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FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission file number: 0-26538
ENCORE MEDICAL CORPORATION
(Exact name of Registrant as specified in its charter)
Delaware 65-0572565
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
9800 Metric Boulevard
Austin, Texas 78758
(Address of principal executive offices) (Zip code)
512-832-9500
(Registrant's telephone number including area code)
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 such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
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Indicate the number of shares outstanding of each of the Registrant's
classes of common stock, as of the latest practicable date.
Title Outstanding
Common Stock 9,018,725
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
ENCORE MEDICAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
AS OF MARCH 31, 2000 AND DECEMBER 31, 1999
(in thousands, except share data)
(unaudited)
MARCH 31, DECEMBER 31,
2000 1999
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ASSETS
Cash $ 1 $ 1
Accounts receivable, net 6,130 4,454
Inventories 20,025 19,090
Prepaid expenses and other current assets 893 929
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Total current assets 27,049 24,474
Property, plant and equipment, net 6,077 6,218
Intangible assets, net 5,230 5,396
Other non current assets 784 827
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Total assets $ 39,140 $ 36,915
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LIABILITIES AND STOCKHOLDERS' EQUITY
Current portion - long-term debt $ 700 $ 734
Accounts payable and accrued liabilities 3,786 3,060
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Total current liabilities 4,486 3,794
Long-term debt, net of current portion 13,210 12,047
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Total liabilities 17,696 15,841
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Common stock, $0.001 par value, 35,000,000 shares
authorized, 9,340,000 shares issued 9 9
Additional paid-in capital 19,392 19,379
Deferred compensation (268) (288)
Retained earnings 3,732 3,275
Less cost of repurchased stock, warrants and rights
(321,663 and 278,000 shares, respectively) (1,421) (1,301)
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Total stockholders' equity 21,444 21,074
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Total liabilities and stockholders' equity $ 39,140 $ 36,915
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The accompanying notes are an integral part of the consolidated financial
statements.
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ENCORE MEDICAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
FOR THE THREE MONTHS ENDED MARCH 31, 2000 AND APRIL 2, 1999
(in thousands, except per share amounts)
(unaudited)
THREE MONTHS ENDED
MARCH 31, APRIL 2,
2000 1999
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Sales $ 8,501 $ 6,831
Cost of goods sold 2,975 2,196
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Gross margin 5,526 4,635
Operating expenses:
Research and development 459 356
Selling, general and administrative 4,150 3,396
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Operating income 917 883
Interest income 3 3
Interest expense (288) (142)
Other income 50 26
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Income before income taxes 682 770
Current provision for income taxes 225 254
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Net income $ 457 $ 516
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Basic earnings per share $ 0.05 $ 0.06
Shares used in computing basic earnings
per share 9,023,000 9,166,000
Diluted earnings per share $ 0.05 $ 0.05
Shares used in computing diluted earnings
per share 10,165,000 10,480,000
The accompanying notes are an integral part of the consolidated financial
statements.
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ENCORE MEDICAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOW
FOR THE THREE MONTHS ENDED MARCH 31, 2000 AND APRIL 2, 1999
(in thousands)
(unaudited)
THREE MONTHS ENDED
MARCH 31, APRIL 2,
2000 1999
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CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 457 $ 516
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation and amortization 725 534
Lease income recognized (2) 0
Loss on disposal of assets 7 0
Changes in operating assets and liabilities:
Increase in accounts receivable (1,676) (968)
Increase in inventories (935) (1,005)
Decrease (increase) in prepaid expenses and other
assets (213) (1,223)
Increase in accounts payable and accrued expenses 726 776
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Net cash used in operating activities (485) (1,370)
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CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of Biodynamic Technologies, Inc. 0 (1,114)
Purchases of property and equipment (474) (772)
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Net cash used in investing activities (474) (1,886)
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CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of stock 0 88
Payments to acquire treasury stock (120) (474)
Payments on payable to a related party 0 (800)
Payments on long-term debt (196) (115)
Proceeds from long-term debt 1,275 4,576
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Net cash provided by financing activities 959 3,275
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Net increase in cash equivalents 0 19
Cash and cash equivalents at beginning of period 1 1
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Cash and cash equivalents at end of period $ 1 $ 20
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The accompanying notes are an integral part of the consolidated financial
statements.
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ENCORE MEDICAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The accompanying consolidated financial statements include the accounts
of Encore Medical Corporation, a Delaware corporation, and its wholly owned
subsidiaries (individually and collectively referred to as the "Company"). All
significant intercompany balances and transactions have been eliminated in
consolidation. The unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X. Accordingly, they do not include all of the information and
notes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the three-month period ended March 31,
2000, are not necessarily indicative of the results that may be expected for the
year ending December 31, 2000. For further information, refer to the
consolidated financial statements and footnotes thereto included in the
Company's Form 10-K dated December 31, 1999 (the "Form 10-K").
2. DESCRIPTION OF BUSINESS
The Company, through its primary operating subsidiary, Encore
Orthopedics, Inc. ("Encore"), designs, manufactures, markets and sells products
for the orthopedic implant industry primarily in the United States, Europe and
Asia.
The Company's products are subject to regulation by the Food and Drug
Administration ("FDA") with respect to their sale in the United States, and the
Company must obtain FDA authorization to market each of its products before it
can be sold in the United States. Additionally, the Company is subject to
similar regulations in many of the international countries in which it sells
products.
3. ACQUISITION OF BIODYNAMIC TECHNOLOGIES, INC.
On March 30, 1999, the Company and Biodynamic Technologies, Inc.
("BTI") executed a stock purchase agreement whereby the Company purchased
substantially all of the outstanding stock of BTI in exchange for cash and
promissory notes payable to the former shareholders of BTI. This acquisition has
been accounted for as a purchase and, accordingly, the net assets of BTI at
March 30, 1999, have been consolidated into the accompanying financial
statements. The terms of the agreement require a total cash payment of
$1,098,000 and notes payable in an aggregate amount of $3,166,000. For financial
purposes, $140,000 of the purchase price was treated as purchased technology,
which is being amortized over seven years, and $4,190,000 was treated as
goodwill, which is being amortized over 15 years.
4. INVENTORIES
Inventories at March 31, 2000 and December 31,1999 are as follows (in
thousands):
MARCH 31, DECEMBER 31,
2000 1999
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Components and raw materials $ 4,235 $ 3,953
Work in process 1,952 1,097
Finished goods 14,555 14,811
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20,742 19,861
Less-reserve for obsolescence (717) (771)
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$20,025 $19,090
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5. NET INCOME PER SHARE
Net income per share is computed based on the weighted average number
of outstanding common and common equivalent shares, using methodology required
in Statement of Financial Accounting Standards ("SFAS")
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No. 128, "Earnings per Share." Common equivalent shares are not included in the
per share calculation where the effect of their inclusion would be
anti-dilutive.
The reconciliation of the denominators used to calculate the basic and
diluted earnings per share for the periods ended March 31, 2000 and April 2,
1999, respectively, are as follows (in thousands):
QUARTER ENDED QUARTER ENDED
MARCH 31, 2000 APRIL 2, 1999
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Weighted average shares outstanding-basic 9,023 9,166
Plus: Common stock equivalents 1,142 1,314
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Weighted average shares outstanding-diluted 10,165 10,480
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Options and warrants to purchase 1,591,458 and 4,670,597 shares of common stock,
respectively, were outstanding at March 31, 2000, but were not included in the
computation of diluted EPS because their exercise price was greater than the
average market price of the common shares.
6. SEGMENT INFORMATION
In June 1997, the Financial Accounting Standards Board issued SFAS No.
131, "Disclosures about Segments of an Enterprise and Related Information,"
which the Company adopted in the first quarter of 1998. The statement supersedes
SFAS No. 14 "Financial Reporting for Segments of a Business Enterprise,"
replacing the "industry segment" approach with the "management" approach. The
management approach designates the internal organization that is used by
management for making operating decisions and assessing performance as the
source of the Company's reportable segments. It also requires disclosures about
products and services, geographic areas and major customers.
While the Company sells its products to many different markets, its
management has chosen to organize the Company by geographic areas and, as a
result, has determined that it has one reportable segment. All selling and
administrative expenses, interest income, interest expense, depreciation and
amortization is recorded in the United States. In addition, all identifiable
assets are located in the United States except as noted below.
During the periods ended March 31, 2000 and April 2, 1999, the
Company's international sales were primarily to a few foreign distributors, two
of which have accounted for over 25% of total Company sales during such periods.
Following are the Company's international sales by geographic area (in
thousands), the percentage of total Company sales generated by two of the
distributors, and identifiable assets located outside the United States (in
thousands):
FOR THE QUARTER ENDED
MARCH 31, 2000 APRIL 2, 1999
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Net Sales:
United States $5,099 $4,660
Europe 1,741 1,907
Asia 1,661 264
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$8,501 $6,831
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Significant Customers:
Distributor A 14% 24%
Distributor B 17% Less than 10%
Identifiable Assets:
Europe $ 227 $ --
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Net sales of orthopedic products by product category are as follows (in
thousands):
FOR THE QUARTER ENDED
MARCH 31, 2000 APRIL 2, 1999
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Reconstructive $7,656 $6,409
Fixation 691 414
Other 154 8
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$8,501 $6,831
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2000, AS COMPARED TO
THE THREE MONTHS ENDED APRIL 2, 1999.
Sales were $8,501,000 for the quarter ended March 31, 2000, representing an
increase of $1,670,000 or 24.4% over the quarter ended April 2, 1999.
International sales increased $1,231,000 or 56.7% compared to the same period in
1999 primarily due to the addition of several new distributors to Encore's
international sales force in the latter half of 1999. The impact of these new
distribution agreements is becoming visible in the first quarter 2000 results.
U.S. sales also increased $439,000 or 9.4% over the quarter ended April 2, 1999
as a result of Encore's focus on expanding the number of domestic sales agents.
As a result of the improvements in both domestic and international sales, gross
margin has increased $891,000 or 19.2% compared to the first quarter of 1999.
The decline in gross margin as a percent of sales from 68% in 1999 to 65% during
the first quarter of 2000, was due primarily to the geographic mix of sales
since international sales to distributors carry a lower gross margin than sales
to domestic customers. Additionally, the product mix between implants and
instrument sales negatively affected the gross margin this quarter. However,
this mix was expected for the quarter due to the strong international sales.
Recognizing the importance of new product development to sustained sales growth,
Encore has continued to invest in research and development activities as
demonstrated by increased expenses of $103,000, a 28.9% increase over the first
quarter of 1999. Current activities include development and testing of a mobile
bearing knee and development of a revision hip system.
Even as sales increased in the first quarter of 2000, Encore continued to expend
resources to promote its products and expand its sales force. Evidence of this
can be found in the 22.2% increase in selling, general and administrative
expenses from the prior year first quarter to a total of $4,150,000. Additional
expenses were incurred for commissions and royalties due to higher sales, agency
rights amortization, and goodwill amortization primarily related to the
acquisition of BTI.
The net effect of the increase in sales combined with the additional spending
was a 3.9% increase in operating income to $917,000 in 2000, as compared to
$883,000 for the quarter ended April 2, 1999.
Interest expense increased $146,000 for the three months ended March 31, 2000,
to $288,000 as compared to the same period in the prior year. This was due to an
increase in the average line of credit balance over this same period last year,
rising interest rates, and the addition of interest on notes payable related to
the acquisition of BTI on March 30, 1999.
Overall, net income for the quarter ended March 31, 2000, decreased $59,000 from
1999 to $457,000. Reduced gross margins and the increased spending explained
above offset the improvement in sales to produce a slight decline in total net
income.
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LIQUIDITY AND CAPITAL RESOURCES
Since inception, the Company has financed its operations through the sale of
equity securities, borrowings and cash flow from operations. The Company has
available to it a $15 million revolving credit facility (the "Credit Facility").
As of March 31, 2000, the Company had drawn approximately $10 million. A
distinguishing feature of the Credit Facility is that Encore's cash management
services are intermingled with it. Encore's bank accounts sweep, on a daily
basis, funds to either reduce or increase the loan balance, as needed, and
invest any excess funds, if the loan balance equals zero, in a money market
account. As such, the outstanding loan balance is adjusted daily based on the
net amount of cash receipts versus cash outlays, while the cash balance at Wells
Fargo remains at zero as long as Encore is a net borrower. This sweep feature
minimizes interest expense and automatically invests any excess funds.
The Company's continued strong growth has resulted in an increase in its capital
requirements. This growth is now primarily funded by the Credit Facility and
cash generated from operations to meet its working capital needs. As of March
31, 2000, the Company had net working capital of approximately $23 million as
compared to $21 million at December 31, 1999. This increase was primarily due to
increases in inventory and accounts receivable offset by increases in accounts
payable and accrued expenses.
FORWARD LOOKING STATEMENTS
The foregoing Management's Discussion and Analysis contains various
"forward looking statements" within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934 which
represent Encore's expectations or beliefs concerning future events, including,
but not limited to, statements regarding growth in sales of Encore's products,
profit margins and the sufficiency of Encore's cash flow for its future
liquidity and capital resource needs. These forward looking statements are
further qualified by important factors that could cause actual results to differ
materially from those in the forward looking statements. These factors include,
without limitation, the effect of competitive pricing, Encore's dependence on
the ability of its third-party manufacturers to produce components on a basis
which is cost-effective to Encore, market acceptance of Encore's products and
effects of government regulation. Results actually achieved may differ
materially from expected results included in these statements as a result of
these or other factors.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
1. Exhibits. See Index to Exhibits
2. Reports on Form 8-K. None
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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 its behalf by the
undersigned, thereunto duly authorized.
May 10, 2000 By: /s/ NICK CINDRICH
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Date Nick Cindrich, Chairman of the Board
and Chief Executive Officer
May 10, 2000 By: /s/ AUGUST FASKE
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Date August Faske, Vice President - Finance,
Chief Financial Officer
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INDEX TO EXHIBITS
Exhibit
Number Description of Exhibit
- -------- ----------------------
(2) No exhibit
(4) No exhibit
(10) No exhibit
(11) No exhibit
(15) No exhibit
(18) No exhibit
(19) No exhibit
(22) No exhibit
(23) No exhibit
(24) No exhibit
(27) Financial data schedules
(99) No exhibit