---------- ---------- Computed "expected" tax expense $ 249,000 364,000 87,000 Increase (decrease) in income taxes resulting from: Goodwill amortization 31,000 31,000 31,000 Exclusion of loss from foreign subsidiary 142,000 315,000 396,000 Foreign sales corporation exclusion (2,900) (32,000) (43,000) State taxes, net of federal benefits 41,000 90,000 60,000 Other 30,669 89,300 35,625 ---------- ---------- ---------- Provision for income taxes $ 490,769 857,300 566,625 ========== ========== ========== The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities at December 31, 1996 and 1995, are presented below: 1996 1995 Domestic Foreign Domestic Foreign --------- --------- --------- --------- Deferred tax assets: Tax losses $ - 2,477,000 - 2,118,000 Research and development expenses - - - 15,000 Warranty reserve 45,000 - 28,000 - Vacation reserve 38,000 - 33,000 - Bad debt reserve 35,000 - 13,000 - Inventory reserve 21,000 - 50,000 - Technology amortization 14,000 - 8,000 - Capitalized interest - - 300 - Other items 6,000 - 4,000 - --------- --------- --------- --------- Total gross deferred tax assets 159,000 2,477,000 136,300 2,133,000 Less valuation allowance - (2,448,000) - (2,093,000) --------- --------- --------- --------- Deferred tax assets 159,000 29,000 136,300 40,000 ========= ========= ========= ========= F-14 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements (9)Income Taxes (continued) 1996 1995 Domestic Foreign Domestic Foreign --------- --------- --------- --------- Deferred tax liabilities: Patents $ (35,000) - (12,000) - Sales leases (92,000) - (54,000) - Other payables - (29,000) - (40,000) Equipment, principally due to differences in depreciation (167,000) - (182,000) - Deferred revenue (55,000) - (55,000) - Other - - (13,900) - --------- --------- --------- --------- Total gross deferred tax liabilities (349,000) (29,000) (316,900) (40,000) --------- --------- --------- --------- Net deferred tax liability $(190,000) - (180,600) - ========= ========= ========= ========= Net current deferred tax asset $ 108,000 - 124,000 - Net noncurrent deferred tax liability (298,000) - (304,600) - --------- --------- --------- --------- $(190,000) - (180,600) - ========= ========= ========= ========= The domestic valuation allowance for deferred tax assets as of January 1, 1995 was zero. There was no change in the total domestic valuation allowance for the years ended December 31, 1996 and 1995. The valuation allowance of $2,448,000 and $2,093,000 at December 31, 1996 and 1995, respectively, is solely attributable to the foreign jurisdiction. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that all or a portion of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies in making this assessment. Based upon the level of historical taxable income and projections for future taxable income over the periods which the deferred tax assets are deductible, management believes it is more likely than not the Company will realize the benefits of these deductible differences. (10) Employee Benefit Plans The Company has an Employee Stock Ownership Plan (ESOP) and 401(k) plan that covers all United States employees who have been employed for one month. The ESOP contributions are used to purchase Company securities. The Board of Directors approved discretionary contributions to the ESOP totaling $11,587 and $40,000 for 1995 and 1994, respectively. No discretionary contribution was made to the ESOP during the year ended December 31, 1996. F-15 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements (10) Employee Benefit Plans (continued) The Company matches 25 percent of employee contributions to the 401(k) plan up to a maximum individual employee contribution of four percent of the employee's cash compensation. These matching contributions vest over a seven-year period. Employer matching contributions totaled $45,273, $38,413, and $33,204 for 1996, 1995, and 1994, respectively. Gull Diagnostics S.A. has a contract with an insurance company under which certain foreign employees may receive lump-sum payments or annuity payments at retirement. The Company pays two-thirds of the monthly premiums and the employee pays the remaining one third. The Company's contribution to the plan was approximately $14,500, $17,000, and $13,500 during 1996, 1995, and 1994, respectively. (11) Other Income and Related Party Transactions Other income consisted of the following approximate amounts for the years ended December 31,: 1996 1995 1994 ---------- ---------- ----------- Gain on sale of building $ - 516,533 - Currency transaction gains (38,496) 155,116 257,431 (losses) Interest income 132,981 92,083 18,549 Other nonoperating expenses (61,788) (31,864) (17,936) ---------- ---------- ----------- $ 32,697 731,868 258,044 ---------- ---------- ----------- Sales to Fresenius AG, which holds a 55Epercent ownership interest in the Company's common stock, totaled $1,535,943, $2,370,977, and $1,106,528 during 1996, 1995, and 1994 respectively. In January 1995, the Company sold all of the intangible assets relating to its German operations to Fresenius AG for approximately $313,500 of cash proceeds. The Company recognized a gain on the transaction of $140,437 equal to the minority interest percentage. The remaining $173,063 was recognized as a contribution to capital by Fresenius. The 1995 financial statements have been restated to show the entire $313,500 as a contribution of capital and reducing other income and net income by $140,437. This restatement decreased earnings per common and common equivalent share by $0.02. (12) Stock Compensation Plans Under the 1984 Gull Laboratories, Inc. fixed Stock Option Plan, the Company may grant options to its employees for up to 833,333 shares of common stock. Under the Company's fixed 1992 Stock Option Plan, the Company may grant options to its officers, directors, and key management personnel for up to 500,000 shares of common stock. Under both plans, the exercise price of each option equals the market price of the Company's stock on the date of grant, and an option's maximum term is ten years. Options are granted at the discretion of the compensation committee of the Company's Board of Directors and vest 25 percent per year. F-16 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements (12) Stock Compensation Plans (continued) A summary of the activity under the plans is as follows: Years ended December 31, -------------------------------------------------------------------- 1996 1995 1994 Weighted- Weighted- Weighted- average average average exercise exercise exercise Shares price Shares price Shares price ------- --------- ------- --------- ------- --------- Outstanding at beginning of year 386,000 $ 4.64 270,000 $ 4.88 341,667 $ 4.51 Granted 130,000 4.68 200,000 4.50 - - Exercised - - (9,000) 1.69 (41,667) 1.39 Forfeited (10,000) 5.50 (75,000) 5.50 (30,000) 5.50 ------- ------- ------- Outstanding at end of year 506,000 $ 4.63 386,000 $ 4.64 270,000 4.88 ======= ======= ======= Options exercisable at 269,750 70,000 55,500 year-end Weighted-average fair value of options granted during the year $ 3.34 $ 2.77 The following table summarizes information about fixed stock options outstanding at December 31, 1996: Options outstanding Options exercisable ----------------------------------------- --------------------------------- Weighted- Number average Weighted- Number Weighted- Range of outstanding at remaining average exercisable average exercise December 31, contractual exercise at December exercise prices 1996 life price 31, 1996 price ------------ -------------- ----------- --------- ----------- -------- $1.125 21,000 1.0 yrs. $ 1.125 21,000 1.125 3.50 - 4.50 225,000 8.6 4.431 118,750 4.401 4.63 - 5.00 130,000 9.2 4.683 - - 5.50 130,000 5.5 5.500 130,000 5.500 -------------- ----------- 1.12 - 5.50 506,000 7.6 4.633 269,750 4.676 ============== =========== F-17 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements (12) Stock Compensation Plans (continued) Had compensation cost for the CompanyOs stock-based compensation plans been determined consistent with SFAS No. 123, the CompanyOs net income and earnings per share would have been reduced to the pro forma amounts indicated below: 1996 1995 ---------- ---------- Net income: As reported $ 240,712 212,456 Pro forma (49,909) 177,831 Primary and fully diluted earnings per share: As reported $ 0.04 0.03 Pro forma (0.01) 0.03 The effect that calculating compensation cost for stock-based compensation under SFAS No. 123 has on the pro forma net income (loss) as presented above may not be representative of the effects on reported net income or losses for future years. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted- average assumptions used for grants in 1996 and 1995, respectively: expected volatility of 66.2 and 49.5 percent; risk free interest rates of 6.1 and 6.3 percent; no dividend yield for any year; and expected lives of 7.5 years. On May 9, 1996, the Company granted an option to purchase 15,000 shares of the CompanyOs common stock to a nonemployee. The option is exercisable 5,000 shares at $6 per share, 5,000 shares at $8.50 per share, and 5,000 shares at $11 per share and becomes exercisable when the CompanyOs stock closes for twenty consecutive trading days at an average price of $6, $8.50, and $11, respectively. Compensation expense related to these options was not material. (13) Foreign Operations, Export Sales, and Major Customer Operations by geographic area: Sales 1996 1995 1994 ------------- ------------ ------------- United States $ 15,217,860 15,272,576 12,033,290 Europe 4,082,743 4,667,311 5,363,998 Eliminations (1,391,851) (1,112,034) (1,555,682) ------------- ------------ ------------- $ 17,908,752 18,827,853 15,841,606 ============= ============ ============= F-18 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements (13) Foreign Operations, Export Sales, and Major Customer (continued) Income before income taxes 1996 1995 1994 ------------- ----------- ------------ United States $ 1,440,433 2,421,498 2,124,466 Europe (214,100) (510,272) (662,346) Eliminations 40,934 (53,377) (617,971) -------------- ----------- ------------ 1,267,267 1,857,849 844,149 Interest expense (535,786) (647,656) (588,626) ------------- ----------- ------------ $ 731,481 1,210,193 255,523 ============= =========== ============ Identifiable assets 1996 1995 1994 ------------- ----------- ------------ United States $ 22,046,305 20,842,948 16,858,516 Europe 1,734,504 2,484,998 2,709,153 Eliminations (11,428,107) (11,010,316) (8,065,528) ------------- ----------- ------------ $ 12,352,702 12,317,630 11,502,141 ============= =========== ============ United States export sales to unaffiliated customers by destination of sale: 1996 1995 1994 ------------- ----------- ------------ Europe $ 2,669,400 3,272,380 2,809,508 Pacific Rim (Australia, New Zealand and the Far East) 1,154,586 1,293,038 905,028 Other 149,310 221,276 594,338 ------------- ----------- ------------ $ 3,973,296 4,786,694 4,308,874 ============= =========== ============ Sales to one customer amounted to 16 percent, 14 percent, and 12 percent of total sales in 1996, 1995, and 1994, respectively. No single country in Europe or the Pacific Rim accounted for more than ten percent of sales. (14) Restructuring Charge In an effort to bring its European operations to profitability, the Company incurred restructuring charges of $505,260 and $775,000 in 1995 and 1994, respectively, substantially all of which relate to personnel termination costs. The restructuring plans were completed in 1995. F-19 GULL LABORATORIES, INC. Notes to Consolidated Financial Statements (15) Merger On December 13, 1996, the Company entered into a letter of intent to acquire the diagnostic business of the Intensive Care and Diagnostic division of Fresenius AG, the CompanyOs majority stockholder subject to the execution of a definitive acquisition agreement, receipt of a fairness opinion from an investment banker, and approval of the CompanyOs stockholders and the Fresenius AGOs Board of Directors. As of the date of these consolidated financial statements, no definitive purchase price for the acquisition had been determined. (16) Commitments and Contingencies The Company is involved in legal actions arising in the ordinary course of business. In the opinion of management, ultimate disposition of these matters will not materially affect the consolidated financial position or results of operations of the Company. As of December 31, 1996, the Company had capital expenditure purchase commitments outstanding of approximately $430,000. F-20 Independent Auditors Report The Board of Directors and Stockholders Gull Laboratories, Inc.: Under the date of January 28, 1997, we reported on the consolidated balance sheets of Gull Laboratories, Inc. and subsidiaries as of December 31, 1996 and 1995, and the related consolidated statements of operations, stockholdersO equity, and cash flows for each of the years in the three-year period ended DecemberE31, 1996. In connection with our audits of the aforementioned consolidated financial statements, we also audited the related consolidated financial statement schedule. This financial statement schedule is the responsibility of the CompanyOs management. Our responsibility is to express an opinion on this consolidated financial statement schedule based on our audits. In our opinion, such consolidated financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. KPMG Peat Marwick LLP Salt Lake City, Utah January 28, 1997 S-1 Schedule II GULL LABORATORIES, INC. Valuation and Qualifying Accounts Years ended December 31, 1996, 1995, and 1994 Charged Balance at to cost Balance beginning and Amounts at end of period expenses charged off of period ---------- -------- ----------- --------- Year ended December 31, 1996: Allowance for doubtful accounts $ 253,747 63,754 (3,307) 314,194 Allowance for loss on leases 86,765 65,470 (23,614) 128,621 Inventory reserve 129,668 163,613 (238,083) 55,198 Warranty reserve 73,609 84,515 (40,500) 117,624 Year ended December 31, 1995: Allowance for doubtful accounts $ 160,343 93,649 (245) 253,747 Allowance for loss on leases - 86,765 - 86,765 Inventory reserve 27,545 302,123 (200,000) 129,668 Warranty reserve - 84,609 (11,000) 73,609 Year ended December 31, 1994: Allowance for doubtful accounts $ 33,000 127,616 (273) 160,343 Inventory reserve 32,563 - (5,018) 27,545 S-2