SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended June 30, 2005
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or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from to
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Commission File Number 0-12938
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Invacare Corporation
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(Exact name of registrant as specified in its charter)
Ohio 95-2680965
- ------------------------------- --------------------------------
(State or other jurisdiction of (IRS Employer Identification No)
incorporation or organization)
One Invacare Way, P.O. Box 4028, Elyria, Ohio 44036
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(Address of principal executive offices)
(440) 329-6000
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(Registrant's telephone number, including area code)
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(Former name, former address and former fiscal year, if change since last
report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 12 or 15 (d) of the Securities Exchange Act of 1934 (the
"Exchange Act") during the preceding 12 months (or for such shorter period that
the registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes X No____
Indicate by check mark if the registrant is an accelerated filer (as defined in
Rule 12b-2 of the Act). Yes X No____
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date:
As of August 1, 2005, the Company had 30,566,121 Common Shares and 1,111,965
Class B Common Shares outstanding.
<page>
INVACARE CORPORATION
INDEX
Part I. FINANCIAL INFORMATION: Page No.
- ------------------------------ --------
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Balance Sheet -
June 30, 2005 and December 31, 2004..........................3
Condensed Consolidated Statement of Earnings -
Three Months and Six Months Ended June 30, 2005 and 2004.....4
Condensed Consolidated Statement of Cash Flows -
Six Months Ended June 30, 2005 and 2004......................5
Notes to Condensed Consolidated Financial
Statements - June 30, 2005...................................6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations...............12
Item 3. Quantitative and Qualitative Disclosures About Market Risk...........23
Item 4. Controls and Procedures..............................................23
Part II. OTHER INFORMATION:
- ---------------------------
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds..........24
Item 4. Submission of Matters to a Vote of Security Holders..................24
Item 5. Other Information....................................................25
Item 6. Exhibits.............................................................25
SIGNATURES....................................................................26
2
Part I. FINANCIAL INFORMATION
Item 1... Financial Statements
<table>
<caption>
INVACARE CORPORATION AND SUBSIDIARIES
Condensed Consolidated Balance Sheet
June 30, December 31,
2005 2004
------- -------
<s> <c> <c>
(unaudited)
ASSETS (In thousands)
- ------
CURRENT ASSETS
..........Cash and cash equivalents $ 6,390 $32,567
..........Marketable securities 214 199
..........Trade receivables, net 284,931 287,950
..........Inventories, net 183,504 175,883
..........Deferred income taxes 22,776 21,730
..........Other current assets 42,634 46,822
------- -------
.......... TOTAL CURRENT ASSETS 540,449 565,151
OTHER ASSETS 48,986 55,634
OTHER INTANGIBLES 115,581 98,212
PROPERTY AND EQUIPMENT, NET 181,017 191,163
GOODWILL 720,937 717,964
------- -------
.......... TOTAL ASSETS $1,606,970 $1,628,124
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
..........Accounts payable $141,044 $149,413
..........Accrued expenses 90,309 98,850
..........Accrued income taxes 4,747 7,816
..........Current maturities of long-term obligations 1,707 2,062
------- -------
.......... TOTAL CURRENT LIABILITIES 237,807 258,141
LONG-TERM DEBT 552,760 547,974
OTHER LONG-TERM OBLIGATIONS 75,257 68,571
SHAREHOLDERS' EQUITY
..........Preferred shares - -
..........Common shares - par $0.25 7,906 7,803
..........Class B common shares - par $0.25 278 278
..........Additional paid-in-capital 135,709 123,793
..........Retained earnings 576,419 550,753
..........Accumulated other comprehensive earnings 61,218 104,629
..........Unearned compensation on stock awards (2,138) (1,557)
..........Treasury shares (38,246) (32,261)
------- -------
.......... TOTAL SHAREHOLDERS' EQUITY 741,146 753,438
------- -------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $1,606,970 $1,628,124
========== ==========
</table>
See notes to condensed consolidated financial statements.
3
<page>
INVACARE CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statement of Earnings - (unaudited)
<table>
<caption>
Three Months Ended Six Months Ended
(In thousands except per share data) June 30, June 30,
2005 2004 2005 2004
------- ------- ------- -------
<s> <c> <c> <c> <c>
Net sales $396,267 $339,288 $767,211 $660,631
Cost of products sold 282,983 237,164 544,083 465,128
------- ------- ------- -------
Gross profit 113,284 102,124 223,128 195,503
Selling, general and administrative expense 88,352 74,201 172,314 144,984
Interest expense 6,785 2,295 13,771 5,054
Interest income (811) (1,070) (1,805) (2,274)
------- ------- ------- -------
Earnings before Income Taxes 18,958 26,698 38,848 47,739
Income taxes 6,050 8,675 12,395 15,515
------- ------- ------- -------
NET EARNINGS $ 12,908 $ 18,023 $ 26,453 $ 32,224
======= ======= ======= =======
DIVIDENDS DECLARED PER
COMMON SHARE .0125 .0125 .0250 .0250
======= ======= ======= =======
Net Earnings per Share - Basic $ 0.41 $ 0.58 $ .84 $ 1.04
======= ======= ======= =======
Weighted Average Shares Outstanding - Basic 31,553 31,145 31,456 31,119
======= ======= ======= =======
Net Earnings per Share - Assuming Dilution $ 0.40 $ 0.56 $ .81 $ 1.00
======= ======= ======= =======
Weighted Average Shares Outstanding -
Assuming Dilution 32,530 32,239 32,533 32,259
======= ======= ======= =======
</table>
See notes to condensed consolidated financial statements.
4
<table>
<caption>
INVACARE CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statement of Cash Flows - (unaudited)
Six Months Ended
June 30,
2005 2004
------- -------
<s> <c> <c>
OPERATING ACTIVITIES (In thousands)
Net earnings $ 26,453 $ 32,224
Adjustments to reconcile net earnings to
net cash provided by operating activities:
Depreciation and amortization 19,877 15,019
Provision for losses on trade and installment receivables 6,027 4,945
Provision for deferred income taxes 4,559 209
Provision for other deferred liabilities 1,390 1,367
Changes in operating assets and liabilities:
Trade receivables (691) (8,544)
Installment sales contracts, net (3,687) (1,160)
Inventories (17,062) (7,524)
Other current assets 6,591 4,818
Accounts payable (450) 9,953
Accrued expenses (14,386) (12,657)
Other deferred liabilities 570 5,979
------- -------
NET CASH PROVIDED BY OPERATING
ACTIVITIES 29,191 44,629
INVESTING ACTIVITIES
Purchases of property and equipment (15,374) (18,333)
Proceeds from sale of property and equipment 4,937 -
Other long term assets (2) (2,467)
Business acquisitions, net of cash acquired (58,216) (32,713)
Other (3,352) (1,891)
------- -------
NET CASH USED FOR INVESTING ACTIVITIES (72,007) (55,404)
FINANCING ACTIVITIES
Proceeds from revolving lines of credit and long-term borrowings 295,695 297,789
Payments on revolving lines of credit, long-term debt
and capital lease obligations (279,814) (295,700)
Net proceeds from exercise of stock options 1,202 4,366
Purchases of treasury stock - (4,430)
Payment of dividends (787) (778)
------- -------
NET CASH PROVIDED BY FINANCING
ACTIVITIES 16,296 1,247
Effect of exchange rate changes on cash 343 (468)
------- -------
Decrease in cash and cash equivalents (26,177) (9,996)
Cash and cash equivalents at beginning of period 32,567 16,074
------- -------
Cash and cash equivalents at end of period $ 6,390 $ 6,078
======= =======
</table>
See notes to condensed consolidated financial statements.
5
INVACARE CORPORATION AND SUBSIDIARIES
Notes to Condensed Consolidated
Financial Statements
(Unaudited)
June 30, 2005
Nature of Operations - Invacare Corporation and its subsidiaries ("Invacare" or
the "Company") is the leading home medical equipment manufacturer in the world
based on its distribution channels, the breadth of its product line and net
sales. The Company designs, manufactures and distributes an extensive line of
medical equipment for the home health care, retail and extended care markets.
The Company's products include standard manual wheelchairs, motorized and
lightweight prescription wheelchairs, seating and positioning systems, motorized
scooters, patient aids, home care beds, low air loss therapy products,
respiratory products and distributed products. The Company is directly affected
by government regulation and reimbursement policies in virtually every country
in which it operates. Changes in regulations and heath care policy take place
frequently and can impact the size, growth potential and profitability of
products sold in each market.
Principles of Consolidation - The consolidated financial statements include the
accounts of the Company, its majority owned subsidiaries and a variable interest
entity for which the Company is the primary beneficiary and include all
adjustments, which were of a normal recurring nature, necessary to present
fairly the financial position of the Company as of June 30, 2005 and the results
of its operations for the three months and six months ended June 30, 2005 and
2004, respectively, and changes in its cash flows for the six months ended June
30, 2005 and 2004, respectively. Certain foreign subsidiaries, represented by
the European segment, are consolidated using a May 31 quarter end. The results
of operations for the three and six months ended June 30, 2005, are not
necessarily indicative of the results to be expected for the full year. All
significant intercompany transactions are eliminated.
Reclassifications - Certain reclassifications have been made to the prior years'
consolidated financial statements to conform to the presentation used for the
period ended June 30, 2005.
Use of Estimates - The consolidated financial statements are prepared in
conformity with accounting principles generally accepted in the United States,
which require management to make estimates and assumptions that affect the
amounts reported in the financial statements and accompanying notes. Actual
results may differ from these estimates.
Business Segments - The Company reports its results of operations through three
primary business segments based on geographical area: North America, Europe and
Asia/Pacific. The three reportable segments represent operating groups that sell
products in different geographic regions.
The North America segment sells each of five primary product lines, which
includes: standard, rehab, distributed, respiratory, and continuing care
products. Europe and Asia/Pacific sell the same product lines with the exception
of distributed products. Each business segment sells to the home health care,
retail and extended care markets.
The Company evaluates performance and allocates resources based on profit or
loss from operations before income taxes for each reportable segment. The
accounting policies of each segment are the same as those for the Company's
consolidated financial statements. Intersegment net sales and transfers are
based on the costs to manufacture plus a reasonable profit element. Therefore,
6
<page>
intercompany profit or loss on intersegment net sales and transfers are not
considered in evaluating segment performance. Intersegment net sales for
reportable segments was $26,674,000 and $49,432,000 for the three and six months
ended June 30, 2005, respectively, and $21,036,000 and $40,379,000 for the same
periods in the preceding year.
The information by segment is as follows (in thousands):
<table>
<caption>
Three Months Ended Six Months Ended
June 30, June 30,
2005 2004 2005 2004
------- ------- ------- -------
<s> <c> <c> <c> <c>
Revenues from external customers
North America $264,854 $249,040 $515,794 $486,323
Europe 110,331 75,406 212,422 144,744
Asia/Pacific 21,082 14,842 38,995 29,564
------- ------- ------- -------
Consolidated $396,267 $339,288 $767,211 $660,631
======= ======= ======= =======
Earnings (loss) before income taxes
North America $14,066 $25,713 $33,471 $45,763
Europe 7,359 3,303 11,241 4,443
Asia/Pacific (1,600) 240 (3,304) 677
All Other * (867) (2,558) (2,560) (3,144)
------- ------- ------- -------
Consolidated $18,958 $26,698 $38,848 $47,739
======= ======= ======= =======
</table>
* Consists of the domestic export unit, unallocated corporate selling,
general and administrative costs, the Invacare captive insurance unit, and
intercompany profits which do not meet the quantitative criteria for
determining reportable segments.
Net Earnings Per Common Share - The following table sets forth the computation
of basic and diluted net earnings per common share for the periods indicated.
<table>
<caption>
Three Months Ended Six Months Ended
June 30, June 30,
2005 2004 2005 2004
------- ------- ------- -------
<s> <c> <c> <c> <c>
(In thousands, except per share data)
Basic
Average common shares outstanding 31,553 31,145 31,456 31,119
Net earnings $12,908 $18,023 $26,453 $32,224
Net earnings per common share $ .41 $ .58 $ .84 $ 1.04
Diluted
Average common shares outstanding 31,553 31,145 31,456 31,119
Stock options and awards 977 1,094 1,077 1,140
------- ------- ------- -------
Average common shares assuming dilution 32,530 32,239 32,533 32,259
Net earnings $12,908 $18,023 $26,453 $32,224
Net earnings per common share $ .40 $ .56 $ .81 $ 1.00
</table>
7
<page>
At June 30, 2005, 400,812 and 50,023 shares were excluded from the average
common shares assuming dilution for the three and six months ended June 30,
2005, as they were anti-dilutive. For the three and six months ended June 30,
2005, the majority of the anti-dilutive shares were granted at exercise prices
of $44.30 and $47.35 which was higher than the average fair market value prices
of $44.01 and $45.05, respectively. At June 30, 2004, 25,000 and 17,374 shares
were excluded from the average common shares assuming dilution for the three and
six months ended June 30, 2004, as they were anti-dilutive. For the three and
six months ended June 30, 2004, the majority of the anti-dilutive shares were
granted at an exercise price of $44.42 which was higher than the average fair
market value prices of $42.16 and $42.83, respectively.
Concentration of Credit Risk - The Company manufactures and distributes durable
medical equipment and supplies to the home health care, retail and extended care
markets. The Company performs credit evaluations of its customers' financial
condition. Prior to December 2000, the Company financed equipment to certain
customers for periods ranging from 6 to 39 months. In December 2000, Invacare
entered into an agreement with De Lage Landen Inc (DLL), a third party financing
company, to provide the majority of future lease financing to Invacare's
customers. The DLL agreement provides for direct leasing between DLL and the
Invacare customer. The Company retains a limited recourse obligation
($39,973,000 at June 30, 2005) to DLL for events of default under the contracts
(total balance outstanding of $93,502,000 at June 30, 2005). Financial
Accounting Standards Board (FASB) Interpretation No. 45, Guarantor's Accounting
and Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others, requires the Company to record a guarantee liability as
it relates to the limited recourse obligation. As such, the Company has recorded
a liability for this guarantee obligation. The Company monitors the collections
status of these contracts and has provided amounts for estimated losses in its
allowances for doubtful accounts in accordance with FASB Statement No. 5,
Accounting for Contingencies. Credit losses are provided for in the financial
statements.
Substantially all of the Company's receivables are due from health care, medical
equipment dealers and long term care facilities located throughout the United
States, Australia, Canada, New Zealand, Asia and Europe. A significant portion
of products sold to dealers, both foreign and domestic, is ultimately funded
through government reimbursement programs such as Medicare and Medicaid. In
addition, the Company has also seen a significant shift in reimbursement to
customers from managed care entities. As a consequence, changes in these
programs can have an adverse impact on dealer liquidity and profitability. In
addition, reimbursement guidelines in the home health care industry have a
substantial impact on the nature and type of equipment an end user can obtain as
well as the timing of reimbursement and, thus, affect the product mix, pricing
and payment patterns of the Company's customers.
Goodwill and Other Intangibles - The change in goodwill reflected on the balance
sheet from December 31, 2004 to June 30, 2005 was the result of acquisitions
representing an increase in goodwill of $7,265,000 in Asia/Pacific, $16,557,000
in Europe and $12,910,000 in North America with the remaining change
attributable to currency translation.
Motion Concepts, Inc. ("Motion") was acquired in 2003. Pursuant to the Motion
purchase agreement, the Company agreed to pay contingent consideration based
upon earnings before interest and taxes over the three years subsequent to the
acquisition up to a maximum of approximately $16,000,000. Based upon 2004
results, no such consideration was paid and the company does not anticipate any
payment in 2005 based upon results to date. When the contingency related to the
acquisition is settled, any such consideration paid will increase the purchase
price and reported goodwill.
8
<page>
All of the Company's other intangible assets have definite lives and are
amortized over their useful lives, except for $31,053,000 related to trademarks,
which have indefinite lives. An increase in patents of $6,664,000 was recorded
in the first quarter of 2005 as part of the North American segment, which was a
result of the consolidation of the Company's variable interest in NeuroControl.
As a result of acquisitions in the second quarter, $7,980,000 was recorded as
part of the North American segment, primarily attributable to developed
technology, and the following intangibles were recorded for the European
segment: trademarks with indefinite lives of $4,840,000, customer lists of
$5,500,000 and patents of $502,000.
As of June 30, 2005 and December 31, 2004, other intangibles consisted of the
following (in thousands):
<table>
<caption>
June 30, 2005 December 31, 2004
------------- -----------------
Historical Accumulated Historical Accumulated
Cost Amortization Cost Amortization
---------- ------------ ---------- ------------
<s> <c> <c> <c> <c>
Customer lists $60,169 $5,309 $57,788 $2,737
Trademarks 31,053 - 27,732 -
License agreements 7,441 5,522 6,518 5,051
Developed technology 5,433 259 5,842 80
Patents 11,540 1,684 4,137 1,443
Other 15,335 2,616 7,348 1,842
------- ------- ------- -------
$130,971 $15,390 $109,365 $11,153
======= ======= ======= =======
</table>
Amortization expense related to other intangibles was $4,237,000 in the first
half of 2005 and is estimated to be $9,090,000 in 2006, $8,921,000 in 2007,
$8,483,000 in 2008, $8,258,000 in 2009 and $8,143,000 in 2010.
Investment in Affiliated Company - In January 2003, the FASB issued
Interpretation No. 46, Consolidation of Variable Interest Entities ("FIN 46"),
which was revised in December 2003 and, which among other things, deferred the
implementation date of FIN 46 until periods after March 15, 2004. This
interpretation requires consolidation of an entity if the company is subject to
a majority of the risk of loss from the variable interest entity's ("VIE")
activities or entitled to receive a majority of the entity's residual returns,
or both. A company that consolidates a VIE is known as the primary beneficiary
of that entity.
The Company has an investment in NeuroControl, a development stage company,
which is currently pursuing FDA approval to market in the United States a
product focused on the treatment of post-stroke shoulder pain. The amount of net
advances and investment recorded on the Company's books was approximately
$3,000,000 at December 31, 2004. Certain of the Company's officers and directors
(or their affiliates) have minority equity ownership positions in NeuroControl.
Subsequent to December 31, 2004, the Company's board of directors approved an
additional investment by the Company in NeuroControl. Accordingly, the Company
has consolidated this investment prospectively beginning with the quarter ended
March 31, 2005, as the Company is now deemed the primary beneficiary of this VIE
based on the provisions of FIN 46. The other beneficial interest holders have no
recourse against the Company.
9
<page>
Accounting for Stock-Based Compensation - The Company utilizes the
disclosure-only provisions of Statement of Financial Accounting Standards (SFAS)
No. 123, Accounting for Stock-Based Compensation. Accordingly, the Company has
not recognized compensation cost for non-qualified stock options. However, the
Company does record compensation cost on restricted common shares based on the
vesting periods. Had compensation cost for the Company's stock option plans been
determined based on the fair value at the grant date for awards in 2005 and 2004
consistent with the provisions of SFAS No. 123, the Company's net earnings and
earnings per share would have been reduced to the pro forma amounts indicated
below (in thousands, except per share data):
<table>
<caption>
Three Months Ended Six Months Ended
June 30, June 30,
2005 2004 2005 2004
------- ------- ------- -------
<s> <c> <c> <c> <c>
Net earnings - as reported * $12,908 $18,023 $26,453 $32,224
Less: compensation expense determined based on the
fair-value method for all awards granted at
market value, net of related tax effects 1,125 854 2,201 1,806
------- ------- ------- -------
Net earnings - pro forma $11,783 $17,169 $24,252 $30,418
======= ======= ======= =======
Earnings per share as reported - basic $.41 $.58 $.84 $1.04
Earnings per share as reported - assuming dilution $.40 $.56 $.81 $1.00
Pro forma earnings per share - basic $.37 $.55 $.77 $.98
Pro forma earnings per share - assuming dilution $.36 $.53 $.75 $.94
* Includes stock compensation expense, net of tax, on
restricted awards granted without cost to recipients of: $145 $138 $283 $252
</table>
Warranty Costs - Generally, the Company's products are covered by warranties
against defects in material and workmanship for periods up to six years from the
date of sale to the customer. Certain components carry a lifetime warranty. A
provision for estimated warranty cost is recorded at the time of sale based upon
actual experience. The Company continuously assesses the adequacy of its product
warranty accrual and makes adjustments as needed. Historical analysis is
primarily used to determine the Company's warranty reserves. Claims history is
reviewed and provisions are adjusted as needed. However, the Company does
consider other events, such as a product recall, which could warrant additional
warranty reserve provision. No material adjustments to warranty reserves were
necessary in the first half of 2005.
The following is a reconciliation of the changes in accrued warranty costs for
the reporting period (in thousands):
Balance as of January 1, 2005 $ 13,998
Warranties provided during the period 5,486
Settlements made during the period (5,450)
Changes in liability for pre-existing warranties during
the period, including expirations 394
-------
Balance as of June 30, 2005 $ 14,428
=======
10
<page>
Comprehensive Earnings - Total comprehensive earnings (losses) were as follows
(in thousands):
<table>
<caption>
Three Months Ended Six Months Ended
June 30, June 30,
2005 2004 2005 2004
------- ------- ------- -------
<s> <c> <c> <c> <c>
Net earnings $12,908 $18,023 $26,453 $32,224
Foreign currency translation gain (loss) (35,759) (9,701) (39,084) 623
Unrealized gain (loss) on available for sale securities (42) (7) 10 3
Current period unrealized loss on cash flow
hedges (4,910) (1,298) (4,337) (2,353)
------- ------- ------- -------
Total comprehensive earnings (loss) $(27,803) $ 7,017 $(16,958) $30,497
======= ======= ======= =======
</table>
Inventories - Inventories consist of the following components (in thousands):
June 30, December 31,
2005 2004
------- -------
Raw materials $ 60,688 $ 60,548
Work in process 14,993 16,156
Finished goods 107,823 99,179
------- -------
$183,504 $175,883
======= =======
The final inventory determination under the LIFO method is made at the end of
each fiscal year based on the inventory levels and cost at that point;
therefore, interim LIFO determinations are based on management's estimates of
expected year-end inventory levels and costs.
Property and Equipment - Property and equipment consist of the following (in
thousands):
June 30, December 31,
2005 2004
------- -------
Machinery and equipment $247,726 $ 243,335
Land, buildings and improvements 86,276 95,041
Furniture and fixtures 27,847 27,494
Leasehold improvements 15,302 14,275
------- -------
377,151 380,145
Less allowance for depreciation (196,134) (188,982)
------- -------
$181,017 $191,163
======= =======
Acquisitions - In the first half of 2005, Invacare Corporation acquired the
following businesses, which were individually immaterial, at a total cost of
$58,216,000, which was paid in cash:
o Australian Healthcare Equipment Pty Ltd, an Australian based company,
and manufacturer of beds, related furniture and pressure care products
for home care and non-acute institutional care.
o Altimate Medical, Inc., a U.S. company, and manufacturer of standing
frames and mobility aids for the rehabilitation market.
o Medical Support Systems Holdings Limited, a U.K. company, and
manufacturer of high quality, foam pressure-reducing products for the
healthcare market.
11
<page>
Goodwill recognized in these transactions amounted to approximately $36,732,000,
the majority of which is not expected to be deductible for tax purposes.
Goodwill of $16,557,000 was assigned to the European segment, $12,910,000 was
assigned to the North American segment and $7,265,000 was assigned to the
Asia/Pacific segment.
On September 9, 2004 the Company acquired 100% of the shares of WP Domus GmbH
(Domus), a European-based holding company that manufactures several
complementary product lines to Invacare's product lines, including power add-on
products, bath lifts and walking aids, from WP Domus LLC. Domus has three
divisions: Alber, Aquatec and Dolomite. The acquisition allows the Company to
expand its product line and reach new markets. The preliminary purchase price
was $227,382,000, including acquisition costs of $3,670,000, which was paid in
cash, and is subject to final determination of the estimated costs of possible
office closures, sales agency transfers and other consolidation efforts expected
to be finalized during the third quarter of 2005. Invacare's reported results
reflect the operating results of Domus since the date of the acquisition.
Supplemental pro forma information is presented below as though the business
combination had been completed as of the beginning of the period ended June 30,
2004. The pro forma information does not necessarily reflect the results of
operations that would have occurred if Domus had been a wholly owned entity of
Invacare as of the beginning of the three and six-month periods ended June 30,
2004 (in thousands).
Three Months Ended Six Months Ended
June 30, 2004 June 30, 2004
------------- -------------
Net sales $366,058 $714,949
Net earnings 21,800 39,081
Earnings per share - assuming dilution $.68 $1.21
Income Taxes - The Company had an effective tax rate of 31.9% for the three and
six-month periods ended June 30, 2005 compared with 32.5% for the same periods a
year ago. The effective tax rate declined due to a change in estimate in the mix
of earnings and permanent deductions. The Company's effective tax rate is lower
than the U.S. federal statutory rate primarily due to tax credits and earnings
abroad being taxed at rates lower than the U.S. federal statutory rate.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion and analysis should be read in conjunction with our
Condensed Consolidated Financial Statements and related notes thereto included
elsewhere in this Quarterly Report on Form 10-Q and in our Current Report on
Form 8-K as furnished to the Securities and Exchange Commission on July 28,
2005.
12
<page>
OUTLOOK
Reimbursement uncertainties that impacted the first quarter of 2005 continue to
affect the core North American rehab and standard businesses in the second
quarter. The power wheelchair market is unlikely to return to growth until the
Centers for Medicare and Medicaid Services (CMS) implements its plan for 49 new
codes and related fees at the beginning of 2006. The uncertainty has
particularly impacted Medicare power wheelchair sales and will likely continue
to pressure results in 2005. In terms of Medicaid, there was in general no
improvement in terms of reimbursement levels or approvals for home medical
equipment.
In order to adjust the cost base to the lower anticipated revenue growth levels,
the Company has identified cost reductions and profit improvement actions
totaling $9 million in the second half of 2005. These actions include:
* reducing global headcount by 230 personnel,
* outsourcing improvements utilizing the Company's China manufacturing
capability and third parties,
* shifting substantial resources from product development to
manufacturing cost reduction activities and product rationalization,
* reducing freight exposure through freight auctions and changing the
freight policy,
* general expense reductions, and
* exiting four facilities.
As a result of these actions, the Company anticipates recognizing a $3 million
to $5 million charge in the third quarter of this year. These initial actions
are expected to result in annualized savings of $20 million as Invacare enters
2006.
In addition to these actions, the Company is reviewing its global manufacturing
and distribution strategy. The Company is in the early stages of evaluating a
multi-year plan to exit a number of manufacturing and distribution locations,
resulting in annualized savings of up to $21 million. These plans would lead to
restructuring charges over the next two years estimated at $22 million. While
plans are not complete, the Company currently believes that the financial
benefits from the restructuring in any one-year will minimize the net income
impact from the charge incurred in that year. The Company will provide
additional details on these plans when it announces third quarter results.
For the full year, the Company anticipates a net sales increase of between 14%
and 15% and earnings per share of between $2.20 and $2.40. This guidance
anticipates foreign currency to account for one percent of the net sales
increase and acquisitions to account for 9% of the net sales increase. Excluding
the impact of foreign currency and acquisitions, the net sales increase is
expected to be between 4% and 5%. The Company anticipates operating cash flows
of between $90 million and $100 million and net purchases of property and
equipment of approximately $35 million. The earnings per share guidance does not
include the impact of the $3 million to $5 million charge mentioned above on a
pre-tax basis or $0.06 to $0.10 per share after tax.
For the third quarter, the Company expects a net sales increase of between 16%
and 18% and earnings per share of between $0.53 and $0.63. This guidance
anticipates foreign currency to account for one percent of the net sales
increase and acquisitions to account for 12% of the net sales increase.
Excluding the impact of foreign currency and acquisitions, the net sales
increase would be between 4% and 5%. The earnings per share guidance does not
include the impact of the $3 million to $5 million charge mentioned above on a
pre-tax basis or $0.06 to $0.10 per share after tax.
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RESULTS OF OPERATIONS
NET SALES
Net sales for the three months ended June 30, 2005 were $396,267,000, compared
to $339,288,000 for the same period a year ago, representing a 17% increase.
Foreign currency translation and acquisitions accounted for 3% and 11% of the
net sales increase for the quarter, respectively. Excluding the impact of
currency and acquisitions, net sales growth was driven primarily by volume
increases in the North America and Asia/Pacific business segments. For the six
months ended June 30, 2005, net sales increased 16% to $767,211,000, compared to
$660,631,000 for the same period a year ago. Foreign currency translation and
acquisitions accounted for 2% and 11% of the net sales increase for the first
half, respectively. Excluding the impact of foreign currency and acquisitions,
net sales growth was driven primarily by volume increases in the North America
and Asia/Pacific business segments.
North American Operations
North American net sales increased 6% for the quarter to $264,854,000 as
compared $249,040,000 for the same period a year ago with foreign currency
accounting for 1% of the net sales increase and acquisitions contributing an
additional 1%. For the first half, net sales increased 6% to $515,794,000 as
compared $486,323,000 for the same period a year ago, with foreign currency
accounting for 1% of the net sales increase and acquisitions contributing an
additional 2%. These sales consist of Rehab (power wheelchairs, custom manual
wheelchairs, personal mobility and seating and positioning), Standard (manual
wheelchairs, personal care, home care beds, low air loss therapy and patient
transport), Continuing Care (beds and furniture), Respiratory (oxygen
concentrators, aerosol therapy, sleep, homefill and associated respiratory) and
Distributed (ostomy, incontinence, diabetic, wound care and other medical
supplies) products.
The increase for the quarter was principally due to net sales increases in
Respiratory products (28%), Distributed products (8%) and Continuing Care
products (23%), which were partially offset by declines in Standard products
(6%) and Rehab products (4%). Acquisitions accounted for 17% of the Continuing
Care product net sales increase and positively impacted Rehab product net sales
by less than 1%.
Respiratory growth in the quarter was largely due to continued strong
performance in the HomeFill(TM) oxygen system product line and strong sales of
oxygen concentrators. Distributed products continued to grow, consistent with
recent performance, while Continuing Care products growth was lead by the
increases sales of institutional products. The net sales decline experienced in
Rehab products for the quarter is attributable to continued Medicare power
wheelchair eligibility pressures and Medicaid related reimbursement pressures.
As a result of these pressures, consumer power wheelchairs net sales were down
11% for the quarter versus last year's second quarter. Standard products sales
benefited from increasing unit volumes, which were more than offset by lower
pricing.
The increase for the first six months was principally due to net sales increases
in Respiratory products (22%), Continuing Care products (22%) and Distributed
products (8%), which were partially offset by declines in Standard products (4%)
and Rehab products (4%). Acquisitions accounted for 16% of the Continuing Care
product net sales increase and positively impacted Rehab product net sales by
2%.
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European Operations
European net sales increased 46% for the quarter to $110,331,000 as compared to
$75,406,000 for the same period a year ago. European net sales for the first six
months increased 47% to $212,422,000 as compared to $144,744,000 for the same
period a year ago. Acquisitions and foreign currency translation accounted for
40% and 7% of the net sales increase, respectively, for both the three and six
months ended June 30, 2005. The net 1% sales decline for the quarter and lack of
growth for the first half, excluding foreign currency and acquisitions, was
primarily due to German reimbursement challenges for the Invacare wheelchair
product lines.
Asia/Pacific Operations
The Company's Asia/Pacific operations consist of Invacare Australia, which
imports and distributes the entire range of Invacare products and manufactures
and distributes Rollerchair custom power wheelchairs and Pro Med lifts; Dynamic
Controls, a New Zealand manufacturer of electronic operating components used in
power wheelchairs and scooters; and Invacare New Zealand, a manufacturer of
wheelchairs and beds and a distributor of a wide range of home medical
equipment.
Asia/Pacific net sales increased 42% to $21,082,000 from $14,842,000 in the
second quarter and increased 32% to $38,995,000 from $29,564,000 year to date.
For the quarter, acquisitions accounted for 19% of the net sales increase, while
foreign currency translation contributed an additional 15%. For the first half
of the year, acquisitions accounted for 16% of the net sales increase, while
foreign currency translation contributed an additional 11%. The resulting 8%
sales increase for the quarter and 5% sales increase for the first half,
excluding foreign currency and acquisitions, were largely due to volume
increases in all locations.
GROSS PROFIT
Gross profit as a percentage of net sales for the three and six-month periods
ended June 30, 2005 were 28.6% and 29.1%, respectively, compared to 30.1% and
29.6%, respectively, in the same periods last year. The decline for both periods
is primarily due to significant increases in freight costs, largely due to fuel
surcharges driven by the high price of oil, and price reductions on standard
products in North America, which started in July of last year and thus
negatively impact the gross margin comparison to the first half of last year.
For the first six months, North American margins as a percentage of net sales
declined to 29.2% compared with 30.3% in the same period last year principally
as a result of the above-referenced increase in freight costs and decrease in
pricing, especially in the Standard products category. In Europe, gross margin
improved year to date by 1.3 percentage points, primarily due to the higher
gross margins achieved by Domus. Gross margin in Asia/Pacific declined year to
date by .4 percentage points, largely due to unfavorable foreign currency
associated with normal operating transactions and cost increases. The negative
currency impacts and cost increases were primarily responsible for the
Asia/Pacific losses before income taxes for the quarter and first half of the
year.
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SELLING, GENERAL AND ADMINISTRATIVE
Selling, general and administrative expense as a percentage of net sales for the
three and six months ended June 30, 2005 was 22.3% and 22.5%, compared to 21.9%
for both comparable periods a year ago. The dollar increases were $14,151,000
and $27,330,000, or 19.1% and 18.9%, respectively for the quarter and first half
of the year. Acquisitions increased these expenses by $11,639,000 in the quarter
and $22,476,000 in the first half, while foreign currency translation increased
these expenses by $2,226,000 in the quarter and $3,948,000 in the first half
compared to the same periods a year ago. Sales and marketing expenses, which
resulted from higher revenues and program spending, increased by $5,817,000 and
$11,725,000 for the second quarter and the first half, respectively. Excluding
the impact of foreign currency translation and acquisitions, selling, general
and administrative expense increased 0.4% for the quarter and 0.6% compared to
the same period a year ago.
North American selling, general and administrative cost increased $2,766,000 or
5.2% for the quarter and $4,293,000 or 4.2% in the first half compared to the
same periods a year ago. Acquisitions accounted for 1.5% and 2.0% of the
increase in each period, respectively, while foreign currency translation
accounted for approximately 0.7% in both periods. The additional costs incurred
on a consolidated basis, were primarily related to North America.
European selling, general and administrative cost increased $8,842,000 or 46.0%
for the quarter and $18,075,000 or 46.6% for the first half compared to the same
periods a year ago. For the quarter, acquisitions and foreign currency
translation increased SG&A expense by $10,295,000 or 53.6%, and $1,382,000 or
7.2%, respectively. For the first half of 2005, acquisition and foreign currency
translation increased SG&A expense by $19,385,000 or 50.0%, and $2,624,000 or
6.8%, respectively. The decrease in spending, excluding acquisition and foreign
currency translation, was primarily attributable to efforts to decrease
spending.
Asia/Pacific selling, general and administrative cost increased $2,543,000 or
139.6% for the quarter and $4,962,000 or 138.6% in the first half compared to
the same periods a year ago. For the quarter, acquisitions and foreign currency
translation increased SG&A expense by $540,000 or 29.6%, and $484,000 or 26.6%,
respectively. For the first half of 2005, acquisition and foreign currency
translation increased SG&A expense by $1,002,000 or 28.0%, and $688,000 or
19.2%, respectively. The increase in spending, excluding acquisition and foreign
currency translation, was primarily attributable to additional systems costs
related to an Enterprise Resource Planning (ERP) implementation and foreign
currency transactions.
INTEREST
Interest expense increased $4,490,000 and $8,717,000 for the second quarter and
first half of 2005, respectively, compared to the same periods last year,
primarily due to increased borrowings for acquisitions and higher average
borrowing rates. Interest income for the second quarter and first half of 2005
was comparable to the same respective periods last year.
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INCOME TAXES
The Company had an effective tax rate of 31.9% for the three and six-month
periods ended June 30, 2005 compared with 32.5% for the same periods a year ago.
The effective tax rate declined due to a change in estimate in the mix of
earnings and permanent deductions. The Company's effective tax rate is lower
than the U.S. federal statutory rate primarily due to tax credits and earnings
abroad being taxed at rates lower than the U.S. federal statutory rate.
LIQUIDITY AND CAPITAL RESOURCES
The Company's reported level of debt increased $4,431,000 from December 31, 2004
to $554,467,000 as of June 30, 2005 as a result of acquisitions. The Company
continues to maintain an adequate liquidity position to fund its working capital
and capital requirements through its bank lines of credit and working capital
management.
Effective April 4, 2005, Invacare requested, and the other parties to its
revolving credit agreement consented to, an increase in the amount of the
multi-currency, long-term revolving credit facility available to Invacare by
$50,000,000 to an aggregate amount of $500,000,000. In March 2005, the Company
entered into three treasury lock agreements with notional amounts of $50,000,000
each, locking in rates of 4.60%, 4.62% and 4.68% to effectively hedge the
forecasted receipt of proceeds resulting from the anticipated issuance of ten
year, fixed rate debt by January 2006.
As of June 30, 2005, the Company had approximately $143,743,000 available under
its lines of credit, excluding debt covenant restrictions. The Company's
borrowing arrangements contain covenants, which were unchanged by the
$50,000,000 increase in the revolver, with respect to interest coverage, net
worth, dividend payments, working capital, and funded debt to capitalization, as
defined in the Company's bank agreements and agreement with its note holders. As
of June 30, 2005, the Company was in compliance with all covenant requirements.
Under the most restrictive covenant of the Company's borrowing arrangements, the
Company has the capacity to borrow up to an additional $75,244,000 as of June
30, 2005.
CAPITAL EXPENDITURES
The Company had no individually material capital expenditure commitments
outstanding as of June 30, 2005. The Company estimates that capital investments
for 2005 could approximate up to $35,000,000 as compared to $41,400,000 in 2004.
The Company believes that its balances of cash and cash equivalents, together
with funds generated from operations and existing borrowing facilities will be
sufficient to meet its operating cash requirements and to fund required capital
expenditures for the foreseeable future.
CASH FLOWS
Cash flows provided by operating activities were $29,191,000 for the first half
of 2005 compared to $44,629,000 in the first half of 2004. The decrease in
operating cash flows for the first half of 2005 compared to the same period a
year ago was largely due to lower earnings, higher inventory levels and reduced
payables and accrued expenses. Inventory levels increased primarily due to
building product for anticipated increases in sales growth that did not
materialize. In addition, with increased shipments from the Far East, the
Company had more products in transit than in previous years.
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Cash used for investing activities was $72,007,000 for the first half of 2005
compared to $55,404,000 in the first half of 2004. The increase in cash used for
investing is attributable to the higher level of acquisitions incurred in the
first half of 2005 compared to the first half of 2004. In addition, cash used
for investing activities benefited by $4,633,000 from the sale of a
manufacturing facility no longer used by the Company.
Cash provided by financing activities was $16,296,000 for the first half of 2005
compared to cash provided of $1,247,000 in the first half of 2004. Financing
activities for the first half of 2005 were impacted by an increase in the
Company's net long-term borrowings of $15,881,000 as a result of acquisitions
and the decrease in operating cash flows compared to the same period a year ago.
The effect of foreign currency translation and acquisitions may result in
amounts being shown for cash flows in the Condensed Consolidated Statement of
Cash Flows that are different from the changes reflected in the respective
balance sheet captions.
During the first half of 2005, the Company generated free cash flow of
$18,754,000 compared to free cash flow of $26,296,000 in the first half of 2004.
The decrease was primarily attributable to changes in inventory and accounts
payable and lower earnings as explained above. Free cash flow is a non-GAAP
financial measure that is comprised of net cash provided by operating activities
less net purchases of property and equipment. Management believes that this
financial measure provides meaningful information for evaluating the overall
financial performance of the Company and its ability to repay debt or make
future investments (including acquisitions, etc.). The non-GAAP financial
measure is reconciled to the GAAP measure as follows (in thousands):
Six Months Ended
June 30,
2005 2004
------- -------
Net cash provided by operating activities $29,191 $44,629
Less: Purchases of property and equipment - net (10,437) (18,333)
------- -------
Free Cash Flow $18,754 $ 26,296
======= =======
DIVIDEND POLICY
On May 25, 2005, the Company's Board of Directors declared a quarterly cash
dividend of $0.0125 per Common Share to shareholders of record as of July 1,
2005, which was paid on July 15, 2005. At the current rate, the cash dividend
will amount to $0.05 per Common Share on an annual basis.
CRITICAL ACCOUNTING POLICIES
The consolidated financial statements include accounts of the Company and all
majority-owned subsidiaries. The preparation of financial statements in
conformity with accounting principles generally accepted in the United States
requires management to make estimates and assumptions in certain circumstances
that affect amounts reported in the accompanying consolidated financial
statements and related footnotes. In preparing these financial statements,
management has made its best estimates and judgments of certain amounts included
in the financial statements, giving due consideration to materiality. However,
application of these accounting policies involves the exercise of judgment and
use of assumptions as to future uncertainties and, as a result, actual results
could differ from these estimates.
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Revenue Recognition
Invacare's revenues are recognized when products are shipped to unaffiliated
customers. The Securities and Exchange Commission's Staff Accounting Bulletin
(SAB) No. 101, "Revenue Recognition," as updated by SAB No. 104, provides
guidance on the application of generally accepted accounting principles to
selected revenue recognition issues. The Company has concluded that its revenue
recognition policy is appropriate and in accordance with generally accepted
accounting principles and SAB No. 101.
Sales are only made to customers with whom the Company believes collection is
reasonably assured based upon a credit analysis, which may include obtaining a
credit application, a signed security agreement, personal guarantee and/or a
cross corporate guarantee depending on the credit history of the customer.
Credit lines are established for new customers after an evaluation of their
credit report and/or other relevant financial information. Existing credit lines
are regularly reviewed and adjusted with consideration given to any outstanding
past due amounts.
The Company offers discounts and rebates, which are accounted for as reductions
to revenue in the period in which the sale is recognized. Discounts offered
include: cash discounts for prompt payment, base and trade discounts based on
contract level for specific classes of customers. Volume discounts and rebates
are given based on large purchases and the achievement of certain sales volumes.
Product returns are accounted for as a reduction to reported sales with
estimates recorded for anticipated returns at the time of sale. The Company does
not sell any goods on consignment.
Distributed products sold by the Company are accounted for in accordance with
EITF 99-19 Reporting Revenue Gross as a Principal versus Net as an Agent. The
Company records distributed product sales gross as a principal since the Company
takes title to the products and has the risks of loss for collections, delivery
and returns.
Product sales that give rise to installment receivables are recorded at the time
of sale when the risks and rewards of ownership are transferred. In December
2000, the Company entered into an agreement with DLL, a third party financing
company, to provide the majority of future lease financing to Invacare
customers. As such, interest income is recognized based on the terms of the
installment agreements. Installment accounts are monitored and if a customer
defaults on payments, interest income is no longer recognized. All installment
accounts are accounted for using the same methodology, regardless of duration of
the installment agreements.
Allowance for Uncollectible Accounts Receivable
Accounts receivable are reduced by an allowance for amounts that may become
uncollectible in the future. Substantially all of the Company's receivables are
due from health care, medical equipment dealers and long term care facilities
located throughout the United States, Australia, Canada, New Zealand, Asia and
Europe. A significant portion of products sold to dealers, both foreign and
domestic, is ultimately funded through government reimbursement programs such as
Medicare and Medicaid. In addition, the Company has seen a significant shift in
reimbursement to customers from managed care entities. As a consequence, changes
in these programs can have an adverse impact on dealer liquidity and
profitability. The estimated allowance for uncollectible amounts is based
primarily on management's evaluation of the financial condition of the customer.
In addition, as a result of the third party financing arrangement with DLL,
management monitors the collection status of these contracts in accordance with
the Company's limited recourse obligations and provides amounts necessary for
estimated losses in the allowance for doubtful accounts.
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Inventories and Related Allowance for Obsolete and Excess Inventory
Inventories are stated at the lower of cost or market with cost principally
determined for domestic manufacturing inventories by the last-in, first-out
(LIFO) method and for non-domestic inventories and domestic finished products
purchased for resale by the first-in, first-out (FIFO) method.
Inventories have been reduced by an allowance for excess and obsolete
inventories. The estimated allowance is based on management's review of
inventories on hand compared to estimated future usage and sales. A provision
for excess and obsolete inventory is recorded as needed based upon the
discontinuation of products, redesigning of existing products, new product
introductions, market changes and safety issues. Both raw materials and finished
goods are reserved for on the balance sheet.
In general, we review inventory turns as an indicator of obsolescence or slow
moving product as well as the impact of new product introductions. Depending on
the situation, the individual item may be partially or fully reserved for. No
inventory that was reserved for has been sold at prices above their new cost
basis. The Company continued to increase its overseas sourcing efforts, increase
its emphasis on the development and introduction of new products, and decrease
the cycle time to bring new product offerings to market. These initiatives are
potential sources of inventory obsolescence for both raw material and finished
goods.
Goodwill, Intangible and Other Long-Lived Assets
Property, equipment, intangibles and certain other long-lived assets are
amortized over their useful lives. Useful lives are based on management's
estimates of the period that the assets will generate revenue. As a result of
the adoption of Statement of Financial Accounting Standard (SFAS) No. 142,
Goodwill and Other Intangible Assets in 2002, goodwill and intangible assets
deemed to have indefinite lives are subject to annual impairment tests in
accordance with the Statement. Furthermore, goodwill and other long-lived assets
are reviewed for impairment whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable. The Company
completes its annual impairment tests in the fourth quarter of each year and the
results of these analyses have indicated no impairment of goodwill.
Product Liability
The Company's captive insurance company, Invatection Insurance Co., currently
has a policy year that runs from September 1 to August 31 and insures annual
policy losses of $10,000,000 per occurrence and $11,000,000 in the aggregate of
the Company's North American product liability exposure. The Company also has
additional layers of external insurance coverage insuring up to $100,000,000 in
annual aggregate losses arising from individual claims anywhere in the world
that exceed the captive insurance company policy limits. There can be no
assurance that Invacare's current insurance levels will continue to be adequate
or available at affordable rates.
Product liability reserves are recorded for individual claims based upon
historical experience, industry expertise and indications from a third-party
actuary. Additional reserves, in excess of the specific individual case
reserves, are provided for incurred but not reported claims based upon
third-party actuarial valuations at the time such valuations are conducted.
Historical claims experience and other assumptions are taken into consideration
by the third-party actuary to estimate the ultimate reserves. For example, the
actuarial analysis assumes that historical loss experience is an indicator of
future experience, the distribution of exposures by geographic area and nature
of operations for ongoing operations is expected to be very similar to
historical operations with no dramatic changes and that the government indices
used to trend losses and exposures are appropriate. Estimates made are adjusted
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on a regular basis and can be impacted by actual loss awards or settlements on
claims. While actuarial analysis is used to help determine adequate reserves,
the Company is responsible for the determination and recording of adequate
reserves in accordance with accepted loss reserving standards and practices.
Warranty
Generally, the Company's products are covered by warranties against defects in
material and workmanship for periods of up to six years from the date of sale to
the customer. Certain components carry a lifetime warranty. A provision for
estimated warranty cost is recorded at the time of sale based upon actual
experience. The Company continuously assesses the adequacy of its product
warranty accrual and makes adjustments as needed. Historical analysis is
primarily used to determine the Company's warranty reserves. Claims history is
reviewed and provisions are adjusted as needed. However, the Company does
consider other events, such as a product recall, which could warrant additional
warranty reserve provision. No material adjustments to warranty reserves were
necessary in the current year. See Warranty Costs in the Notes to the
Consolidated Financial Statements for a reconciliation of the changes in the
warranty accrual.
Accounting for Stock-Based Compensation
The Company accounts for options under its stock-based compensation plans using
the intrinsic value method proscribed in Accounting Principles Board Opinion
(APBO) No. 25, Accounting for Stock Issued to Employees, and related
Interpretations. The majority of the options awarded have been granted at
exercise prices equal to the market value of the underlying stock on the date of
grant; thus, no compensation cost has been reflected in the Consolidated
Statement of Earnings for these options. In addition, restricted stock awards
have been granted without cost to the recipients and are being expensed on a
straight-line basis over the vesting periods.
In December 2002, the Financial Accounting Standards Board (FASB) issued SFAS
No. 148, Accounting for Stock-Based Compensation-Transition and Disclosure. This
statement provides guidance for those companies wishing to voluntarily change to
the fair value based method of accounting for stock-based compensation. The
statement also amends the disclosure requirements of SFAS No. 123. While
Invacare continues to utilize the disclosure-only provisions of SFAS No. 123,
the Company has modified its disclosures to comply with the new statement. See
Accounting for Stock-Based Compensation in the Notes to the Consolidated
Financial Statements.
Income Taxes
As part of the process of preparing its financial statements, the Company is
required to estimate income taxes in various jurisdictions. The process requires
estimating the Company's current tax exposure, including assessing the risks
associated with tax audits, as well as estimating temporary differences due to
the different treatment of items for tax and accounting policies. The temporary
differences are reported as deferred tax assets and or liabilities. The Company
also must estimate the likelihood that its deferred tax assets will be recovered
from future taxable income and whether or not valuation allowances should be
established. In the event that actual results differ from its estimates, the
Company's provision for income taxes could be materially impacted.
The Company does not believe that there is a substantial likelihood that
materially different amounts would be reported related to its critical
accounting policies.
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RECENTLY ADOPTED ACCOUNTING POLICIES
In January 2003, the FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities ("FIN 46"), which was revised in December 2003 and,
which among other things, deferred the implementation date of FIN 46 until
periods after March 15, 2004. This interpretation requires consolidation of an
entity if the company is subject to a majority of the risk of loss from the
variable interest entity's ("VIE") activities or entitled to receive a majority
of the entity's residual returns, or both. A company that consolidates a VIE is
known as the primary beneficiary of that entity.
The Company has an investment in NeuroControl, a development stage company,
which is currently pursuing FDA approval to market in the United States a
product focused on the treatment of post-stroke shoulder pain. The amount of net
advances and investment recorded on the Company's books was approximately
$3,000,000 at December 31, 2004. Certain of the Company's officers and directors
(or their affiliates) have minority equity ownership positions in NeuroControl.
Subsequent to December 31, 2004, the Company's board of directors approved an
additional investment by the Company in NeuroControl. Accordingly, the Company
has consolidated this investment prospectively beginning with the quarter ended
March 31, 2005, as the Company is now deemed the primary beneficiary of this VIE
based on the provisions of FIN 46. The other beneficial interest holders have no
recourse against the Company.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In December 2004, FASB issued Statement of Financial Accounting Standards
("SFAS") No. 123 (Revised 2004), Share-Based Payment ("SFAS 123R"), which
requires companies to expense stock options and other share-based payments. SFAS
123R supersedes SFAS No. 123, which permitted either expensing stock options or
providing pro forma disclosure. In April 2005, the SEC announced that the
adoption of SFAS 123R would be delayed. The provisions of SFAS 123R, which will
become effective with respect to the Company on January 1, 2006, apply to all
awards granted, modified, cancelled or repurchased after January 1, 2006 as well
as the unvested portion of prior awards. The Company will adopt the standard as
of the effective date and estimates that the impact to the Company's reported
results will be similar to the pro forma results shown in the Company's note
regarding Accounting for Stock-Based Compensation in the Notes to its
Consolidated Financial Statements.
QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The Company is exposed to market risk through various financial instruments,
including fixed rate and floating rate debt instruments. The Company uses
interest rate swap agreements and treasury locks to mitigate its current and
future exposure to interest rate fluctuations. Based on the Company's June 30,
2005 debt levels, a 1.0% change in interest rates would impact interest expense
by approximately $5,360,000 over the next twelve months. Additionally, the
Company operates internationally and as a result is exposed to foreign currency
fluctuations. Specifically, the exposure includes inter Company loans and third
party sales or payments. In an attempt to reduce this exposure, the Company
utilizes foreign currency forward contracts. The Company does not believe that
any potential loss related to these financial instruments would have a material
adverse effect on the Company's financial condition or results of operations.
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FORWARD-LOOKING STATEMENTS
This Form 10-Q contains forward-looking statements within the meaning of the
"Safe Harbor" provisions of the Private Securities Litigation Reform Act of
1995. Terms such as as "will," "should," "plan," "intend," "expect," "continue,"
"forecast", "believe," "anticipate" and "seek," as well as similar comments, are
forward-looking in nature. Actual results and events may differ significantly
from those expressed or anticipated as a result of risks and uncertainties which
include, but are not limited to, the following: pricing pressures, the success
of the Company's ongoing efforts to reduce costs, and achieve ongoing savings
(including the recently announced and future-contemplated restructurings and
initiatives), increasing raw material costs, the consolidations of health care
customers and competitors, government reimbursement issues (including those that
affect the sales of and margins on products, along with the viability of
customers) both at the federal and state level, the ability to design,
manufacture, distribute and achieve market acceptance of new products with
higher functionality and lower costs, the effect of offering customers
competitive financing terms, Invacare's ability to successfully identify,
acquire and integrate strategic acquisition candidates, the difficulties in
managing and operating businesses in many different foreign jurisdictions
(including the recent Domus acquisition), the timely completion of facility
consolidations, the vagaries of any litigation or regulatory investigations that
the Company may be or become involved in at any time (including the
previously-disclosed litigation with Respironics), the difficulties in acquiring
and maintaining a proprietary intellectual property ownership position, the
overall economic, market and industry growth conditions (including the impact
that acts of terrorism may have on such growth conditions), foreign currency and
interest rate risks, Invacare's ability to improve financing terms and reduce
working capital, as well as the risks described from time to time in Invacare's
reports as filed with the Securities and Exchange Commission. We undertake no
obligation to review or update these forward-looking statements or other
information contained herein.
Item 3. Quantitative and Qualitative Disclosure of Market Risk.
The information called for by this item is provided under the same caption under
Item 2 - Management's Discussion and Analysis of Financial Condition and Results
of Operations.
Item 4. Controls and Procedures.
As of June 30, 2005, an evaluation was performed, under the supervision and with
the participation of the Company's management, including the CEO and CFO, of the
effectiveness of the design and operation of the Company's disclosure controls
and procedures. Based on that evaluation, the Company's management, including
the CEO and CFO, concluded that the Company's disclosure controls and procedures
were effective as of June 30, 2005 in ensuring that information required to be
disclosed by the Company in the reports it files and submits under the Exchange
Act is recorded, processed, summarized and reported, within the time periods
specified in the Commission's rules and forms. There were no changes in the
Company's internal control over financial reporting that occurred during the
Company's most recent fiscal quarter that have materially affected, or are
reasonably likely to materially affect, the Company's internal control over
financial reporting.
23
<page>
Part II. OTHER INFORMATION
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
(c) The following table presents information with respect to repurchases of
common shares made by the Company during the three months ended June 30, 2005.
All of the repurchased shares were surrendered to the Company by employees for
tax withholding purposes in conjunction with the vesting of restricted shares
held by the employees under the Company's 2003 Performance Plan.
<table>
<caption>
Total Number of Shares Maximum Number
Total Number of Purchased as Part of of Shares That May Yet
Shares Publicly Announced Be Purchased Under
Period Purchased Plans or Programs the Plans or Programs
------ --------------- ---------------------- -----------------------
<s> <c> <c> <c> <c>
4/1/2005-4/30/05 - $ - - $ -
5/1/2005-5/31/05 (1) 8,274 $ 41.63 - $ -
6/1/2005-6/30/05 - $ - - $ -
------ --------------- ---------------------- -----------------------
Total 8,274 $ 41.63 - $ -
</table>
(1) Represents common shares surrendered to the Company for tax
withholding purposes in conjunction with the vesting of restricted
shares under the Company's 2003 Performance Plan.
Item 4. Submission of Matters to a Vote of Security Holders
On May 25, 2005, the Company held its 2005 Annual Meeting of Shareholders to act
on proposals to: 1) elect four directors to the class whose three-year term will
expire in 2008, 2) approve and adopt the Invacare Corporation Executive
Incentive Bonus Plan, and 3) ratify the appointment of Ernst & Young LLP as the
Company's independent auditors for the 2005 fiscal year.
Michael F. Delaney, C. Martin Harris, M.D., Bernadine P. Healy, M.D., and A.
Malachi Mixon, III were each re-elected for a three-year term of office expiring
in 2008 with 38,794,077, 38,928,502, 38,540,558 and 38,540,006 affirmative votes
and 556,132, 421,707, 809,651 and 810,203 votes withheld, respectively.
James C. Boland, Whitney Evans, William M. Weber, Gerald B. Blouch, John R.
Kasich, Dan T. Moore, III, and Joseph B. Richey, II are directors with
continuing terms.
The proposal to approve and adopt the Invacare Corporation Executive Incentive
Bonus Plan received 37,345,183 affirmative votes, 1,280,691 negative votes and
724,335 abstained votes.
The proposal to ratify the appointment of Ernst & Young LLP as the Company's
independent auditors for its 2005 fiscal year received 36,215,549 affirmative
votes, 3,054,431 negative votes and 80,229 abstained votes.
24
<page>
Item 5. Other Information
(a) As stated above, the Invacare Corporation Executive Incentive Bonus Plan
(the "Executive Bonus Plan") was approved by shareholders of the Company on May
25, 2005. A summary of the Executive Bonus Plan appears below. A more detailed
description, as well as a copy of the Executive Bonus Plan, can be found in the
Company definitive Proxy Statement filed with the Securities Exchange Commission
on April 8, 2005. A copy of the Executive Bonus Plan is attached as Exhibit 10.1
to this Quarterly Report on Form 10-Q, and is incorporated herein by reference.
The Executive Bonus Plan is intended to reward participants based upon the
Company's performance. Specifically, the Executive Bonus Plan is intended to
provide an incentive to the Company's executive officers to improve the
Company's operating results, and to enable the Company to recruit and retain key
officers by making the Company's overall compensation program competitive with
compensation programs of other companies with which the Company competes for
executive talent. The Executive Bonus Plan is administered by the Company's
Compensation, Management Development and Corporate Governance Committee (the
"Compensation Committee"). All officers of the Company are eligible to be
selected to participate in the Executive Bonus Plan. The Compensation Committee
has the discretion to select those officers who will participate in the
Executive Bonus Plan in any given year. For each calendar year or other
predetermined performance period, the Compensation Committee will establish a
target bonus for each eligible officer, payable if a specified performance goal
is satisfied for such performance period. The performance goal for each
performance period will provide for a targeted level or levels of performance
using one or more of the predetermined measurements provided in the Executive
Bonus Plan. For 2005, the bonus award will be based upon satisfaction of an
earnings per share target. The performance goal for a performance period will be
established in writing by the Compensation Committee on or before the latest
date permissible to enable the bonus award to qualify as "performance based
compensation" under Section 162(m) of the Internal Revenue Code. As the amount
payable to an officer under the Executive Bonus Plan is subject to discretion as
to the target amount, the performance goals selected and whether the amount
resulting from achievement of such goal will actually be paid, the amount that
will be paid in the future to any eligible officer is not presently
determinable.
Part II. OTHER INFORMATION
Item 6. Exhibits.
Exhibits:
Official Exhibit No.
--------------------
10.1 Invacare Corporation Executive Incentive Bonus Plan (filed
herewith).
31.1 Certification of the Chief Executive Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002 (filed
herewith).
31.2 Certification of the Chief Financial Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002 (filed
herewith).
32.1 Certification of the Chief Executive Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (furnished herewith).
32.2 Certification of the Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (furnished herewith).
25
<page>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
INVACARE CORPORATION
By: /s/ Gregory C. Thompson
-----------------------------------------
Gregory C. Thompson
Chief Financial Officer
(Principal Financial and Accounting Officer)
Date: August 8, 2005