<Page>
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended MARCH 31, 2002
--------------
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ___________ to ____________
Commission File Number 0-32883
WRIGHT MEDICAL GROUP, INC.
--------------------------
(Exact name of registrant as specified in its charter)
DELAWARE 13-4088127
-------- ----------
(State or other jurisdiction (IRS employer
of incorporation) Identification number)
5677 Airline Road
Arlington, Tennessee 38002
-------------------- -----
(Address of principal executive offices) (Zip code)
Registrant's telephone number (901) 867-9971
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for 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.
[X] Yes [ ] No
As of April 26, 2002 a total of 32,429,852 shares of voting common
stock, par value $.01 per share, of the registrant were outstanding.
<Page>
WRIGHT MEDICAL GROUP, INC.
INDEX
PAGE
NUMBER
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements
Consolidated Balance Sheets as of March 31, 2002 and
December 31, 2001 1
Consolidated Statements of Operations for the three
months ended March 31, 2002 and 2001 2
Consolidated Statements of Cash Flows for the three
months ended March 31, 2002 and 2001 3
Notes to Consolidated Financial Statements 4-7
Item 2 - Management's Discussion and Analysis of Financial
Condition and Results of Operations 8-16
Item 3 - Quantitative and Qualitative Disclosures About Market Risk 17
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings 18
Item 2 - Change in Securities and Use of Proceeds 18
Item 3 - Defaults Upon Senior Securities 18
Item 4 - Submission of Matters to a Vote of Security Holders 18
Item 5 - Other Information 18
Item 6 - Exhibits and Reports on Form 8-K 18-19
SIGNATURES 20
<Page>
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
WRIGHT MEDICAL GROUP, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<Table>
<Caption>
MARCH 31, DECEMBER 31,
2002 2001
----------- ------------
(unaudited)
ASSETS
Current Assets:
Cash and cash equivalents $ 45,493 $ 2,770
Accounts receivable, net 39,088 32,479
Inventories 45,689 41,878
Prepaid expenses 2,535 3,506
Deferred income taxes 7,937 9,131
Other current assets 7,264 3,234
--------- ---------
Total current assets 148,006 92,998
--------- ---------
Property, plant and equipment, net 52,479 50,965
Intangible assets, net 29,420 31,911
Goodwill 16,489 16,848
Other assets 809 997
--------- ---------
$ 247,203 $ 193,719
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 9,371 $ 8,530
Accrued expenses and other current liabilities 30,079 33,092
Current portion of long-term obligations 3,912 3,830
--------- ---------
Total current liabilities 43,362 45,452
--------- ---------
Long-term obligations 19,714 19,804
Deferred income taxes 8,060 10,131
Other liabilities 957 1,032
--------- ---------
Total liabilities 72,093 76,419
--------- ---------
Stockholders' equity:
Common stock, voting, $.01 par value, shares authorized -
100,000,000; shares issued and outstanding - 32,388,249 in
2002, 23,257,532 in 2001 324 233
Common stock, non-voting, $.01 par value,
shares authorized - 100,000,000; shares issued
and outstanding - 5,288,595 in 2001 -- 53
Additional paid-in capital 258,311 207,197
Deferred compensation (4,386) (4,798)
Accumulated other comprehensive loss (3,911) (3,238)
Accumulated deficit (75,228) (82,147)
--------- ---------
Total stockholders' equity 175,110 117,300
--------- ---------
$ 247,203 $ 193,719
========= =========
</Table>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
1
<Page>
WRIGHT MEDICAL GROUP, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
<Table>
<Caption>
THREE MONTHS ENDED
MARCH 31,
--------------------
2002 2001
-------- --------
Net sales $ 51,706 $ 45,333
Cost of sales 14,758 13,672
-------- --------
Gross profit 36,948 31,661
Operating expenses:
Selling, general and administrative 26,955 23,305
Research and development 2,561 2,114
Amortization of intangible assets 853 1,297
Stock-based expense(1) 440 658
Arbitration settlement award (Note 7) (4,200) --
-------- --------
Total operating expenses 26,609 27,374
-------- --------
Income from operations 10,339 4,287
Interest expense, net 434 3,120
Other expense, net 16 427
-------- --------
Income before income taxes 9,889 740
Provision for income taxes 2,970 555
-------- --------
Net income $ 6,919 $ 185
======== ========
Net income (loss) per share (Note 5):
Net income (loss) applicable to common
stockholders $ 6,919 $ (974)
======== ========
Net income (loss) per common share:
Basic $ .23 $ (14.56)
======== ========
Diluted $ .21 $ (14.56)
======== ========
Weighted-average number of common
shares outstanding-diluted 32,229 67
======== ========
Pro forma net income per share (Note 5):
Net income applicable to common stockholders $ 6,919 $ 185
======== ========
Net income per common share:
Basic $ .23 $ .01
======== ========
Diluted $ .21 $ .01
======== ========
Weighted-average number of common
shares outstanding-pro forma diluted 32,229 20,937
======== ========
</Table>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
- ----------
(1) Amounts presented include selling, general and administrative expenses of
$412 and $652 and research and development expenses of $28 and $6 for the
three months ended March 31, 2002 and 2001, respectively.
2
<Page>
WRIGHT MEDICAL GROUP, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<Table>
<Caption>
FOR THE THREE MONTHS ENDED
MARCH 31,
--------------------------
2002 2001
-------- --------
CASH FLOW FROM OPERATING ACTIVITIES:
Net income $ 6,919 $ 185
Noncash items included in net income:
Depreciation 2,956 2,238
Amortization of deferred financing costs 64 165
Amortization of intangible assets 853 1,297
Provision for inventory reserves 453 1,158
Deferred income taxes 2,791 451
Stock-based expenses 440 658
Other 219 150
Changes in operating assets and liabilities:
Accounts receivable (6,954) (2,975)
Inventories (4,411) (990)
Other current assets (3,211) (239)
Accounts payable 899 67
Accrued expenses and other liabilities (2,717) (4,246)
-------- --------
Net cash used in operating activities (1,699) (2,081)
CASH FLOW FROM INVESTING ACTIVITIES:
Capital expenditures (4,555) (3,834)
Other (1,830) 163
-------- --------
Net cash used in investing activities (6,385) (3,671)
CASH FLOW FROM FINANCING ACTIVITIES:
Issuance of common stock, net of offering costs 51,124 --
Proceeds from bank and other financing -- 1,854
Payments of bank and other borrowings (278) (313)
Issuance (payments) of senior subordinated notes -- 92
Issuance of preferred shares -- 158
-------- --------
Net cash provided by financing activities 50,846 1,791
Effect of exchange rates on cash and cash equivalents (39) (111)
-------- --------
Net increase (decrease) in cash and cash equivalents $ 42,723 $ (4,072)
Cash and cash equivalents, beginning of period $ 2,770 $ 16,300
-------- --------
Cash and cash equivalents, end of period $ 45,493 $ 12,228
======== ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest $ 321 $ 1,652
======== ========
Cash (received) paid for income taxes $ (188) $ 207
======== ========
</Table>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
3
<Page>
WRIGHT MEDICAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION
Wright Medical Group, Inc. (the "Company") is a global medical device company
specializing in the design, manufacture and marketing of orthopaedic implants
and bio-orthopaedic materials used in joint reconstruction and bone
regeneration. The Company is focused on the reconstructive joint device and
bio-orthopaedic materials sectors of the orthopaedic industry. The Company
markets its products principally through independent sales representatives in
the United States and through a combination of employee sales representatives,
independent sales representatives and stocking distributors in its international
markets. The Company is headquartered in suburban Memphis, Tennessee.
On March 6, 2002, the Company and certain selling stockholders completed a
secondary offering of 6.9 million shares, including the overallotment option of
900,000 shares, of voting common stock at $15.40 per share. Of the 6.9 million
shares, the Company offered 3.45 million shares in the secondary offering.
Following the closing of the secondary offering, Warburg, Pincus Equity
Partners, L.P. converted all of its shares of non-voting common stock into
shares of voting common stock. Consequently, there are no longer any outstanding
shares of non-voting common stock.
2. BASIS OF PRESENTATION
The unaudited consolidated interim financial statements included in this Form
10-Q have been prepared by the Company, pursuant to the rules and regulations of
the Securities and Exchange Commission (the "SEC"). Certain information and
footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed, or
omitted, pursuant to these rules and regulations. These unaudited consolidated
interim financial statements should be read in conjunction with the Company's
consolidated financial statements and related notes included in the Company's
2001 Annual Report on Form 10-K as filed with the SEC.
The accompanying unaudited consolidated interim financial statements include the
accounts of the Company and its wholly-owned domestic and international
subsidiaries. All significant intercompany accounts and transactions have been
eliminated in consolidation. In the opinion of management, these statements
reflect all adjustments necessary for a fair presentation of the interim
financial statements. All such adjustments are of a normal and recurring nature.
The results of operations for any interim period are not necessarily indicative
of results for the full year.
3. INVENTORIES
Inventories consist of the following (in thousands):
<Table>
<Caption>
MARCH 31, DECEMBER 31,
--------- ------------
2002 2001
---- ----
Raw materials $ 1,801 $ 1,721
Work-in-process 8,233 6,814
Finished goods 35,655 33,343
------- -------
$45,689 $41,878
======= =======
</Table>
4
<Page>
WRIGHT MEDICAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
4. LONG-TERM OBLIGATIONS
Long-term obligations consist of the following (in thousands):
<Table>
<Caption>
MARCH 31, DECEMBER 31,
--------- ------------
2002 2001
---- ----
Notes payable $ 20,000 $ 20,000
Capitalized lease obligations 3,626 3,634
-------- --------
23,626 23,634
Less: current portion (3,912) (3,830)
-------- --------
$ 19,714 $ 19,804
======== ========
</Table>
The Company's senior credit facility consists of $20 million in term loans and
an unused revolving loan facility of up to $60 million. At the Company's option,
borrowings under the credit facility bear interest either at a rate equal to a
fixed base rate plus a spread of .75% to 1.25% or at a rate equal to an adjusted
LIBOR plus a spread of 1.75% to 2.25%, depending on the Company's consolidated
leverage ratio.
5. EARNINGS PER SHARE
Statement of Financial Accounting Standards No. 128, "Earnings Per Share"
requires the presentation of basic and diluted earnings per share. Basic
earnings per share is calculated based on the weighted-average shares of common
stock outstanding during the period. Diluted earnings per share is calculated to
include any dilutive effect of the Company's common stock equivalents, which
consists of stock options, warrants, and in 2001, convertible preferred stock.
The dilutive effect of such instruments is calculated using the treasury-stock
method.
For the three-month period ended March 31, 2001, the Company's computation of
diluted earnings per share does not differ from basic earnings per share, as the
effect of the Company's common stock equivalents is anti-dilutive. Common stock
equivalents excluded from the calculation of diluted earnings per share totaled
approximately 20,870,000 for the three-month period ended March 31, 2001.
Net income (loss) applicable to common stockholders and weighted-average number
of common shares outstanding for basic and diluted earnings per share is as
follows (in thousands):
<Table>
<Caption>
THREE MONTHS ENDED
MARCH 31,
---------------------
2002 2001
-------- --------
Net income $ 6,919 $ 185
Accrued preferred stock dividends -- (1,159)
-------- --------
Net income (loss) applicable to common stockholders $ 6,919 $ (974)
======== ========
Weighted-average number of common shares
outstanding, basic 29,833 67
Common share equivalents 2,396 --
-------- --------
Weighted-average number of common shares
outstanding, diluted 32,229 67
======== ========
</Table>
5
<Page>
WRIGHT MEDICAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
A reconciliation of net income (loss) applicable to common stockholders and
weighted-average number of common shares outstanding for pro forma basic and
diluted earnings per share is as follows (in thousands):
<Table>
<Caption>
THREE MONTHS
ENDED
MARCH 31, 2001
--------------
Net loss applicable to common stockholders shown above $ (974)
Reversal of accrued preferred stock dividends 1,159
--------
Pro forma net income applicable to common stockholders $ 185
========
Weighted-average number of common shares outstanding 67
Weighted-average effect of conversion of redeemable convertible preferred
stock and related dividends 18,989
--------
Pro forma weighted-average number of common shares outstanding, basic 19,056
Common share equivalents 1,881
--------
Pro forma weighted-average number of common shares outstanding, diluted 20,937
========
</Table>
The weighted-average effect of the conversion of redeemable convertible
preferred stock and related dividends into common shares was computed as if such
stock was converted at the beginning of the period.
6. NEW PRONOUNCEMENTS: BUSINESS COMBINATIONS, GOODWILL AND OTHER INTANGIBLE
ASSETS
In June 2001, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 141, "BUSINESS COMBINATIONS," which
requires all business combinations initiated after June 30, 2001 to be accounted
for under the purchase method. SFAS No. 141 continues the previous requirement
for a company to recognize goodwill for the excess of the cost of an acquired
company over the fair value of the assets acquired and liabilities assumed. It
also requires that items be separated from goodwill if they arise from
contractual or other legal rights or are separable. Intangibles that do not meet
this test should be included in goodwill. The Company determined that its
workforce intangible does not meet the criteria for recognition as a separate
identifiable intangible asset and thus, effective January 1, 2002, the Company
reclassified the net book value of its workforce intangible asset net of
associated deferred tax liabilities, of $2.0 million, into goodwill.
Effective January 1, 2002, the Company adopted SFAS No. 142, "GOODWILL AND OTHER
INTANGIBLE ASSETS," which requires that goodwill no longer be amortized, but
rather evaluated for impairment at the reporting unit level upon adoption and at
least annually thereafter. Accordingly, the Company engaged an independent third
party to determine the fair value of its reporting units as defined by SFAS No.
142 effective January 1, 2002. Based on this initial evaluation, the fair value
of the Company's reporting units were determined to exceed the carrying value of
those reporting units, therefore indicating that none of the goodwill recorded
by the Company was impaired. On an ongoing basis, (absent any impairment
indicators), the Company expects to perform its annual impairment evaluation
during the fourth quarter. Impairment adjustments recognized after adoption, if
any, generally are required to be recognized as operating expenses.
6
<Page>
WRIGHT MEDICAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Changes in the carrying amount of goodwill occurring during the three months
ended March 31, 2002, are as follows (in thousands):
<Table>
Goodwill, net of accumulated amortization at December 31, 2001 $ 16,848
Add: Reclassification of workforce intangible, net of deferred tax liability 2,007
Less: Reduction of pre-recapitalization valuation allowances (2,281)
Foreign currency translation (85)
----------
Goodwill at March 31, 2002 $ 16,489
==========
</Table>
In connection with adopting SFAS No. 142, the Company reassessed the useful
lives of its identifiable intangible assets and determined that they continue to
be appropriate. The components of the Company's identifiable intangible assets
are as follows (in thousands):
<Table>
<Caption>
MARCH 31, 2002 DECEMBER 31, 2001
------------------------- ------------------------
ACCUMULATED ACCUMULATED
COST AMORTIZATION COST AMORTIZATION
---------- -------------- --------- --------------
Completed technology $ 11,535 $ 2,080 $ 11,542 $ 1,856
Workforce - - 5,543 2,282
Distribution channels 18,683 4,264 18,868 3,834
Trademarks 2,372 366 2,372 326
Other 4,848 1,308 3,009 1,125
---------- -------- --------- --------
37,438 $ 8,018 41,334 $ 9,423
======== ========
Less: Accumulated
amortization (8,018) (9,423)
---------- ---------
$ 29,420 $ 31,911
========== =========
</Table>
If the requirements of SFAS Nos. 141 and 142 had been applied in 2001, first
quarter 2001 operating results would have been affected as follows (in
thousands):
<Table>
<Caption>
FOR THE THREE
MONTHS ENDED
MARCH 31, 2001
-----------------
Income from operations, as reported $ 4,287
Add: Goodwill amortization adjustment 214
Add: Workforce reclassification adjustment 277
----------
Income from operations, as adjusted 4,778
----------
Income before income taxes, as adjusted 1,231
Provision for income taxes 555
----------
Net income, as adjusted $ 676
==========
Earnings per pro forma diluted share, as adjusted $ .03
==========
Weighted-average number of common
shares outstanding-pro forma diluted 20,937
==========
</Table>
The Company expects to recognize amortization expense of approximately $3.5
million in 2002, $3.5 million in 2003, $3.4 million in 2004, and $3.3 million in
2005.
7. ARBITRATION SETTLEMENT AWARD
During the first quarter of 2002, the Company received a favorable award in a
commercial arbitration proceeding with a former business services provider. As a
result, the Company received $4.2 million in cash in April 2002, which was
recorded within income from operations for the three months ended March 31,
2002.
7
<Page>
ITEM 2.
WRIGHT MEDICAL GROUP, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
THE FOLLOWING DISCUSSION AND ANALYSIS OF OUR FINANCIAL CONDITION AND RESULTS OF
OPERATIONS SHOULD BE READ IN CONJUNCTION WITH OUR CONSOLIDATED FINANCIAL
STATEMENTS AND RELATED NOTES APPEARING ELSEWHERE IN THIS FILING. THIS DISCUSSION
AND ANALYSIS CONTAINS FORWARD-LOOKING STATEMENTS BASED ON OUR CURRENT
EXPECTATIONS, ASSUMPTIONS, ESTIMATES AND PROJECTIONS. THESE STATEMENTS MAY
INCLUDE, WITHOUT LIMITATION, THE WORDS "BELIEVES", "ESTIMATES", "PROJECTS",
"ANTICIPATES", "EXPECTS" AND WORDS OF SIMILAR IMPORT. THESE FORWARD-LOOKING
STATEMENTS INVOLVE RISKS AND UNCERTAINTIES. OUR ACTUAL RESULTS COULD DIFFER
MATERIALLY FROM THOSE INDICATED IN THESE STATEMENTS AS A RESULT OF CERTAIN
FACTORS, AS MORE FULLY DISCUSSED BELOW AND UNDER THE HEADING "RISK FACTORS"
CONTAINED IN OUR FINAL PROSPECTUS DATED MARCH 1, 2002. THE COMPANY WISHES TO
CAUTION READERS NOT TO PLACE UNDUE RELIANCE ON ANY SUCH FORWARD-LOOKING
STATEMENTS, WHICH STATEMENTS ARE MADE PURSUANT TO THE PRIVATE SECURITIES
LITIGATION REFORM ACT OF 1995 AND, AS SUCH, SPEAK ONLY AS OF THE DATE MADE.
OVERVIEW
We are a global orthopaedic device company specializing in the design,
manufacture and marketing of reconstructive joint devices and bio-orthopaedic
materials. Reconstructive joint devices are used to replace knee, hip and other
joints that have deteriorated through disease or injury. Bio-orthopaedic
materials are used to replace damaged or diseased bone and to stimulate bone
growth. We have been in business for over fifty years and have built a
well-known and respected brand name and strong relationships with orthopaedic
surgeons.
Our corporate headquarters and U.S. operations are located in Arlington,
Tennessee, where we conduct our domestic manufacturing, warehousing, research
and administrative activities. Outside the U.S., we operate manufacturing and
administrative facilities in Toulon, France, research, distribution and
administrative facilities in Milan, Italy and sales and distribution offices in
Canada and Japan and across Europe. Our global distribution system consists of a
sales force of approximately 300 persons that market our products to orthopaedic
surgeons and hospitals. We have approximately 200 exclusive independent
distributors and sales associates in the U.S. and approximately 100 sales
associates internationally. In addition, we sell our products to stocking
distributors in certain international markets, who resell the products to third
party customers. Net sales in our international markets approximated 40% of our
total net sales in the first three months of 2002. No single foreign country
accounted for more than 10% of our total net sales during 2001 or 2002; however,
Italy and France together represented approximately 16% of our total net sales
in 2001 and 15% in the first three months of 2002.
NET SALES AND EXPENSE COMPONENTS
NET SALES
We derive our net sales primarily from the sale of reconstructive joint devices
and bio-orthopaedic materials. Our reconstructive joint device net sales are
derived from three primary product lines: knees, hips and extremities. Other
product sales consist of various orthopaedic products not considered to be part
of our knee, hip, extremity or bio-orthopaedic product lines that we manufacture
directly or distribute for others. While our other product sales may increase in
amount and/or as a percentage of total net sales in the future, we do not expect
that our other product sales will grow at a rate commensurate with our
reconstructive joint device and bio-orthopaedic product lines where our
resources are focused.
8
<Page>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The following table sets forth our net sales by product line for the three
months ended March 31, 2002 and 2001, respectively, expressed as a dollar amount
and as a percentage of total net sales:
<Table>
<Caption>
THREE MONTHS ENDED MARCH 31,
(UNAUDITED)
----------------------------
IN THOUSANDS: 2002 2001
--------- ---------
Knee products $ 19,303 $ 18,557
Hip products 14,240 13,024
Extremity products 6,695 5,244
Bio-orthopaedic materials 9,162 6,451
Other 2,306 2,057
--------- ---------
Total net sales $ 51,706 $ 45,333
========= =========
AS A PERCENTAGE OF TOTAL NET SALES:
Knee products 37.3% 40.9%
Hip products 27.5% 28.7%
Extremity products 13.0% 11.6%
Bio-orthopaedic materials 17.7% 14.2%
Other 4.5% 4.6%
----------- -----------
Total net sales 100.0% 100.0%
=========== ===========
</Table>
EXPENSES
COST OF SALES. Cost of sales consists primarily of direct labor, allocated
manufacturing overhead, raw materials and components, royalty expenses
associated with licensing technologies used in our products or processes and
certain other period expenses. Cost of sales and corresponding gross profit
percentages can be expected to fluctuate in future periods depending upon
changes in our product sales mix and prices, distribution channels and
geographies, manufacturing yields, period expenses and levels of production
volume.
SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and administrative expense
consists primarily of salaries, sales commissions, royalty expenses associated
with our key surgeons, marketing costs, facility costs, other general business
and administrative expenses and depreciation expense associated with surgical
instruments that we loan to surgeons to use when implanting our products. These
surgical instruments are depreciated over their useful life of 1 to 6 years. We
expect that our selling, general and administrative expenses will increase in
absolute dollars in future periods to the extent that any further growth in net
sales drives commissions and royalties, and as we continue to add infrastructure
to support our expected business growth and public company requirements.
However, we expect these expenses as a historical percentage of net sales to
remain constant and eventually decrease as we leverage our infrastructure
additions.
RESEARCH AND DEVELOPMENT. Research and development expense includes costs
associated with the design, development, testing, deployment, enhancement and
regulatory approval of our products. We anticipate that our research and
development expenditures will increase in absolute dollars in future periods as
we continue to increase our investment in product development initiatives;
however, we expect these expenses to be relatively consistent as a historical
percentage of net sales.
AMORTIZATION OF INTANGIBLES. Intangible assets consist of goodwill and purchased
intangibles principally related to completed technology, distribution channels
and trademarks. Purchased intangibles are amortized over periods ranging from
three months to 15 years. Until January 1, 2002, goodwill was amortized on a
straight-line basis over 20 years. In accordance with SFAS No. 142, "GOODWILL
AND OTHER INTANGIBLE ASSETS," effective January 1, 2002 we ceased amortizing
goodwill and instead evaluated it for impairment in accordance with SFAS No.
142, concluding that goodwill is not impaired.
9
<Page>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
We will continue to evaluate goodwill for impairment at least annually (absent
any impairment indicators) during our fourth quarter. We expect to amortize
approximately $3.5 million in 2002, $3.5 million in 2003, $3.4 million in 2004,
and $3.3 million in 2005.
STOCK-BASED EXPENSE. Stock-based expense includes the amortization of non-cash
deferred compensation recorded in connection with the issuance of stock options,
stock-based incentives and the sale of equity securities when the estimated fair
market value of the securities is deemed for financial reporting purposes to
exceed their respective exercise or sales price. Additionally, for stock-based
incentives granted to consultants, we defer and amortize the fair value of such
grants as calculated pursuant to Statement of Financial Accounting Standards
(SFAS) No. 123. We amortize deferred compensation on a straight-line basis over
the respective vesting periods of the stock-based incentives, which is generally
four years, and we immediately expense all stock-based compensation associated
with the issuance of equity where no vesting restrictions apply. The substantial
majority of our stock-based expense relates to issuance of shares and options
prior to the completion of our July 2001 initial public offering.
Based on the stock-based compensation we have incurred to date, we expect that
approximately $1.9 million in 2002, $1.9 million in 2003, $1.7 million in 2004,
and $415,000 in 2005 will be recognized as non-cash stock-based expense.
ARBITRATION SETTLEMENT AWARD. During the first quarter of 2002, we received a
favorable award in a commercial arbitration proceeding with a former business
services provider. As a result, we received $4.2 million in cash in April 2002.
We recorded this amount within income from operations for the three months ended
March 31, 2002.
INTEREST EXPENSE, NET. Interest expense consists primarily of interest
associated with borrowings outstanding under our senior credit facilities and,
as it relates to 2001, our subordinated notes, offset partially by interest
income on invested cash balances. Interest expense includes $64,000 and $165,000
for the first quarter of 2002 and 2001, respectively, of non-cash expense
associated with the amortization of deferred financing costs resulting from the
origination of our senior credit facilities. We expect the amortization of
deferred financing costs to approximate $255,000 annually over the remaining
term of our senior credit facility.
We used the net proceeds from our initial public offering completed July, 2001
to repay our senior subordinated notes and reduce our outstanding bank
borrowings, and we invested the proceeds of our February, 2002 follow-on
offering in interest-bearing securities. Consequently, we expect that net
interest expense in periods following our initial and follow-on public offerings
will be less than interest incurred in the comparable prior periods.
OTHER (INCOME) / EXPENSE, NET. Other (income)/expense consists primarily of net
gains and losses resulting from foreign currency fluctuations. We expect other
expense and income to fluctuate in future periods depending upon our relative
exposures to foreign currency risk and ultimate fluctuations in exchange rates.
PROVISION / (BENEFIT) FOR INCOME TAXES. Our payment of income taxes has
generally been limited to earnings generated by certain of our foreign
operations, principally in Europe. Domestically, we have incurred no tax
liability in recent years. At December 31, 2001, we have net operating loss
carryforwards of approximately $74.7 million domestically, which expire in 2009
through 2021, and $17.6 million internationally, which expire in 2002 through
2010. Generally, we are limited in the amount of net operating loss
carryforwards which can be utilized in any given year. Additionally, we have
domestic general business credit carryforwards of approximately $1.2 million,
which expire in 2007 through 2016.
We have provided a valuation allowance against a portion of our net deferred tax
assets for both United States federal income tax purposes and for foreign income
tax purposes because, given our history of operating losses, our ability to
recover these assets in total is uncertain. As a result of the current year
operations, management has reduced the valuation allowance based on the amount
of deferred tax assets that are projected to be utilized this year. We will
continue to reassess the realization of the remainder of our deferred tax assets
and adjust the related valuation allowance as necessary.
10
<Page>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, certain financial
data expressed as a dollar amount (in thousands) and as a percentage of net
sales:
<Table>
<Caption>
THREE MONTHS ENDED MARCH 31,
(UNAUDITED)
---------------------------------------
2002 2001
------------------ -----------------
% OF % OF
AMOUNT SALES AMOUNT SALES
------ ----- ------ -----
Net sales $ 51,706 100.0% $ 45,333 100.0%
Cost of sales 14,758 28.5% 13,672 30.2%
-------- ------- -------- -------
Gross profit 36,948 71.5% 31,661 69.8%
Operating expenses:
Selling, general and administrative 26,955 52.1% 23,305 51.4%
Research and development 2,561 5.0% 2,114 4.7%
Amortization of intangible assets 853 1.6% 1,297 2.9%
Stock-based expense 440 .9% 658 1.4%
Arbitration settlement award (4,200) (8.1%) -- --
-------- ------- -------- -------
Total operating expenses 26,609 51.5% 27,374 60.4%
-------- ------- -------- -------
Income from operations 10,339 20.0% 4,287 9.4%
Interest expense, net 434 .8% 3,120 6.9%
Other expense, net 16 -- 427 .9%
-------- ------- -------- -------
Income before income taxes 9,889 19.1% 740 1.6%
Provision for income taxes 2,970 5.7% 555 1.2%
-------- ------- -------- -------
Net income $ 6,919 13.4% $ 185 .4%
======== ======= ======== =======
Adjusted EBITDA** $ 10,372 20.1% $ 8,053 17.8%
======== ======= ======== =======
</Table>
**Excludes the arbitration settlement award of $4.2 million.
COMPARISON OF THREE MONTHS ENDED MARCH 31, 2002 TO THREE MONTHS ENDED MARCH 31,
2001
NET SALES. Net sales totaled $51.7 million in the three months ended March 31,
2002, compared to $45.3 million in the three months ended March 31, 2001,
representing an increase of $6.4 million, or 14%. The increase resulted
primarily from unit sales growth in all major product categories.
Knee sales increased $746,000 or 4%, in the three months ended March 31, 2002
compared to the corresponding period in 2001 due to the continued growth of our
ADVANCE(R) knee system which was partially offset by decreased sales of certain
of our more mature knee products. Hip sales increased $1.2 million, or 9%, in
the first quarter of 2002 compared to the first quarter of 2001 primarily due to
sales of our newest hip product, the LINEAGE(TM) Acetabular System, which was
introduced in the third quarter of 2001, and continued growth of our PERFECTA(R)
and CONSERVE(R) hip systems. Extremity sales increased $1.5 million, or 28%, in
the three months ended March 31, 2002 compared to the corresponding period in
2001 due to our first quarter 2002 introduction of the OLYMPIA(TM) Total
Shoulder System, and continued growth in sales of our EVOLVE(TM) and NEW
DEAL(TM) products, as well as our core extremity products. Bio-orthopaedic
product sales increased $2.7 million or 42%, for the first quarter of 2002
compared to the first quarter of 2001 primarily due to sales of our
ALLOMATRIX(R) Custom bone graft putty which was introduced in the third quarter
of 2001, and the continued growth of ALLOMATRIX(R) C, introduced in the first
quarter of 2001.
Domestic net sales totaled $30.9 million in the first quarter of 2002,
representing 60% of our total net sales compared to $27.7 million in the first
quarter of 2001, representing 61% of total net sales. International sales
11
<Page>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
totaled $20.8 million in the first quarter of 2002, net of a negative currency
impact when compared to prior period of approximately $673,000, and $17.6
million in the first quarter of 2001.
COST OF SALES. Cost of sales as a percentage of net sales decreased from 30% in
the first quarter of 2001 to 28% in the first quarter of 2002. This decrease is
due to improved margins resulting from efficiency gains, and moderate shifts in
sales composition to higher margin product lines such as bio-orthopaedics.
SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and administrative
expenses, exclusive of stock-based expense, increased $3.7 million, or 16%, from
$23.3 million in the first quarter of 2001, to $27.0 million in the first
quarter of 2002. The increase was primarily attributable to increased
commissions resulting from domestic sales growth, infrastructure additions to
support our Japanese direct sales initiative, costs associated with senior
management additions, costs associated with certain international
distributorship transitions, and expenses related to enhancing our information
systems and administrative capabilities. Including stock-based expense, selling,
general and administrative expenses increased $3.4 million, or 14% when compared
to the first quarter of 2001.
RESEARCH AND DEVELOPMENT. Research and development expenses, exclusive of
stock-based expense, increased $447,000, or 21%, from $2.1 million in the first
quarter of 2001 to $2.6 million in the first quarter of 2002. The majority of
this increase was due to additional personnel costs and professional fees
associated with increased product development efforts in the 2002 period when
compared to the corresponding period in 2001. Including stock based expense,
research and development expenses increased $469,000 or 22% when compared to the
first quarter of 2001.
AMORTIZATION OF INTANGIBLE ASSETS. Non-cash charges associated with the
amortization of intangible assets decreased approximately $444,000, or 34%, from
the first quarter of 2001 to the first quarter of 2002. This decrease is
primarily the result of the cessation of amortization of goodwill as mandated by
SFAS No. 142 which we implemented effective January 1, 2002. Amortization for
both the 2001 and 2002 periods were primarily attributable to intangible assets
resulting from our recapitalization and subsequent acquisition of Cremascoli in
December 1999.
STOCK-BASED EXPENSE. Stock-based expense totaled $440,000 in the first quarter
of 2002, consisting of non-cash charges of $397,000 in connection with the
amortization of deferred compensation associated with employee stock option
grants deemed to be issued below fair market value, and $43,000 of other
stock-based expenses. Stock-based expense totaled $658,000 in the first quarter
of 2001, consisting of non-cash charges of $315,000 resulting from the sale of
equity securities below fair market value, $293,000 in amortization of deferred
compensation associated with employee stock option grants deemed to be issued
below fair market value, and $50,000 of other stock-based expenses.
INTEREST EXPENSE, NET. Interest expense, net, totaled $434,000 and $3.1 million
in the first quarter of 2002 and 2001, respectively. The significant decrease in
net interest expense is the result of our use of the proceeds from our initial
public offering in July 2001 to repay our senior subordinated notes, reduce our
outstanding bank borrowings, and to increase our invested cash balances.
Additionally, we were able to negotiate more favorable terms with regards to the
interest rate charged on borrowings under our new senior credit facility entered
into in August 2001, and we invested the proceeds of our February, 2002
follow-on offering in interest-bearing securities.
ARBITRATION SETTLEMENT AWARD. During the first quarter of 2002, we received a
favorable award in a commercial arbitration proceeding with a former business
services provider. As a result, we received $4.2 million in cash in April 2002.
We recorded this amount within income from operations for the three months ended
March 31, 2002.
OTHER EXPENSE, NET. Other expense, net, totaled $16,000 and $427,000 in the
first quarter of 2002 and 2001, respectively. The difference primarily reflects
foreign currency rate fluctuations from 2001 to 2002.
PROVISION/(BENEFIT) FOR INCOME TAXES. We recorded a tax provision of $3.0
million and $555,000 in the first quarter of 2002 and 2001, respectively. The
tax provision for the three months ended March 31, 2002 is primarily the result
of earnings generated by our global operations. We also recorded a benefit for
the
12
<Page>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
reduction in the statutory income tax rate in France, effective January 1, 2002.
The tax provision for the three months ended March 31, 2001 is primarily the
result of earnings generated by some of our international operations,
principally in Europe. The differences between our effective tax rate and
applicable statutory rates are primarily due to changes in the valuation
allowance related to our deferred tax assets, the change in the French tax rate,
and certain nondeductible expenses.
ADJUSTED EBITDA. We define Adjusted EBITDA as earnings before net interest
expense, taxes, depreciation, amortization of intangible assets, stock-based
expense, and other non-cash expenses. During 2002 and 2001, there were no other
non-cash expenses. For 2002, we have excluded from Adjusted EBITDA the
arbitration settlement award of $4.2 million. Other companies within our
industry may not compute Adjusted EBITDA in the same manner as we do.
Adjusted EBITDA totaled $10.4 million in the first quarter of 2002, or 20% of
net sales, compared to $8.1 million in the first quarter of 2001, or 18% of net
sales. The increase of approximately $2.3 million is primarily the result of
increased sales and improvements in the Company's gross profit percentage, which
was partially offset by a 14% increase in selling, general and administrative
expenses (net of depreciation charges) coupled with a 21% increase in research
and development expenses, when compared to the first quarter of 2001.
QUARTERLY RESULTS OF OPERATIONS
The following table presents a summary of our unaudited quarterly operating
results for each of the four quarters in 2001 and the first quarter of 2002. We
derived this information from unaudited interim financial statements that, in
the opinion of management, have been prepared on a basis consistent with the
financial statements contained in the Company's 2001 Annual Report on Form 10-K
as filed with the SEC, and include all adjustments, consisting only of normal
recurring adjustments, necessary for a fair statement of such information when
read in conjunction with our audited financial statements and related notes. The
operating results for any quarter are not necessarily indicative of results for
any future period.
<Table>
<Caption>
2001 2002
(unaudited) (unaudited)
--------------------------------------- ------------
FIRST SECOND THIRD FOURTH FIRST
IN THOUSANDS QUARTER QUARTER QUARTER QUARTER QUARTER
------- ------- ------- ------- -------
Net sales $ 45,333 $ 42,369 $ 39,062 $ 46,157 $ 51,706
Cost of sales 13,672 12,981 11,314 13,384 14,758
-------- -------- -------- -------- --------
Gross profit 31,661 29,388 27,748 32,773 36,948
Operating expenses:
Selling, general and
administrative 23,305 23,246 23,233 24,161 26,955
Research and development 2,114 2,486 2,242 3,266 2,561
Amortization of intangible assets 1,297 1,355 1,372 1,325 853
Stock-based expense 658 443 486 409 440
Arbitration settlement award -- -- -- -- (4,200)
-------- -------- -------- -------- --------
Total operating expenses 27,374 27,530 27,333 29,161 26,609
-------- -------- -------- -------- --------
Income from operations $ 4,287 $ 1,858 $ 415 $ 3,612 $ 10,339
======== ======== ======== ======== ========
</Table>
SEASONALITY
Our net sales are subject to seasonality. Primarily because of the European
holiday schedule during the summer months, the Company traditionally experiences
lower sales volumes in these months than throughout the rest of the year.
13
<Page>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
LIQUIDITY AND CAPITAL RESOURCES
We have funded our cash needs since 1999 through various equity and debt
issuances and through cash flow from operations.
Our senior credit facility, which we entered into on August 1, 2001, consists of
$20 million in term loans and an unused revolving loan facility of up to $60
million. At the Company's option, borrowings under the credit facility bear
interest either at a rate equal to a fixed base rate plus a spread of .75% to
1.25% or at a rate equal to an adjusted LIBOR plus a spread of 1.75% to 2.25%,
depending on the Company's consolidated leverage ratio.
On March 6, 2002, the Company and certain selling stockholders completed a
secondary offering of 6.9 million shares, including the overallotment option of
900,000 shares, of voting common stock at $15.40 per share. Of these 6.9 million
shares, we offered 3.45 million, resulting in proceeds to the Company of $49.5
million, net of the underwriting discount and other public offering expenses of
approximately $3.6 million. We intend to use the proceeds from the secondary
offering for general corporate purposes, including to fund working capital,
expansion of our current product offerings through research and development and
acquisitions of technologies, products and companies.
At March 31, 2002 we had cash and equivalents totaling approximately $45.5
million, working capital totaling $104.6 million and unused availability under
committed credit facilities, after considering outstanding letters of credit,
totaling $57.4 million. We used $1.7 million of cash in operating activities
during the first quarter of 2002 compared to $2.1 million of cash used in
operating activities during the same period in 2001. However, operating cash
flows for the first three months of 2002 were negatively affected by
approximately $5.5 million of costs associated with certain international
distributorship transitions. Operating cash flows for the first three months of
2001 were negatively affected by $4.0 million of unrestricted cash used in an
intellectual property license settlement.
Capital expenditures totaled approximately $4.6 million for the three months
ended March 31, 2002. Historically, our capital expenditures have consisted
primarily of purchased manufacturing equipment, research and testing equipment,
computer systems and office furniture and equipment and surgical instruments. We
expect to incur capital expenditures of approximately $19.0 million in total for
2002, approximately $3.0 million of which we anticipate will be used for the
implementation of a new enterprise computer system and $16.0 million of which we
anticipate will be used for routine recurring capital expenditures, including
instruments.
Although it is difficult for us to predict future liquidity requirements, we
believe that our current cash balances, our existing credit line and expected
cash flows from our operating activities, will be sufficient for the foreseeable
future to fund our working capital requirements and operations, permit
anticipated capital expenditures and make required payments of principal and
interest on our debt.
SIGNIFICANT ACCOUNTING POLICIES AND ESTIMATES
Certain of our accounting policies require the application of significant
judgment by management in selecting the appropriate assumptions for calculating
financial estimates. By their nature, these judgments are subject to an inherent
degree of uncertainty. These judgments are based on our historical experience,
terms of existing contracts, our observance of trends in the industry,
information provided by our customers, and information available from other
outside sources, as appropriate. Actual results may differ from these judgments
under different assumptions or conditions.
Our significant accounting policies are more fully described in Note 2 to our
consolidated financial statements as filed in our 2001 Annual Report on Form
10-K. Further, our most critical accounting policies and estimates are further
discussed in Item 7 of our 2001 Annual Report on Form 10-K. Material changes
occurring within our significant estimates since December 31, 2001 are described
below.
ACCOUNTING FOR INCOME TAXES. As part of the process of preparing our
consolidated financial statements we are required to determine our income taxes
in each of the jurisdictions in which we operate. This process involves
estimating our actual current tax expense together with assessing temporary
differences
14
<Page>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
resulting from differing recognition of items for income tax and accounting
purposes. These differences result in deferred tax assets and liabilities, which
are included within our consolidated balance sheet. We must then assess the
likelihood that our deferred tax assets will be recovered from future taxable
income and, to the extent we believe that recovery is not likely, we must
establish a valuation allowance. To the extent we establish a valuation
allowance or increase this allowance in a period, we must reflect this increase
as an expense within the tax provision in the statement of operations.
Management's judgment is required in determining our provision for income taxes,
our deferred tax assets and liabilities and any valuation allowance recorded
against our net deferred tax assets. We have recorded a valuation allowance of
$39.0 million and $41.8 million as of March 31, 2002 and December 31, 2001,
respectively, due to uncertainties related to our ability to utilize, before
expiration, some of our deferred tax assets, primarily consisting of the carry
forward of certain net operating losses and general business tax credits. The
valuation allowance is based on our estimates of taxable income by jurisdiction
in which we operate and the period over which our deferred tax assets will be
recoverable. In the event that actual results differ from these estimates or we
adjust these estimates in future periods we may need to increase or decrease our
valuation allowance which could materially impact our financial position and
results of operations. $24.8 million of our valuation allowance at December 31,
2001 was recorded during our recapitalization. To the extent that this portion
of the valuation allowance is decreased, it will not result in a benefit to the
tax provision, but will first reduce goodwill and then other intangible assets.
The decrease in the valuation allowance since December 31, 2001 is based on our
current projection of the amount of deferred tax assets that will be realized as
a result of income in the current year. Of the $2.8 million of valuation
allowance released, $2.3 million was established during the recapitalization,
and thus, recorded as a reduction to goodwill. Management will continue to
monitor the realizability of the deferred tax asset and adjust the valuation
allowance accordingly. As of March 31, 2002 and December 31, 2001, we had net
deferred tax liabilities of $123,000 and $1.0 million, respectively.
IMPACT OF RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 141, "BUSINESS COMBINATIONS," which
requires all business combinations initiated after June 30, 2001 to be accounted
for under the purchase method. SFAS No. 141 continues the previous requirement
for a company to recognize goodwill for the excess of the cost of an acquired
company over the fair value of the assets acquired and liabilities assumed. It
also requires that items be separated from goodwill if they arise from
contractual or other legal rights or are separable. Intangibles that do not meet
this test should be included in goodwill. The Company determined that its
workforce intangible does not meet the criteria for recognition as a separate
identifiable intangible asset and thus, effective January 1, 2002, we
reclassified the net book value of our workforce intangible asset net of
associated deferred tax liabilities, of $2.0 million, into goodwill.
Effective January 1, 2002, the Company adopted SFAS No. 142, "GOODWILL AND OTHER
INTANGIBLE ASSETS," which requires that goodwill no longer be amortized, but
rather evaluated for impairment at the reporting unit level upon adoption and at
least annually thereafter. Accordingly, the Company engaged an independent third
party to determine the fair value of its reporting units as defined by SFAS No.
142 effective January 1, 2002. Based on this initial evaluation, the fair value
of the Company's reporting units were determined to exceed the carrying value of
those reporting units, therefore indicating that none of the goodwill recorded
by the Company was impaired. On an ongoing basis, (absent any impairment
indicators), the Company expects to perform its annual impairment evaluation
during the fourth quarter. Impairment adjustments recognized after adoption, if
any, generally are required to be recognized as operating expenses.
As a result of implementing SFAS No. 142, we expect to reduce 2002 amortization
expense by $2.0 million, to approximately $3.5 million for the full year,
increasing 2002 net income by $1.6 million, or $.05 per diluted share. If these
rules had been applied in 2001, prior year amortization expense would have also
been reduced by $2.0 million and 2001 net income would have been increased by
$2.0 million, or $.08 per diluted share.
Also effective January 1, 2002, we adopted SFAS No. 144, "ACCOUNTING FOR THE
IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS." SFAS No. 144 addresses financial
accounting and reporting for the impairment of
15
<Page>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
long-lived assets and for long-lived assets to be disposed of. The adoption of
SFAS No. 144 did not have a material impact on our financial position, results
of operations, or cash flows.
We are required to adopt SFAS No. 143, "ACCOUNTING FOR ASSET RETIREMENT
OBLIGATIONS", effective January 1, 2003. SFAS No. 143 requires that the fair
value of a liability for an asset retirement obligation be recognized in the
period in which it is incurred if a reasonable estimate of fair value can be
made. We believe the adoption of SFAS No. 143 will not have a material impact on
our financial position, results of operations, or cash flows.
FACTORS AFFECTING FUTURE OPERATING RESULTS
In addition to the factors described above in this discussion and analysis, our
future financial results could vary from period to period due to a variety of
causes, including expenditures and timing relating to acquisition and
integration of businesses or products, the introduction of new products by us or
our competitors, changes in the treatment practices of our surgeon customers,
changes in the costs of manufacturing our products, supply interruptions, the
availability and cost of raw materials, our mix of products sold, changes in our
marketing and sales expenditures, changes affecting our methods of distributing
products, market acceptance of our products, competitive pricing pressures,
changes in regulations affecting our business, general economic and industry
conditions that affect customer demand, our level of research and development
activities, changes in our administrative infrastructure, foreign currency
fluctuations, changes in assets and liabilities subject to interest rate
variability and changes in related interest rates, and the effect of domestic
and international income taxes and the utilization of related net operating loss
carryforwards.
16
<Page>
ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
INTEREST RATE RISK
Our exposure to interest rate risk arises principally from the variable rates
associated with our credit facilities. On March 31, 2002, we had borrowings of
$20.0 million under our credit facility, which are subject to a variable rate,
with a rate of 3.8125%. Based on this, an adverse change of 1.0% in the interest
rate of all such borrowings outstanding would have caused us to incur an
increase in interest expense of approximately $200,000 on an annual basis. We
currently do not hedge our exposure to interest rate fluctuations, but may do so
in the future.
FOREIGN CURRENCY RATE FLUCTUATIONS
Fluctuations in the rate of exchange between the U.S. dollar and foreign
currencies could adversely affect our financial results. Approximately 28% and
29% of our total net sales were denominated in foreign currencies during 2001
and the three months ended March 31, 2002, respectively, and we expect that
foreign currencies will continue to represent a similarly significant percentage
of our net sales in the future. Costs related to these sales are largely
denominated in the same respective currencies, thereby limiting our transaction
risk exposures. However, for sales not denominated in U.S. dollars, if there is
an increase in the rate at which a foreign currency is exchanged for U.S.
dollars, it will require more of the foreign currency to equal a specified
amount of U.S. dollars than before the rate increase. In such cases, and if we
price our products in the foreign currency, we will receive less in U.S. dollars
than we did before the rate increase went into effect. If we price our products
in U.S. dollars and competitors price their products in local currency, an
increase in the relative strength of the U.S. dollar could result in our prices
not being competitive in a market where business is transacted in the local
currency.
A substantial majority of our sales denominated in foreign currencies are
derived from European Union countries and are denominated in the Euro.
Additionally, we have significant intercompany receivables from our foreign
subsidiaries which are denominated in foreign currencies, principally the Euro
and the yen. Our principal exchange rate risk therefore exists between the U.S.
dollar and the Euro, and the U.S. dollar and the Japanese yen. We do not
currently hedge our exposure to foreign currency exchange rate fluctuations. We
may, however, hedge such exposures in the future.
INFLATION
We do not believe that inflation has had a material effect on our results of
operations in recent years and periods. There can be no assurance, however, that
our business will not be adversely affected by inflation in the future.
17
<Page>
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(a) Not applicable.
(b) Not applicable.
(c) Not applicable.
(d) Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
(a) Not applicable.
(b) Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following exhibits are filed as a part of this Quarterly
Report on Form 10-Q:
EXHIBIT
NUMBER DESCRIPTION
------ -------------------------------------------------------------
3.1 Form of Fourth Amended and Restated Certification of
Incorporation.*
3.2 Form of Amended and Restated Bylaws of Wright Medical Group,
Inc.*
4.1 Registration Rights Agreement, dated December 7, 1999, among
the investors listed on Schedule I to the Agreement and Wright
Medical Group, Inc.*
4.2 Investor Rights Agreement, dated December 22, 1999, among the
investors listed on Schedule I to the Agreement, Warburg,
Pincus Equity Partners, L.P., and Wright Medical Group, Inc.*
4.3 Form of Stock Certificate.*
10.1 Stockholders Agreement, dated December 7, 1999, among the
stockholders, the investors listed on Schedule I to the
Agreement and Wright Medical Group, Inc.*
10.2 Amendment No. 1 to the Stockholders Agreement, dated August 7,
2000.*
10.3 Form of Employment Agreement between Wright Medical Group,
Inc. and certain of its Executive Officers.*
18
<Page>
10.4 1999 Equity Incentive Plan.*
10.5 Form of Incentive Stock Option Agreement.*
10.6 Form of Non-Qualified Stock Option Agreement.*
10.7 Credit Agreement, dated as of August 1, 2001, among Wright
Medical Group, Inc., Wright Medical Technology, Inc., the
Lenders named therein, The Chase Manhattan Bank, as
Administrative Agent, Collateral Agent and Issuing Bank,
Credit Suisse First Boston, as Co-Syndication Agent and U.S.
Bank National Association, as Co-Syndication Agent.+
10.8 Form of Indemnification Agreement between Wright Medical
Group, Inc. and its Directors and Executive Officers.*
10.9 Form of Warrant.*
10.10 Form of Amendment No. 1 to the Incentive Stock Option
Agreement.*
10.11 Form of Sales Representative Award Agreement under the 1999
Equity Incentive Plan.*
10.12 Form of Non-Employee Director Stock Option Agreement under the
1999 Equity Incentive Plan.*
10.13 Form of Amended and Restated 1999 Equity Incentive Plan.*
11.1 Computation of earnings per share (included in Note 5 of the
Notes to Consolidated Financial Statements (unaudited) in Item
1 of Part I of this report).
---------------------
* Incorporated by reference to Wright Medical Group, Inc.'s
Registration Statement on Form S-1(File No. 333-59732).
+ Incorporated by reference to Wright Medical Group, Inc.'s
Current Report on Form 8-K, filed August 3, 2001.
(b) Reports on Form 8-K
The following current reports on Form 8-K were filed during
the quarter ended March 31, 2002:
Date of Report Items Reported
February 12, 2002 Wright Medical Group, Inc. released consolidated
results from operations for the
quarter and year ended December 31,
2001, by means of a press release.
19
<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, in the City of Arlington, State of
Tennessee, on May 6, 2002.
WRIGHT MEDICAL GROUP, INC.
By: /s/ F. Barry Bays
----------------------------------------
F. Barry Bays
PRESIDENT AND CHIEF EXECUTIVE OFFICER
By: /s/ John. K. Bakewell
----------------------------------------
John K. Bakewell
EXECUTIVE VICE PRESIDENT AND CHIEF
FINANCIAL OFFICER (PRINCIPAL FINANCIAL
OFFICER AND PRINCIPAL ACCOUNTING OFFICER)
20