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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
- --------------------------------------------------------------------------------
FORM 10-Q
(Mark one)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED OCTOBER 2, 1999.
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _____________ TO _______________.
Commission File Number 333-86835
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DJ ORTHOPEDICS, LLC
(Exact name of registrant as specified in charter)
DELAWARE 3842 52-2165554
- ---------------- ---------------------------- ----------------------
(State or other (Primary Standard Industrial (I.R.S. Employer
jurisdiction of Classification Code Number) Identification Number)
incorporation or
organization)
DJ ORTHOPEDICS CAPITAL CORPORATION
(Exact name of registrant as specified in charter)
DELAWARE 3842 52-2157537
- ---------------- ---------------------------- ----------------------
(State or other (Primary Standard Industrial (I.R.S. Employer
jurisdiction of Classification Code Number) Identification Number)
incorporation or
organization)
DONJOY, L.L.C.
(Exact name of registrant as specified in charter)
DELAWARE 3842 33-0848317
- ---------------- ---------------------------- ----------------------
(State or other (Primary Standard Industrial (I.R.S. Employer
jurisdiction of Classification Code Number) Identification Number)
incorporation or
organization)
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2985 Scott Street
Vista, California 92083
(800) 336-5690
(Address, including zip code, and telephone number, including area code, of
registrants' principal executive offices)
Indicate by check mark whether each 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 such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
DJ ORTHOPEDICS, LLC Yes [ ] No [X]
DJ ORTHOPEDICS CAPITAL CORPORATION Yes [ ] No [X]
DONJOY, L.L.C. Yes [ ] No [X]
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DJ ORTHOPEDICS, LLC
DJ ORTHOPEDICS CAPITAL CORPORATION
DONJOY, L.L.C.
FORM 10-Q INDEX
PAGE
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EXPLANATORY NOTE 2
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets as of October 2, 1999 (unaudited) and December 31, 1998 3
Consolidated Statements of Operations for the three and nine months ended
October 2, 1999 (unaudited) and September 26, 1998 (unaudited) 4
Consolidated Statements of Cash Flows for the nine months ended
October 2, 1999 (unaudited) and September 26, 1998 (unaudited) 5
Notes to Unaudited Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 12
Item 3. Quantitative and Qualitative Disclosures About Market Risk 19
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 20
Item 2. Changes in Securities and Use of Proceeds 20
Item 3. Defaults upon Senior Securities 20
Item 4. Submission of Matters to a Vote of Security Holders 20
Item 5. Other Information 20
Item 6. Exhibits and Reports on Form 8-K 20
SIGNATURES 21
EXPLANATORY NOTE
This integrated Form 10-Q is filed pursuant to the Securities Exchange Act of
1934, as amended, for each of DonJoy, L.L.C. ("DonJoy"), a Delaware limited
liability company, dj Orthopedics, LLC, a Delaware limited liability company
("dj Ortho"), a wholly-owned subsidiary of DonJoy and DJ Orthopedics Capital
Corporation ("DJ Capital"), a Delaware corporation, a wholly-owned subsidiary of
dj Ortho, (collectively, "the Company"). dj Ortho is a wholly-owned subsidiary
of DonJoy and represents substantially all of the revenues and net income of the
Company. DJ Capital was formed solely to act as a co-issuer (and as a joint and
several obligor) with dj Ortho of $100,000,000 aggregate principal amount at
maturity of 12 5/8% Senior Subordinated Notes due 2009. DJ Capital does not hold
any assets or other properties or conduct any business. No separate financial
information for dj Ortho or DJ Capital has been provided herein because
management believes such information would not be meaningful because DJ Capital
has no financial or other data to report in response to the requirements of Form
10-Q and thus, there is no separate information regarding DJ Capital to report
herein.
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PART I. FINANCIAL INFORMATION
ITEM 1: FINANCIAL STATEMENTS
DONJOY, L.L.C.
CONSOLIDATED BALANCE SHEETS
(in thousands, except unit data)
October 2, December 31,
1999 1998
----------- ------------
(Unaudited)
Assets
Current assets:
Cash and cash equivalents ................................................ $ 7,040 $ 809
Accounts receivable, net of allowance for doubtful
accounts of $847 and $356 at October 2, 1999 and
December 31, 1998, respectively ....................................... 19,062 17,543
Accounts receivable, related parties ..................................... 1,502 2,301
Inventories, net ......................................................... 14,275 14,368
Other current assets ..................................................... 721 811
--------- -------
Total current assets ........................................................ 42,600 35,832
Property, plant and equipment, net .......................................... 6,284 7,400
Intangible assets, net ...................................................... 33,897 33,758
Debt issuance costs, net .................................................... 6,968 --
Other assets ................................................................ 132 66
--------- -------
Total assets ................................................................ $ 89,881 $77,056
========= =======
Liabilities and members' equity (deficit)
Current liabilities:
Accounts payable ......................................................... $ 5,176 $ 7,167
Accounts payable, related parties ........................................ 61 137
Accrued compensation ..................................................... 2,075 1,385
Accrued commissions ...................................................... 1,071 1,191
Long-term debt, current portion .......................................... 500 --
Accrued interest ......................................................... 3,156 --
Intercompany obligations ................................................. 573 6,850
Restructuring reserve .................................................... -- 1,639
Other accrued liabilities ................................................ 4,175 1,838
--------- -------
Total current liabilities ................................................... 16,787 20,207
12 5/8% Senior Subordinated Notes ........................................... 98,004 --
Intercompany obligations, less current portion .............................. -- 44,017
Long-term debt, less current portion ........................................ 14,875 --
Redeemable Preferred Units; 100,000 units authorized, 40,184 units issued and
outstanding at October 2, 1999; liquidation
preference $32,573,483 at October 2, 1999 ................................ 31,196 --
Members' equity (deficit):
Common units; 2,900,000 units authorized, 718,000 units issued
and outstanding at October 2, 1999 .................................... 126,038 --
Notes receivable from officers ........................................... (1,400) --
Retained earnings ........................................................ 4,137 12,832
--------- -------
128,775 12,832
Less treasury units, at cost ................................................ (199,756) --
--------- -------
Total members' equity (deficit) ............................................. (70,981) 12,832
--------- -------
Total liabilities and members' equity (deficit) ............................. $ 89,881 $77,056
========= =======
See accompanying notes.
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DONJOY, L.L.C.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per unit data)
(Unaudited)
Three Months Ended Nine Months Ended
---------------------------- ----------------------------
October 2, September 26, October 2, September 26,
1999 1998 1999 1998
---------- ------------- ---------- -------------
Net revenues:
Third parties .............................. $ 28,715 $22,566 $ 78,121 $64,888
Related parties ............................ 1,694 2,204 6,941 7,926
-------- ------- -------- -------
Total net revenues .............................. 30,409 24,770 85,062 72,814
Cost of goods sold .............................. 13,039 11,498 38,681 33,594
-------- ------- -------- -------
Gross profit .................................... 17,370 13,272 46,381 39,220
Operating expenses:
Sales and marketing ........................ 7,186 6,416 20,557 18,417
General and administrative ................. 4,088 4,177 12,861 12,446
Research and development ................... 461 505 1,509 1,706
Restructuring costs ........................ -- -- -- 2,467
-------- ------- -------- -------
Total operating expenses ........................ 11,735 11,098 34,927 35,036
-------- ------- -------- -------
Income from operations .......................... 5,635 2,174 11,454 4,184
Interest expense ................................ (3,779) -- (3,779) --
Interest income ................................. 45 -- 45 --
-------- ------- -------- -------
Income before income taxes ...................... 1,901 2,174 7,720 4,184
Provision for income taxes ...................... -- 883 2,387 1,700
-------- ------- -------- -------
Net income ...................................... $ 1,901 $ 1,291 $ 5,333 $ 2,484
Less: Preferred stock dividends ................. (1,196) N/A (1,196) N/A
-------- ------- -------- -------
Net income available to members ................. $ 705 N/A $ 4,137 N/A
======== ======= ======== =======
Net income per common unit-Basic and Diluted .... $ 0.93 N/A $ 5.46 N/A
Weighted average common units-
Basic and Diluted .......................... 718,000 N/A 718,000 N/A
Net income per preferred unit-Basic and Diluted.. $ 0.93 N/A $ 5.46 N/A
Weighted average preferred units-
Basic and Diluted .......................... 40,184 N/A 40,184 N/A
See accompanying notes.
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DONJOY, L.L.C.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited, in thousands)
Nine Months Ended
----------------------------
October 2, September 26,
1999 1998
---------- -------------
OPERATING ACTIVITIES
Net income ......................................................... $ 5,333 $ 2,484
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization ................................... 3,691 3,621
Amortization of debt issuance costs and discount on Senior
Subordinated Notes .......................................... 252 --
Restructuring costs ............................................. -- 2,467
Changes in operating assets and liabilities:
Accounts receivable ........................................... (1,519) (1,983)
Inventories ................................................... 93 (3,633)
Other current assets .......................................... 90 (190)
Accounts payable .............................................. (1,991) (2,593)
Accrued interest .............................................. 3,156 --
Intercompany activity ......................................... 3,239 2,675
Restructuring reserve ......................................... (339) (1,109)
Other accrued liabilities ..................................... 2,907 943
--------- -------
Net cash provided by operating activities .......................... 14,912 2,682
INVESTING ACTIVITIES
Purchases of property, plant and equipment ......................... (950) (2,690)
Increase in intangible assets ..... ................................ (2,204) (960)
Other assets ....................................................... (66) 99
--------- -------
Net cash used in investing activities .............................. (3,220) (3,551)
FINANCING ACTIVITIES
Net proceeds from Senior Subordinated Notes ........................ 97,953 --
Proceeds from long term debt ....................................... 15,500 --
Repayment of long term debt ........................................ (125) --
Debt issuance costs ................................................ (7,169) --
Purchase of treasury units ......................................... (199,756) --
Net proceeds from issuance of common units ......................... 63,483 --
Net proceeds from issuance of preferred units ...................... 30,000 --
Intercompany obligations ........................................... (5,347) 806
--------- -------
Net cash (used in) provided by financing activities ................ (5,461) 806
Net increase (decrease) in cash .................................... 6,231 (63)
Cash at beginning of period ........................................ 809 910
--------- -------
Cash at end of period .............................................. $ 7,040 $ 847
========= =======
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Interest paid ................................................... $ 368 $ --
========= =======
SUPPLEMENTAL DISCLOSURE OF NON-CASH TRANSACTIONS:
Capital contribution in connection with the Recapitalization .... $ 48,323 $ --
========= =======
Common stock issued in exchange for notes receivable ............ $ 1,400 $ --
========= =======
Dividends and accretion of preferred unit fee related to
preferred units ............................................. $ (1,196) $ --
========= =======
See accompanying notes.
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DONJOY, L.L.C.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(in thousands)
1. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information. Accordingly, they do not include all of the information
and footnotes required by generally accepted accounting principles for complete
financial statements. These consolidated financial statements should be read in
conjunction with the consolidated financial statements of DonJoy, L.L.C. (the
"Company") and footnotes thereto included in the Registration Statement on Form
S-4 (SEC File No. 333-86835) which became effective on November 9, 1999. The
accompanying consolidated financials statements at October 2, 1999 and for the
three and nine months ended October 2, 1999 and September 26, 1998 are unaudited
and include all adjustments (consisting of normal recurring accruals) which, in
the opinion of management, are necessary for a fair statement of the financial
position, operating results and cash flows for the interim date and periods
presented.
RECAPITALIZATION
On June 30, 1999, the Company consummated a $215.3 million recapitalization (the
"Recapitalization"). Under the Recapitalization, new investors, including Chase
DJ Partners, L.L.C. ("CDP") and affiliates of CDP, invested new capital of $94.6
million in the Company. In addition, certain members of management invested $1.8
million in equity which was financed in part by $1.4 million in
interest-bearing, full recourse loans from the Company and the Company's former
sole equityholder (the "Former Parent") retained equity in the Company
representing $5.4 million of the recapitalization value. In connection with the
recapitalization transactions, the Company established dj Orthopedics, LLC ("dj
Ortho") and DJ Orthopedics Capital Corporation ("DJ Capital"). The Company sold
all of its net assets to dj Ortho for cash, which was funded with the net
proceeds of $100.0 million of 12 5/8% Senior Subordinated Notes (the "Notes")
issued by dj Ortho and DJ Capital, as co-issuers, and the remainder by funds
borrowed by dj Ortho under a senior credit facility. The Notes are fully and
unconditionally guaranteed by the Company. dj Ortho is a wholly-owned subsidiary
of the Company and represents substantially all of the revenues and net income
of the Company. DJ Capital is a wholly-owned subsidiary of dj Ortho, has no
significant assets or operations and was formed solely for the purpose of being
a co-issuer of the Notes (see Note 8).
The proceeds of the equity investment together with $113.5 million of proceeds
from debt financing were used for approximately $199.1 million of consideration
paid to redeem a portion of members' equity from the Company's Former Parent,
and approximately $8.7 million of costs and fees paid in association with the
Recapitalization.
INTERIM ACCOUNTING PERIODS
The Company's fiscal year ends on December 31. Each quarter consists of one
five-week and two four-week periods. The first and fourth quarters may have more
or less working days from year to year based on what day of the week holidays
fall on. Results for the interim period ended October 2, 1999 are not
necessarily indicative of the results to be achieved for the entire year or
future periods. The three month period ended October 2, 1999 contained three
more business days than the same period in 1998, resulting in the Company
recognizing $1.3 million more in revenues in the three month period ended
October 2, 1999 as compared to the same period in 1998. The nine month period
ended October 2, 1999 contained five more business days than the same period in
1998, resulting in the Company recognizing $2.2 million more in revenues in the
nine month period ended October 2, 1999 as compared to the same period in 1998.
RECLASSIFICATIONS
Certain amounts in prior periods have been reclassified to conform with current
period presentation.
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2. FINANCIAL STATEMENT INFORMATION
INVENTORIES
Inventories consist of the following:
October 2, December 31,
1999 1998
---------- ------------
Raw materials ...................................... $ 6,274 $ 6,321
Work-in-progress ................................... 1,448 1,615
Finished goods ..................................... 7,417 6,988
-------- --------
15,139 14,924
Less reserve for excess and obsolete ............... (864) (556)
-------- --------
$ 14,275 $ 14,368
======== ========
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consists of the following:
October 2, December 31,
1999 1998
---------- ------------
Buildings and leasehold improvements ............... $ 3,577 $ 5,285
Office furniture, fixtures, equipment and other .... 14,970 14,488
Construction in progress ........................... 592 337
-------- --------
19,139 20,110
Less accumulated depreciation and amortization ..... (12,855) (12,710)
-------- --------
$ 6,284 $ 7,400
======== ========
INTANGIBLE ASSETS
Intangible assets arose from the initial acquisition of the Company in 1987 and
from the Company's acquisition of Professional Care Products, Inc. in 1995.
Intangible assets consist of the following:
October 2, December 31,
1999 1998
---------- ------------
Goodwill ........................................... $ 24,742 $ 24,742
Patented technology ................................ 14,437 14,437
Customer base ...................................... 11,600 11,600
Licensing agreements ............................... 2,000 --
Assembled workforce ................................ 250 250
Other .............................................. 399 195
-------- --------
53,428 51,224
Less accumulated amortization ...................... (19,531) (17,466)
-------- --------
$ 33,897 $ 33,758
======== ========
3. FINANCING ARRANGEMENTS
12 5/8% SENIOR SUBORDINATED NOTES
On June 30, 1999, the Company issued $100.0 million of 12 5/8% Senior
Subordinated Notes due 2009 (the "Notes") to various investors in connection
with the financing of the Recapitalization. The Notes were issued at a discount
of $2,047,000 which will be amortized to interest expense over the life of the
Notes.
Interest on the Notes is payable in cash semi-annually on each June 15 and
December 15, commencing on December 15, 1999. The aggregate principal amount of
the Notes matures on June 15, 2009.
Covenants. The Notes contain covenants restricting the ability of dj Ortho
and its subsidiaries to (i) incur additional indebtedness; (ii) prepay, redeem
or repurchase debt; (iii) make loans and investments; (iv) incur liens
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and engage in sale lease-back transactions; (v) enter into transactions with
affiliates; (vi) engage in mergers, acquisitions and asset sales; (vii) make
optional payments on or modify the terms of the subordinated debt; (viii)
restrict preferred and capital stock of subsidiaries; (ix) declare dividends or
redeem or repurchase capital stock; and (x) engage in other lines of businesses.
Guarantees. The Notes are guaranteed by DonJoy and co-issued by dj Ortho and DJ
Capital, but are not and will not be guaranteed by dj Orthopedics, LLC de Mexico
de S.A. de C.V., dj Ortho's only existing subsidiary (other than DJ Capital).
Optional Redemption. On or after June 15, 2004, the Notes may be redeemed, in
whole or in part, at the following redemption prices (expressed as percentages
of principal amount), plus accrued and unpaid interest and liquidated damages
thereon, if any, to the redemption date if redeemed during the 12-month period
commencing on June 15 of the years set forth below:
Redemption
Year Price
---- ----------
2004..................................... 106.313%
2005..................................... 104.208%
2006..................................... 102.104%
2007 and thereafter...................... 100.000%
SENIOR CREDIT FACILITY
In connection with the Recapitalization, the Company entered into a Credit
Agreement with First Union National Bank ("First Union") and the Chase Manhattan
Bank ("Chase") and other lenders, pursuant to which the Company may borrow up to
$40.5 million consisting of a revolving credit facility of up to $25.0 million
(the "Revolving Credit Facility") and a Term Loan in a principal amount of $15.5
million (the "Term Loan"). The full amount of the Term Loan was borrowed as part
of the financing from the Recapitalization. As of October 2, 1999, there were no
outstanding borrowings on the Company's Revolving Credit Facility.
Repayment. The Term Loan will mature on June 30, 2005 and is subject to
mandatory repayments and reductions as defined in the Credit Agreement. The Term
Loan will be amortized on a quarterly basis commencing on September 30, 1999 in
accordance with the following schedule:
1999..................................... $ 250
2000..................................... 500
2001..................................... 500
2002..................................... 500
2003..................................... 500
2004..................................... 6,750
2005..................................... 6,500
-------
Total.................................... $15,500
=======
Security; Guarantees. The obligations of the Company under the new credit
facility are irrevocably guaranteed, jointly and severally, by DonJoy, DJ
Capital and future subsidiaries. In addition, the new credit facility and the
guarantees thereunder are secured by substantially all the assets of DonJoy, dj
Ortho and DJ Capital.
Covenants. The new credit facility contains a number of covenants that, among
other things, restrict the ability of the Company and its subsidiaries to (i)
dispose of assets; (ii) incur additional indebtedness; (iii) incur or guarantee
obligations; (iv) prepay other indebtedness or amend other debt instruments; (v)
pay dividends or make other distributions (except for certain tax
distributions); (vi) redeem or repurchase membership interests or capital stock,
create liens on assets, make investments, loans or advances, make acquisitions;
(vii) engage in mergers or consolidations; (viii) change the business conducted
by the Company and its subsidiaries; (ix) make capital expenditures; (x) or
engage in certain transactions with affiliates and otherwise engage in certain
activities. In addition, the new credit facility requires the Company and its
subsidiaries to comply with specified financial ratios and tests, including a
maximum consolidated leverage ratio test and a minimum consolidated interest
coverage ratio test. The new credit facility also contains provisions that
prohibit any modifications of the Notes in any manner
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adverse to the lenders under the new credit facility and that limit the
Company's ability to refinance or otherwise prepay the Notes without the consent
of such lenders.
4. COMMON AND PREFERRED UNITS
The Company is authorized to issue up to 2,900,000 common units and up to
100,000 preferred units. As of October 2, 1999, 718,000 common units and 40,184
preferred units were issued and outstanding, and 15% of the common units on a
fully diluted basis have been reserved for issuance to employees, directors and
independent consultants and contractors of the Company or any subsidiary thereof
pursuant to the 1999 Option Plan.
The preferred units accrue a cumulative quarterly preferred return at a fixed
rate of 14.0% per annum, subject to increase to 16.0% per annum upon the
occurrence of certain events of non-compliance. In addition to the rights with
respect to the preferred return (including related tax distributions and
distributions to the holders of preferred units of their original capital
investment), the preferred units will share ratably with the common units in any
distributions (including tax distributions and upon liquidation) made by the
Company in respect of common units (the Redeemable Preferred Units Participating
Interest).
The preferred units are subject to mandatory redemption ten and one-half years
following the closing of the recapitalization and may be redeemed at the
Company's option at any time ("Redeemable Preferred Unit"). Upon a change of
control, holders of Redeemable Preferred Units will have the right, subject to
certain conditions, to require the Company to redeem their Redeemable Preferred
Units (including the Redeemable Preferred Units Participating Interest). In
addition, at any time following the sixth anniversary of the closing of the
recapitalization, holders will have the right, subject to certain conditions, to
require the Company to redeem their Redeemable Preferred Units Participating
Interest. Unless equity proceeds or other funds are available to the Company for
the purpose, the ability of the Company to make any of the foregoing payments
will be subject to receipt of distributions from the Company in amounts
sufficient to make such payments and such distributions will be subject to the
restrictions contained in the new credit facility and the indenture.
Voting. Except as otherwise required by applicable law or as set forth in the
operating agreement or the members' agreement, holders of Common Units and
Redeemable Preferred Units shall vote together as a single class on all matters
to be voted on by the members, with each unit being entitled to one vote.
Tax Distributions. Subject to receipt of distributions from the Company to the
extent permitted by restrictions contained in the new credit facility and the
indenture, the Company will make distributions in agreed upon amounts to its
members to enable them to pay income taxes payable in respect of their allocable
share of the taxable income of the Company and its subsidiaries.
5. FEES AND EXPENSES
In connection with the Recapitalization, the Company incurred fees and expenses
of $8.7 million, $5.8 million for the Notes, $1.4 million for the Revolving
Credit Facility & Term and $1.5 million for transaction fees and expenses
related to equity. Of the $8.7 million, $7.2 million has been capitalized as
other assets in the accompanying balance sheet at October 2, 1999. The remaining
$1.5 million has been recorded as a reduction to members' equity as transaction
fees and expenses on October 2, 1999. The capitalized debt fees are being
amortized over the term of the related debt.
6. BASIC AND DILUTED EARNINGS PER UNIT
Basic earnings per unit information is based on the weighted average number of
common units and diluted earnings per unit includes the potentially dilutive
securities outstanding during the periods. The effects of all anti-dilutive
securities are excluded from the calculation of earnings per common members'
unit. The Company's only potentially dilutive securities are stock options. The
effect of the assumed conversion of potentially dilutive securities did not
result in additional common stock equivalents for the diluted income per common
unit computation.
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The following financial data summarizes information relating to the per unit
computations (in thousands, except per unit data):
Three Months Ended Nine Months Ended
----------------------------- -----------------------------
October 2, September 26, October 2, September 26,
1999 1998 1999 1998
---------- ------------- ---------- -------------
Net income ........................................... $ 1,901 $ 1,291 $ 5,333 $ 2,484
Less:Preferred stock dividends
and accretion of preferred unit fees ............ (1,196) N/A (1,196) N/A
Net income allocable to preferred unit holders ....... (38) N/A (220) N/A
-------- ------- -------- -------
Net income available to common unit members .......... $ 667 N/A $ 3,917 N/A
======== ======= ======== =======
Net income per common unit-Basic and Diluted ......... $ 0.93 N/A $ 5.46 N/A
Weighted average common units-
Basic and Diluted ............................... 718,000 N/A 718,000 N/A
Assumed exercise of stock options ............... -- N/A -- N/A
-------- ------- -------- -------
Diluted ......................................... 718,000 N/A 718,000 N/A
======== ======= ======== =======
Net income per preferred units-Basic and Diluted ..... $ 0.93 N/A $ 5.46 N/A
Weighted avg. preferred units-Basic and Diluted ...... 40,184 N/A 40,184 N/A
The weighted average common units for the nine months ended October 2, 1999 have
been computed based on the weighted average outstanding since the completion of
the leveraged recapitalization discussed in Note 1.
7. SEGMENT AND RELATED INFORMATION
The Company has two reportable segments as defined by Financial Accounting
Standards Board SFAS No. 131, Disclosures about Segments of an Enterprise and
Related Information. The Company's reportable segments are business units that
offer different products that are managed separately because each business
requires different technology and marketing strategies. The rigid knee bracing
segment designs, manufactures and sells rigid framed ligament and osteoarthritis
knee braces and post-operative splints. The soft goods segment designs,
manufactures and sells fabric, neoprene and Drytex based products for the knee,
ankle, shoulder, back and wrist. The Company's other operating segments are
included in specialty and other orthopedic products. None of the other segments
met any of the quantitative thresholds for determining reportable segments.
Information regarding industry segments is as follows:
Three Months Ended Nine Months Ended
----------------------------- -----------------------------
October 2, September 26, October 2, September 26,
1999 1998 1999 1998
---------- ------------- ---------- -------------
Net revenues:
Rigid knee bracing .............................. $ 12,585 $11,588 $ 36,616 $35,719
Soft goods ...................................... 11,027 8,748 29,802 24,918
-------- ------- -------- -------
Net revenues for reportable segments ............ 23,612 20,336 66,418 60,637
Specialty and other orthopedic products ......... 6,797 4,434 18,644 12,177
-------- ------- -------- -------
Total consolidated net revenues ...................... $ 30,409 $24,770 $ 85,062 72,814
======== ======= ======== =======
Gross profit:
Rigid knee bracing .............................. $ 9,109 $ 8,192 $ 26,347 $25,218
Soft goods ...................................... 5,303 4,094 14,433 12,064
-------- ------- -------- -------
Gross profit for reportable segments ............ 14,412 12,286 40,780 37,282
Specialty and other orthopedic products ......... 3,417 2,155 9,312 6,064
Brand royalties ................................. -- (817) (1,817) (2,420)
Other cost of goods sold ........................ (459) (352) (1,894) (1,706)
-------- ------- -------- -------
Total consolidated gross profit ...................... $ 17,370 $13,272 $ 46,381 $39,220
======== ======= ======== =======
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The accounting policies of the reportable segments are the same as those
described in the basis of presentation. The Company allocates resources and
evaluates the performance of segments based on gross profit. Intersegment sales
were not significant for any period.
For the nine months ended October 2, 1999 and September 26, 1998, the Company
had no individual customer or distributor within a segment which accounted for
more than 10% or more of total annual revenues.
Assets allocated in foreign countries were not significant. Net revenues to
customers, attributed to countries based on the location of the customer, were
as follows:
Three Months Ended Nine Months Ended
----------------------------- -----------------------------
October 2, September 26, October 2, September 26,
1999 1998 1999 1998
---------- ------------- ---------- -------------
United States:
Third parties ................................... $ 26,175 $20,989 $ 71,644 $58,913
Related parties ................................. 300 237 886 715
-------- ------- -------- -------
26,475 21,226 72,530 59,628
Europe:
Third parties ................................... 1,835 1,447 5,467 5,450
Related parties ................................. 748 880 3,082 4,221
-------- ------- -------- -------
2,583 2,327 8,549 9,671
Other foreign countries:
Third parties ................................... 705 130 1,010 525
Related parties ................................. 646 1,087 2,973 2,990
-------- ------- -------- -------
1,351 1,217 3,983 3,515
-------- ------- -------- -------
Total consolidated net revenues ...................... $ 30,409 $24,770 $ 85,062 $72,814
======== ======= ======== =======
The company does not allocate assets to reportable segments because all property
and equipment are shared by all segments of the Company.
8. CONDENSED FINANCIAL DATA
As discussed in Note 1 above, dj Ortho's obligations under the Notes are
guaranteed by its parent, DonJoy, L.L.C. This guarantee and any guarantee by a
future wholly-owned subsidiary guarantor, is full and unconditional. The
following condensed summarized financial information of dj Ortho (the only
issuer with operations and assets) is presented at October 2, 1999 and for the
three-months then ended, the period since dj Ortho has been in existence:
October 2, 1999
---------------
Current assets............................. $ 42,507
Non-current assets......................... $ 46,894
Current liabilities........................ $ 16,650
Non-current liabilities:
Long-term debt........................... $112,879
Other.................................... $ 343
Three Months Ended
October 2, 1999
------------------
Net revenues............................... $30,409
Gross profit............................... $17,248
Net income................................. $ 1,778
dj Ortho and any future subsidiary guarantors comprise all the direct and
indirect subsidiaries of DonJoy (other than inconsequential subsidiaries) and
separate financial statements of the Company and any future wholly-owned
subsidiary guarantors are not included, and the Company and such subsidiary
guarantors are not filing separate reports under the Exchange Act because
management has determined that they would not be material to investors.
9. SUBSEQUENT EVENTS
On November 9, 1999, the Company commenced an exchange offer to exchange $100
million aggregate amount outstanding of 12 5/8% Senior Subordinated Notes for
$100 million aggregate principal amount of 12 5/8% Senior Subordinated Notes
(the "Exchange Notes"). The form and term of the Exchange Notes are the same as
the form and the term of the Old Notes except the Exchange Notes have been
registered under the Securities Act of 1933 as amended and therefore, will not
bear legends restricting the transfer thereof. The Exchange Notes evidence the
same debt as the Old Notes (which they replace). The exchange offer expires on
December 9, 1999 unless extended by the Company.
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ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
On June 30 1999, the Company consummated a $215.3 million recapitalization. In
connection with the recapitalization transactions, the Company established dj
Ortho and DJ Capital. The Company sold all of its net assets to dj Ortho for
cash which was funded with the net proceeds of $100 million principal amount of
12 5/8% Notes issued by dj Ortho and DJ Capital, as co-issuers, and the
remainder by funds borrowed by dj Ortho under a senior credit facility. In
addition, new investors, including certain members of management, invested new
capital of $96.4 million in equity in DonJoy. The proceeds of the equity
investment together with debt financings were used (i) for approximately $199.1
million of consideration paid to redeem a portion of members' equity from the
Company's Former Parent, and (ii) approximately $8.7 million of costs and fees
paid in association with the recapitalization. As part of the recapitalization
agreement, immediately prior to the recapitalization, the Company's Former
Parent canceled and capitalized the assets listed under cash and the liabilities
listed under current and deferred income taxes due to the Former Parent,
restructuring reserve and intercompany obligation, less current portion. All
such amounts were treated as a capital contribution by the Former Parent to
members' equity.
The following discussion should be read in conjunction with the Company's
historical consolidated financial statements and the related notes thereto and
the other financial data included in the Form S-4.
OVERVIEW
SEGMENTS. The Company designs, manufactures and markets orthopedic recovery
products and complementary products. The Company's product lines include rigid
knee braces, soft goods and a portfolio of specialty and other orthopedic
products. The Company's rigid knee braces include ligament braces, which provide
durable support for knee ligament instabilities, post-operative braces, which
provide both knee immobilization and a protected range of motion, and OA braces,
which provide relief of knee pain due to osteoarthritis. The Company's soft
goods products, most of which are fabric or neoprene-based, provide support
and/or heat retention and compression for afflictions of the knee, ankle, back
and upper extremities, including the shoulder, elbow, neck and wrist. The
Company's portfolio of specialty and other orthopedic products, which are
designed to facilitate orthopedic rehabilitation, include lower extremity
walkers, upper extremity braces, cold therapy systems and pain management
delivery systems. The rigid knee brace product lines and the soft goods product
lines constitute reportable segments under generally accepted accounting
principles. See Note 7 of Notes to Unaudited Consolidated Financial Statements.
SMITH & NEPHEW ALLOCATIONS AND SALES. Prior to December 29, 1998, the Company's
business was operated as the Bracing & Support Systems Division (the "Division")
of Smith & Nephew, the Company's Former Parent. Effective December 29, 1998,
Smith & Nephew contributed the Division's net assets and shares of a Mexican
subsidiary to DonJoy, then a newly formed Delaware limited liability company,
the sole member of which was Smith & Nephew. Accordingly, the contribution has
been accounted for on a predecessor basis for financial reporting purposes.
As a result of the Company formerly being a division of Smith & Nephew, the
Company's historical results of operations reflect certain direct charges from
Smith & Nephew as well as certain allocations of Smith & Nephew's overhead and
other expenses through June 29, 1999. These amounts were charged or allocated to
the Company on the basis of direct usage where identifiable, with the remainder
allocated to the Company on the basis of its annual sales or the capital
employed by Smith & Nephew in the Company's business.
The following is a summary of such charges and allocations and their
applicability to the Company on a stand-alone basis following the
recapitalization.
(1) Charges for brand royalties historically included in the Company's
cost of goods sold resulting from the use by the Company of the
Smith & Nephew trademarks and trade name. These charges were $1.8
million and $2.4 million in the first nine months of 1999 and 1998,
respectively. As a result of the consummation of the
recapitalization on June 30, 1999, the Company no longer has the
right to use the Smith & Nephew trademarks and trade names and,
accordingly, these charges are no longer incurred by the Company.
(2) Foreign sales corporation commissions historically included in the
Company's general and administrative expense paid by the Company on
sales to foreign sales corporations established by Smith & Nephew.
The use of foreign sales corporations was a tax planning strategy
for Smith & Nephew. These charges were $0 and $0.3 million in the
first nine months of 1999 and 1998, respectively. As of January
1999, the Company no longer incurred these charges.
(3) Smith & Nephew allocations for a portion of its corporate managed
accounts and new business expense and corporate management expense
historically included in the Company's general and administrative
expense. These allocations ("Eliminated Allocations") were $1.0
million and $1.3 million in the first nine months of 1999 and 1998,
respectively. These allocations were for a portion of Smith &
Nephew's overhead expenses that the Company has not incurred or
replaced since the consummation of the recapitalization on June 30,
1999.
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(4) Smith & Nephew allocations for research and development and for
finance (risk management, treasury, audit and taxes), human
resources and payroll, and legal services historically provided by
Smith & Nephew to the Company which were included in the Company's
general and administrative expense. These allocations ("Other
Corporate Allocations") were $0.8 million and $1.3 million in the
first nine months of 1999 and 1998, respectively. These allocations
were for a portion of Smith & Nephew's overhead expenses. The
Company on a stand-alone basis replaced these services provided by
Smith & Nephew upon consummation of the recapitalization on June 30,
1999, and will incur additional expenses associated with external
auditing and periodic filings with the Securities and Exchange
Commission. The Company estimates that the aggregate cost of
replacing these services and such additional expenses will be
approximately $800,000 following consummation of the
recapitalization on June 30, 1999.
(5) Other allocations relating to bonuses, pension and insurance
historically included in the Company's cost of goods sold, sales and
marketing expense and general and administrative expense, and
charges for payroll taxes and benefits and direct legal expenses
incurred by Smith & Nephew on the Company's behalf included in the
Company's general and administrative expense. These costs and
expenses are of a nature the Company expects to continue to incur on
a stand-alone basis following the consummation of the
recapitalization on June 30, 1999.
For the first nine months of 1999 and 1998, the Company's sales to Smith &
Nephew and its affiliates (including Smith & Nephew's sales organizations) were
$6.9 million and $7.9 million, respectively, or 8.2% and 10.9%, respectively, of
total sales for these periods. International sales represented the vast majority
of sales to Smith & Nephew and its affiliates, accounting for approximately
87.2% and 91.6% of total sales to Smith & Nephew and its affiliates in the first
nine months of 1999 and 1998, respectively. See Note 7 of Notes to Unaudited
Consolidated Financial Statements. As a result of the recapitalization, the
Company intends on replacing most of the Smith & Nephew sales organizations with
independent distributors. As of October 2, 1999, the Company has replaced 11
Smith & Nephew sales organizations with independent distributors. The Company
has also given notice to Smith & Nephew that they will terminate 8 of the
remaining 19 Smith & Nephew sales organizations by the beginning of 2000.
MANUFACTURING COST REDUCTION INITIATIVES. Over the past several years, the
Company has undertaken initiatives designed to lower its overall manufacturing
cost structure. In 1998 the Company completed the consolidation of its domestic
operations into one location in Vista, California. As a result, the Company
incurred $2.5 million of restructuring costs in 1998 substantially all of which
related to lease termination costs on the vacated facility. Pursuant to the
recapitalization agreement, the restructuring reserve, which amounted to $0.9
million at June 29, 1999 and consisted of the remaining lease obligations on the
vacated facility, was assumed by Smith & Nephew. Operating results for the first
three quarters of 1998 were adversely affected by the consolidation due to
disruption caused by the Company fully integrating manufacturing operations of
the DonJoy and ProCare brands which were previously separate and distinct, but
returned to prior levels in the fourth quarter of 1998 and the first nine months
of 1999. The Company intends to continue to pursue opportunities to reduce
manufacturing costs and improve operating efficiencies. The Company will move as
appropriate greater portions of its labor intensive operations to its facilities
in Mexico to generate further labor cost savings for its more labor intensive
products and utilize the resulting additional capacity in its U.S. facilities to
manufacture its more technologically advanced products. By upgrading its
computer systems to achieve more efficient production, the Company expects to
achieve material and labor cost reductions as well as economies of scale across
its manufacturing operation. In addition, the Company intends to further
automate its manufacturing operations through the use of more technologically
advanced fabrication and equipment systems. The Company will continue to
rationalize raw materials used in the production of its existing products,
thereby enabling the Company to leverage its purchasing power. Finally, in order
to achieve further cost savings, the Company intends to further reduce its
number of stock keeping units (SKUs) without impacting service or breadth of the
Company's product range.
BASIS OF PRESENTATION; TAXES. The recapitalization had no impact on the
historical basis of the Company's assets and liabilities as reflected in the
consolidated financial statements except for the elimination of the
restructuring reserve and intercompany accounts. However, as a result of the
recapitalization, for federal income tax purposes, the
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Company has recorded an increase in the tax basis of its fixed and intangible
assets in an amount approximately equal to the taxable gain recognized by Smith
& Nephew on the sale of its interest in DonJoy. As a result, after the
recapitalization, for tax purposes the Company is able to depreciate assets with
a higher tax basis than for financial reporting purposes. Prior to the
recapitalization, the Company's results of operations were included in the
consolidated federal income tax returns which Smith & Nephew filed in the United
States and the historical financial statements reflect a provision for income
taxes assuming that the Company had filed a separate federal income tax return.
As limited liability companies, the Company and dj Ortho are not subject to
income taxes following the recapitalization. Instead, the Company's earnings
following the recapitalization will be allocated to its members and included in
the taxable income of its members. The indenture and the new credit facility
permits dj Ortho to make distributions to DonJoy and DonJoy to make
distributions to its members to pay income taxes in respect of their allocable
share of taxable income of DonJoy and its subsidiaries, including dj Ortho.
RESULTS OF OPERATIONS. The Company operates its business on a manufacturing
calendar, with its fiscal year always ending on December 31. Each quarter is 13
weeks, consisting of one five-week and two four-week periods. The first and
fourth quarters may have more or less working days from year to year based on
what day of the week holidays fall on. See "-- Nine Months Ended October 2, 1999
Compared to Nine Months Ended September 26, 1998."
Three Months Ended Nine Months Ended
----------------------------- -----------------------------
October 2, September 26, October 2, September 26,
1999 1998 1999 1998
---------- ------------- ---------- -------------
Net revenues:
Rigid knee bracing ......................... 41.4% 46.8% 43.1% 49.1%
Soft goods ................................. 36.3 35.3 35.0 34.2
Specialty and other orthopedic products .... 22.3 17.9 21.9 16.7
------ ------ ------- -------
Total consolidated net revenues ................. 100.0 100.0 100.0 100.0
Cost of goods sold allocable to product lines ... 41.4 41.7 41.1 40.5
------ ------ ------- -------
Gross profit exclusive of brand royalties and
other cost of sales ................ 58.6 58.3 58.9 59.5
Brand royalties ............................ -- 3.3 2.2 3.3
Other cost of goods sold ................... 1.5 1.4 2.2 2.3
------ ------ ------- -------
Gross profit .................................... 57.1 53.6 54.5 53.9
Sales and marketing ........................ 23.6 25.9 24.1 25.3
General and administrative ................. 13.5 16.9 15.1 17.1
Research and development ................... 1.5 2.0 1.8 2.4
Restructuring costs ........................ -- -- -- 3.4
------ ------ ------- -------
Income from operations .......................... 18.5 8.8 13.5 5.7
Interest income (expense), net ............. (12.4) -- (4.5) --
Other income (expense), net ................ 0.2 -- 0.1 --
------ ------ ------- -------
Income before income taxes ...................... 6.3 8.8 9.1 5.7
Provision for income taxes ................. -- 3.6 2.8 2.3
------ ------ ------- -------
Net income ...................................... 6.3% 5.2% 6.3% 3.4%
====== ====== ======= =======
EBITDA (a) data:
Income from operations .......................... $5,635 $2,174 $11,454 $ 4,184
Restructuring costs ............................. -- -- -- 2,467
Depreciation and amortization ................... 1,240 1,164 3,691 3,621
------ ------ ------- -------
6,875 3,338 15,145 10,272
Brand royalties ................................. -- 817 1,817 2,420
Foreign sales corporation commissions ........... -- 110 -- 329
Eliminated Allocations .......................... -- 432 979 1,295
Other Corporate Allocations ..................... -- 420 832 1,259
Estimated costs to replace Smith & Nephew
services ................................... -- (200) (400) (600)
------ ------ ------- -------
Adjusted EBITDA (b) ............................. $6,875 $4,917 $18,373 $14,975
====== ====== ======= =======
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(a) "EBITDA" is defined as income from operations plus restructuring costs, and
depreciation and amortization. EBITDA is not a measure of performance under
generally accepted accounting principles. EBITDA should not be considered in
isolation or as a substitute for net income, cash flows from operating
activities and other income or cash flow statement data prepared in accordance
with generally accepted accounting principles, or as a measure of profitability
or liquidity. However, management has included EBITDA because it may be used by
certain investors to analyze and compare companies on the basis of operating
performance, leverage and liquidity and to determine a company's ability to
service debt. Our definition of EBITDA may not be comparable to that of other
companies.
(b) "Adjusted EBITDA" represents EBITDA (as defined above) adjusted to
eliminate:
(1) charges for brand royalties paid by the Company to Smith & Nephew
for use of the Smith & Nephew trademarks and trade names;
(2) foreign sales corporation commissions paid by the Company on sales
to foreign sales corporations established by Smith & Nephew for tax
planning purposes;
(3) Smith & Nephew overhead allocations for corporate managed accounts
and new business expense and corporate management expense which will
not be incurred following consummation of the recapitalization (the
"Eliminated Allocations");
(4) Smith & Nephew overhead allocations for research and development and
for amounts charged by Smith & Nephew for services provided to the
Company for finance (risk management, treasury, audit and taxes),
human resources and payroll and legal services (collectively, the
"Other Corporate Allocations");
and adjusted to include the estimated costs we expect to incur to replace the
services previously provided by Smith & Nephew as part of the Other Corporate
Allocations.
NINE MONTHS ENDED OCTOBER 2, 1999 COMPARED TO NINE MONTHS ENDED SEPTEMBER 26,
1998
NET REVENUES. Net revenues increased $12.2 million, or 16.8%, to $85.1 million
for the first nine months of 1999 from $72.8 million for the first nine months
of 1998. The first nine months of 1999 contained five more business days than
the first nine months of 1998, which resulted in approximately $2.2 million more
revenue in the first nine months of 1999 as compared to the first nine months of
1998. Net revenues for the rigid knee bracing segment increased $0.9 million
over the prior period due to increased sales of ligament braces, including the
introduction of the 4-titude brace. Soft goods sales increased by $4.9 million
over the prior period due primarily to increased sales volumes of neoprene
bracing products, wrist splints, ankle braces and other soft good supports.
These increases primarily reflect the effect of national contracts entered into
in the second half of 1998 as well as the growth of the OfficeCare program.
Specialty and other orthopedic products sales increased by $6.5 million over the
prior period due primarily to the recently introduced Painbuster pain management
delivery systems and to increased sales of lower extremity walkers as well as
the growth of the OfficeCare program
GROSS PROFIT. Gross profit increased $7.2 million, or 18.3%, to $46.4 million
for the first nine months of 1999 from $39.2 million for the first nine months
of 1998. Gross profit margin, exclusive of brand royalties and other cost of
goods sold not allocable to specific product lines, decreased to 58.9% from
59.5% as a result of increased soft goods and specialty and other orthopedic
product sales. Gross profit for the rigid knee bracing segment increased $1.1
million, with gross profit margin increasing to 72.0% from 70.6%. These
increases reflected the improved product mix. Gross profit for the soft goods
segment increased $2.4 million as a result of increased sales volume, with no
change in the gross profit margin. Gross profit for the specialty and other
orthopedic products segment increased $3.2 million, with substantially the same
gross profit margin between periods. These changes reflect the change in product
mix. As a result of the consummation of the recapitalization on June 30, 1999,
the Company no longer has the right to use the Smith & Nephew trademarks and
trade names and, accordingly, charges for brand royalties are no longer incurred
by the Company. In the first nine months of 1999, other cost of goods sold not
allocable to specific product lines increased primarily due to costs associated
with support of the SKU reduction plan, the OfficeCare program and the
amortization of the Painbuster pain management delivery system distribution
rights.
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SALES AND MARKETING EXPENSES. Sales and marketing expenses increased $2.1
million, or 11.6%, to $20.6 million for the first nine months of 1999 from $18.4
million for the first nine months of 1998. The increase primarily reflected an
increase in commissions associated with higher sales of DonJoy products in the
United States and increased costs associated with the OfficeCare program.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
increased $0.4 million, or 3.3%, to $12.9 million for the first nine months of
1999 from $12.4 million for the first nine months of 1998. The increase was
primarily due to an increase in salaries and benefits during the first nine
months of 1999. However, general and administrative expenses declined as a
percentage of revenues to 15.1% from 17.1%.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses were
approximately equal over the two periods. Significant resources were re-deployed
to focus primarily on the development of the VISTA System as well as the
development and release of the new 4-titude brace during the first nine months
of 1999.
LIQUIDITY AND CAPITAL RESOURCES
The Company's principal liquidity requirements are to service its debt and meet
its working capital and capital expenditure needs. On June 29, 1999, all
long-term intercompany obligations and certain other current liabilities owed to
Smith & Nephew were contributed to members' equity in accordance with the
recapitalization agreement. The Company's long-term indebtedness at October 2,
1999 was $113.4 million.
Net cash provided by operating activities was $14.9 million and $2.7 million in
the first nine months of 1999 and 1998, respectively. The increase of $12.2
million in the first nine months of 1999 reflects the increase in net income in
the first nine months of 1999 as compared to the first nine months of 1998,
a general decrease in working capital associated with decreased inventories and
a decrease in the Company's accounts receivable days sales outstanding of four
days from December 31, 1998.
Cash flows used in investing activities were $3.2 million and $3.6 million in
the first nine months of 1999 and 1998, respectively. Capital expenditures in
the first nine months of 1999 primarily reflected a payment relating to the
exclusive North American distribution rights for the PainBuster pain management
and relief systems. Capital expenditures in the first nine months of 1998
reflected leasehold improvements on the expanded Vista, California facility.
Cash flows provided by (used in) financing activities were $(5.5) million and
$0.8 million in the first nine months of 1999 and 1998, respectively. The
changes are a result of the change in intercompany obligations. Prior to the
recapitalization, the Company participated in Smith & Nephew's central cash
management program, wherein all of the Company's cash receipts were remitted to
Smith & Nephew and all cash disbursements were funded by Smith & Nephew. Upon
consummation of the recapitalization on June 30, 1999, the Company no longer
participated in Smith & Nephew's cash management program.
Interest payments on the Notes and on borrowings under the new credit facility
have significantly increased the Company's liquidity requirements. The new
credit facility provides for the term loan of $15.5 million, which was borrowed
in connection with the recapitalization, and up to $25.0 million of revolving
credit borrowings under the new revolving credit facility, which are available
for working capital and general corporate purposes, including financing of
acquisitions, investments and strategic alliances. As of October 2, 1999, the
Company had no borrowings outstanding under the new revolving credit facility.
Borrowings under the term loan and the new revolving credit facility bear
interest at variable rates plus an applicable margin. See Note 3 of Notes to
Unaudited Consolidated Financial Statements.
In addition, commencing with the year ending December 31, 1999, the Company is
required to make annual mandatory prepayments of the term loan under the new
credit facility in an amount equal to 50% of excess cash flow (as defined in the
new credit facility) (75% if the Company's leverage ratio exceeds a certain
level). In addition, the term loan is subject to mandatory prepayments in an
amount equal to (a) 100% of the net cash proceeds of certain equity and debt
issuances by the Company or any of its subsidiaries and (b) 100% of the net cash
proceeds
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of certain asset sales or other dispositions of property by the Company or any
of its subsidiaries, in each case subject to certain exceptions. The new credit
facility and the indenture impose certain restrictions on the Company, including
restrictions on its ability to incur indebtedness, pay dividends, make
investments, grant liens, sell its assets and engage in certain other
activities. In addition, the new credit facility requires the Company to
maintain certain financial ratios. Indebtedness under the new credit facility is
secured by substantially all of the assets of the Company, including the
Company's real and personal property, inventory, accounts receivable,
intellectual property and other intangibles.
The Company incurred fees and expenses of $8.7 million in connection with the
recapitalization. Approximately $7.2 million, principally relating to financing
fees and expenses, has been capitalized and will be amortized over the terms of
the related debt instruments.
As part of its strategy the Company intends to pursue acquisitions, investments
and strategic alliances. The Company may require new sources of financing to
consummate any such transactions, including additional debt or equity financing.
There can be no assurance that such additional sources of financing will be
available on acceptable terms if at all. The Company's ability to satisfy its
debt obligations and to pay principal and interest on its indebtedness,
including the notes, fund working capital requirements and make anticipated
capital expenditures will depend on its future performance, which is subject to
general economic, financial and other factors, some of which are beyond its
control. Management believes that based on current levels of operations and
anticipated growth, cash flow from operations, together with other available
sources of funds including the availability of borrowings under the new
revolving credit facility, will be adequate for the foreseeable future to make
required payments of principal and interest on the Company's indebtedness,
including the notes, to fund anticipated capital expenditures and for working
capital requirements. There can be no assurance, however, that the Company's
business will generate sufficient cash flow from operations or that future
borrowings will be available under the new revolving credit facility in an
amount sufficient to enable the Company to service its indebtedness, including
the notes, or to fund its other liquidity needs.
SEASONALITY
The Company generally records its highest net revenues in the first and fourth
quarters due to the greater number of orthopedic surgeries and injuries
resulting from increased sports activity, particularly football and skiing. In
addition, during the fourth quarter, a patient has a greater likelihood of
having satisfied his annual insurance deductible than in the first three
quarters of the year, and thus there is an increase in the number of elective
orthopedic surgeries. Conversely, the Company generally has lower net revenues
during its second and third quarters as a result of decreased sports activity
and fewer orthopedic surgeries. The Company's results of operations would be
adversely and disproportionately affected if the Company's sales were
substantially lower than those normally expected during its first and fourth
quarters.
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YEAR 2000
The Company has assessed it readiness for the Year 2000 by focusing on four key
areas: (1) internal infrastructure readiness, by addressing internal hardware
and software, and non-information technology systems; (2) product readiness, by
addressing the functionality of the Company's processes by which its products
are developed, manufactured and distributed; (3) supplier readiness, by
addressing the preparedness of key suppliers of the Company; and (4) customer
readiness, by addressing customer support and transactional activity. For each
readiness area, the Company is performing a risk assessment, conducting testing
and remediation, developing contingency plans to mitigate unknown risk, and
communicating with employees, suppliers, customers and other third parties to
raise awareness of the Year 2000 issue.
INTERNAL INFRASTRUCTURE READINESS. The Company, assisted by third parties, has
conducted an assessment of internal applications and computer hardware. Most
software applications have been made Year 2000 compliant, and resources have
been assigned to address other applications based on their importance and the
time required to make them Year 2000 compliant. The Year 2000 compliance
evaluation of hardware, including servers, desktops, telecommunication equipment
and non-information technology systems, has been completed. All software and
hardware remediation is expected to be completed no later than November of 1999.
PRODUCT READINESS. The Company has conducted an assessment to identify and
resolve possible Year 2000 issues existing in the Company's processes by which
it develops, manufactures and distributes its products. To date, the Company has
not identified any Year 2000 issues with such processes.
SUPPLIER READINESS. The Company has identified and contacted key suppliers to
solicit information on their Year 2000 readiness. To date, the responses the
Company has received indicate that the Company's key suppliers are in compliance
with Year 2000 requirements. Based on the Company's assessment of each
supplier's progress to adequately address the Year 2000 issue, the Company will
develop a supplier action list and contingency plans.
CUSTOMER READINESS. The Company has contacted key customers to assess their Year
2000 readiness. Based on the Company's assessment of each customer's progress to
adequately address the Year 2000 issue, the Company will develop a customer
action list and contingency plans. During 1998 and the first nine months of
1999, the Company expensed $359,000 for consulting services and software related
to compliance with Year 2000 requirements. The Company estimates that the future
costs of complying with the Year 2000 requirements will be approximately $4,000
in additional consulting and software and hardware purchases. The Company is
continuing its assessments and developing alternatives that will necessitate
refinement of this estimate over time. There can be no assurance, however, that
there will not be a delay in, or increased costs associated with, the remedial
actions described in this section. Since the efforts described above are
ongoing, all potential Year 2000 complications may have not yet been identified.
Therefore, while the Company continues to believe the Year 2000 issues discussed
above will not have a material adverse impact on its business, financial
condition or results of operations, it is not possible to determine with
certainty whether or to what extent the Company may be affected.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board issued SFAS No. 130,
Reporting Comprehensive Income. This standard is effective for fiscal years
beginning after December 15, 1997. SFAS No. 130 requires that all components of
comprehensive income, including net income, be reported in the financial
statements in the period in which they are recognized. Comprehensive income is
defined as the change in equity during a period from transactions and other
events and circumstances from non-owner sources. Net income and other
comprehensive income, including foreign currency translation adjustments and
unrealized gains and losses on investments, shall be reported, net of their tax
related tax effect, to arrive at comprehensive income. The adoption of SFAS 130
resulted in comprehensive income that was the same as net income.
Effective January 1, 1998, the Company adopted the Financial Accounting
Standards Board SFAS No. 131, Disclosures about Segments of an Enterprise and
Related Information. SFAS No. 131 superseded SFAS No. 14
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Financial Reporting for Segments of a Business Enterprise. SFAS No. 131
establishes standards for the way that public business enterprises report
information about operating segments in annual financial statements and requires
that those enterprises report selected information about operating segments in
interim financial reports. SFAS No. 131 also establishes standards for related
disclosures about products and services, geographic areas, and major customers.
The adoption of SFAS No. 131 did not affect results of operations or financial
position, but did affect the disclosure of segment information. See Note 7 of
Notes to Unaudited Consolidated Financial Statements for information regarding
industry segments.
FORWARD LOOKING STATEMENTS
This Quarterly Report on Form 10-Q contains forward-looking statements which are
made pursuant to the safe harbor provisions of the Private Securities Litigation
Reform Act of 1995. Such forward-looking statements are based on the beliefs of
our management as well as on assumptions made by and information currently
available to us at the time such statements were made. When used in this
Quarterly Report on Form 10-Q, the words "anticipate," "believe," "estimate,"
"expect," "intends" and similar expressions, as they relate to our company are
intended to identify forward-looking statements. Actual results could differ
materially from those projected in the forward-looking statements. Important
factors that could affect our results include, but are not limited to, (i) our
high level of indebtedness; (ii) the restrictions imposed by the terms of our
indebtedness; (iii) the ability to generate cash to service our debt; (iv)
healthcare reform and the emergence of managed care and buying groups; (v)
patents and proprietary know-how; (vi) uncertainty of domestic and foreign
regulatory clearance and approvals; (vii) dependence on orthopedic
professionals, agents and distributors; (viii) our dependence on certain key
personnel; (ix) risks related to competition in our markets; (x) risks related
to changing technology and new product developments; (xi) the sensitivity of our
business to general economic conditions; (xii) uncertainty relating to third
party reimbursement; (xiii) risks related to the success of our Year 2000
remediation efforts; and (xiv) the other risks referred to under the caption
"Risk Factors" in our Registration Statement on Form S-4 (SEC File No.
333-86835).
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to certain market risks as part of its ongoing business
operations. Primary exposure following consummation of the recapitalization
includes changes in interest rates. The Company is exposed to interest rate risk
in connection with the term loan which bears interest at floating rates based on
LIBOR or the prime rate plus an applicable borrowing margin. The Company will
manage its interest rate risk by balancing the amount of fixed and variable
debt. For fixed rate debt, interest rate changes affect the fair market value
but do not impact earnings or cash flows. Conversely for variable rate debt,
interest rate changes generally do not affect the fair market value but do
impact future earnings and cash flows, assuming other factors are held constant.
As of October 2, 1999, the Company had $100 million principal amount of fixed
rate debt represented by the Notes and $15.4 million of variable rate debt
represented by borrowings under the new credit facility (at an interest rate of
8.8125% at such time). Based on the Company's current balance outstanding under
the Term Loan, an immediate increase of one percentage point in the applicable
interest rate would cause an increase in interest expense of approximately $0.2
million on an annual basis. Up to $25.0 million of variable rate borrowings is
available under the new revolving credit facility. The Company may use
derivative financial instruments, where appropriate, to manage its interest rate
risks. The Company does not attempt to mitigate this risk through hedging
transactions. All of the Company's sales are denominated in U.S. dollars, thus
the Company is not subject to any foreign currency exchange risks.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is not a party to any material legal proceedings.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
10.1 Employment and Separation Agreement dated as of October 25, 1999 between
Chuck Bastyr and dj Orthopedics, LLC
27.1 Financial Data Schedule
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on November 19, 1999 on its
behalf by the undersigned thereunto duly authorized.
DJ ORTHOPEDICS, LLC
DJ ORTHOPEDICS CAPITAL CORPORATION
DONJOY, L.L.C.
(Registrant)
Date: November 19, 1999 BY: /s/ Leslie H. Cross
--------------------- -------------------------------------
Leslie H. Cross
President and Chief Executive Officer
(Principal Executive Officer)
Date: November 19, 1999 BY: /s/ Cyril Talbot III
--------------------- -------------------------------------
Cyril Talbot III
Chief Financial Officer and Secretary
(Principal Financial Officer)
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