NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
STRYKER CORPORATION AND SUBSIDIARIES
December 31, 1995
1. SIGNIFICANT ACCOUNTING POLICIES
BUSINESS: Stryker Corporation develops, manufactures and markets specialty
surgical and medical products which are sold primarily to hospitals throughout
the world and provides outpatient physical therapy services in the United
States.
PRINCIPLES OF CONSOLIDATION: The consolidated financial statements include
the accounts of the Company and its wholly owned subsidiaries and, effective
in August 1994 (see Note 4), its 51% owned subsidiary, Matsumoto Medical
Instruments, Inc., after elimination of all significant intercompany accounts
and transactions. Minority interest represents the minority stockholders'
equity in Matsumoto's net earnings since August 1994 and their equity in
Matsumoto's net assets at December 31, 1995 and 1994. The Company's 20%
investment in Matsumoto during the period from August 1993 to July 1994 was
accounted for by the equity method.
REVENUE RECOGNITION: Revenue is recognized on the sale of products and
services when the related goods have been shipped or services have been
rendered.
USE OF ESTIMATES: The preparation of these consolidated financial statements
in conformity with generally accepted accounting principles requires
management of the Company to make estimates and assumptions that affect the
amounts reported in the financial statements and accompanying notes. Actual
results could differ from those estimates.
CASH EQUIVALENTS AND INVESTMENTS: Cash equivalents are highly liquid
investments with a maturity of three months or less when purchased.
Investments include marketable equity and debt securities classified as
current assets and certain noncurrent investments included in other assets.
The Company's investments in marketable equity and debt securities are
classified as "available-for-sale" and are carried at fair value, with the
unrealized gains and losses, net of income taxes, reported as a separate
component of stockholders' equity. Interest and dividends on these securities
are included in other income.
INVENTORIES: Inventories are stated at the lower of cost or market. Cost for
approximately 78% (75% in 1994) of inventories is determined using the lower
of first-in, first-out (FIFO) cost or market. Cost for certain domestic
inventories is determined using the last-in, first-out (LIFO) cost method.
The FIFO cost for all inventories approximates replacement cost.
PROPERTY, PLANT AND EQUIPMENT: Property, plant and equipment is stated at
cost. Depreciation is computed by the straight-line or declining balance
methods over the estimated useful lives of the assets.
INTANGIBLE ASSETS: Intangible assets represent the excess of purchase price
over fair value of tangible net assets of acquired businesses. Intangible
assets, which include patents and intangibles not specifically identifiable,
are being amortized using the straight-line method over periods of up to
sixteen years.
INCOME TAXES: The Company accounts for income taxes using the liability
method. Under this method, deferred tax assets and liabilities are determined
based on differences between financial reporting and tax bases of assets and
liabilities and are measured using the enacted tax rates in effect for the
years in which the differences are expected to reverse. Deferred tax expense
represents the change in net deferred tax assets and liabilities during the
year.
STOCK OPTIONS: The Company follows Accounting Principles Board (APB) Opinion
No. 25, "Accounting for Stock Issued to Employees" in accounting for its
employee stock options. Under APB 25, no compensation expense is recognized
because the exercise price of the Company's employee stock options equals the
market price of the underlying stock on the date of grant.
EARNINGS PER SHARE: Earnings per share is based upon the average number of
shares of common stock outstanding during each year. Shares subject to option
are not included in earnings per share computations because the present effect
thereof is not materially dilutive.
2. INVESTMENTS
Effective January 1, 1994, the Company adopted Financial Accounting Standards
Board (FASB) Statement No. 115, "Accounting for Certain Investments in Debt
and Equity Securities," for investments held as of or acquired after that
date. In accordance with the Statement, prior period financial statements
were not restated to reflect the change in accounting principle. The balance
of stockholders' equity at January 1, 1994 was increased by $1,180,000 (net of
$751,000 in deferred income taxes) to reflect the net unrealized holding gains
on securities classified as available-for-sale previously carried at cost.
The following is a summary of the Company's investments in marketable equity
and debt securities (in thousands):
Gross Gross
Unrealized Unrealized Estimated
Cost Gains Losses Fair Value
________ __________ __________ __________
At December 31, 1995:
Debt securities $193,988 $1,720 ($109) $195,599
Equity securities 7,575 2,579 (226) 9,928
________ ______ ______ ________
Total $201,563 $4,299 ($335) $205,527
======== ====== ====== ========
At December 31, 1994:
Debt securities $ 87,490 ($2,081) $ 85,409
Equity securities 7,700 $ 263 (382) 7,581
________ ______ ______ ________
Total $ 95,190 $ 263 ($2,463) $ 92,990
======== ====== ====== ========
Gross realized gains on sales of the Company's investments totaled $248,000
and $50,000 in 1995 and 1994, respectively, and gross realized losses totaled
$768,000 and $306,000 in 1995 and 1994, respectively. At December 31, 1995,
approximately 30% of the Company's investments in debt securities mature
within one year and substantially all of the remainder mature within three
years.
Interest income, which is included in other income, totaled $11,197,000 in
1995, $6,048,000 in 1994 and $3,520,000 in 1993.
3. INVENTORIES
Inventories are as follows (in thousands):
December 31
1995 1994
________ ________
Finished goods $105,209 $ 86,719
Work-in-process 7,552 7,552
Raw material 28,602 28,784
________ ________
FIFO cost 141,363 123,055
Less LIFO reserve 7,744 7,298
________ ________
$133,619 $115,757
======== ========
4. BUSINESS ACQUISITIONS
In August 1994, the Company purchased 31% of the outstanding common stock of
Matsumoto Medical Instruments, Inc., Osaka, Japan, thereby increasing its
direct ownership interest in Matsumoto to 51%. Matsumoto is one of the
largest distributors of medical devices in Japan and is the exclusive
distributor of most Stryker products in that country. The cost of the 31%
investment, which was based on net book value, was approximately 6.0 billion
yen ($62.0 million). Payment of approximately 847 million yen ($9.8 million)
of the purchase price was deferred to March 1995. The acquisition was
accounted for by the purchase method and the results of operations for
Matsumoto were consolidated with Stryker beginning in August 1994. If the
acquisition had occurred on January 1, 1993, pro forma net sales for the
Company would have been $762,341,000 for 1994 and $694,923,000 for 1993. Pro
forma net earnings would not have differed significantly from reported
results.
In August 1993, the Company purchased 20% of the outstanding common stock of
Matsumoto. The cost of the investment, which was based on net book value, was
approximately 3.4 billion yen ($32.8 million). This initial investment was
accounted for under the equity method until August 1994, when the additional
31% interest was acquired. The Company's share of Matsumoto's net earnings
did not have a material impact on the Company's net earnings in 1993.
In June 1994, the Company purchased the Steri-Shield product line, which is a
personal protection system for operating room personnel. The acquisition was
accounted for by the purchase method at a total cost of $6,500,000, of which
$5,500,000 in royalties will be paid over the following seven years.
Intangible assets acquired, principally patents, are being amortized over
seven to ten years. Pro forma consolidated results including the purchased
business would not differ significantly from reported results.
During 1995, 1994 and 1993, the Company's subsidiary, Physiotherapy
Associates, Inc., purchased several physical therapy clinic operations. The
aggregate purchase price of these clinics in 1995, 1994 and 1993 was
approximately $5,700,000, $7,600,000 and $1,900,000, respectively. Intangible
assets acquired, principally employment contracts and goodwill, are being
amortized over periods ranging from one to fifteen years. Pro forma
consolidated results including the purchased businesses would not differ
significantly from reported results.
5. BORROWINGS
The Company and its subsidiaries have unsecured short-term line of credit
arrangements with banks aggregating $20,000,000 domestically and $35,400,000
equivalent in foreign currencies. There were no borrowings under these lines
at December 31, 1995. Borrowings under these lines at December 31, 1994 were
$208,000 in foreign funds at an average interest rate of 12.8%. These lines
generally expire on July 31, 1996.
Long-term debt is as follows (in thousands):
December 31
1995 1994
________ ________
Bank loans $ 91,606 $ 86,616
Other 8,413 14,029
________ ________
100,019 100,645
Less current maturities 3,052 5,369
________ ________
$ 96,967 $ 95,276
======== ========
The bank loans represent two separate borrowings made to finance the
acquisition of the Company's 51% interest in Matsumoto Medical Instruments,
Inc. (see Note 4). Both loans are Japanese yen denominated, are unsecured and
mature in August 1998. The first loan is from the Chicago branch of The Sanwa
Bank, Limited, has a principal balance of $33,167,000 ($34,442,000 at December
31, 1994) and bears interest at a fixed annual rate of 4.76%. The second loan
is a floating rate loan from the Chicago branches of The Bank of Tokyo, Ltd.,
The Mitsubishi Bank Limited and The Sanwa Bank, Limited and has a principal
balance of $58,439,000 ($52,174,000 at December 31, 1994). The Company has
fixed the effective annual interest rate of this debt at 4.10% using an
interest rate swap with a notional amount and term equal to that of the
related loan. The yen denominated loans act as hedges of the Company's
investment in Matsumoto. As a result, adjustments made to the loan balances
to reflect applicable currency exchange rates at December 31 are included in
the foreign translation adjustments component of stockholders' equity.
Maturities of debt for the four years succeeding 1996 are: 1997 - $52,000;
1998 - $91,662,000; 1999 - $4,918,000; and 2000 - $66,000.
The carrying amounts of the Company's long-term debt and interest rate swap
approximate their fair values based on the Company's current borrowing rates
for similar types of borrowing agreements and quoted market rates,
respectively.
Total interest expense, which is included in other income and approximates
interest paid, was $6,319,000 in 1995, $3,677,000 in 1994, and $1,067,000 in
1993.
6. CAPITAL STOCK
The Company has key employee and director Stock Option Plans under which
options are granted at a price not less than fair market value at the date of
grant. The options are granted for periods of up to ten years and become
exercisable in varying installments. A summary of stock option activity
follows:
Option
Shares Price Per Share
_________ _________________
Options Outstanding at January 1, 1994 1,656,525 $ 3.20 - $34.25
Granted 37,500 25.88 - 28.00
Canceled (58,000) 6.75 - 34.25
Exercised (88,040) 3.20 - 25.50
_________ _________________
Options Outstanding at December 31, 1994 1,547,985 3.20 - 34.25
Granted 25,000 45.88
Canceled (66,700) 6.75 - 25.50
Exercised (184,585) 3.20 - 34.25
_________ _________________
Options Outstanding at December 31, 1995 1,321,700 $4.34 - $45.88
========= =================
At December 31, 1995, options for 809,600 shares were exercisable and
1,175,300 shares were reserved for future grants.
The Company has 500,000 authorized shares of $1 par value preferred stock,
none of which are outstanding.
7. RETIREMENT PLANS
Substantially all employees of the Company are covered by retirement plans.
The majority of employees are covered by profit sharing or defined
contribution retirement plans.
The Company's 51% owned subsidiary, Matsumoto Medical Instruments, Inc., has a
noncontributory defined benefit plan covering all employees who are generally
entitled, upon termination, to lump-sum or annuity payments of amounts
determined by reference to the current level of salary, length of service, and
the conditions under which the termination occurs. Matsumoto's funding policy
for the plan is to contribute actuarially determined amounts on a monthly
basis. In addition, certain officers of Matsumoto are customarily entitled to
lump-sum payments under an unfunded retirement plan. An accrual has been
provided for the expected cost of these benefits earned to date, although
such payments are subject to the approval of Matsumoto's stockholders.
Amounts accrued for both Matsumoto retirement plans, which provide for
substantially all unfunded obligations under the plans, totaled $16,369,000 at
December 31, 1995 ($16,235,000 at December 31, 1994) and are recorded as other
noncurrent liabilities in the consolidated balance sheets.
Retirement plan expense under all of the Company's retirement plans totaled
$11,253,000 in 1995, $6,753,000 in 1994 and $5,302,000 in 1993.
8. INCOME TAXES
Earnings before income taxes and minority interest consist of the following
(in thousands):
1995 1994 1993
________ ________ _______
United States operations $103,813 $100,996 $88,181
Foreign operations 59,280 26,579 7,884
________ ________ _______
$163,093 $127,575 $96,065
======== ======== =======
The components of the provision for income taxes follow (in thousands):
1995 1994 1993
_______ ________ _______
Current:
Federal $34,676 $31,932 $26,114
State, including Puerto Rico 2,300 5,133 10,372
Foreign 27,440 17,523 2,291
_______ ________ _______
64,416 54,588 38,777
Deferred tax expense (credit) 2,484 (3,818) (2,917)
_______ ________ _______
$66,900 $50,770 $35,860
======= ======== =======
A reconciliation of the statutory federal income tax rate to the Company's
effective tax rate follows:
1995 1994 1993
_____ _____ ____
U.S. statutory income tax rate 35.0% 35.0% 35.0%
Add (deduct):
State taxes, less effect of federal deduction .3 2.3 6.3
Foreign income taxes at rates different from the
U.S. statutory rate 6.8 5.4 (.8)
Tax benefit relating to operations in Puerto Rico (1.7) (2.0) (1.8)
U.S. research and development tax credit (.2) (.6) (1.4)
Earnings of Foreign Sales Corporation (1.0) (1.4) (1.4)
Other 1.8 1.1 1.4
____ ____ ____
41.0% 39.8% 37.3%
==== ==== ====
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. The tax effect of
significant temporary differences which comprise the Company's deferred tax
assets and liabilities are as follows (in thousands):
December 31
1995 1994
_______ _______
Deferred Tax Assets:
Inventories $30,533 $34,475
Accounts receivable and other assets 1,877 2,048
Other accrued expenses 20,729 18,165
State taxes 1,677 3,127
Other 164 2,226
_______ _______
Total Deferred Tax Assets 54,980 60,041
Deferred Tax Liabilities:
Depreciation (2,017) (1,681)
Other (2,030) (2,244)
Total Deferred Tax Liabilities (4,047) (3,925)
_______ _______
Total Net Deferred Tax Assets $50,933 $56,116
======= =======
Deferred tax assets and liabilities are included in the consolidated balance
sheets as follows (in thousands):
December 31
1995 1994
_______ _______
Current assets -- Deferred income taxes $47,058 $54,333
Noncurrent assets -- Other assets 6,269 4,438
Noncurrent liabilities -- Other liabilities (2,394) (2,655)
_______ _______
Total Net Deferred Tax Assets $50,933 $56,116
======= =======
No provision has been made for U.S. federal and state income taxes or foreign
taxes that may result from future remittances of the undistributed earnings
($168,630,000 at December 31, 1995) of foreign subsidiaries because it is
expected that such earnings will be reinvested overseas indefinitely.
Determination of the amount of any unrecognized deferred income tax liability
on these unremitted earnings is not practicable.
Total income taxes paid were $70,009,000 in 1995, $51,898,000 in 1994 and
$27,641,000 in 1993.
9. GEOGRAPHIC DATA
Geographic area information follows (in thousands):
1995 1994 1993
________ ________ ________
NET SALES
United States operations:
Domestic $477,207 $405,549 $378,255
Export 137,355 117,669 115,977
Foreign operations:
Pacific 272,362 130,223 33,651
Europe 83,674 70,366 63,366
Other 13,521 12,094 11,987
Eliminations (112,167) (53,981) (45,901)
________ ________ ________
Total Net Sales $871,952 $681,920 $557,335
======== ======== ========
OPERATING INCOME
United States operations $121,411 $109,429 $ 90,726
Foreign operations:
Pacific 35,060 12,560 1,465
Europe 9,491 6,554 6,571
Other 1,954 1,686 1,660
________ ________ ________
Total Foreign Operations 46,505 20,800 9,696
Corporate expenses (10,605) (9,753) (8,480)
________ ________ ________
Total Operating Income $157,311 $120,476 $ 91,942
======== ======== ========
ASSETS
United States operations $283,471 $248,883 $225,587
Foreign operations:
Pacific 273,686 281,259 12,053
Europe 65,406 50,111 39,313
Other 9,304 9,801 4,067
Corporate 223,024 177,917 173,184
________ ________ ________
Total Assets $854,891 $767,971 $454,204
======== ======== ========
Intercompany sales between geographic areas are included in export and foreign
operations sales at agreed upon prices which include a profit element.
No customer accounted for 10% or more of the Company's sales in 1995 or 1994.
For the year ended December 31, 1993, sales to Matsumoto Medical Instruments,
Inc. were $64,300,000 or 12% of total net sales.
Gains (losses) on foreign currency transactions, which are included in other
income, totaled $904,000, $586,000 and $(256,000) in 1995, 1994 and 1993,
respectively.
Corporate assets consist primarily of domestic cash and cash equivalents and
marketable securities and, in 1993, the investment in affiliate.
10. LEASES
The Company leases various manufacturing and office facilities and equipment
under operating leases. Future minimum lease commitments under these leases
are as follows (in thousands):
1996 $14,137
1997 9,951
1998 8,030
1999 4,641
2000 3,151
Thereafter 5,093
_______
$45,003
=======
Rent expense totaled $21,437,000 in 1995, $14,644,000 in 1994 and $10,950,000
in 1993.
11. CONTINGENCIES
The Company is involved in various claims and legal actions arising in the
normal course of business. The Company does not anticipate material losses as
a result of these actions.
In July 1995, a decision was issued by a Federal District Court in a patent
suit brought by the Company against Intermedics Orthopedics, Inc. and its
distributor for infringement of the Company's U.S. patent on its Omniflex Hip
System. The Court held that the Company's patent is valid and enforceable and
that the Company is entitled to damages and attorney fees. In a subsequent
decision, the Court fixed the damage award at $72,700,000 million, including
interest. Intermedics has appealed the Court's decision. Until the appeal
process is complete, management is unable to determine the financial impact of
the Court's decision on the Company. Accordingly, these financial statements
do not give recognition to any gain which might ultimately be realized as a
result of this decision.