Management's Discussion & Analysis
Fiscal 1997, 1996 & 1995 - Results of Operations
Results of Operations
Fiscal 1997 Compared to Fiscal 1996
Overview
Net earnings rose 63% in fiscal 1997 to $7.1 million, up
from $4.4 million in fiscal 1996. Revenues grew 39% to $52.7
million in fiscal 1997 compared to $37.9 million last fiscal
year. This growth was attributed to improved CO2 laser
optics sales throughout the world along with the results of
operations of Lightning Optical Corporation, which was
acquired during February 1996, being included for a full
fiscal year (the "Acquisition"). Bookings increased 35% to
$56.7 million in fiscal 1997 compared to $42.1 million in
fiscal 1996. Order backlog increased 30% to $16.9 million at
June 30, 1997 from $12.9 million at June 30, 1996 as a
result of orders outpacing shipments in fiscal 1997 and, to
a lesser extent, the Acquisition. Manufacturing orders
comprised 83% of the backlog at June 30, 1997, compared to
82% of backlog at June 30, 1996.
Net Earnings
Net earnings rose 63% in fiscal 1997 to $7.1 million, up
from $4.4 million in fiscal 1996. The major contributors to
the net earnings growth were improved CO2 laser optics sales
volume, the Acquisition, and additional other income as a
result of higher interest income from increased cash levels
and a foreign currency gain. These contributors more than
offset both the increased selling, general and
administrative expenses that were needed to support the
Company's growth, and a slight increase in the effective
corporate income tax rate.
Sales and Markets
Bookings increased 35% to $56.7 million in fiscal 1997
compared to $42.1 million in fiscal 1996. Orders for
manufactured products accounted for the entire increase in
bookings. Contract research and development bookings
decreased slightly from fiscal year 1996. The largest
portion of the growth in manufacturing orders was driven by
increased demand in the international industrial markets,
including Japan, and the Acquisition.
Revenues grew 39% to $52.7 million in fiscal 1997 compared
to $37.9 million last fiscal year. Approximately 93% of this
growth was in manufacturing revenues. This growth was led by
increased demand in the international industrial markets and
the Acquisition. Contract research and development revenues
increased 59% to $2.7 million in fiscal 1997 from $1.7
million in fiscal 1996. This increase was attributable to
work being performed on several additional government
contract awards in fiscal 1997.
Costs and Expenses
Manufacturing gross margin was $22.5 million or 45% of net
sales in fiscal 1997 compared to $15.7 million or 43% of net
sales in fiscal 1996. This increase was attributable to
higher sales volume in the CO2 laser optics market and the
Acquisition. The increase in gross margin as a percentage of
net sales was driven by lower per unit operating costs
associated with increased production volume and improved
manufacturing efficiencies.
Contract research and development gross margin was $707,000
or 27% of net contract sales in fiscal 1997 compared to
$452,000 or 27% of net contract sales in fiscal 1996. The
increase was attributable to work being performed on the
additional government contract awards mentioned above.
Company-funded internal research and development increased
to $1.0 million in fiscal 1997 from $514,000 in fiscal 1996.
The majority of this increase was attributable to nuclear
radiation detector development.
Selling, general and administrative expenses were $12.7
million or 24% of net sales in fiscal 1997 compared to $9.9
million or 26% of net sales in fiscal 1996. This increase
was attributable to the Acquisition, increased compensation
expense associated with the Company's worldwide profit-
driven bonus programs and increased payroll and other
general administrative expenses needed to support the
Company's growth.
9
Other income increased to $544,000 in fiscal 1997 from
$369,000 in fiscal 1996 as a result of investment earnings
on increased cash balances and a foreign currency gain
driven by the favorable position of the U.S. dollar against
the Japanese yen experienced for the majority of the year.
The effective corporate income tax rate was 29% in fiscal
1997 compared to 27% in fiscal 1996. This increase was
attributable to the lower proportion of the Company's
earnings that were generated by foreign subsidiaries. The
Company's future effective tax rates will continue to be
affected by the level of profit or loss generated by the
foreign subsidiaries. The Company anticipates that its
effective corporate income tax rate for fiscal 1998 will
increase as a result of increased earnings attributable
to domestic operations as a percentage of total corporate
earnings.
Fiscal 1996 Compared to Fiscal 1995
Overview
Net earnings rose 74% in fiscal 1996 to $4.4 million, up
from $2.5 million in fiscal 1995. Revenues grew 37% to $37.9
million in fiscal 1996 compared to $27.8 million last fiscal
year. This growth was attributed to the acquisition of Virgo
Optics and Lightning Optical Corporation ("VLOC") and
improved CO2 laser optics sales throughout the world.
Bookings increased 48% to $42.1 million in fiscal 1996
compared to $28.4 million in fiscal 1995. Order backlog
increased 87% to $12.9 million at June 30, 1996 from $6.9
million at June 30, 1995 as a result of orders outpacing
shipments in fiscal 1996 and, to a lesser extent, the
Acquisition. Manufacturing orders comprised 82% of the
backlog at June 30, 1996, compared to 96% of backlog at June
30, 1995. The increase in the contract research and
development backlog was a result of a $2.3 million, two-year
DARPA contract award.
Net Earnings
Net earnings rose 74% in fiscal 1996 to $4.4 million, up
from $2.5 million in fiscal 1995. The major contributors to
the net earnings growth were improved CO2 laser optics sales
volume, the acquisition of VLOC, and additional interest
income as a result of increased cash levels. These
contributors more than offset both the increased selling,
general and administrative expenses that were needed to
support the Company's growth and a slight increase in the
effective corporate income tax rate.
Sales and Markets
Bookings increased 48% to $42.1 million in fiscal 1996
compared to $28.4 million in fiscal 1995. Manufacturing
orders comprised nearly 80% of this growth. The largest
portion of the growth in manufacturing orders was from the
acquisition of VLOC, followed by increases in the
international industrial markets and the military/aerospace
and medical markets. The increase in contract research and
development bookings was predominantly from the $2.3 million
DARPA contract and a $400,000 U.S.-Israel Science and
Technology commission award.
Revenues grew 37% to $37.9 million in fiscal 1996 compared
to $27.8 million last fiscal year. Approximately 95% of this
growth was in manufacturing revenues. This growth was led by
the acquisition of VLOC, followed by increases in the
international industrial markets, the military/aerospace
and medical markets, and the domestic industrial market.
Contract research and development revenues increased 44%
to $1.7 million in fiscal 1996 from $1.2 million in fiscal
1995. This increase was attributable to work being performed
on several additional government contract awards in
fiscal 1996.
10
Costs and Expenses
Manufacturing gross margin was $15.7 million or 43% of net
sales in fiscal 1996 compared to $10.8 million or 41% of net
sales in fiscal 1995. This increase was attributable to
higher sales volume in the CO2 laser optics market and the
acquisition of VLOC. The increase in gross margin as a
percentage of net sales was driven by lower per unit
operating costs associated with increased production volume.
Contract research and development gross margin was
$452,000 or 27% of net sales in fiscal 1996 compared to
$239,000 or 21% of net sales in fiscal 1995. The increase
was attributable to work being performed on the additional
government contract awards mentioned above and an increase
in reimbursable costs allocable to government contracts.
Company-funded internal research and development increased
to $514,000 in fiscal 1996 from $447,000 in fiscal 1995. The
majority of this increase was in the crystal growth research
area.
Selling, general and administrative expenses were $9.9
million or 26% of net sales in fiscal 1996 compared to $7.3
million or 26% of net sales in fiscal 1995. This increase
was attributable to expenses incurred in the operation of
VLOC, increased compensation expense associated with the
Company's worldwide profit-driven bonus programs and
increased payroll and other general administrative expenses
needed to support the Company's growth.
Other income increased to $369,000 in fiscal 1996 from
$143,000 in fiscal 1995 as a result of investment earnings
on increased cash reserves. The increased cash reserves were
attributable to the Company's October 1995 public stock
offering.
The effective corporate income tax rate was 27% in fiscal
1996 compared to 26% in fiscal 1995. This increase was
attributable to the proportion of the Company's earnings
that were generated by foreign subsidiaries. The Company's
future effective tax rates will continue to be affected by
the level of profit or loss generated by the foreign
subsidiaries.
Liquidity and Capital Resources
The Company historically has funded its working capital
needs, capital expenditures and growth from cash flow from
operations and, to a lesser extent, borrowings.
The two largest sources of the $8.4 million in cash
generated from operations in fiscal 1997 were $10.3 million
in net earnings before depreciation and amortization and a
$2.0 million increase in accounts payable. These cash
sources were partially offset by increases in accounts
receivable and inventory of $2.1 million and $2.6 million,
respectively. The increase in accounts receivable was
attributed mainly to the increased revenue volume. The
increase in inventory was necessary to keep pace with
customer demand for the Company's products and to increase
customer service with shorter lead times as well as to
improve on-time deliveries.
The Company invested $7.4 million in capital expenditures
during the year. These expenditures focused on the
automation of processes and facility expansions in Saxonburg
and the VLOC locations. A $741,000 low interest rate loan
agreement with the Pennsylvania Industrial Development
Authority was completed during fiscal 1997 to finance a
portion of the Saxonburg expansion. Planned discretionary
capital expenditures for fiscal 1998 of approximately $15.2
million will focus on automation of processes, improved
capacity and continued opportunities for synergy from the
merger of the two VLOC locations.
11
The Company believes internally generated funds along with
existing cash reserves will be sufficient to fund its
working capital needs, capital expenditures and scheduled
debt payments for fiscal 1998 and the foreseeable future.
The impact of inflation on the Company's business has not
been material.
In the normal course of business, the Company enters into
foreign currency forward exchange contracts with its banks.
The purpose of these contracts is to hedge the impact of
foreign currency fluctuations on committed or anticipated
foreign currency positions. The Company monitors its
positions and the credit ratings of the parties to these
contracts. While the Company may be exposed to potential
losses due to credit risk in the event of non-performance by
the counterparties to these financial instruments, it does
not anticipate such losses. The Company anticipates a low
interest rate, $2.0 million equivalent, yen loan with PNC
Bank to be entered into by September 30, 1997 in an effort
to minimize the foreign currency exposure.
This Management's Discussion and Analysis, along with the
preceding Letters to Shareholders, contain forward looking
statements as defined by Section 21E of the Securities
Exchange Act of 1934, including the statements regarding the
Company's long-term growth rate, anticipated higher demand
for the Company's products, the expected increase in the
effective corporate income tax rate for fiscal 1998 and the
Company's ability to fund future working capital needs,
capital expenditures and scheduled debt payments from
internally generated funds and existing cash reserves. The
Company's long-term growth rate, projections for higher
product demand and ability to fund future capital needs from
internally generated funds and existing cash reserves could
differ from these statements if worldwide economic
conditions change, competitive conditions intensify,
technology problems emerge, and/or if suitable acquisitions
of technologies or businesses cannot be consummated. The
Company's anticipated increase in the effective corporate
income tax rate may not occur if there is a material change
in worldwide economic conditions that causes a difference in
the anticipated proportion of foreign earnings to total
earnings. There are additional risk factors that could
affect the Company's business, results of operations or
financial condition. Investors are encouraged to review the
risk factors set forth in the Company's most recent Form 10-
K as filed with the Securities and Exchange Commission.
New Accounting Pronouncements
In February 1997, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards ("SFAS")
No. 128, Earnings per Share, which establishes standards for
computing and presenting earnings per share and applies to
entities with publicly held common stock or potential common
stock. This Statement will be effective beginning with the
Company's financial statements for the quarter ending March
31, 1998. This Statement requires restatement of all prior-
period earnings per share data presented. Basic earnings per
share as defined by SFAS No. 128 for fiscal years 1997, 1996
and 1995 would be $1.12, $.75 and $.50, respectively.
Diluted earnings per share as defined by SFAS No. 128
approximates the historically presented earnings per share
for the fiscal years 1997, 1996 and 1995.
In June 1997, the Financial Accounting Standards Board
issued SFAS No. 131, Disclosures about Segments of an
Enterprise and Related Information, which redefines how
operating segments are determined and requires disclosure of
certain financial and descriptive information about a
Company's operating segments. The Company is required to
adopt this pronouncement beginning in fiscal 1999. The
Company has not yet completed its analysis of which
operating segments under this standard it will be required
to report on.
12
II-VI Incorporated & Subsidiaries
Five-Year Financial Summary
Year Ended June 30,
(000 except per share data) 1997 1996 1995 1994* 1993
- -----------------------------------------------------------------------------------------------------
Statement of Earnings
Net revenues $52,741 $37,940 $27,760 $18,681 $17,169
Net earnings $ 7,111 $ 4,371 $ 2,518 $ 1,135 $ 75
Earnings per share $ 1.08 $ 0.70 $ 0.48 $ 0.22 $ .01
Weighted average shares outstanding 6,614 6,253 5,289 5,061 5,255
- -----------------------------------------------------------------------------------------------------
Share and per share data for the fiscal years ended June 30, 1995, 1994, and 1993
were adjusted to reflect the two-for-one stock split in fiscal 1996 - See Note A of
the Notes to Consolidated Financial Statements.
*Included in net earnings is a gain of $699,000 on the sale of an investment in a former
Japanese distributor.
June 30,
($000) 1997 1996 1995 1994 1993
- -----------------------------------------------------------------------------------------------------
Balance Sheet
Working capital $21,089 $16,687 $ 8,872 $ 6,648 $ 6,009
Total assets 54,512 44,169 24,367 17,570 17,265
Total debt 1,346 1,461 1,563 263 765
Deferred taxes - net 1,185 1,324 658 562 579
Retained earnings 25,142 18,031 13,660 11,142 10,007
Shareholders' equity 42,522 34,403 16,998 14,237 13,217
- -----------------------------------------------------------------------------------------------------
For the five year period ended June 30, 1997, no dividends were declared.
13
II-VI Incorporated & Subsidiaries
Quarterly Financial Data
Fiscal 1997 Quarter Ended
($000 except per share data) 9/30/1996 12/31/1996 3/31/1997 6/30/1997
- -----------------------------------------------------------------------------------------------------
Net revenues $12,110 $12,190 $ 13,651 $ 14,790
Cost of goods sold 6,743 6,732 7,691 8,364
Internal research and development 124 260 312 306
Selling, general and administrative expenses 3,030 2,951 3,210 3,522
Interest and other expense (income) - net (125) (168) (52) (143)
- -----------------------------------------------------------------------------------------------------
Earnings before income taxes 2,338 2,415 2,490 2,741
Income taxes 678 700 722 773
- -----------------------------------------------------------------------------------------------------
Net earnings $ 1,660 $ 1,715 $ 1,768 $ 1,968
- -----------------------------------------------------------------------------------------------------
Earnings per share $ 0.25 $ 0.25 $ 0.27 $ 0.30
=====================================================================================================
Fiscal 1996 Quarter Ended
($000 except per share data) 9/30/1995 12/31/1995 3/31/1996 6/30/1996
- -----------------------------------------------------------------------------------------------------
Net revenues $ 8,088 $ 7,954 $ 10,072 $ 11,826
Cost of goods sold 4,657 4,638 5,765 6,750
Internal research and development 148 138 154 74
Selling, general and administrative expenses 2,131 2,152 2,610 3,031
Interest and other expense (income) - net 16 (139) (83) (122)
- -----------------------------------------------------------------------------------------------------
Earnings before income taxes 1,136 1,165 1,626 2,093
Income taxes 330 331 417 571
- -----------------------------------------------------------------------------------------------------
Net earnings $ 806 $ 834 $ 1,209 $ 1,522
- -----------------------------------------------------------------------------------------------------
Earnings per share $ 0.15 $ 0.14 $ 0.18 $ 0.23
=====================================================================================================
14
Independent Auditors' Report
The Board of Directors and Shareholders of II-VI
Incorporated and Subsidiaries:
We have audited the accompanying consolidated balance sheet
of II-VI Incorporated and subsidiaries as of June 30, 1997,
and the related consolidated statements of earnings,
shareholders' equity and cash flows for the year then ended.
These consolidated financial statements are the
responsibility of the Company's management. Our
responsibility is to express an opinion on these
consolidated financial statements based on our audit. The
consolidated balance sheet of II-VI Incorporated and
subsidiaries as of June 30, 1996 and the related
consolidated statements of earnings, shareholders' equity
and cash flows for each of the two years in the period ended
June 30, 1996, were audited by other auditors whose report
dated August 12, 1996, expressed an unqualified opinion on
those statements.
We conducted our audit in accordance with generally accepted
auditing standards. Those standards require that we plan and
perform the audit to obtain reasonable assurance about
whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the
consolidated financial statements. An audit also includes
assessing the accounting principles used and significant
estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that
our audit provides a reasonable basis for our opinion.
In our opinion, the fiscal 1997 consolidated financial
statements referred to above present fairly, in all material
respects, the financial position of II-VI Incorporated and
subsidiaries as of June 30, 1997 and the results of their
operations and their cash flows for the year then ended in
conformity with generally accepted accounting principles.
/s/ Deloitte & Touche LLP
Pittsburgh, Pennsylvania
August 12, 1997
15
II-VI Incorporated & Subsidiaries
Consolidated Balance Sheets
June 30,
($000 except share data) 1997 1996
- -----------------------------------------------------------------------------------------------------
Current Assets
Cash and cash equivalents $ 10,854 $ 9,417
Accounts receivable -- less allowance for doubtful accounts
of $306 in 1997 and $246 in 1996 10,808 8,712
Inventories 8,129 5,490
Deferred income taxes 428 429
Prepaid and other current assets 563 607
- -----------------------------------------------------------------------------------------------------
Total Current Assets 30,782 24,655
Property, Plant & Equipment, Net 19,631 15,085
Other Assets 4,099 4,429
- -----------------------------------------------------------------------------------------------------
$ 54,512 $ 44,169
=====================================================================================================
Current Liabilities
Notes payable $ 590 $ 1,393
Accounts payable 3,207 1,260
Accrued salaries, wages and bonuses 3,740 3,105
Income taxes payable 80 607
Accrued profit sharing contribution 740 556
Other current liabilities 1,264 1,024
Current portion of long-term debt 72 23
- -----------------------------------------------------------------------------------------------------
Total Current Liabilities 9,693 7,968
Long-Term Debt (Less Current Portion) 684 45
Deferred Income Taxes 1,613 1,753
Commitments & Contingencies
- -
Shareholders' Equity
Preferred stock, no par value; authorized - 5,000,000 shares; unissued - -
Common stock, no par value; authorized - 30,000,000 shares;
issued - 6,802,946 shares in 1997; 6,691,718 shares in 1996 18,072 17,055
Cumulative translation adjustment 70 79
Retained earnings 25,142 18,031
- -----------------------------------------------------------------------------------------------------
43,284 35,165
Less treasury stock at cost 762 762
- -----------------------------------------------------------------------------------------------------
Total Shareholders' Equity 42,522 34,403
- -----------------------------------------------------------------------------------------------------
$ 54,512 $ 44,169
=====================================================================================================
See notes to Consolidated Financial Statements.
16
II-VI Incorporated & Subsidiaries
Consolidated Statements of Earnings & Shareholders' Equity
Earnings Year Ended June 30,
($000 except per share data) 1997 1996 1995
- ---------------------------------------------------------------------------------------
Revenues
Net sales:
Domestic $ 27,634 $ 19,922 $ 13,697
International 22,450 16,344 12,901
Contract research and development 2,657 1,674 1,162
- ---------------------------------------------------------------------------------------
52,741 37,940 27,760
- ---------------------------------------------------------------------------------------
Costs, Expenses and Other Income
Cost of goods sold 27,580 20,588 15,765
Contract research and development 1,950 1,222 923
Internal research and development 1,002 514 447
Selling, general and administrative expenses 12,713 9,924 7,324
Interest expense 56 41 57
Other income - net (544) (369) (143)
- ---------------------------------------------------------------------------------------
42,757 31,920 24,373
- ---------------------------------------------------------------------------------------
Earnings Before Income Taxes 9,984 6,020 3,387
Income Taxes 2,873 1,649 869
- ---------------------------------------------------------------------------------------
Net Earnings $ 7,111 $ 4,371 $ 2,518
- ---------------------------------------------------------------------------------------
Earnings Per Share $ 1.08 $ 0.70 $ 0.48
=======================================================================================
See notes to Consolidated Financial Statements.
Cumulative
Translation Retained
Shareholders' Equity Common Stock Adjustment Earnings Treasury Stock
- ------------------------------------------------------------------------------------------------------------
(000) Shares Amount Shares Amount Total
- ------------------------------------------------------------------------------------------------------------
Balance-July 1, 1994 5,586 $ 4,184 $ 10 $ 11,142 (566) $(1,099) $ 14,237
Shares issued under the stock option plan 84 131 - - - - 131
Purchase of treasury stock - - - - (5) (31) (31)
Net earnings for the year - - - 2,518 - - 2,518
Translation adjustment - - (27) - - - (27)
Tax benefit for options exercised - 170 - - - - 170
- ------------------------------------------------------------------------------------------------------------
Balance-June 30, 1995 5,670 4,485 (17) 13,660 (571) (1,130) 16,998
Shares issued for purchase
of Lightning Optical Corporation - 1,470 - - 187 368 1,838
Net proceeds from stock offering 1,000 10,929 - - - - 10,929
Shares issued under stock option plan 22 71 - - - - 71
Net earnings for the year - - - 4,371 - - 4,371
Translation adjustment - - 96 - - - 96
Tax benefit for options exercised - 100 - - - - 100
- ------------------------------------------------------------------------------------------------------------
Balance-June 30, 1996 6,692 17,055 79 18,031 (384) (762) 34,403
Shares issued under stock option plan 111 285 - - - - 285
Net earnings for the year - - - 7,111 - - 7,111
Translation adjustment - - (9) - - - (9)
Tax benefit for options exercised - 732 - - - - 732
- ------------------------------------------------------------------------------------------------------------
Balance-June 30, 1997 6,803 $18,072 $ 70 $ 25,142 (384) $ (762) $42,522
============================================================================================================
See notes to Consolidated Financial Statements.
17
II-VI Incorporated & Subsidiaries
Consolidated Statements of Cash Flows
Year Ended June 30,
($000) 1997 1996 1995
- ----------------------------------------------------------------------------------------
Cash Flows From Operating Activities
Net earnings $ 7,111 $ 4,371 $ 2,518
Adjustments to reconcile net earnings to net cash
provided by operating activities:
Depreciation 2,852 2,156 1,956
Amortization 333 332 50
(Gain) loss on foreign currency transactions (104) 9 (76)
Net (gain) loss on disposal of property and equipment (32) - 19
Deferred income taxes (138) (83) 96
Increase (decrease) in cash from changes in:
Accounts receivable (2,061) (2,462) (826)
Inventories (2,633) (1,296) (384)
Accounts payable 1,961 576 196
Other operating net assets 1,150 211 1,917
- ----------------------------------------------------------------------------------------
Net cash provided by operating activities 8,439 3,814 5,466
- ----------------------------------------------------------------------------------------
Cash Flows From Investing Activities
Additions to property, plant & equipment (7,432) (6,146) (2,384)
Proceeds from sale of property, plant & equipment 66 - -
Net cash on purchase of subsidiaries - (1,938) (2,353)
Additions to other assets (3) (23) (115)
- ----------------------------------------------------------------------------------------
Net cash used in investing activities (7,369) (8,107) (4,852)
- ----------------------------------------------------------------------------------------
Cash Flows From Financing Activities
(Payments) proceeds on short-term borrowings (728) (1,095) 1,472
Proceeds from long-term borrowings 741 - 108
Payments on long-term borrowings (53) (23) (281)
Proceeds from sale of common stock 285 11,100 301
Purchase of treasury stock - - (31)
- ----------------------------------------------------------------------------------------
Net cash provided by financing activities 245 9,982 1,569
- ----------------------------------------------------------------------------------------
Effect of exchange rate changes on cash 122 (94) (95)
- ----------------------------------------------------------------------------------------
Net increase in cash and cash equivalents 1,437 5,595 2,088
Cash and Cash Equivalents
Beginning of year 9,417 3,822 1,734
- ----------------------------------------------------------------------------------------
End of year $10,854 $ 9,417 $ 3,822
========================================================================================
See notes to Consolidated Financial Statements.
18
Note A
Summary of Significant Accounting Policies
Principles of Consolidation
The consolidated financial statements include II-VI
Incorporated (the "Company") and its wholly-owned
subsidiaries II-VI Worldwide, Inc., II-VI Delaware, Inc.,
II-VI Japan Incorporated, II-VI VLOC Incorporated, II-VI
U.K. Limited, and II-VI Singapore Pte., Ltd. All significant
intercompany transactions and balances have been eliminated.
During fiscal 1996 the Company formed II-VI Optics (Suzhou)
Co. Ltd., a wholly-owned subsidiary located in China that
manufactures small infrared optics. The subsidiary began
operations in fiscal 1997 and is consolidated as part of
II-VI Singapore Pte., Ltd.
Inventories
Inventories are valued at the lower of cost or
market, with cost determined on the first-in, first-out
basis. Inventory costs include material, labor and
manufacturing overhead.
Depreciation
Depreciation for financial reporting purposes
is computed primarily by the straight-line method over the
estimated useful lives of the assets which range from 5 to
20 years.
Foreign Currency Translation
For II-VI Singapore Pte., Ltd., the functional currency is
the U.S. dollar. Gains and losses on the remeasurement of
the local currency financial statements are included in net
earnings.
For II-VI Japan Incorporated and II-VI U.K. Limited, the
functional currency is the local currency. Assets and
liabilities of those operations are translated into U.S.
dollars using year-end exchange rates; income and expenses
are translated using the average exchange rates for the
reporting period. Translation adjustments are deferred as a
separate component of shareholders' equity.
Income Taxes
Deferred income taxes are determined based on
the differences between financial statement and tax basis of
assets and liabilities using enacted tax rates in effect in
the years in which the assets or liabilities are expected to
be settled.
Revenue Recognition
Revenue, other than on long-term U.S. Government sales
contracts and subcontracts, is recognized when a product is
shipped. Revenue on long-term U.S. Government sales
contracts and subcontracts is accounted for using the
percentage-of-completion method, whereby revenue and profits
are recognized throughout the performance period of the
contract. Percentage of completion is determined by relating
the actual cost of work performed to date to the estimated
total cost for each contract. Losses on contracts are
recorded in full when identified.
Earnings Per Share
Earnings per share is calculated using the weighted average
number of shares outstanding giving retroactive effect in
fiscal 1995 to a two-for-one stock split during fiscal 1996
and assuming dilutive stock options outstanding were
exercised at the beginning of the fiscal year or at the date
of issuance, if later. Weighted average shares outstanding
for fiscal 1997, 1996 and 1995 used in the earnings per
share calculation were 6,614,420, 6,252,523, and 5,289,072,
respectively.
On August 16, 1995, the Board of Directors declared a two-
for-one split of the Company's common stock to be
distributed to shareholders of record on August 30, 1995,
effective at the close of business September 6, 1995.
Weighted average shares outstanding and all per share
amounts for fiscal 1995 included in the consolidated
financial statements and notes are based on the increased
number of shares giving retroactive effect to the stock
split, unless otherwise noted.
On October 20, 1995, a registration statement on Form S-3
covering the public offering of 1,000,000 shares was
declared effective by the Securities and Exchange
Commission, with the shares sold to the public at $12.00 per
share.
Cash
For purposes of the statement of cash flows, the
Company considers highly liquid debt instruments with an
original maturity of three months or less to be cash
equivalents. The majority of cash and cash equivalents are
invested in investment grade money market type instruments.
Sufficient cash to fund current operations of foreign
subsidiaries is on deposit at banks in Japan, Singapore,
China and the United Kingdom.
19
Nature of Business
The Company designs, manufactures and markets optical and
electro-optical components, devices and materials for
precision use in infrared, near-infrared, visible light, X-
ray and gamma-ray instruments, and their applications. The
Company markets its products in the United States through
its direct sales force and worldwide through its wholly-
owned sales subsidiaries, II-VI Japan Incorporated and II-VI
U.K. Limited and manufacturers' representatives.
The Company uses certain uncommon materials and compounds to
manufacture its products. Some of these materials are
available from only one proven outside source. The continued
high quality of these materials is critical to the stability
of the Company's manufacturing yields. The Company has not
experienced significant production delays due to a shortage
of materials. However, the Company does occasionally
experience problems associated with vendor supplied
materials not meeting contract specifications for quality or
purity. A significant failure of the Company's suppliers to
deliver sufficient quantities of necessary high-quality
materials on a timely basis could have a material adverse
effect on the Company's results of operations.
Estimates
The preparation of financial statements in conformity with
generally accepted accounting principles requires management
to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results
could differ from those estimates.
Acquisitions
On February 22, 1996, the Company acquired substantially all
of the assets and assumed certain liabilities of Lightning
Optical Corporation, a Florida Corporation, located in
Tarpon Springs, Florida.
The aggregate purchase price paid to the shareholders of
Lightning Optical Corporation consisted of $2.4 million in
cash and 186,183 shares of the Common Stock, no par value,
of the Company. The acquisition was accounted for as a
purchase. The purchase price was allocated as follows:
($000)
- ----------------------------------------------------
Accounts receivable $ 1,125
Inventory 227
Property, plant and equipment 1,381
Goodwill 2,169
Other intangible assets 2,000
Other assets 47
- ----------------------------------------------------
6,949
Current liabilities (2,059)
Long-term debt (320)
Deferred income taxes - noncurrent (794)
- ----------------------------------------------------
Purchase price, net of cash acquired $ 3,776
====================================================
The other intangible assets acquired, including technology
and sales and marketing expertise, are being amortized on a
straight-line basis over a 10 year period, while goodwill is
being amortized on a straight-line basis over a 25 year
period. Accumulated amortization amounted to $385,000 and
$101,000 at June 30, 1997 and 1996, respectively.
On December 29, 1994, the Company acquired the net
assets of the Virgo Optics Division of Sandoz Chemicals
Corporation. The acquisition was accounted for as a
purchase and included inventories, accounts receivable,
machinery and equipment and certain current liabilities.
The purchase price was allocated as follows:
($000)
- ----------------------------------------------------
Accounts receivable $ 720
Inventories 400
Property, plant and equipment 1,387
Other assets 3
- ----------------------------------------------------
2,510
Current liabilities (157)
- ----------------------------------------------------
Cash purchase price $ 2,353
====================================================
20
The following unaudited pro forma financial information
presents the consolidated results of operations as if the
Lightning Optical Corporation and the Virgo Optics division
acquisitions had occurred on the first day of II-VI
Incorporated's 1995 fiscal year (July 1, 1994).
This information does not purport to present what II-VI
Incorporated's results of operations actually would have
been had the acquisitions occurred on July 1, 1994, or to
project the results of operations for any future period.
Unaudited Pro Forma Results
for Year Ended June 30,
($000 except per share data) 1996 1995
- ----------------------------------------------------
Revenues $ 41,951 $ 35,117
Net earnings 4,976 3,212
Earnings per share .78 .59
Fair Values of Financial Instruments
The Company's financial instruments recorded on the balance
sheet as of June 30, 1997 and 1996 include cash and cash
equivalents, and short and long-term debt. The carrying
amount of those financial instruments approximates fair
value. Off balance sheet financial instruments at June 30,
1997 and 1996 relate to foreign currency forward contracts.
The fair value of these instruments is immaterial. The fair
value amounts have been estimated by the Company using
available market information and appropriate valuation
methodologies. Considerable judgment is necessary in
interpreting market data to develop the estimates of fair
value and, accordingly, the estimates are not necessarily
indicative of the amounts that the Company could realize in
a current market exchange.
The Company has entered into foreign currency forward
exchange contracts in order to hedge its currency exposure
in Japan. Gains and losses on those contracts are recognized
as they occur. At June 30, 1997 and 1996, the Company had
contracts outstanding of approximately $3,046,000 and
$1,415,000, respectively. The counterparties to these
financial instruments consist of large financial
institutions, and the Company does not believe that it is
subject to any significant credit risk associated with these
contracts.
New Accounting Pronouncements
In February 1997, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards ("SFAS")
No. 128, Earnings per Share, which establishes standards for
computing and presenting earnings per share and applies to
entities with publicly held common stock or potential common
stock. This Statement will be effective beginning with the
Company's financial statements for the quarter ending March
31, 1998. This Statement requires restatement of all prior-
period earnings per share data presented. Basic earnings per
share as defined by SFAS No. 128 for fiscal years 1997, 1996
and 1995 would be $1.12, $.75 and $.50, respectively.
Diluted earnings per share as defined by SFAS No. 128
approximates the historically presented earnings per share
for fiscal years 1997, 1996 and 1995.
In June 1997, the Financial Accounting Standards Board
issued SFAS No. 131, Disclosures about Segments of an
Enterprise and Related Information, which redefines how
operating segments are determined and requires disclosure of
certain financial and descriptive information about a
Company's operating segments. The Company is required to
adopt this pronouncement beginning in fiscal 1999. The
Company has not yet completed its analysis of which
operating segments under this standard it will be required
to report on.
Note B
INVENTORIES
The components of inventories are as follows:
June 30,
($000) 1997 1996
- ----------------------------------------------------
Raw materials $ 3,083 $ 2,279
Work in process 1,992 1,427
Finished goods 3,054 1,784
- ----------------------------------------------------
$ 8,129 $ 5,490
====================================================
21
Note C
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment (at cost) consist of the
following:
June 30,
($000) 1997 1996
- ----------------------------------------------------
Land and land improvements $ 876 $ 539
Buildings and improvements 8,073 6,952
Machinery and equipment 27,893 22,084
- ----------------------------------------------------
36,842 29,575
Less accumulated depreciation 17,211 14,490
- ----------------------------------------------------
$19,631 $15,085
====================================================
Note D
INDEBTEDNESS
Notes payable consist of one note at June 30, 1997 and
two notes at June 30, 1996 at the Company's Japan location. All
notes are guaranteed by the parent company.
The $590,000 note at June 30, 1997, which had an
outstanding balance at June 30, 1996 of $891,000, calls
for monthly principal payments plus interest for a five
year period ending September 1999. The interest rate at
June 30, 1997 was 2.125%. The bank has the option of
calling this loan in December of each year. The second
note, which was outstanding at June 30, 1996 for $502,000
and had an interest rate of 2.125%, was repaid during
fiscal 1997.
The Company has a line of credit (cash overdraft) facility
with a Singapore bank which permits maximum borrowings of
approximately $560,000. Borrowings are payable upon demand
with interest being charged at the rate of 1.5% above the
bank's prevailing prime lending rate. The interest rate at
June 30, 1997 was 7.5%. At June 30, 1997 and 1996 there were
no borrowings under this facility.
Included in long-term debt at June 30, 1997 and 1996 is
an installment loan in the amount of $45,000 and $68,000,
respectively, at the Company's Singapore location which
matures in August of fiscal year 2000, and is payable in
equal monthly payments including interest at an annual
interest rate of 7.5%. During fiscal 1997, the Company
obtained a low interest rate loan in the amount of $741,000
from the Pennsylvania Industrial Development Authority
(PIDA), of which $711,000 is outstanding at June 30, 1997,
to finance a portion of a facility expansion. The terms of
the PIDA loan call for equal monthly payments over a fifteen
year period, including interest at 3%.
The aggregate annual amounts of principal payments
required on the long-term debt are as follows:
($000) Year ending June 30, Amount
- -------------------------------------------
1998 $ 72
1999 69
2000 53
2001 49
2002 49
Thereafter 464
- -------------------------------------------
$ 756
===========================================
Interest payments made during the years ended
June 30, 1997, 1996 and 1995 totaled $56,000, $41,000
and $48,000, respectively.
Note E
INCOME TAXES
The components of income tax expense are as follows:
Year Ended June 30,
($000) 1997 1996 1995
- ----------------------------------------------------
Current:
Federal $ 2,754 $ 1,457 $ 534
State 202 227 174
Foreign 55 48 65
- ----------------------------------------------------
3,011 1,732 773
Deferred (138) (83) 96
- ----------------------------------------------------
$ 2,873 $ 1,649 $ 869
====================================================
Principal items comprising deferred income taxes are as
follows:
June 30,
($000) 1997 1996
- ----------------------------------------------------
Deferred income tax liabilities
Tax over book accumulated
depreciation $ 910 $ 970
Intangible assets 703 783
- ----------------------------------------------------
Deferred income tax liability
-long-term $ 1,613 $ 1,753
====================================================
Deferred income tax assets
Inventory capitalization $ 126 $ 156
Nondeductible accruals 302 273
- ----------------------------------------------------
Deferred income tax asset
- current $ 428 $ 429
====================================================
22
The reconciliation of income tax expense at the statutory
federal rate to the reported income tax expense is as follows:
Year Ended June 30,
($000) 1997 % 1996 % 1995 %
- ---------------------------------------------------------------------------------------------
Taxes at statutory rate $ 3,395 34 $ 2,047 34 $ 1,152 34
Increase (decrease) in taxes resulting from:
State income taxes - net of federal benefit 133 1 150 2 88 3
Excludable Foreign Sales Corporation income (80) - (50) (1) (45) (1)
Excludable foreign income (503) (5) (559) (9) (376) (11)
Foreign taxes 36 - 32 1 43 1
Nondeductible expenses 20 - 29 - 7 -
Other (128) (1) - - - -
- ---------------------------------------------------------------------------------------------
$ 2,873 29 $ 1,649 27 $ 869 26
=============================================================================================
One of the Company's foreign subsidiaries operates under a
tax holiday and does not pay income taxes. The tax holiday
has been extended to March 2000.
During the years ended June 30, 1997, 1996 and 1995, cash
paid by the Company for income taxes was approximately
$2,660,000, $1,772,000 and $379,000, respectively.
The Company has not recorded deferred income taxes
applicable to undistributed earnings of foreign subsidiaries
that are indefinitely reinvested outside the United States.
If the earnings of such foreign subsidiaries were not
indefinitely reinvested, a deferred tax liability of
approximately $2,152,000 and $1,473,000 would have been
required as of June 30, 1997 and 1996, respectively.
The sources of differences resulting in deferred income
tax expense (credit) and the related tax effect of each were
as follows:
Year Ended June 30,
($000) 1997 1996 1995
- ----------------------------------------------------
Depreciation $(136) $ (79) $ (98)
Inventory capitalization (30) (18) (13)
Alternative minimum
tax carryforward - - 275
Other - primarily
nondeductible accruals 28 14 (68)
- ----------------------------------------------------
$(138) $(83) $ 96
====================================================
Note F
OPERATING LEASES
The Company leases certain property under operating
leases that expire at various dates through 2000. Future
rental commitments applicable to the operating leases at
June 30, 1997 are approximately $453,000, $253,000, and
$218,000 for 1998, 1999 and 2000, respectively. Rent expense
was approximately $519,000, $507,000 and $462,000 for the
years ended June 30, 1997, 1996 and 1995, respectively.
Note G
STOCK OPTION PLANS
The Company has a stock option plan under which stock
options have been granted by the Board of Directors to
certain officers and key employees, with 1,240,000 shares of
common stock reserved for use under this plan. All options
to purchase shares of common stock granted to-date have been
at market price at the date of grant. Twenty to twenty-five
percent of the options granted may be exercised one year
from the date of grant with comparable annual increases on a
cumulative basis each year thereafter.
The Company added a nonemployee directors stock option plan
in 1995, with 120,000 shares of common stock reserved for
use under this plan. The Plan provides for the automatic
grant of options to purchase 15,000 shares to each
nonemployee director at the fair value on the date of
shareholder approval of the plan and a similar grant for
each nonemployee director that joins the Board prior to October
1999. Twenty percent of the options granted may be exercised
one year from the date of grant with comparable annual
increases on a cumulative basis each year thereafter.
23
All stock options expire 10 years after the grant date.
Stock option activity relating to the plans in each of
the three years in the period ended June 30, 1997 is as follows:
Number of Weighted
Shares Average
Subject to Exercise
Options Option Price Per Share
- -------------------------------------------------------------
Outstanding - July 1, 1994 327,800 $ 2.03
Granted 314,000 $ 3.37
Exercised (84,380) $ 1.55
Forfeited (54,900) $ 3.59
- -------------------------------------------------------------
Outstanding - June 30, 1995 502,520 $ 2.79
Exercisable - June 30, 1995 110,600 $ 1.88
- -------------------------------------------------------------
Outstanding - July 1, 1995 502,520 $ 2.79
Granted 132,200 $10.03
Exercised (19,640) $ 1.68
Forfeited (5,200) $ 3.94
- -------------------------------------------------------------
Outstanding - June 30, 1996 609,880 $ 4.38
Exercisable - June 30, 1996 185,440 $ 2.45
- -------------------------------------------------------------
Outstanding - July 1, 1996 609,880 $ 4.38
Granted 86,100 $19.10
Exercised (109,246) $ 2.37
Forfeited (1,200) $17.50
=============================================================
Outstanding - June 30, 1997 585,534 $ 6.89
Exercisable - June 30, 1997 209,074 $ 3.53
=============================================================
Outstanding and exercisable options at June 30, 1997 by
expiration date are as follows:
Number of Number of
Shares Subject Per Share Shares
Expiration Dates to Option Price Exercisable
- -------------------------------------------------------------
May 1999 8,000 $ 3.69 8,000
May 2000 360 $ 2.69 360
August 2000 31,180 $ 1.83 31,180
February 2002 44,660 $ 2.13 44,660
June 2002 3,000 $ 2.13 3,000
April 2004 2,400 $ 1.50 800
July 2004 30,000 $ 2.00 12,000
July 2004 4,000 $ 1.97 1,600
August 2004 89,600 $ 2.69 29,600
November 2004 58,000 $ 4.00 22,000
December 2004 96,400 $ 3.94 32,200
February 2005 8,000 $ 4.94 3,200
June 2005 2,000 $16.13 800
December 2005 960 $10.63 -
February 2006 116,574 $ 9.88 18,574
May 2006 2,500 $15.25 600
February 2006 3,000 $ 9.75 500
August 2006 62,200 $17.50 -
November 2006 1,800 $22.00 -
February 2007 3,500 $30.25 -
June 2007 17,400 $22.38 -
- -------------------------------------------------------------
585,534 209,074
=============================================================
24
In 1997, the Company adopted SFAS No. 123, Accounting for
Stock-Based Compensation. SFAS No. 123 provides that
companies may choose to change their methods of accounting
for stock options to a fair value method using an option
pricing model. The Company uses the intrinsic value approach
specified in Accounting Principles Board Opinion No. 25 in
accounting for stock options and did not change from this
method upon adoption of the new standard. Had the Company
changed its accounting method, its net income for 1997 would
have been reduced by $177,000 or $.03 per share. Net income
for 1996 would have been reduced by $35,000 or $.01 per
share. The pro forma adjustments were calculated using the
Black-Scholes option pricing model to value all stock
options granted since July 1, 1995 under the following
assumptions in each year:
- ----------------------------------------------------
1997 1996
- ----------------------------------------------------
Risk free interest rate 5.8% 6.4%
Expected volatility 69% 68%
Expected life of options 7.33 years 7.33 years
Expected dividends none none
- ----------------------------------------------------
Based on the option pricing model, options granted during
1997 and 1996 had fair values of $13.77 and $7.17 per share,
respectively.
Note H
INTERNATIONAL AND DOMESTIC OPERATIONS AND EXPORT SALES
Year Ended June 30,
($000) 1997 1996 1995
- ---------------------------------------------------------------------------------------------
Sales:
United States $ 50,489 $ 37,244 $ 26,644
International 21,063 13,204 11,158
- ---------------------------------------------------------------------------------------------
Total $ 71,552 $ 50,448 $ 37,802
- ---------------------------------------------------------------------------------------------
Sales or transfers between geographic areas: 1
United States $ 11,925 $ 7,172 $ 5,847
International 6,886 5,336 4,195
- ---------------------------------------------------------------------------------------------
Total 18,811 12,508 10,042
- ---------------------------------------------------------------------------------------------
Net sales $ 52,741 $ 37,940 $ 27,760
=============================================================================================
Export sales from the United States 2 $ 5,979 $ 6,938 $ 5,509
=============================================================================================
Operating income:
United States $ 7,822 $ 3,975 $ 1,860
International 1,674 1,717 1,441
Other - net 488 328 86
- ---------------------------------------------------------------------------------------------
Earnings before income taxes $ 9,984 $ 6,020 $ 3,387
=============================================================================================
Identifiable assets:
United States $ 46,923 $ 39,478 $ 20,633
International 7,589 4,691 3,734
- ---------------------------------------------------------------------------------------------
Total assets $ 54,512 $ 44,169 $ 24,367
=============================================================================================
Amounts for International operations in the above table primarily relate to the Company's operations in Asia.
1 Intersegment sales are made at established transfer prices.
2 Export sales are primarily made to western Europe.
25
Note I
EMPLOYEE BENEFIT PLANS
Eligible employees of the Company participate in a profit
sharing retirement plan. Contributions to the plan are made
at the discretion of the Company's Board of Directors and
were approximately $740,000 in 1997, $455,000 in 1996 and
$259,000 in 1995. The Company has an employee stock purchase
plan for all employees who have six months of continuous
employment with the Company. The employee may purchase the
common stock at 5% below the prevailing market price. The
amount of shares which may be bought by an employee is
limited to 10% of the employee's base pay for each fiscal
year. The plan, as amended, limits the number of shares of
common stock available for purchase to 200,000 shares. At
June 30, 1997, 127,535 shares of common stock were available
for purchase under the plan.
The Company has no program for postretirement health and
welfare and postemployment benefits.
On June 21, 1996, the Board of Directors of the Company
approved the II-VI Incorporated Deferred Compensation Plan
(the "Plan"). The Plan is designed to allow officers and key
employees of the Company to defer receipt of compensation
into a trust fund for retirement purposes. The Plan is a
nonqualified, defined contribution employees' retirement
plan. At the Company's discretion, the Plan may be funded by
the Company making contributions based on compensation
deferrals, matching contributions and discretionary
contributions. Compensation deferrals will be based on an
election by the participant to defer a percentage of
compensation under the Plan. All assets in the Plan are
subject to claims of the Company's creditors until such
amounts are paid to the Plan participants. The Company made
contributions to the Plan in the amount of $139,000 in 1997
and did not make any contributions in 1996.
Note J
QUARTERLY STOCK INFORMATION (UNAUDITED)
II-VI Incorporated common stock high and low closing
sales price as reported on the Nasdaq National Market:
1997 1996
High Low High Low
- --------------------------------------------------------------
First Quarter $ 23 $ 12 3/4 $ 23 $ 12 7/8
Second Quarter 27 1/8 19 1/2 18 9 1/2
Third Quarter 31 3/4 22 1/8 12 5/8 9 3/4
Fourth Quarter 25 1/4 16 3/32 16 7/8 11 5/8
The Company estimates that as of September 15, 1997 there
were approximately 700 record holders of common stock.
26