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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended: June 30, 2001
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from ________________ to _________________
Commission file number: 000-12471
COLORADO MEDTECH, INC.
(Exact name of registrant as specified in its charter)
COLORADO 84-0731006
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
6175 LONGBOW DRIVE, BOULDER, COLORADO 80301
(Address of principal executive offices, including zip code)
(303) 530-2660
(Registrant's Telephone Number, including area code)
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE EXCHANGE ACT: None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE
EXCHANGE ACT:
COMMON STOCK (NO PAR VALUE)
(Title of Class)
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
--- ---
Indicate by check mark if disclosure of delinquent filers in response
to Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K. [ ]
The aggregate market value of the voting and nonvoting common stock
held by nonaffiliates computed by reference to the average bid and asked prices
of such stock as of August 31, 2001 was $37,495,761.
The number of shares outstanding of the issuer's Common Stock as of
August 31, 2001 was 12,972,219.
DOCUMENTS INCORPORATED BY REFERENCE: The following documents (or
portions thereof) are incorporated by reference into the Parts of this Form 10-K
noted:
Part III incorporates by reference from Registrant's definitive Proxy Statement
for the Registrant's 2001 Annual Meeting of Stockholders to be filed with the
Securities and Exchange Commission pursuant to Regulation 14A under the
Securities Exchange Act of 1934 not later than 120 days after the end of the
fiscal year covered by this Form.
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PART I
ITEM 1. DESCRIPTION OF BUSINESS.
Colorado MEDtech, Inc. is a Colorado corporation incorporated in 1977 and
is a leading full-service provider of advanced medical products and
comprehensive outsourcing services. Colorado MEDtech's operating units and their
principal activities are:
o RELA DIVISION ("RELA")
provides custom product development and manufacturing outsourcing
services, specializing in the design and development of
diagnostic, biotechnology and therapeutic medical devices,
medical software systems and medical device connectivity. RELA
also provides manufacturing services for electronic and
electromechanical medical devices and instrumentation systems
assembly for major original equipment manufacturers ("OEM");
o IMAGING AND POWER SYSTEMS DIVISION ("IPS")
designs, develops and manufactures a broad range of imaging
system hardware and software, including advanced magnetic
resonance imaging ("MRI") systems and application software,
high-performance radio frequency ("RF") amplifiers for MRI
systems and high-voltage x-ray generator subsystems for computed
tomography ("CT") scanners; and
o CIVCO MEDICAL INSTRUMENTS CO., INC. ("CIVCO")
SUBSIDIARY OF COLORADO MEDTECH
designs, develops, manufactures and distributes specialized
medical accessories and supplies for imaging equipment and for
minimally invasive surgical equipment.
During fiscal 2001, we re-structured to focus on our core markets of
Medical Technology and Software Services and Medical Imaging Products and
Services. As a part of this effort, we phased out two business units, CMED
Automation division ("CMED Automation") and BioMed Y2K, Inc. ("BioMed"). In
addition, we integrated the CMED Manufacturing division into RELA and sold the
CMED Catheter and Disposables Technology, Inc. ("CDT") subsidiary in April 2001.
The activities of these business units were as follows:
o CDT
designed, developed and manufactured unique disposable medical
devices, primarily catheters, used in angioplasty, minimally
invasive surgery, electrophysiology and infertility treatment;
o CMED AUTOMATION
designed, developed and manufactured automation systems for
medical device and associated businesses; and
o BIOMED
provided software tools and services to support healthcare
institutions' efforts to establish Year 2000 compliance for their
biomedical devices.
On December 29, 2000, we acquired certain operating assets of the
ultrasound accessories and supplies business of ATL Ultrasound ("ATL") for
$4,384,000. As of June 30, 2001, we had paid
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approximately $3,884,000 in cash and had accrued approximately $500,000 for
future payments for the acquisition. The products acquired include ultrasound
supplies, print media and biopsy brackets and guides which are sold principally
to end users such as hospitals, clinics and doctors. In connection with this
acquisition, we entered into a business development agreement under which ATL
will work with us to develop additional customer accessories and participate in
co-marketing efforts for products, and will refrain from competing with us in
the area of ultrasound supplies.
PRODUCTS AND SERVICES
Colorado MEDtech is a leading full-service One Source OutSource(TM)
provider of advanced medical technology outsourcing services, including device
and disposables development, software, medical device connectivity,
manufacturing, system components for medical imaging and ultrasound accessories.
Outsourcing Services
Our outsourcing services consist of design, development and manufacture of
medical products and software development, including medical device
connectivity, for major medical device and biotechnology companies.
Our principal outsourcing markets and services include:
o Medical therapeutic and diagnostic devices - we design and
develop complex electronic and electromechanical instruments for
the detection and treatment of disease.
Our therapeutic projects are performed for companies who sell
patient therapy products. These products are used in surgery, for
the treatment of medical conditions, and for monitoring patients.
They include devices such as infusion pumps, surgical devices,
blood oxygen monitors and devices for cardiovascular treatment.
Our diagnostic projects are performed for companies involved in
selling in-vitro diagnostic products, biotechnology systems and
laboratory equipment. Typically, these instruments detect,
measure or monitor the concentration of a target chemical or
biological component in a fluid sample. Products in the
diagnostic market can be placed in two categories:
Clinical diagnostic instruments - devices which are located
in a laboratory and used for analyzing patient samples;
Biotechnology - these devices include cellular and molecular
biology systems, automated DNA sample preparation, genetic
probe systems and DNA systems for isolation and
identification.
o Medical imaging systems - we design and develop advanced
application software and major subsystem hardware. Our work in
this area includes the development of leading-edge MRI software,
cardiac and vascular diagnostic application software and
high-density RF amplifier systems. Contracts in this business
area are undertaken with major OEMs in the imaging system market.
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o Medical software and medical device connectivity - we develop
software for electronic and electromechanical medical products
and provide medical software verification and validation
services. Our software and medical device connectivity projects
are performed for customers who produce therapeutic,
pharmaceutical or diagnostic instruments. The projects are
generally the development of software for use in a device, and/or
verification and validation services to ensure the quality and
reliability of software to be used in medical devices. Colorado
MEDtech's medical device connectivity technology platform permits
our clients to develop devices that can access clinical data from
remote sites, remotely maintain and troubleshoot devices, and to
enable remote upgrade to device software.
o Manufacturing - we manufacture complex electronic and
electromechanical medical devices and medical imaging products
such as high-power systems and systems support modules for MRI
systems and x-ray generators for CT scanners. We are registered
device manufacturers with the U.S. Food and Drug Administration
("FDA") and are required to meet the agency's Quality System
Regulation ("QSR"). Our manufacturing projects include
pre-production engineering and commercialization services,
turnkey manufacturing of FDA Class II and Class III devices and
system test services.
Our design and development projects generally include product concept
definition, development of specifications for product features and functions,
product engineering specifications, instrument design, development, prototype
production and testing, and development of test specifications and procedures.
Our outsourcing services are performed by engineers, scientists,
technicians, manufacturing specialists and assembly workers. We believe our
experience in applying our proven methodologies and advanced technologies to the
development of innovative new products gives our clients an advantage in their
marketplace by providing them with state-of-the-art, quality products in a
timely and cost-effective manner.
Rapidly advancing technologies, heightened worldwide competition and the
demands of an increasingly sophisticated marketplace have created pressures on
companies, both domestic and international, to develop high quality,
cost-effective, world-class products in time to meet the narrowing windows of
opportunity in the marketplace. These conditions have produced opportunities for
companies that can react to those market needs. Such companies need to have the
technology, experience and ability to develop high quality, state-of-the-art
products. We believe we are uniquely positioned to provide our clients, within a
single integrated structure, the valuable product development and manufacturing
resources they need to satisfy the requirements of a worldwide marketplace.
Medical Products
Our current products are accessories and supplies for ultrasound imaging
equipment and high performance power amplifier systems for use in medical
imaging systems, such as MRI machines and CT scanners.
Our ultrasound imaging equipment accessories and supplies feature
specialized medical products used to complement ultrasound imaging equipment and
minimally invasive surgical equipment:
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o Image-guided biopsy systems, composed of a mechanical bracket
attached to an ultrasound imaging transducer and a guide for
directing a biopsy needle or other invasive instrument.
o Equipment covers, composed of latex or polyurethane sheaths that
provide a viral barrier between the ultrasound equipment and the
patient and operator.
Our ultrasound imaging equipment accessories and supplies are sold to
large, multi-national medical ultrasound imaging companies, to international
distributors of imaging products, and to end users such as hospitals, clinics
and doctors.
Our medical imaging power system products line features:
o High-performance power delivery subsystems for medical
applications. By combining direct current ("DC"), RF, digital and
system control technologies, we produce advanced power products.
Our solid state amplifier product line represents
state-of-the-art RF technology MRI applications.
o High-voltage x-ray generators for CT scanners.
Our imaging power generation and amplification products are sold to large,
multi-national medical imaging companies who integrate the power subsystems into
their imaging systems.
Financial information about our business segments is contained in the
Consolidated Financial Statements and notes thereto contained in this report.
MARKETING
We market our services through a direct sales force and independent
representatives. We market our imaging power generation and amplification
products through a direct sales force. We market our imaging equipment
accessories and supplies directly to ultrasound imaging equipment manufacturers,
through joint marketing programs with such manufacturers, through an
international distribution partner network and through telephone and web-based
sales to end users. We promote our services and products through advertising,
direct mail and exhibition at industry trade shows.
SIGNIFICANT CUSTOMERS AND BACKLOG
For the year ended June 30, 2001, two customers each accounted for more
than 10% of our total revenues: GE Medical Systems (GEMS) - 19%, and Hitachi
Medical Corporation - 16%. For the year ended June 30, 2000, GEMS accounted for
19% of our total revenues, Gen-Probe Incorporated accounted for 11% and Hitachi
accounted for 13%. Due to the nature of our business, we typically receive about
35% to 45% of our total revenues from two to three customers in any given year.
It is also typical that revenues from these customers account for a very high
percentage of our total revenues for a one to three year period, then be
replaced by other large customers. Foreign sales accounted for 25% and 22% of
our total sales in fiscal 2001 and 2000, respectively. The loss of a significant
customer could have a material, adverse impact on our operations and financial
condition.
We account for our business in two business segments - outsourcing services
and medical products. For the year ended June 30, 2001, two customers each
accounted for more than 10% of Colorado MEDtech's outsourcing revenues: Hitachi
- 16% and Gen-Probe - 12%. In the Outsourcing Services segment, we do not expect
Hitachi or Gen-Probe to exceed 10% of sales in fiscal year 2002, due to the
cancellation of these contracts. See also "Item 3 -- Legal Proceedings." For the
year ended June 30, 2000, Gen-Probe accounted for 19% of our outsourcing
revenues, Hitachi - 14% and 10% from a
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customer we are prohibited by contract from identifying. During the last two
quarters of fiscal 2001, our outsourcing revenues were less concentrated, spread
over a larger number of customers.
For the year ended June 30, 2001, two customers each accounted for more
than 10% of Colorado MEDtech's medical products segment revenue: GEMS - 35% and
Hitachi - 16%. Because our manufacturing activities for Hitachi are winding
down, we do not expect Hitachi to exceed 10% of medical products sales in fiscal
year 2002. For the year ended June 30, 2000, two customers each accounted for
more than 10% of Colorado MEDtech's medical products revenue: GEMS - 45% and
Hitachi - 11%.
Orders booked during fiscal year 2001 were approximately $91 million (net
$85 million after cancellations of approximately $6 million), compared to orders
booked of approximately $74 million (net $65 million after contract
cancellations of approximately $9 million) in fiscal year 2000. At June 30,
2001, our backlog of orders for services or shipment of product in fiscal 2002
was approximately $37 million compared to approximately $29 million at June 30,
2000.
RESEARCH AND PRODUCT DEVELOPMENT
We intend to continue to develop new products and services for a broad
range of customers. In addition to internal development efforts, we may license
or acquire related technologies and/or products from external resources.
While we employ approximately 172 engineers, scientists and technicians in
research and development activities, these employees' efforts are primarily
devoted to contract work for customers and in such cases their expenses are
included in the cost of sales and services. During fiscal year 2001, research
and development expenses were attributable to RF solid state amplifier systems,
medical device connectivity, ultrasound guidance systems and covers, and high
voltage x-ray generators for CT scanners. For fiscal years 2001, 2000 and 1999,
we incurred approximately $5,077,000, $4,026,000 and $2,878,000, respectively,
for research and development activities.
Consistent with our operating plans, we are continuously pursuing alliances
and the acquisition and development of new or improved technologies or products.
Should we identify any opportunities that would be commercially viable and are
in line with management's strategies, the amount of future research and
development expenditures may increase. We currently anticipate research and
development expenditures for fiscal year 2002 to be generally consistent with
those of fiscal year 2001.
COMPETITION
The market for medical outsourcing and products is highly competitive. The
principal competitive factors are reputation, quality, price and schedule. Our
present and future competition comes from a variety of sources. These sources
include consulting, commercial product development and manufacturing companies.
There are a number of firms that provide services similar to ours. These vary
from small consulting operations offering a small subset of our services to a
few integrated service companies. Competitors for our outsourcing services
include Plexus Corporation, Relsys International, Inc., Analogic Corporation,
ACT Manufacturing, Inc., KMC Systems, Inc., Nova Biomedical, UMM Electronics,
Inc., and Sparton Corporation. The principal competitor for our ultrasound
imaging power generation products is Analogic Corporation. The principal
competitors for our imaging accessories products are the internal development
departments of the imaging manufacturers to whom CIVCO sells.
On a lesser scale, we also compete with commercial and university research
laboratories. There are both for-profit and not-for-profit organizations
nationwide that perform services similar to the product
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development aspect of our business. These include Battelle, Inc., Stanford
Research Institute, Arthur D. Little Center for Product Development, Southwest
Research Institute and the research capabilities within the nation's leading
universities.
As we develop and manufacture other proprietary products and as we expand
our services in medical device connectivity, we can expect to encounter
additional competitors, many of which may be larger and in a stronger financial
position than we. As cost containment efforts continue in the healthcare
marketplace, competition will continue to be intense.
In January 2001 we received a warning letter from the FDA regarding the
quality system at our Longmont, Colorado medical manufacturing operation.
Because of this, we believe our ability to compete for medical manufacturing and
medical device development has been weakened. As of the date of this report, the
warning letter has not been resolved. We anticipate that the negative effects of
the warning letter will continue until it is resolved and for an undetermined
period thereafter.
MANUFACTURING
We manufacture our proprietary products and customer products at facilities
in Boulder and Longmont, Colorado, and Kalona, Iowa. Most products are built in
response to specific customer purchase orders, while others are fabricated as
standard products. The manufacturing process consists primarily of assembly,
test, sterilization and packaging of both custom and commercially available
components from outside sources. In addition, we machine certain parts in our
Boulder, Colorado facility and machine and mold certain parts in our Kalona,
Iowa facility.
Most of the materials and components used in our products are available
from a number of different suppliers. We generally maintain multiple sources for
most items, but some components are single source. We are dependent upon our
suppliers for timely delivery of quality components. To date, we have not
experienced significant delays in the delivery of such components.
PRODUCT WARRANTIES AND SERVICE
Warranty periods for our products range from 90 days to 12 months, but in
limited cases for up to 18 months, against defects in materials and workmanship.
We have established a provision for estimated expenses of providing service
under these warranties. Non-warranty service is billed to the customer as
performed.
GOVERNMENT REGULATION
We are a registered device manufacturer with the FDA. The Medical Device
Amendments of 1976 to the Food, Drug and Cosmetic Act (the "Act") and
regulations issued or proposed thereunder, including the Safe Medical Devices
Act of 1990, provide for regulation by the FDA of the marketing, design,
manufacturing, labeling, packaging and distribution of medical devices. These
regulations apply to our products and many of our customers' products. The Act
and the regulations include requirements that manufacturers of medical devices
register with and furnish lists of devices manufactured by them to the FDA.
Prior to marketing a medical device, FDA clearance must be obtained. Tests to be
performed for approval range from bench-test data and engineering analysis to
potentially expensive and time-consuming clinical trials. The types of tasks for
a particular product submission are indicated by the classification of the
device and previous approvals for similar devices. There are also certain
requirements of other federal laws and of state, local and foreign governments,
which may apply to the manufacture and marketing of our products.
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The FDA's Quality System Regulation ("QSR") for medical devices sets forth
standards for the design and manufacturing processes that require the
maintenance of certain records and provide for unscheduled inspections of our
facilities. Our procedures and records were reviewed by the FDA during routine
general inspections in 1995 and each year from 1997 to 2000.
On January 25, 2001, we received a warning letter from the FDA regarding
certain areas in which our Longmont, Colorado contract medical device
manufacturing facility was not in conformance with the QSR. The letter requires
us to perform various actions to the FDA's satisfaction to ensure that
requirements under the QSR are met prior to the Company resuming manufacture of
certain classes of medical devices. If we fail to address the areas of
non-conformance, the FDA could seize our facilities, seek injunctive relief
against us and/or seek to impose civil penalties. This could have an adverse
material effect on our operations and prospects. We have taken actions to
strengthen our quality systems and address the areas of non-conformance
presented by the FDA. We revised our quality system, hired experienced and
qualified personnel to strengthen our quality organization and we specifically
addressed each of the FDA's observations. The FDA warning letter has had a
significant adverse effect on the medical device development and manufacturing
portions of our business. It has adversely affected our ability to ship certain
medical devices we manufacture and our ability to book new sales for medical
device development and manufacturing projects. During the year ended June 30,
2001, we spent approximately $1.5 million in addressing the issues raised in the
warning letter and to improve our quality system generally.
The ISO 9000 series of quality management and quality assurance standards
has been adopted by over 90 countries. ISO standards require that a quality
system be used to guide work to assure quality and to produce quality products
and services. ISO 9001, the most comprehensive of the standards, covers 20
elements. These elements include management responsibility, design control,
training, process control and servicing. ISO 9001 is the quality systems
standard used by companies providing design, development, manufacturing,
installation and servicing. Our quality systems are ISO 9001 and EN 46001
certified.
There are no material costs or expenses associated with our compliance with
federal, state and local environmental laws.
INTELLECTUAL PROPERTY
We hold six United States patents of varying duration which cover the
design and manufacture of a portion of our imaging accessories and power system
products. From time to time we file patent applications and continuations to
cover new and improved methods, apparatus, processes, designs and products. At
present, there are five United States patent applications and office actions
pending relating to information technology systems, needle guides and sensor
positioning devices. We plan to make additional patent applications as
appropriate.
We have one registered mark with the United States Patent and Trademark
Office and have three U.S. trademarks or servicemarks pending. We plan to make
additional trademark, service mark, and certification mark applications as
appropriate.
In addition to the patents, we try to protect our proprietary technology
and know-how through established security practices and confidentiality
agreements with each of our employees, consultants, suppliers and technical
advisors. There can be no assurance, however, that these
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agreements or procedures will provide meaningful protection for our trade
secrets in the event of unauthorized use or disclosure of such information.
While the CIVCO business has maintained the practice, where possible, of
obtaining patent protection on its products, we believe that the conduct of our
medical products business is not dependent upon our ability to obtain or defend
patents. We believe that any legal protection afforded by patent, copyright, and
trade secret laws are of secondary importance as a factor in our ability to
compete in the imaging accessories and power systems markets; our future
prospects in those markets are more a function of the continuing level of
excellence and creativity of engineers in developing products which satisfy
customer needs, and the innovative skills, competence and marketing and
managerial skills of our personnel in selling those products.
The patents we hold provide barriers to competition in applicable portions
of the imaging accessories and power systems portion of our medical product
business. The loss of some or all of the protection of the patents could make it
easier for other companies to enter our market and compete against us by eroding
our ability to differentiate ourselves on the basis of technical superiority.
While we believe the protection afforded by the patents is strong, there can be
no assurance that other companies will not be able to design and build competing
products in a manner that does not infringe the patents.
EMPLOYEES
As of June 30, 2001, we had 535 employees, of which 524 were full-time. 77%
of our employees were employed at our Colorado facilities and 23% of employees
were employed in Kalona, Iowa. No employees are represented by labor
organizations and there are no collective bargaining agreements. We believe our
employee relations are good.
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ITEM 2. DESCRIPTION OF PROPERTY.
With the exception of the CIVCO facility, our operations are located in
leased facilities. The following table contains a summary of the significant
terms of the leases:
<Table>
<Caption>
LEASE AVERAGE
FACILITY OPERATIONS SQUARE FEET EXPIRES MONTHLY RENT
-------- ---------- ----------- ------- ------------
6175 Longbow Drive, Corporate headquarters, RELA 52,000 6/30/02 $37,200
Boulder, Colorado
410 South Sunset Street, RELA 18,000 6/30/02 $14,200
Longmont, Colorado
RELA 11,000 8/31/03 $ 5,400
345 S. Francis
Longmont, Colorado
1811/1821 IPS 30,000 7/31/02 $13,900
Lefthand Circle
Longmont, Colorado
1510 Nelson Road, IPS 18,079 6/30/02 $ 7,300
Longmont, Colorado
</Table>
In addition to the rent set forth in the table above, we are responsible
for certain expenses associated with the properties, including property taxes,
insurance and maintenance. We also lease miscellaneous space on a month to month
basis in Boulder and Longmont of approximately 10,000 square feet.
We are currently in the process of identifying lease properties in which to
centralize all of our Colorado operations into one facility. If a move to a
single facility occurs, we expect it to take place in late fiscal year 2002 or
early fiscal year 2003.
We own the land and building which houses the development and manufacturing
facilities of CIVCO, located at 102 First Street South, Kalona, Iowa. The
building consists of 25,000 square feet of office and light manufacturing space.
Because of increased demand for CIVCO products, we expect to purchase a one-acre
plot of land adjacent to the CIVCO property for $114,000 and we plan to build an
approximately 18,000 square foot addition to the CIVCO building on such
property.
We own a 10.91-acre parcel of industrial-zoned vacant land in Louisville,
Colorado (the "Louisville Parcel"). It is the opinion of management that, as the
Louisville Parcel is vacant land, it is not necessary to provide insurance
coverage for the property. At June 30, 2001, we are holding the land as
available-for-sale. Notwithstanding our ownership of the Louisville Parcel, it
is not our policy to invest in real estate or interests in real estate, real
estate mortgages, or securities of or interests in persons primarily engaged in
real estate activities.
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ITEM 3. LEGAL PROCEEDINGS.
Except as described below, we are not involved in any material pending
legal proceedings:
On November 21, 2000, Victor J. Wedel and Sherrill Wedel filed a legal
proceeding against Colorado MEDtech and one of its directors, John V. Atanasoff,
in United States District Court for the Central District of California in
connection with the November 15, 1999 transaction in which Colorado MEDtech
acquired the outstanding stock of CIVCO Medical Instruments Co., Inc. and
related real estate from the Wedels in exchange for Colorado MEDtech stock. The
defendants moved to stay this suit so that the claims could be arbitrated in
accordance with an agreement between Mr. Wedel and the Company to submit all
disputes to binding arbitration. While the court granted the requested stay, it
also entered an order that imposes certain restrictions on CIVCO and the Company
during the pendency of the dispute. The order includes a provision that the
Company will not draw on its credit facility while CIVCO is a party to the
credit facility and that CIVCO will not pay any dividends to the Company during
the pendency of the dispute. In September 2001, we entered into a commitment
letter with the lender to remove CIVCO from the credit facility, thus permitting
Colorado MEDtech to utilize it.
On March 3, 2001, the Wedels submitted a statement of claim to an
arbitrator group. The statement of claim alleges that the Company made
misrepresentations to and concealed material information from the plaintiffs in
connection with the CIVCO acquisition. The statement of claim further alleges
that there was a breach of the warranty contained in the CIVCO acquisition
agreement regarding the completeness and correctness of our filings with the
Securities and Exchange Commission. The amount of damages sought was $5,457,701
or, alternatively, rescission of the CIVCO acquisition. On March 30, 2001, the
plaintiffs amended their statement of claim to include an additional damage
theory pursuant to which they increased the damages sought to $15,462,804. We
and the other defendant have denied all substantive allegations of wrongdoing
and both parties are defending themselves. The arbitration hearing is scheduled
for October 2001.
In May 2001, a former customer, Gen-Probe, Incorporated, threatened
litigation against us in connection with a development and manufacturing
project. In response to their threat and in anticipation that they were prepared
to file suit against us, on May 23, 2001, we filed a suit for declaratory
judgment against Gen-Probe in United States District Court for the District of
Colorado. The suit seeks a declaration that we did not breach the agreements
pursuant to which the development and manufacturing services were performed. The
parties have signed a tolling agreement pursuant to which defenses of the
parties based on the passage of time are tolled until October 31, 2001,
Gen-Probe has agreed not to file suit against Colorado MEDtech until after
October 31, 2001, and Colorado MEDtech agreed to stipulate that Gen-Probe's
answer in the pending litigation is not due prior to October 31, 2001. While the
tolling agreement is in place, the parties are attempting to resolve the
dispute. Gen-Probe has stated that its damages in connection with the dispute
are in excess of $15 million.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
There were no matters submitted to a vote of shareholders during the last
quarter of the fiscal year ended June 30, 2001.
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PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
Colorado MEDtech common stock is traded on the Nasdaq Stock Market National
Market system. The following table sets forth the range of high and low closing
prices of our common stock as reported by Nasdaq during fiscal years 2001 and
2000:
<Table>
<Caption>
Fiscal Year Ended June 30,
-----------------------------------------
2001 2000
------------------- -------------------
High Low High Low
-------- -------- -------- --------
First Fiscal Quarter $ 10.00 $ 5.25 $ 23.50 $ 14.00
Second Fiscal Quarter $ 9.06 $ 3.13 $ 15.75 $ 8.00
Third Fiscal Quarter $ 4.94 $ 3.03 $ 13.00 $ 7.75
Fourth Fiscal Quarter $ 4.95 $ 3.38 $ 7.63 $ 3.81
</Table>
The foregoing quotations represent quotations between dealers without
adjustment for retail markups, markdowns or commissions and may not represent
actual transactions.
At June 30, 2001, we had approximately 1,150 shareholders of record. We
have never paid a dividend to our shareholders, and do not anticipate the
payment of dividends in the foreseeable future. Prior to the acquisition by
Colorado MEDtech, CIVCO distributed dividends of approximately $373,000 and
$902,000 in fiscal 2000 and 1999, respectively. On January 26, 2001, the United
States District Court for the Central District of California, in the Wedel
litigation described in "Item 3 -- Legal Proceedings" above, entered an order
that, among other things, prevents CIVCO from paying any dividends to the
Company during the pendency of the dispute.
We did not sell any unregistered securities in the three-month period ended
June 30, 2001.
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ITEM 6. SELECTED FINANCIAL DATA.
The selected, consolidated financial information presented below for each
of the five years in the period ended June 30, 2001 is derived from our
consolidated financial statements. This information should be read in
conjunction with the Consolidated Financial Statements and Notes thereto and
Management's Discussion and Analysis of Financial Conditions and Results of
Operations contained in this report. Certain reclassifications have been made to
prior year financial statements to conform with the current presentation. The
acquisition of CIVCO on November 15, 1999 was accounted for as a pooling of
interests. Accordingly, we have restated all periods presented to account for
the acquisition as if the transaction took place on July 1, 1996.
(In thousands, except per share amounts)
<Table>
<Caption>
YEARS ENDED JUNE 30(a),
--------------------------------------------------------
2001(b) 2000(c) 1999(d) 1998(e) 1997(f)
-------- -------- -------- -------- --------
STATEMENT OF OPERATIONS DATA:
Net sales and service $ 77,175 $ 74,003 $ 75,723 $ 56,410 $ 36,097
Gross profit $ 20,802 $ 26,826 $ 30,508 $ 21,827 $ 13,871
Net (loss) income $ (2,707) $ 2,991 $ 9,097 $ 5,477 $ 3,884
(Loss) earnings per share
Basic (g) $ (.21) $ .25 $ .79 $ .49 $ .49
Diluted (g) $ (.21) $ .22 $ .69 $ .42 $ .39
STATEMENT OF CASH FLOWS DATA:
Net cash provided by (used in)
Operating activities $ (3,299) $ (2,354) $ 13,149 $ 9,389 $ 4,594
Investing activities $ 663 $ 3,151 $ (3,489) $ (9,531) $ (7,361)
Financing activities $ 2,204 $ (737) $ (3,627) $ 823 $ 4,017
BALANCE SHEET DATA:
Cash and cash equivalents $ 8,127 $ 8,560 $ 8,500 $ 2,467 $ 1,786
Short-term investments $ 1,677 $ 8,191 $ 14,395 $ 12,144 $ 10,293
Current assets $ 40,033 $ 42,066 $ 42,693 $ 31,006 $ 22,338
Total assets $ 51,400 $ 48,292 $ 49,971 $ 37,933 $ 27,282
Current liabilities $ 16,045 $ 12,869 $ 18,357 $ 13,610 10,099
Total long-term debt $ 34 $ 75 $ 1,164 $ 1,182 $ 1,225
Total shareholders' equity $ 35,322 $ 35,347 $ 30,450 $ 23,141 $ 15,958
Cash dividends per share $ -- $ .03 $ .08 $ .10 $ .14
</Table>
(a) In November 1999, Colorado MEDtech acquired CIVCO Medical Instruments Co.,
Inc. in a pooling of interests transaction. Due to the nature of a pooling
of interests transaction, the selected financial data are restated to
reflect combined activities of Colorado MEDtech and CIVCO prior to the
acquisition, including dividends paid by CIVCO prior to the acquisition.
(b) In December 2000, Colorado MEDtech acquired the operating assets of the
ultrasound supplies group of ATL Ultrasound. In April 2001, the Company
sold the outstanding stock of CDT.
(c) In August 1999, Colorado MEDtech acquired the assets of Creos Technologies,
LLC, and in November 1999, Colorado MEDtech acquired CIVCO Medical
Instruments Co., Inc.
(d) In February 1999, Colorado MEDtech acquired the operating assets of Eclipse
Automation Corporation.
(e) In October 1997, Colorado MEDtech acquired the operating assets of Erbtec
Engineering, Inc.
(f) In February 1997, Colorado MEDtech acquired Novel Biomedical, Inc.
(g) As restated under Statement of Financial Accounting Standards No. 128,
"Earnings per Share", in 1997.
-13-
14
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
As an aid to understanding our operating results, the following table
indicates the percentage relationships of income and expense items to total
revenue for the line items included in the Consolidated Statements of Operations
for the three years ended June 30, 2001, 2000 and 1999, and the percentage
change in those items for the years ended June 30, 2001 and 2000, from the prior
year.
<Table>
<Caption>
As a Percentage of Total Revenues Percentage Change From Prior Year
-------------------------------------------- ---------------------------------
For the Years Ended June 30, For the Years Ended June 30,
2001 2000 1999 LINE ITEMS 2001 2000
------------ ------------ ------------ ---------- ------------ ------------
% % % % %
47.7 57.4 62.6 Sales, Outsourcing Services (13.3) (10.4)
52.3 42.6 37.4 Sales, Medical Products 28.0 11.4
------------ ------------ ------------ ------------ ------------
100.0 100.0 100.0 Total Sales and Service 4.3 (2.3)
------------ ------------ ------------ ------------ ------------
34.1 38.6 38.5 Cost of Sales, Outsourcing Services (7.8) (2.1)
39.0 25.2 21.2 Cost of Sales, Medical Products 61.2 16.1
------------ ------------ ------------ ------------ ------------
73.1 63.8 59.7 Total Cost of Sales and Services 19.5 4.3
------------ ------------ ------------ ------------ ------------
26.9 36.2 40.3 Gross Profit (22.5) (12.1)
------------ ------------ ------------ ------------ ------------
5.1 5.5 5.0 Marketing and Selling (2.6) 8.5
21.7 18.7 13.6 Operating, Gen'l and Admin 20.6 34.1
6.6 5.4 3.8 Research and Development 26.1 39.9
2.4 0.3 0.3 Other Operating Expenses 882.1 (0.2)
------------ ------------ ------------ ------------ ------------
35.8 29.9 22.7 Total Operating Expenses 24.8 28.8
------------ ------------ ------------ ------------ ------------
(8.9) 6.3 17.6 Earnings from Operations (246.1) (64.8)
1.1 1.0 0.6 Other Income, Net 14.9 49.0
1.2 0.0 0.0 Gain on Sale of Subsidiary 100.0 0.0
------------ ------------ ------------ ------------ ------------
(6.6) 7.3 18.2 Earnings Before Income Taxes (193.8) (60.8)
(3.1) 3.3 6.2 Provision for Income Taxes (197.8) (48.5)
------------ ------------ ------------ ------------ ------------
(3.5) 4.0 12.0 NET INCOME (190.5) (67.1)
============ ============ ============ ============ ============
</Table>
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RESULTS OF OPERATIONS
Fiscal Year 2001 Compared to Fiscal Year 2000
Revenues were $77.2 million for the year ended June 30, 2001, compared to
$74.0 million for the prior year, an increase of 4%. Outsourcing services were
approximately 48% of total revenues in fiscal year 2001 and 57% of total
revenues in fiscal year 2000. Medical products were approximately 52% of total
revenues in fiscal year 2001 and 43% of total revenues in fiscal year 2000.
Outsourcing services contributed approximately $36.8 million of revenue during
the year ended June 30, 2001 compared to $42.5 million in fiscal 2000. Until the
deficiencies cited by the FDA in the warning letter are resolved, we are not
permitted to manufacture or ship certain types of medical devices. This will
have an ongoing negative impact on both product development and manufacturing
outsourcing service revenue. Medical products and components contributed
approximately $40.4 million of revenue during the year ended June 30, 2001,
compared to $31.5 million in fiscal 2000. The increase in medical products
revenues was due to the acquisition of the operating assets of the ultrasound
supplies group of ATL Ultrasound in December 2000 and an increase in medical
product and component shipments from our IPS division.
Gross margins decreased to 31% (27%, after a specific write down of
inventory of approximately $3,100,000 related to the discontinuation of our
Hitachi manufacturing contract) for the year ended June 30, 2001, compared to
36% for the year ended June 30, 2000. Gross margins in our Outsourcing Services
segment decreased to 29% in fiscal 2001 from 33% in fiscal 2000. This decrease
was due to the increase in direct costs of quality system improvements on our
projects, discounts extended on outsource engineering projects, higher than
normal write downs of inventory and our inability to sustain a consistent
manufacturing process. Gross margins in the Medical Products segment decreased
to 33% (prior to specific charges from the write down of inventory) in fiscal
2001 from 41% in fiscal 2000. This decrease was due to an increase in sales of
some of our lower margin products.
Marketing and selling expenses decreased by 3% for the year ended June 30,
2001, compared to the prior year. The decrease was attributable to the reduced
effort in marketing and selling expenses related to the discontinued operations
of our CMED Automation, BioMed, and CDT divisions. Marketing and selling
expenses as a percentage of total revenue were 5% and 6% for the fiscal years
ended June 30, 2001 and 2000, respectively.
Operating, general and administrative expenses increased by 21% for the
year ended June 30, 2001, compared to the prior year. The increase was
attributable to the recruiting and hiring of experienced personnel, an increase
in the number of personnel and the actions we have taken to improve our quality
systems, tools and processes. As a percentage of revenues, operating, general
and administrative expenses increased to 22% from 19% in the prior year. We have
taken expense reduction actions to bring down operating, general and
administrative costs, but we expect to continue our investment in our quality
systems.
Other operating expenses relate to the Company's legal fees, severance
charges, costs related to the unsolicited acquisition proposal and costs
associated with the general improvement of the Company's quality systems. Other
operating expenses for the year ended June 30, 2001 increased 882% compared to
the prior year due to the Company's response to the unsolicited acquisition
proposal by HEI, Inc. (including one time charges of $560,000), increased legal
fees due to the Wedel litigation, and expenses associated with our response to
the FDA warning letter.
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16
Research and development expenses for the year ended June 30, 2001
increased by 26% compared to the prior year. During fiscal year 2001, research
and development expenses were attributable to RF solid state amplifier systems,
medical device connectivity, ultrasound guidance systems and covers, and high
voltage x-ray generators for CT scanners. Consistent with our operating plans,
we continue to pursue the development or acquisition of new or improved
technology or products. Should we identify any such opportunities, the amount of
future research and development expenditures may increase.
Net other income and expenses increased to $800,000 (prior to the one time
gain on the sale of the CDT subsidiary of $921,000) for the year ended June 30,
2001, compared to $700,000 for the year ended June 30, 2000. The increase was
attributable to lower interest expense during fiscal year 2001 compared to
fiscal year 2000.
In fiscal year 2001 the consolidated statements of operations contain a net
tax benefit of $2.4 million compared to a net tax provision of $2.4 million in
fiscal 2000. The effective tax rate during fiscal year 2001 was 47%, compared to
44% during fiscal year 2000. The increase was the result of the non-taxable book
gain on the sale of our CDT subsidiary of $345,000 and for credits related to
our research and development activities.
During the year ended June 30, 2001 compared to the year ended June 30,
2000, the Company's net income, earnings per share and diluted weighted average
common equivalent shares outstanding used to calculate earnings per share were
as follows:
<Table>
<Caption>
Year Ended June 30,
-------------------------------
2001 2000
---------- -----------
Net (Loss) Income $(2.7) million $3.0 million
Diluted Earnings per Share $(.21) $.22
Diluted Weighted Average Common
Equivalent Shares Outstanding 12.7 million 13.4 million
</Table>
The decrease in net income and earnings per share was attributable to the
specific write down of approximately $3,100,000 in inventory due to the sudden
and unplanned cancellation of the Hitachi contract, additional write downs of
materials due to obsolete and excess inventories of approximately $800,000, a
slowdown in outsource manufacturing caused by the FDA warning letter and the
resulting production delays and stoppages, the specific charges of approximately
$560,000 for the Company's response to the unsolicited acquisition proposal by
HEI, and the increase in costs related to improving our quality systems and
infrastructure. The Company had a one-time gain on the sale of our CDT
subsidiary of $921,000 during fiscal 2001.
If the Company had not incurred the specific and one-time charges discussed
above, the net income and earnings per share figures for the year ended June 30,
2001, would have been as follows:
<Table>
<Caption>
Year Ended June 30,
------------------------------
2001 2000
---------- ----------
Pro forma Net (Loss) Income $ (1.4) million $ 5.0 million
Pro forma (Loss) Earnings per Share $ (.11) $ .37
</Table>
-16-
17
Fiscal Year 2000 Compared to Fiscal Year 1999
Revenues were $74.0 million for the year ended June 30, 2000, compared to
$75.7 million for the prior year, a decrease of 2%. Outsourcing services were
approximately 57% of total revenues in fiscal year 2000 and 63% of total
revenues in fiscal year 1999. Medical products were approximately 43% of total
revenues in fiscal year 2000 and 37% of total revenues in fiscal year 1999. The
decrease in total revenues was attributable to the cancellation and slowdown of
some development and manufacturing programs. Outsourcing services contributed
approximately $42.5 million of revenue during the year ended June 30, 2000,
compared to $47.4 million in fiscal 1999. Medical products contributed
approximately $31.5 million of revenue during the year ended June 30, 2000,
compared to $28.3 million in fiscal 1999.
Gross margins decreased to 36% for the year ended June 30, 2000, compared
to 40% for the year ended June 30, 1999. In our outsourcing services segment,
gross margins decreased to 33% in fiscal 2000 compared to 39% in fiscal 1999.
This decrease was due to discounts given on large time and material projects and
overruns on fixed price contracts. Due to integration difficulties with our CT
products, gross margins in our medical products segment decreased to 41% in
fiscal year 2000, compared to 43% in the prior year.
Marketing and selling expenses increased by 8% for the year ended June 30,
2000, compared to the prior year. The increase was attributable to the fact that
fiscal year 2000 included sales and marketing efforts associated with the CT
product line and CMED Automation for a full year while fiscal year 1999 had such
expenses only for part of the year. Marketing and selling expenses as a
percentage of total revenue were 6% and 5% for the fiscal years ended June 30,
2000 and 1999, respectively.
Operating, general and administrative and other operating expenses
increased by 34% for the year ended June 30, 2000, compared to the prior year.
The increase was attributable to the one-time expenses related to the
acquisition of CIVCO which was completed in November 1999. This acquisition was
accounted for as a pooling of interests; therefore, all acquisition costs were
expensed in the year in which they were incurred. These one-time expenses were
approximately $.8 million for the year ended June 30, 2000. We also had a
specific write-off of goodwill for CDT of $1.3 million during fiscal year 2000.
The increase in operating, general and administrative expenses was also
attributable to the addition of CMED Automation and Creos. As a percentage of
revenues, operating, general and administrative and other expenses increased to
19% from 14% in the prior year.
Research and development expenses for the year ended June 30, 2000
increased by 40% compared to the prior year. During fiscal year 2000, research
and development expenses were attributable to RF solid state amplifier systems,
Year 2000 software tools and database, ultrasound guidance systems and covers,
and high voltage x-ray generators for CT scanners. Consistent with our operating
plans, we continue to pursue the development or acquisition of new or improved
technology or products.
Net other income and expenses increased to $.7 million for the year ended
June 30, 2000, compared to $.5 million for the year ended June 30, 1999. The
increase was attributable to lower interest expense during fiscal year 2000
compared to fiscal year 1999. Included in the June 30, 1999 amount was a $.2
million write down in an investment in an early stage, drug delivery company
that was behind schedule in developing its proprietary technologies.
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18
The fiscal year 2000 and 1999 consolidated statements of operations contain
a net tax provision of $2.4 million and $4.7 million, respectively. The
effective tax rate during fiscal year 2000 was 44% compared to 34% during fiscal
year 1999. The increase in the effective tax rate was the result of having a
specific write-off of goodwill of $1.3 million, which was not deductible for tax
purposes, and, since CIVCO was an S-corporation during fiscal year 1999, we had
no tax provision related to CIVCO's 1999 revenue.
During the year ended June 30, 2000 compared to the year ended June 30,
1999, the Company's net income, earnings per share and diluted weighted average
common equivalent shares outstanding used to calculate earnings per share were
as follows:
<Table>
<Caption>
Year Ended June 30,
-----------------------------
2000 1999
---------- ----------
Net Income $ 3.0 million $ 9.1 million
Diluted Earnings per Share $ .22 $ .69
Diluted Weighted Average Common
Equivalent Shares Outstanding 13.4 million 13.3 million
</Table>
The decrease in net income and earnings per share was attributable to the
slowdown in outsource manufacturing caused by production delays, discounts given
to large outsourcing customers, overruns on a fixed-price contracts in CMED
Automation, the one-time charges for the CIVCO acquisition and the write-off of
goodwill associated with CDT.
If the Company had not incurred the one-time charges discussed above, the
net income and earnings per share figures for the year ended June 30, 2000,
would have been as follows:
<Table>
<Caption>
Year Ended June 30,
-----------------------------
2000 1999
---------- ----------
Pro forma Net Income $5.0 million $9.1 million
Pro forma Earnings per Share $.37 $.69
</Table>
FINANCIAL CONDITION - LIQUIDITY AND CAPITAL RESOURCES
Our primary sources of liquidity have consisted of cash flows from
operations, cash deposits received from customers related to research and
development and manufacturing contracts, and issuance of stock.
We have a capital lease agreement with an interest rate of 7.9% that
terminates in April 2003. A capital lease with an interest rate of 6.5% expired
in January 2001. As of June 30, 2001 and 2000, amounts outstanding under these
obligations were $75,000 and $121,000, respectively.
We entered into a bank financing agreement on December 21, 2000 that
provides for a three-year revolving line of credit of $15 million. The credit
facility accrues interest on outstanding balances based on our preference of
either 1) the London Inter Bank Offering Rate (LIBOR) plus up to 200
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19
margin basis points, or 2) the higher of either the bank's prime lending rate or
the federal funds rate plus 0.5%. As of June 30, 2001, the applicable rate was
6.02%. All accounts receivable and inventory secure outstanding balances, but no
amounts had been advanced under the facility as of August 31, 2001. The
agreement contains various restrictive covenants customary in asset-based loans.
In connection with the Wedel litigation (See "Item 3 -- Legal Proceedings"), the
court entered an order on January 26, 2001 that restricts our ability to draw on
our credit facility while CIVCO is a party to the credit facility. In addition,
CIVCO cannot pay any dividends to the Company during the pendency of the
dispute.
We recently entered into a commitment letter with the lender pursuant to
which the facility will be amended to: (i) remove CIVCO as a party; (ii) remove
CIVCO assets as collateral; (iii) ease financial covenants; (iv) reduce the line
of credit from $15 million to $5 million and change the maturity date from
December 21, 2003 to July 1, 2002; and (v) set the interest rate at 2% over the
higher of (a) the bank's prime rate or (b) the federal funds effective rate plus
0.5%.
Fiscal 2001 cash flows used in operating activities were $3.3 million
compared to cash used of $2.4 million in fiscal 2000. In fiscal 2001, cash used
in operating activities was primarily associated with the Company's pre-tax loss
and the increase in inventory levels. The loss for the year resulted primarily
from the write down of approximately $4.0 million in inventory ($3.1 million due
to the sudden and unplanned cancellation of the Hitachi contract); a slowdown in
outsource manufacturing caused by the FDA warning letter and the resulting
production delays and stoppages; the one-time charges for the Company's response
to the unsolicited acquisition proposal by HEI; and the increase in costs
related to improving our quality systems and infrastructure. We increased our
expenditures to improve our quality systems in response to the January 2001 FDA
warning letter. Until the warning letter is resolved, we are not permitted to
manufacture or ship certain types of medical devices. Inventory increased by
$6.7 million during the year, related primarily to our inability to ship certain
classes of medical devices pending resolution of the FDA warning letter and our
decision to hold inventory for anticipated future sales in the Medical Products
segment of our business. The cash used in operating activities was offset by an
increase in accounts payable and accrued expenses of $2.6 million, customer
deposits received to cover inventory purchases of $1.0 million, and depreciation
and amortization charges for the period of $2.5 million.
Cash flows provided by investing activities were $663,000 due to the sale
of short-term investments of $11.4 million and the proceeds from the sale of our
CDT subsidiary of $1.2 million. These inflows were offset by cash outflows of
$3.9 million for the purchase of the ATL Ultrasound accessories business,
purchases of short-term investments of $4.9 million and property and equipment
purchases of $2.1 million. We expect capital expenditures in fiscal 2002 to be
near or above the level of fiscal 2001. In fiscal 2001, we loaned approximately
$1.0 million to officers to purchase Company stock from persons other than the
Company.
Cash flows provided by financing activities were $2.2 million, primarily
related to receipts from employee purchases of common stock under the Stock
Option Plan and the 1996 Employee Stock Purchase Plan.
Working capital decreased to $24.0 million at June 30, 2001 from $29.2
million at June 30, 2000. The ratio of current assets to current liabilities
decreased to 2.5 to 1 at June 30, 2001 from 3.3 to 1 at June 30, 2000. This
decrease was due to cash paid for ATL of $3.9 million and the cash used to fund
the operating loss incurred during fiscal 2001. This was offset by the $2.4
million of cash received
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from employee purchases of common stock mentioned above. The average number of
days outstanding of our accounts receivable was approximately 61 days at June
30, 2001, compared to 73 days at June 30, 2000. The decrease in days outstanding
is due to the Company's increased emphasis on collections.
Our cash, investments, credit facilities and cash projected from operations
will be sufficient to meet our working capital needs through the end of fiscal
2002 and the foreseeable future. However, our projected cash needs may change as
a result of acquisitions, unforeseen operational difficulties or other factors.
On January 25, 2001, we received a warning letter from the FDA regarding
certain areas in which our Longmont, Colorado contract medical device
manufacturing facility was not in conformance with the FDA's Quality System
Regulation (QSR). Our efforts to address the issues raised in the warning letter
and improve our quality systems have used some of our capital resources. The
temporary restriction placed on our manufacturing facility by the warning letter
has impaired our ability to generate cash flows at the same rate as in previous
years. Until the letter is resolved and our quality systems restructuring is
complete, this may continue.
As part of the Wedel litigation (see "Item 3 - Legal Proceedings"), the
plaintiffs have asserted a damage theory that would involve rescission of the
CIVCO transaction. Should we lose this suit, and the rescission damage theory is
accepted and imposed in lieu of money damages, the arbitrator may rescind the
transaction and return CIVCO to the plaintiffs. The court also imposed certain
restrictions on CIVCO and the Company during the pendency of the dispute. The
restrictions include a provision that the Company will not draw on its credit
facility while CIVCO is a party to the credit facility and that CIVCO can not
pay any dividends to the Company during the pendency of the dispute.
As part of our sale of CDT, the Company recognized a tax effected loss of
approximately $225,000, which has been recorded as a deferred tax asset. For the
Company to recognize the tax benefit of this loss, we will need to realize
capital gains, which has not historically occurred in our business. Therefore,
the Company has recorded a valuation allowance of $225,000 against this deferred
tax asset.
In the normal course of our business, we investigate, evaluate and discuss
acquisition, joint venture, minority investment, strategic relationship and
other business combination opportunities. In the event of any future investment,
acquisition or joint venture opportunities, we may consider using then-available
liquidity, issuing equity securities or incurring additional indebtedness.
New Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS No. 133"). SFAS No. 133 establishes
accounting and reporting standards for derivative financial instruments and
hedging activities related to those instruments as well as other hedging
activities. It requires an entity to recognize all derivatives as either assets
or liabilities in the statement of financial position and measures those
instruments at fair value, unless specific hedge accounting criteria are met. We
do not typically enter into arrangements that would fall under the scope of SFAS
No. 133 and thus, its adoption did not significantly affect our financial
condition or results of operations for the year ended June 30, 2001.
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In December 1999, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements"
("SAB 101"). SAB 101 provides the SEC staff's views in applying generally
accepted accounting principles to selected revenue recognition issues. The
Company implemented SAB 101 on July 1, 2000 with no material effect on its
financial condition or results of operations.
In March 2000, the FASB issued FASB Interpretation No. 44, "Accounting for
Certain Transactions Involving Stock Compensation" ("FIN No. 44"). The
interpretation clarifies the application of Accounting Principles Board Opinion
No. 25 for certain issues related to equity-based instruments issued to
employees. FIN No. 44 was effective on July 1, 2000, except for certain
transactions, and will be applied on a prospective basis. FIN No. 44 did not
have a significant impact on our financial position or results of operations.
In June 2001, the FASB issued SFAS No. 141, "Business Combinations" and
SFAS No. 142, "Goodwill and Other Intangible Assets". These standards revise the
rules related to the accounting of business combinations, goodwill and other
intangible assets. SFAS No. 141 requires that all business combinations
initiated after June 30, 2001 be accounted for using the purchase accounting
method. SFAS No. 142 states that goodwill is no longer subject to amortization
over its useful life. Rather, goodwill will be subject to an annual assessment
for impairment and be written down to its fair value only if the carrying amount
is greater than the fair value. In addition, intangible assets will be
separately recognized if the benefit of the intangible asset is obtained through
contractual or other legal rights, or if the intangible asset can be sold,
transferred, licensed, rented or exchanged, regardless of the acquirer's intent
to do so. The amount and timing of non-cash charges related to intangibles
acquired in business combinations will change significantly from prior practice.
We have not yet determined the effect of adopting SFAS Nos. 141 and 142 on the
Company's financial condition and results of operations.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." This statement establishes accounting standards for
recognition and measurement of a liability for an asset retirement obligation
and the associated asset retirement cost. It requires an entity to recognize the
fair value of a liability for an asset retirement obligation in the period in
which it is incurred if a reasonable estimate can be made. The Company does not
believe that this statement will materially impact its results of operations.
Forward-Looking Statements and Risk Factors
The statements in this report that are not historical facts are
forward-looking statements that represent management's beliefs and assumptions
based on currently available information. Forward-looking statements can be
identified by the use of words such as "believes," "intends," "may," "will,"
"should," "anticipated," "expected" or comparable terminology or by discussions
of strategy. Although we believe that the expectations reflected in such
forward-looking statements are reasonable, we cannot assure you that these
expectations will prove to be correct. Such statements involve risks and
uncertainties including, but not limited to, the risk that our existing level of
orders may not be indicative of the level or trend of future orders, the risk
that we may not successfully complete the work encompassed by current or future
orders, the risk that unforeseen technical or production difficulties may
adversely impact project timing and financial performance, the risk that the
management changes will not produce the desired results, the risk of potential
litigation, the risks associated with regulation by the Federal Food and Drug
Administration, the risk that acquired companies cannot be successfully
integrated with existing operations and the risk
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that a downturn in general economic conditions or customer budgets may adversely
affect research and development and capital expenditure budgets of potential
customers upon which we are dependent. Should one or more of these risks
materialize (or the consequences of such a development worsen), or should the
underlying assumptions prove incorrect, actual results could differ materially
from those forecasted or expected. These factors are more fully described below
and in our documents filed from time to time with the Securities and Exchange
Commission. We disclaim any intention or obligation to update publicly or revise
such statements whether as a result of new information, future events or
otherwise.
OUR FINANCIAL RESULTS CAN FLUCTUATE FROM QUARTER TO QUARTER AND YEAR TO YEAR,
WHICH CAN AFFECT OUR STOCK PRICE.
Our quarterly and annual operating results are affected by a number of
factors, primarily the volume and timing of revenue from customer orders. The
volume and timing of our revenue from customer orders varies due to:
o variation in demand for the customer's products as a result of,
among other things, product life cycles, competitive conditions
and general economic conditions;
o suspension or cancellation of a customer's development project
for reasons which may or may not be related to project
performance;
o suspension or cancellation of a customer's R&D budget for reasons
often unrelated to the project;
o a change in a customer's R&D strategy as a result of sale or
merger of the customer to another company;
o delays in projects associated with the approval process for
changes to a project; and,
o discounts extended to customers for reasons related to project
performance or which we may be required to give at the concluding
phase of a project if the project is late or over budget.
Our outsourcing services business organization and its related cost
structure is designed to support a certain minimum level of revenues. As such,
if we experience a temporary decrease in project revenues, our ability to adjust
our short-term cost structure is limited. This limitation may compound the
adverse effect of any significant revenue reduction we may experience. Any one
of the factors listed above or a combination thereof could result in a material
adverse effect on our business, results of operations and financial condition.
Due to the foregoing factors, it is possible that our operating results may from
time to time be below the expectations of public market analysts and investors.
In such event, the price of our stock would likely be adversely affected.
IF WE DO NOT COMPLY WITH REGULATORY REQUIREMENTS, OUR PROJECTS AND REVENUE CAN
BE ADVERSELY AFFECTED.
We are subject to a variety of regulatory agency requirements in the United
States and foreign countries relating to many of the products that we develop
and manufacture. The process of obtaining and maintaining required regulatory
approvals and otherwise remaining in regulatory compliance can be lengthy,
expensive and uncertain.
The FDA inspects manufacturers of certain types of devices before providing
a clearance to manufacture and sell such device, and the failure to pass such an
inspection could result in delay in
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23
moving ahead with a product or project. We are required to comply with the FDA's
QSR for the development and manufacture of medical products. In addition, in
order for devices we design or manufacture to be exported and for us and our
customers to be qualified to use the "CE" mark in the European Union, we
maintain ISO 9001/EN 46001 certification which, like the QSR, subjects our
operations to periodic surveillance audits. To ensure compliance with various
regulatory and quality requirements, we expend significant time, resources and
effort in the areas of training, production and quality assurance. If we fail to
comply with regulatory or quality regulations or other FDA or applicable legal
requirements, the governing agencies can issue warning letters, impose
government sanctions and levy serious penalties.
On January 25, 2001, we received a warning letter from the FDA regarding
certain areas in which our Longmont, Colorado contract medical device
manufacturing facility was not in conformance with the FDA's Quality System
Regulation (QSR). Until the warning letter is resolved, we are not permitted to
manufacture or ship certain types of medical devices. This action has required
that we divert resources otherwise available for our operations and has
distracted our management and employees from carrying out the day-to-day
operations of the business. While we are working to correct all problems related
to the warning letter, we cannot predict how soon this matter will be resolved.
Our actions to address the deficiencies raised in the warning letter have had a
negative effect on our reported earnings and will continue to have such an
effect until we have received clearance from the FDA to resume manufacturing
products for our customers. This issue has created uncertainties about our
future in the minds of our employees and vendors. In addition, such action has
had an adverse effect on the willingness of customers and prospective customers
to do business with us. Such noncompliance, as well as any increased cost of
compliance has had and could continue to have a material adverse effect on our
business, results of operations and financial condition.
Our inability to ship certain products has had a negative impact on our
customers. In August 2001, our customer Urologix, Inc. announced that its
operating results were negatively impacted due to our inability to provide them
with the product we were to manufacture for them. While we have not been
threatened with legal action in connection with this matter and our contract
(with Urologix and generally with other customers) limits our liability for
certain types of damages, including lost profits, there can be no assurance that
our inability to fill customer needs will not result in liability to the
affected customer.
OUR CUSTOMERS MAY CANCEL THEIR ORDERS, CHANGE PRODUCTION QUANTITIES, DELAY
PRODUCTION OR TERMINATE THEIR CONTRACTS.
Medical device development and manufacturing service providers must provide
increasingly rapid product output for their customers. We generally do not
obtain long-term commitments from our customers and we continue to experience
reduced lead times in customer orders. Customers may cancel their orders, change
production quantities, delay production, or terminate their contracts for a
number of reasons. In certain situations, cancellations, reductions in
quantities, delays or terminations by a significant customer could adversely
affect our operating results. In addition, we make significant decisions,
including determining the levels of business that we will seek and accept,
production schedules, parts procurement commitments, and personnel needs based
on our estimates of customer requirements. In addition, because many of our
costs and operating expenses are relatively fixed, a reduction in customer
demand or a termination of a contract by a customer can harm our gross margins
and operating results.
-23-
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Hitachi Medical Corporation recently cancelled orders for x-ray generator
subsystems for computed tomography (CT) scanners. As a result, in fiscal year
2001 we wrote down $3.1 million of related inventory, our fiscal year 2002
revenues will be less than originally planned, and we laid off employees working
on the project.
POTENTIAL OR PENDING LITIGATION MAY AFFECT OUR BUSINESS.
We are currently involved in two material pieces of litigation, described
above in this report under "Item 3 -- Legal Proceedings". We may incur
significant costs and liabilities related to potential or pending litigation.
These costs and liabilities may include legal and expert fees, settlement
payments or judgments against us. As a result, the defense or resolution of the
pending litigation or any future litigation could have a negative impact on our
financial position and results of operations.
RISKS WHICH AFFECT OUR CUSTOMERS CAN DIRECTLY IMPACT OUR BUSINESS.
Our success is dependent on the success of our customers and the products
that we develop or manufacture for them. Any unfavorable developments or adverse
effects on the sales of those products or on our customers' businesses could
have a corresponding adverse effect on our business. We believe that our
customers and their products are generally subject to the risks listed below. To
the extent the factors set forth below affect our customers, there may be a
corresponding impact on our business.
OUR CUSTOMERS OPERATE IN A COMPETITIVE ENVIRONMENT
The medical products industry is highly competitive and is
subject to significant and rapid technological change. It requires
ongoing investment to keep pace with technological developments and
quality and regulatory requirements. The medical products industry
consists of numerous companies, ranging from start-up to
well-established companies. Our customers' competitors may succeed in
developing or marketing technologies and products that will be better
accepted in the marketplace than the products we design and
manufacture for our customers or that would render our customers'
technology and products obsolete or noncompetitive. Some of our
customers are emerging medical technology companies that have
competitors and potential competitors with substantially greater
capital resources, research and development staffs and facilities, and
substantially greater experience in developing and commercializing new
products. Our customers may not be successful in marketing or
distributing their products, or may not respond to pricing, marketing
or other competitive pressures or the rapid technological innovation
demanded by the marketplace. As a result, they may experience a drop
in product sales, which would have an adverse effect on our business,
results of operations and financial condition.
OUR CUSTOMERS' BUSINESS SUCCESS DEPENDS ON MARKET ACCEPTANCE OF NEW
PRODUCTS.
We design and manufacture medical devices for other
companies. We also sell proprietary products to other companies and
end-user customers. For products we manufacture (manufactured for
others, or those we sell directly), our success is dependent on the
acceptance of those products in their markets. Market acceptance may
depend on a variety of factors, including educating the target market
regarding the use of a new procedure and convincing healthcare payers
that the benefits of the product and its related treatment regimen
outweigh its costs. Market acceptance and market share are also
affected by the timing of market introduction of competitive products.
Some of our customers, especially emerging medical technology
companies, have limited or no experience in
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marketing their products and may be unable to establish effective
sales and marketing and distribution channels to rapidly and
successfully commercialize their products. If our customers are unable
to gain any significant market acceptance for the products we develop
or manufacture for them, our business will be affected.
IF OUR CUSTOMERS DON'T PROMPTLY OBTAIN REGULATORY APPROVAL FOR THE
PRODUCTS WE DESIGN AND MANUFACTURE FOR THEM, OUR PROJECTS AND REVENUE
CAN BE AFFECTED.
The FDA regulates many of the products we develop and
manufacture, and requires certain clearances or approvals before new
medical devices can be marketed. As a prerequisite to any introduction
of a new device into the medical marketplace, our customers or we must
obtain necessary product clearances or approvals from the FDA or other
regulatory agencies. This can be a slow and uncertain process and
there can be no assurance that such clearances or approvals will be
obtained on a timely basis, if at all.
Certain medical devices we manufacture may be subject to the
need to obtain premarket approval from the FDA, which requires
substantial preclinical and clinical testing, and may cause delays and
prevent introduction of such instruments. Other instruments can be
marketed only by establishing "substantial equivalence" to a
pre-existing device in a 510(k) premarket notification. In addition,
products intended for use in foreign countries must comply with
similar requirements and be certified for sale in those countries. A
customer's failure to comply with the FDA's requirements can result in
the delay or denial of approval to proceed with the device. Delays in
obtaining regulatory approval are frequent and, in turn, can result in
delaying or canceling customer orders. There can be no assurance that
we or our customers will obtain or be able to maintain all required
clearances or approvals for domestic or exported products on a timely
basis, if at all. The delays and potential product cancellations
inherent in the regulatory approval and ongoing regulatory compliance
of products we develop or manufacture may have a material adverse
effect on our business, reputation, results of operations and
financial condition.
OUR CUSTOMERS' FINANCIAL CONDITION MAY ADVERSELY AFFECT THEIR ABILITY
TO CONTINUE OR PAY FOR A PROJECT.
Some of our customers, especially the smaller and newer
emerging medical technology companies, are not profitable, may have
little or no revenues or may have limited working capital available to
fund a development project. Adequate funds for their operations or for
a development project may not be available when needed. A customer's
financial difficulties may require a customer to suspend its research
and development spending, delay development of a product, clinical
trials (if required) or the commercial introduction of a product.
Depending on the significance of a customer's product to our revenues
or profitability, any adverse effect on a customer resulting from
insufficient funds could result in an adverse effect on our business,
results of operations and financial condition.
GOVERNMENT OR INSURANCE COMPANY REIMBURSEMENT FOR OUR CUSTOMERS'
PRODUCTS OR SERVICES MAY CHANGE AND CAUSE A REDUCED DEMAND FOR THE
PRODUCT WE PROVIDE TO THE CUSTOMER.
Governmental and insurance industry efforts to reform the
healthcare industry and reduce healthcare spending have affected, and
will continue to affect, the market for medical devices. There have
been several instances of changes in governmental or
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26
commercial insurance reimbursement policies which have significantly
impacted the markets for certain types of products or services or
which have impacted entire industries, such as recent policies
affecting payment for nursing home and home care services. Adverse
governmental regulation relating to our products or our customers'
products which might arise from future legislative, administrative or
insurance industry policy cannot be predicted and the ultimate effect
on private insurer and governmental healthcare reimbursement is
unknown. Government and commercial insurance companies are
increasingly vigorous in their attempts to contain healthcare costs by
limiting both coverage and the level of reimbursement for new
therapeutic products even if approved for marketing by the FDA. If
government and commercial payers do not provide adequate coverage and
reimbursement levels for uses of our products and our customers'
products, the market acceptance of these products and our revenues and
profitability would be adversely affected.
A SIGNIFICANT PORTION OF OUR REVENUE COMES FROM A SMALL NUMBER OF MAJOR
CUSTOMERS.
In the fiscal year ended June 30, 2001, two customers accounted for
approximately 35% of our consolidated revenues. In the fiscal year ended June
30, 2000, three customers accounted for approximately 43% of our consolidated
revenues. In the fiscal year ended June 30, 1999, three customers accounted for
approximately 49% of our consolidated revenues. The primary portion of our
business is contract development and manufacturing of medical devices for other
companies. As such, we have historically obtained a significant share of our
revenue from a small number of customers, but the identity of those major
customers tends to change from year to year. The concentration of business in
such a small number of customers means that a significant reduction or delay in
orders or payments from any of these customers could have a material adverse
effect on our business and results of operations. One of our significant
customers in fiscal year 2001, Hitachi Medical Corporation, recently cancelled
orders for x-ray generator subsystems for computed tomography (CT) scanners. As
a result, in fiscal year 2001 we wrote down $3.1 million of related inventory,
our fiscal year 2002 revenues will be less than originally planned, and we laid
off employees working on the project. In addition, another large customer,
Gen-Probe Incorporated, terminated its project and as a result our 2001 revenues
were less than planned and we laid off employees. We are in litigation with
Gen-Probe, described above in this report under "Item 3 -- Legal Proceedings."
AN UNSOLICITED ACQUISITION PROPOSAL MAY ADVERSELY AFFECT OUR PERFORMANCE.
We have been the subject of hostile acquisition action in the past. This
was expensive and disruptive to our business. The possibility exists that we may
be the subject of such action in the future. If so, we may incur significant
expenses in responding to any such action and any such increased expenses would
divert resources otherwise available for our operations and could have a
negative effect on our reported earnings. Such activities could also distract
our management and employees from carrying out the day-to-day operations of the
business, and may create uncertainties about our future in the minds of our
employees, vendors and customers. Any of these could have a negative impact on
our operations, financial results or stock price.
THE MOVING OF OUR OPERATIONS MAY NEGATIVELY IMPACT OUR BUSINESS.
We currently operate our business out of five separate locations in
Colorado and one in Iowa. During fiscal year 2002 we may move our Colorado
operations from their current locations to a central location. Any such move
involves numerous business risks, including the risk associated
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27
with integrating the operations at our separate locations into one facility; the
risk that we will not be able to find suitable facilities on a timely basis or
on terms satisfactory to us; the risk of delays in the implementation of the
move to a new facility; diversion of management's attention from other business
areas during the planning and implementation of the move; strain placed on our
operational, financial, management, technical and information systems and
resources; disruption in manufacturing operations; and incurrence of significant
costs and expenses associated with moving the facilities.
CONSOLIDATION OF CUSTOMERS CAN ELIMINATE CUSTOMERS OR NEED FOR PRODUCT.
Due to the nature of the medical device business, especially in the imaging
field, the possibility exists that any of our customers may merge with, or be
acquired by, other companies, which companies may also be our customers or
customers of our competitors. Such consolidation of our customers' operations
could eliminate the customer or, alternatively, the customer's need for our
products. We cannot predict how many (if any) of our customers we may lose, or
how many of our customers may no longer require certain of our products, due to
such mergers and acquisitions. Such elimination of customers or their need for
our products may negatively impact our business.
COMPETITIVE ISSUES BETWEEN OUR CUSTOMERS MAY LIMIT OUR ABILITY TO PURSUE NEW
BUSINESS IN ATTRACTIVE AREAS.
There is a great deal of competition in the medical technology industry,
especially with respect to new product introductions. Our outsourcing services
customers invest heavily in the development of new products and it is important
to them to protect their new technology and to hold a technology edge over their
competitors as long as possible. Although we generally do not enter into
non-competition agreements, on occasion our development contracts prohibit us
from working for certain competitors of our customers. When and if we do this,
our growth may be adversely affected because such contracts would prevent us
from developing or manufacturing instruments for our customers' competitors. Any
conflicts among our customers could prevent or deter us from obtaining contracts
to develop or manufacture instruments, which could result in a material adverse
effect on our business, results of operations and financial condition.
OUR SALES CYCLES ARE LONG.
The sales cycle for our products and services is lengthy and unpredictable.
As a result, the time it takes our business to recover from a slow sales period
may be lengthy. While our sales cycle varies from customer to customer, it often
ranges from six to nine months or more for outsourcing services projects. While
the sales cycle for our medical products can be shorter, to the extent it
involves a relationship with a large original equipment manufacturer, the sales
cycle can also be quite lengthy. Our pursuit of sales leads typically involves
an analysis of our prospective customer's needs, preparation of a written
proposal, one or more presentations and contract negotiations. Our sales cycle
may also be affected by a prospective customer's budgetary constraints and
internal acceptance reviews, over which we have little or no control.
A SHIFT IN MARKET DEMAND MAY RESULT IN DECREASED DEMAND FOR OUR SERVICES.
The markets for our services are characterized by rapidly changing
technology and evolving changes in the needs of the medical device market. The
continued success of our business depends on our ability to recognize and
quickly react to changes in the medical device market and our ability to hire,
retain, and expand our qualified engineering and technical personnel, and
maintain and enhance our technological capabilities in a timely and
cost-effective manner. Although we
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believe that our operations currently utilize the technology, processes and
equipment required by our customers, we cannot be certain that we will develop
the capabilities required by our customers in the future. The emergence of new
technology, industry standards or customer requirements may render our
capabilities and services obsolete or noncompetitive. We may have to acquire new
technologies and personnel in order to remain competitive. This acquisition and
implementation of these new technologies and personnel may require significant
capital investment, which could reduce our operating margins and operating
results. Our failure to anticipate our customers' changing needs could have an
adverse effect on our business.
OUR BUSINESS SUCCESS DEPENDS ON HIRING AND RETAINING KEY PERSONNEL.
Our success depends to a significant extent on the continued service of
certain of our key managerial, technical and engineering personnel, particularly
our President and Chief Executive Officer, Stephen K. Onody. Our future success
will be dependent on our continuing ability to attract, train, assimilate and
retain highly qualified engineering, technical and managerial personnel
experienced in commercializing medical products. The labor market is tight and
competition for such personnel is intense, the available pool of qualified
candidates is limited and there can be no assurance that we can retain our key
engineering, technical and managerial personnel or that we can attract, train,
assimilate or retain other highly qualified engineering, technical and
managerial personnel in the future. The loss of Mr. Onody or any of our other
key personnel or our inability to hire, train, assimilate or retain qualified
personnel could have a material adverse effect on our business, results of
operations and financial condition.
THE PRODUCTS WE DESIGN AND MANUFACTURE MAY BE SUBJECT TO PRODUCT RECALLS AND MAY
SUBJECT US TO PRODUCT LIABILITY CLAIMS.
Most of the products we design or manufacture are medical devices, many of
which may be used in life-sustaining or life-supporting roles. The tolerance for
error in the design, manufacture or use of these products may be small or
nonexistent. If a product we designed or manufactured is found to be defective,
whether due to design or manufacturing defects, to improper use of the product
or to other reasons, the product may need to be recalled, possibly at our
expense. Furthermore, the adverse effect of a product recall on our business
might not be limited to the cost of the recall. Recalls, especially if
accompanied by unfavorable publicity or termination of customer contracts, could
result in substantial costs, loss of revenues and damage to our reputation, each
of which would have a material adverse effect on our business, results of
operations and financial condition.
The manufacture and sale of the medical devices we develop and manufacture
involves the risk of product liability claims. Although we generally obtain
indemnification from our customers for products we manufacture to the customers'
specifications and we maintain product liability insurance, there can be no
assurance that the indemnities will be honored or the coverage of our insurance
policies will be adequate. In addition, we are not indemnified with respect to
our products which are sold directly to end-users. Further, we generally provide
a design defect warranty and indemnify our customers for failure of a product to
conform to design specifications and against defects in materials and
workmanship. Product liability insurance is expensive and in the future may not
be available on acceptable terms, in sufficient amounts, or at all. A successful
product liability claim in excess of our insurance coverage or any material
claim for which insurance coverage was denied or limited and for which
indemnification was not available could have a material adverse effect on our
business, results of operations and financial condition.
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OUR MARKETS ARE COMPETITIVE.
Our competition with respect to outsourcing services comes from a variety
of sources, including consulting, commercial product development and
manufacturing companies. Competition also comes from commercial and university
research laboratories and from current and prospective customers who evaluate
our capabilities and costs against the merits of designing, engineering or
manufacturing products internally. Many of our competitors are larger and have
substantially greater financial, research and development and manufacturing
resources. Competition from any of the foregoing sources could place pressure on
us to accept lower margins on our contracts or lose existing or potential
business, which could result in a material adverse effect on our business,
results of operations and financial condition.
We sell our medical products principally in the markets of the United
States, Japan and Europe. Our competition with respect to medical products comes
from two principal sources: original equipment manufacturers who may have
in-house capabilities similar to ours, and other medical outsourcing and
products companies who sell to original equipment manufacturers or directly to
customers. Many of our competitors are larger and have substantially greater
financial, research and development and manufacturing resources. Price and
quality are the primary competitive factors in the markets in which we compete.
As competition in the market for medical products continues to increase, we may
experience pricing pressure, which could result in a material adverse effect on
our business, results of operation and financial condition.
SALES OF SHARES ISSUABLE UPON EXERCISE OF STOCK OPTIONS MAY ADVERSELY AFFECT
STOCK PRICE.
As of June 30, 2001 there were a total of approximately 13 million shares
of our common stock outstanding. In addition, there were outstanding warrants
and stock options to purchase approximately 2.6 million shares of common stock,
approximately 1.0 million of which are currently exercisable or become
exercisable by August 31, 2001. Shares issued upon the exercise of warrants and
options to purchase our stock generally are available for sale in the open
market. Investors should understand that even if our financial performance is
good, future sales of the shares of common stock referred to above could
adversely affect the market price of the common stock.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
As part of our cash management strategy, we had short-term investments at
June 30, 2001 consisting of approximately $1.7 million in U.S. Treasury and
government agency securities. We classify these investments as
available-for-sale. All of the short-term investments mature in less than one
year. We have completed a market risk sensitivity analysis of these short-term
investments based upon an assumed 1% increase in interest rates at July 1, 2001.
If market interest rates had increased by 1% on July 1, 2001, we would have had
an approximate $5,000 loss on these short-term investments. Because this is only
an estimate, any actual loss due to an increase in interest rates could differ
from this estimate.
The Company has a line of credit that bears interest on outstanding
balances at the higher of the lender's prime rate or the federal funds effective
rate plus 0.5%. As we have yet to draw upon our line of credit, an increase in
interest rates would not have had an effect on our financial condition or
results of operations. We also had two capital lease obligations totaling
approximately $75,000 at June 30, 2001 at fixed interest rates.
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ITEM 8. FINANCIAL STATEMENTS
Index to Financial Statements and Schedules:
<Table>
<Caption>
Page
Number
------
Report of Independent Public Accountants F-1
Consolidated Balance Sheets F-2
Consolidated Statements of Operations F-4
Consolidated Statements of Shareholders' Equity F-5
Consolidated Statements of Cash Flows F-8
Notes to Consolidated Financial Statements F-10
</Table>
All schedules for which provision is made in the applicable accounting
regulations of the Securities and Exchange Commission are not required under the
related instructions or are inapplicable, and therefore have been omitted.
-30-
31
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Colorado MEDtech, Inc.:
We have audited the accompanying consolidated balance sheets of COLORADO
MEDtech, Inc. (a Colorado corporation) and subsidiaries as of June 30, 2001 and
2000, and the related consolidated statements of operations, shareholders'
equity and cash flows for each of the three years in the period ended June 30,
2001. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Colorado MEDtech, Inc. and
subsidiaries as of June 30, 2001 and 2000, and the results of their operations
and their cash flows for each of the three years in the period ended June 30,
2001, in conformity with accounting principles generally accepted in the United
States.
ARTHUR ANDERSEN LLP
Denver, Colorado,
September 6, 2001
F-1
32
COLORADO MEDTECH, INC.
CONSOLIDATED BALANCE SHEETS
AS OF JUNE 30, 2001 AND 2000
<Table>
<Caption>
2001 2000
------------ ------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 8,127,076 $ 8,560,065
Short-term investments 1,677,290 8,190,621
Accounts receivable-
Trade - less allowance for uncollectible accounts
of approximately $481,000 and $478,000, respectively 12,964,383 12,518,499
Unbilled 540,818 1,143,554
Inventories 11,720,505 8,512,540
Deferred income taxes 3,234,201 1,815,298
Prepaid expenses and other 1,768,355 1,325,823
------------ ------------
Total current assets 40,032,628 42,066,400
------------ ------------
PROPERTY AND EQUIPMENT:
Computer equipment 6,821,776 6,532,423
Office furniture and fixtures 1,544,405 1,404,735
Building and leasehold improvements 2,462,598 1,902,817
Manufacturing equipment 3,709,400 2,884,486
------------ ------------
Total property and equipment 14,538,179 12,724,461
Less - Accumulated depreciation and amortization (9,900,897) (8,155,650)
------------ ------------
Property and equipment, net 4,637,282 4,568,811
------------ ------------
GOODWILL AND INTANGIBLES 3,585,772 316,337
NOTES RECEIVABLE - RELATED PARTIES 999,796 --
INVESTMENT IN LAND 500,000 500,000
DEFERRED INCOME TAXES AND OTHER 1,644,455 840,315
------------ ------------
TOTAL ASSETS $ 51,399,933 $ 48,291,863
============ ============
</Table>
The accompanying notes to financial statements
are an integral part of these balance sheets.
F-2
33
COLORADO MEDTECH, INC.
CONSOLIDATED BALANCE SHEETS
AS OF JUNE 30, 2001 AND 2000
<Table>
<Caption>
2001 2000
------------ ------------
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 7,168,168 $ 5,440,413
Accrued product service costs 424,163 394,361
Accrued salaries and wages 3,054,307 2,390,201
Other accrued expenses 1,905,229 1,951,128
Customer deposits 3,451,332 2,647,132
Current portion of capital lease obligation 41,715 46,120
------------ ------------
Total current liabilities 16,044,914 12,869,355
Capital lease obligation, net of current portion 33,503 75,218
------------ ------------
Total liabilities 16,078,417 12,944,573
------------ ------------
COMMITMENTS AND CONTINGENCIES (Note 10)
SHAREHOLDERS' EQUITY:
Preferred stock, no par value; 5,000,000 shares authorized;
none issued -- --
Common stock, no par value; 25,000,000 shares authorized;
12,967,319 and 12,307,535 issued and outstanding
at June 30, 2001 and 2000, respectively 16,161,004 13,468,486
Retained earnings 19,174,464 21,881,289
Unrealized loss on available-for-sale investment (13,952) (2,485)
------------ ------------
Total shareholders' equity 35,321,516 35,347,290
------------ ------------
TOTAL LIABILITIES AND
SHAREHOLDERS' EQUITY $ 51,399,933 $ 48,291,863
============ ============
</Table>
The accompanying notes to financial statements
are an integral part of these balance sheets.
F-3
34
COLORADO MEDTECH, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED JUNE 30, 2001, 2000 AND 1999
<Table>
<Caption>
2001 2000 1999
------------ ------------ ------------
SALES AND SERVICE:
Outsourcing Services $ 36,815,289 $ 42,467,159 $ 47,408,235
Medical Products 40,359,964 31,535,944 28,314,372
------------ ------------ ------------
Total Sales and Service 77,175,253 74,003,103 75,722,607
------------ ------------ ------------
COST OF SALES AND SERVICE:
Outsourcing Services 26,302,639 28,527,446 29,153,336
Medical Products 30,070,134 18,649,757 16,060,924
------------ ------------ ------------
Total Cost of Sales and Service 56,372,773 47,177,203 45,214,260
------------ ------------ ------------
GROSS PROFIT 20,802,480 26,825,900 30,508,347
------------ ------------ ------------
COSTS AND EXPENSES:
Marketing and selling 3,958,235 4,065,466 3,748,617
Operating, general and administrative 16,724,778 13,862,686 10,339,564
Research and development 5,076,781 4,025,567 2,878,396
Other operating expenses 1,882,038 191,635 233,188
------------ ------------ ------------
Total operating expenses 27,641,832 22,145,354 17,199,765
------------ ------------ ------------
(LOSS) EARNINGS FROM OPERATIONS (6,839,352) 4,680,546 13,308,582
------------ ------------ ------------
OTHER INCOME (EXPENSE):
Interest expense (33,025) (98,391) (166,936)
Interest income and other 874,894 831,399 659,002
Gain on sale of subsidiary 920,658 -- --
------------ ------------ ------------
Total other income 1,762,527 733,008 492,066
------------ ------------ ------------
(LOSS) INCOME BEFORE PROVISION
FOR INCOME TAXES (5,076,825) 5,413,554 13,800,648
(BENEFIT) PROVISION FOR INCOME TAXES (2,370,000) 2,423,000 4,704,000
------------ ------------ ------------
NET (LOSS) INCOME $ (2,706,825) $ 2,990,554 $ 9,096,648
============ ============ ============
NET (LOSS) INCOME PER SHARE:
Basic $ (.21) $ .25 $ .79
============ ============ ============
Diluted $ (.21) $ .22 $ .69
============ ============ ============
WEIGHTED AVERAGE COMMON AND COMMON
EQUIVALENT SHARES OUTSTANDING:
Basic 12,717,529 12,076,421 11,471,362
============ ============ ============
Diluted 12,717,529 13,354,808 13,239,795
============ ============ ============
</Table>
The accompanying notes to financial statements
are an integral part of these financial statements.
F-4
35
Page 1 of 3
COLORADO MEDTECH, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED JUNE 30, 2001, 2000 AND 1999
<Table>
<Caption>
Common Stock Other Accumulated Other
---------------------------- Comprehensive Comprehensive Retained
Shares Amount Income (Loss) Income (Loss) Earnings
------------ ------------ ------------- ----------------- ------------
BALANCES, June 30, 1998 11,476,337 $ 12,037,456 $ 35,000 $ 11,068,826
Exercise of stock options
and warrants 956,747 1,370,641 -- --
Issuance of stock under ESPP 53,365 301,718 -- --
Purchase of common stock (655,000) (4,175,625) -- --
Dividends -- -- -- (902,205)
Change in unrealized gain on
available-for-sale investment, net
of applicable taxes of $4,057 -- -- $ (6,620) (6,620) --
Tax benefit from sale of option shares -- 1,624,256 -- -- --
Net income -- -- 9,096,648 -- 9,096,648
------------
Comprehensive income -- -- $ 9,090,028 -- --
============
------------ ------------ ------------ ------------
BALANCES, June 30, 1999 11,831,449 $ 11,158,446 $ 28,380 $ 19,263,269
============ ============ ============ ============
</Table>
F-5
36
Page 2 of 3
COLORADO MEDTECH, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED JUNE 30, 2001, 2000 AND 1999
<Table>
<Caption>
Common Stock Other Accumulated Other
--------------------------- Comprehensive Comprehensive Retained
Shares Amount Income (Loss) Income (Loss) Earnings
------------ ------------ --------------- ----------------- ------------
BALANCES, June 30, 1999 11,831,449 $ 11,158,446 $ 28,380 $ 19,263,269
Exercise of stock options
and warrants 424,595 921,064 -- --
Issuance of stock under ESPP 51,491 347,564 -- --
Dividends -- -- -- (372,534)
Change in unrealized gain on
available-for-sale investment, net
of applicable taxes of $19,817 -- -- $ (30,865) (30,865) --
Tax benefit from sale of option shares -- 1,041,412 -- -- --
Net income -- -- 2,990,554 -- 2,990,554
---------------
Comprehensive income -- -- $ 2,959,689 -- --
===============
------------ ------------ --------------- ------------
BALANCES, June 30, 2000 12,307,535 $ 13,468,486 $ (2,485) $ 21,881,289
============ ============ =============== ============
</Table>
The accompanying notes to financial statements
are an integral part of these financial statements.
F-6
37
Page 3 of 3
COLORADO MEDTECH, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED JUNE 30, 2001, 2000 AND 1999
<Table>
<Caption>
Common Stock Other Accumulated Other
------------------------------- Comprehensive Comprehensive Retained
Shares Amount Income (Loss) Income (Loss) Earnings
--------------- ------------ --------------- ----------------- ------------
BALANCES, June 30, 2000 12,307,535 $ 13,468,486 $ (2,485) $ 21,881,289
Exercise of stock options
and warrants 581,453 2,083,629 -- --
Issuance of stock under ESPP 100,031 274,907 -- --
Purchase of common stock (21,700) (108,750) -- --
Change in unrealized gain on
available-for-sale investment, net
of applicable taxes of $7,645 -- -- $ (11,467) (11,467) --
Tax benefit from sale of option shares -- 442,732 -- -- --
Net loss -- -- (2,706,825) -- (2,706,825)
---------------
Comprehensive loss -- -- $ (2,718,292) -- --
===============
--------------- ------------ --------------- ------------
BALANCES, June 30, 2001 12,967,319 $ 16,161,004 $ (13,952) $ 19,174,464
=============== ============ =============== ============
</Table>
The accompanying notes to financial statements
are an integral part of these financial statements.
F-7
38
Page 1 of 2
COLORADO MEDTECH, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED JUNE 30, 2001, 2000 AND 1999
<Table>
<Caption>
2001 2000 1999
------------ ------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ (2,706,825) $ 2,990,554 $ 9,096,648
Adjustments to reconcile net income to net cash flows
(used in) provided by operating activities-
Gain on sale of subsidiary (920,658) -- --
Deferred tax benefit (2,275,666) (31,000) (380,000)
Depreciation and amortization 2,460,642 2,123,394 1,547,529
Write down of goodwill 138,161 1,321,657 --
Allowance for uncollectible accounts 2,576 131,492 27,201
Write down of inventory 3,970,697 187,785 260,624
Write down of investment -- -- 200,000
Changes in operating assets and liabilities-
Accounts receivable (535,333) (1,761,459) (3,175,557)
Inventories (6,740,254) (2,669,312) (787,169)
Prepaid expenses and other assets (292,570) 175,848 (215,600)
Accounts payable and accrued expenses 2,570,417 (3,987,344) 5,897,380
Customer deposits 1,029,385 (835,709) 678,391
------------ ------------ ------------
Net cash flows (used in) provided by
operating activities (3,299,428) (2,354,094) 13,149,447
------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Cash paid for purchase of ATL assets (3,884,123) -- --
Cash released from Erbtec escrow -- -- 750,000
Cash paid for purchase of Eclipse -- -- (505,759)
Cash paid for purchase of Creos assets -- (1,651,295) --
Purchase of equity investments -- -- (30,000)
Capital expenditures (2,146,224) (1,373,129) (1,452,489)
Funding of related party notes receivable (999,796) -- --
Proceeds from sale of CDT 1,170,000 -- --
Purchases of short-term investments (4,852,011) (11,756,473) (12,432,936)
Sales of short-term investments 11,374,927 17,932,235 10,182,071
------------ ------------ ------------
Net cash flows provided by (used in)
investing activities 662,773 3,151,338 (3,489,113)
------------ ------------ ------------
</Table>
The accompanying notes to financial statements
are an integral part of these financial statements.
F-8
39
Page 2 of 2
COLORADO MEDTECH, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED JUNE 30, 2001, 2000 AND 1999
<Table>
<Caption>
2001 2000 1999
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Issuance of common stock $ 2,358,536 $ 1,268,628 $ 1,672,359
Purchase of common stock (108,750) -- (4,175,625)
Dividends paid to shareholder -- (372,534) (902,205)
Proceeds from note payable -- -- 559,038
Repayment of borrowings (46,120) (1,632,987) (780,912)
------------ ------------ ------------
Net cash flows provided by (used in)
financing activities 2,203,666 (736,893) (3,627,345)
------------ ------------ ------------
NET (DECREASE) INCREASE IN CASH
AND CASH EQUIVALENTS (432,989) 60,351 6,032,989
CASH AND CASH EQUIVALENTS, at beginning of period 8,560,065 8,499,714 2,466,725
------------ ------------ ------------
CASH AND CASH EQUIVALENTS, at end of period $ 8,127,076 $ 8,560,065 $ 8,499,714
============ ============ ============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest $ 18,025 $ 108,013 $ 164,345
============ ============ ============
Cash paid for income taxes $ 612,831 $ 1,823,377 $ 3,365,000
============ ============ ============
</Table>
The accompanying notes to financial statements
are an integral part of these financial statements.
F-9
40
COLORADO MEDTECH, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) ORGANIZATION AND OPERATIONS
Colorado MEDtech, Inc. ("CMED"), through its operating divisions and its
wholly-owned subsidiary (collectively the "Company"), is a leading full-service
provider of advanced medical products and comprehensive outsourcing services.
CMED was incorporated in 1977 as a Colorado corporation. CMED's operating units
and their principal activities are:
o RELA DIVISION ("RELA")
provides custom product development and manufacturing outsourcing
services, specializing in the design and development of
diagnostic, biotechnology and therapeutic medical devices,
medical software systems and medical device connectivity. RELA
also provides manufacturing services for electronic and
electromechanical medical devices and instrumentation systems
assembly for major original equipment manufacturers ("OEM");
o IMAGING AND POWER SYSTEMS DIVISION ("IPS")
designs, develops and manufactures a broad range of imaging
system hardware and software, including advanced magnetic
resonance imaging ("MRI") systems and application software,
high-performance radio frequency ("RF") amplifiers for MRI
systems and high-voltage x-ray generator subsystems for computed
tomography ("CT") scanners; and
o CIVCO MEDICAL INSTRUMENTS CO., INC. ("CIVCO") SUBSIDIARY OF
COLORADO MEDTECH
designs, develops, manufactures and distributes specialized
medical accessories and supplies for imaging equipment and for
minimally invasive surgical equipment.
During fiscal 2001, the Company re-structured to focus on its core markets
of Medical Technology and Software Services and Medical Imaging Products and
Services. As a part of this effort, the Company phased out two business units,
CMED Automation division ("CMED Automation") and BioMed Y2K, Inc. ("BioMed"). In
addition, the Company integrated the CMED Manufacturing division into RELA and
sold the CMED Catheter and Disposables Technology, Inc. ("CDT") subsidiary in
April 2001. The activities of these business units were as follows:
o CDT
designed, developed and manufactured unique disposable medical
devices, primarily catheters, used in angioplasty, minimally
invasive surgery, electrophysiology and infertility treatment;
o CMED AUTOMATION
designed, developed and manufactured automation systems for
medical device and associated businesses; and
o BIOMED
provided software tools and services to support healthcare
institutions' efforts to establish Year 2000 compliance for their
biomedical devices.
(2) SIGNIFICANT ACCOUNTING POLICIES
F-10
41
Principles of Consolidation
The accompanying financial statements reflect the consolidated results of
RELA, IPS, CIVCO, CDT (through the date of sale), CMED Automation and BioMed.
All significant intercompany transactions and accounts have been eliminated.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents.
Investments
The Company accounts for investments in accordance with the provisions of
Statement of Financial Accounting Standards No. 115 "Accounting for Certain
Investments in Debt and Equity Securities." The Company's short-term investments
are generally classified and accounted for as available-for-sale and accordingly
are carried at fair market value with unrealized gains and losses reflected in
other comprehensive income. The Company had realized gains of $411,000,
$639,000, and $207,000 for the years ended June 30, 2001, 2000 and 1999,
respectively. There were no realized losses for these periods. During the years
ended June 30, 2001, 2000 and 1999, the Company realized previously unrealized
gains of $34,000, $33,000 and $25,000, respectively.
Short-term investments consist of approximately $1,677,000 and $8,191,000
of U.S. Treasury and government agency securities as of June 30, 2001 and 2000,
respectively.
The Company also held approximately $130,000 and $160,000 of marketable
equity securities as of June 30, 2001 and 2000, respectively, which are included
in deferred income taxes and other. These securities are marked to market
through other comprehensive income in the accompanying consolidated balance
sheets. The realized and unrealized gains and losses on these marketable equity
securities were not significant as of and for the years ended June 30, 2001 and
2000.
Inventories
Inventories are stated at the lower of cost (weighted average method) or
market. The cost of inventories includes material, labor and manufacturing
overhead. As of June 30, 2001 and 2000, inventories consisted of:
(In thousands)
<Table>
<Caption>
2001 2000
---------- ----------
Raw materials $ 7,133 $ 6,490
Work-in-process 4,144 1,899
Finished goods 444 124
---------- ----------
$ 11,721 $ 8,513
========== ==========
</Table>
During the fourth quarter of fiscal 2001, one of the Company's customers
cancelled its contract to manufacture x-ray generators. This resulted in an
inventory write down of $3,100,000. This charge together with $900,000 of other
inventory write downs is included in cost of sales and service.
F-11
42
Long-Lived Assets
The Company reviews its long-lived assets for impairment whenever events or
changes in circumstances indicate that the carrying amount of an asset may not
be recoverable from future undiscounted cash flows. Impairment losses are
recorded for the difference between the carrying value and the fair value of the
long-lived asset.
Property and Equipment
Property and equipment are stated at cost. Depreciation and amortization
are provided principally on the straight-line method over the estimated useful
lives of the assets which are: computer equipment -- three years; office
furniture and fixtures -- five years; building -- 30 years; leasehold
improvements -- over the remaining term of the leased property, which is one to
two years; and manufacturing equipment -- seven years. Depreciation expense for
the years ended June 30, 2001, 2000 and 1999 was approximately $2,092,000,
$1,729,000 and $1,207,000, respectively.
Goodwill and Intangibles
Goodwill and intangibles consist of the following:
<Table>
<Caption>
(In thousands)
Year Ended June 30,
----------------------------
Lives 2001 2000
----- ------------ ------------
Goodwill 2 - 15 years $ 3,904 $ 2,656
Development agreement 5 years 1,000 --
------------ ------------
Total intangibles 4,904 2,656
Accumulated amortization (1,318) (2,340)
------------ ------------
Net intangibles $ 3,586 $ 316
============ ============
</Table>
During fiscal 2001, the Company wrote off the remaining goodwill relating
to the purchase of Creos of $138,000 due to the reduction of orders expected in
the Company's CT business. This impairment was determined by comparing the fair
value of the goodwill based upon expected future cash flows from the product
line to the carrying amount of the goodwill. The impairment expense is included
in operating, general and administrative expenses in the accompanying statement
of operations and relates to the Medical Products segment.
During fiscal year 2000, the Company wrote off the remaining goodwill in
CDT of $1,322,000 due to continual operating losses incurred at CDT and the
departure of certain key members of CDT management. The $1,322,000 impairment
was determined by comparing the fair value of the goodwill based upon expected
future cash flows from CDT to the carrying amount of the goodwill. The
impairment expense is included in operating, general and administrative expenses
in the accompanying statement of operations and relates to the Outsourcing
Services segment.
Accrued Product Service Costs
The Company warrants its products against defects in materials and
workmanship, generally for three to 12 months, but in limited cases for up to 18
months. Estimated costs of product service are accrued at the time of sale.
F-12
43
Customer Deposits
Customer deposits result from cash received in advance of services
performed.
Earnings Per Share
Basic earnings per share are computed on the basis of the weighted average
shares outstanding during each period. Diluted earnings per share are computed
on the basis of the weighted average shares outstanding during each period,
including dilutive common equivalent shares for stock options and warrants.
During the year ended June 30, 2001, the Company reported a net loss. Therefore,
all outstanding warrants and options were anti-dilutive in nature and were not
used in the calculation of fully diluted shares outstanding as of June 30, 2001.
A reconciliation between the number of shares used to calculate basic and
diluted earnings per share is as follows:
<Table>
<Caption>
(In thousands)
2001 2000 1999
---------- ---------- ----------
Net (loss) income (income available to
common shareholders) $ (2,707) $ 2,991 $ 9,097
========== ========== ==========
Weighted average number of common shares
outstanding (shares used in basic earnings
per share computation) 12,718 12,076 11,471
Effect of dilutive stock options and warrants
(treasury stock method) -- 1,279 1,769
---------- ---------- ----------
Shares used in diluted earnings per share
computation 12,718 13,355 13,240
========== ========== ==========
</Table>
Options and warrants excluded from diluted earnings per share because they
were antidilutive for the years ended June 30, 2001, 2000 and 1999 totaled
approximately 2,637,000, 746,000 and 75,000, respectively.
New Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS No. 133"). SFAS No. 133 establishes
accounting and reporting standards for derivative financial instruments and
hedging activities related to those instruments as well as other hedging
activities. It requires an entity to recognize all derivatives as either assets
or liabilities in the statement of financial position and measures those
instruments at fair value, unless specific hedge accounting criteria are met.
The Company does not typically enter into arrangements that would fall under the
scope of SFAS No. 133 and thus, its adoption did not significantly affect the
Company's financial condition or results of operations for the year ended June
30, 2001.
In December 1999, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements"
("SAB 101"). SAB 101 provides the SEC staff's views in applying generally
accepted accounting principles to selected revenue recognition issues. The
Company implemented SAB 101, effective July 1, 2000, with no material effect on
its financial condition or results of operations.
In June 2001, the FASB issued SFAS No. 141, "Business Combinations" and
SFAS No. 142, "Goodwill and Other Intangible Assets". These standards revised
the rules related to the accounting for business combinations, goodwill and
other intangible assets. SFAS No. 141 requires that all business combinations
initiated after June 30, 2001 be accounted for using the purchase accounting
method. SFAS No. 142 states that goodwill is no longer subject to amortization
over its
F-13
44
useful life. Rather, goodwill will be subject to an annual assessment for
impairment and be written down to its fair value only if the carrying amount is
greater than the fair value. In addition, intangible assets are separately
recognized if the benefit of the intangible asset is obtained through
contractual or other legal rights, or if the intangible asset can be sold,
transferred, licensed, rented or exchanged, regardless of the acquirer's intent
to do so. The amount and timing of non-cash charges related to intangibles
acquired in business combinations will change significantly from prior practice.
The Company has not yet quantified the potential effect of adoption of SFAS Nos.
141 and 142.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." This statement establishes accounting standards for
recognition and measurement of a liability for an asset retirement obligation
and the associated asset retirement cost. It requires an entity to recognize the
fair value of a liability for an asset retirement obligation in the period in
which it is incurred if a reasonable estimate can be made. The Company is
required to adopt this statement in its fiscal year 2003. The Company does not
believe that this statement will materially impact its results of operations.
Revenue Recognition Policy
The Company generally recognizes revenue for manufacturing services upon
shipment of the related products and recognizes revenues for engineering
contract services as work is performed and contract requirements are met. Some
of the Company's software contracts are to develop custom software code. These
contracts are on a time and material basis, therefore revenue is recognized as
hours and expenses are incurred. Unbilled receivables result from revenue
recognized for contract services in excess of billings. Unanticipated losses on
engineering contracts are provided for, in full, when determinable. Certain of
the Company's contracts are billed to customers based on progress payments, and
are accounted for under the percentage of completion method of recognizing
revenue.
Income Taxes
The Company accounts for income taxes under the liability method. Deferred
income tax liabilities are recognized for the expected future income tax
consequences, based on enacted tax laws, of temporary differences between the
financial reporting and tax bases of assets and liabilities. Deferred tax assets
are recognized for the expected future effects of all deductible temporary
differences, loss carryforwards and tax credit carryforwards. Deferred tax
assets are then reduced, if deemed necessary, by a valuation allowance for any
tax benefits which, based on current circumstances, are not expected to be
realized.
Stock-Based Compensation Plans
The Company accounts for its stock-based compensation plans using the
intrinsic value method under which no compensation is generally recognized for
equity grants in the Company's common stock at or above the current market price
of the underlying stock on the measurement date.
F-14
45
Management's Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
Concentrations of Credit Risk
Financial instruments which potentially subject the Company to
concentrations of credit risk are primarily cash and cash equivalents,
short-term investments and accounts receivable. The Company maintains its cash
and short-term investment balances in the form of bank demand deposits, money
market accounts, government securities and commercial paper with financial
institutions that management believes are creditworthy. Accounts receivable are
typically unsecured and are comprised of amounts due from numerous other
entities participating in the medical industry.
Financial Instruments
The fair market values of cash equivalents, accounts receivable and payable
approximate their carrying values due to the short-term nature of these
instruments. The fair market values of the Company's borrowings outstanding
approximate their carrying values based upon current market rates of interest.
Short-term investments are reported at fair value.
Advertising
The Company expenses all advertising costs as they are incurred.
Advertising expense for the years ended June 30, 2001, 2000 and 1999 was
$107,000, $115,000 and $108,000, respectively.
Reclassifications
Certain amounts reported in the prior year have been reclassified to
conform to the current year presentation.
Other Operating Expenses
Other operating expenses are comprised of legal fees, severance charges,
costs related to the unsolicited acquisition proposal and costs associated with
the FDA warning letter.
Comprehensive Income
Comprehensive income includes net income and all changes in equity during a
period that arise from non-owner sources, such as foreign currency items and
unrealized gains and losses on certain investments in debt and equity
securities.
F-15
46
(3) ACQUISITIONS
On December 29, 2000, the Company acquired certain operating assets of the
ultrasound accessories and supplies business of ATL Ultrasound ("ATL") for
$4,384,000. This acquisition was accounted for as a purchase and accordingly,
the results of ATL have been included subsequent to the date of acquisition. As
of June 30, 2001, the Company had paid approximately $3,884,000 in cash and had
accrued approximately $500,000 for future obligations related to the
acquisition, which are included in other accrued expenses on the balance sheet.
The purchase price was allocated as follows:
<Table>
<Caption>
(In thousands)
Inventory $ 506
Fixed Assets 102
Business Development Agreement 1,000
Goodwill 2,776
----------
Total Purchase Price $ 4,384
==========
</Table>
In connection with this acquisition, the Company and management of ATL
entered into a five-year Business Development Agreement under which ATL will
both work with the Company to develop additional ultrasound accessory devices
and participate in co-marketing efforts for products, and will refrain from
competing with the Company in the area of ultrasound supplies. The Business
Development Agreement is included in Goodwill and Intangibles on the balance
sheet and will be amortized over a five-year period. The remaining goodwill
associated with the purchase will be amortized over 15 years.
The Company acquired certain operating assets of Creos on August 19, 1999.
Creos developed and manufactured high-voltage x-ray generator systems for
computed tomography ("CT") scanners. The assets of this operation were
integrated into IPS and CMED Manufacturing. The acquisition resulted in goodwill
of approximately $448,000 that was being amortized over a three-year period.
During the year ended June 30, 2001, the contract to continue the manufacture of
the product associated with this purchase was canceled and the unamortized
goodwill of $138,000 was written off.
The Company acquired certain operating assets of Eclipse Automation
Corporation in February 1999. CMED operated the acquired assets as the CMED
Automation division. CMED Automation was an automation services company located
in Longmont, Colorado. As part of the Company's restructuring activities during
fiscal year 2001, remaining CMED Automation projects were undertaken by the RELA
division.
The following unaudited pro forma results of operations of the Company for
the fiscal years ended June 30, 2001, 2000 and 1999 assume that the acquisition
of the operating assets of Creos, Eclipse and ATL occurred on July 1, 1998.
These unaudited pro forma results are not necessarily indicative of the actual
results of operations that would have been achieved nor are they necessarily
indicative of future results of operations.
(In thousands, except per share data)
<Table>
<Caption>
Year Ended June 30,
-------------------------------------
2001 2000 1999
---------- ---------- ----------
(Unaudited)
Revenues $ 81,015 $ 81,676 $ 91,130
Net (Loss) Income $ (2,560) $ 3,254 $ 8,580
Net (Loss) Income Per Share (Diluted) $ (.20) $ .24 $ .65
</Table>
F-16
47
(4) SALE OF STOCK OF SUBSIDIARY
On April 30, 2001, the Company sold all of the outstanding stock of CDT to
an unrelated party for $1,300,000 in cash. Pursuant to indemnification
provisions of the sale agreement, 10% of the sale price is held in escrow, with
5% to be released in six months and the remaining 5% to be released in twelve
months from the date of sale. The Company recorded a gain of approximately
$921,000 from the sale. Revenues and net income for CDT were as follows:
<Table>
<Caption>
(In thousands)
Year Ended June 30,
-------------------------------------
2001 2000 1999
---------- ---------- ----------
(Unaudited)
Revenues $ 2,023 $ 2,281 $ 4,115
Net (Loss) Income $ 86 $ (489) $ 98
</Table>
(5) BORROWINGS
Credit Facility
The Company entered into a credit facility (the "Credit Facility") on
December 21, 2000 that provided for a three-year revolving line of credit of $15
million. The Credit Facility accrued interest on outstanding balances based on
the Company's preference at either 1) the London Inter Bank Offering Rate
(LIBOR) plus up to 200 margin basis points or 2) the higher of either the bank's
prime lending rate or the federal funds rate plus 0.5%. As of June 30, 2001, the
applicable rate was 6.02%. All accounts receivable and inventory secure
outstanding balances. The agreement contains various restrictive covenants
customary in asset-based loans. In connection with the Wedel litigation (See
"Note 10. Legal Proceedings"), the court entered an order on January 26, 2001
that restricts the Company's ability to draw on the Credit Facility while CIVCO
is a party to the Credit Facility. In addition, CIVCO cannot pay any dividends
to the Company during the pendency of the dispute.
On September 6, 2001, the Company entered into a commitment letter with the
lender pursuant to which the Credit Facility will be amended to: (i) remove
CIVCO as a party; (ii) remove CIVCO assets as collateral; (iii) ease financial
covenants; (iv) reduce the line of credit from $15 million to $5 million and
change the maturity date from December 21, 2003 to July 1, 2002; and (v) set the
interest rate at 2% over the higher of (a) the bank's prime rate or (b) the
federal funds effective rate plus 0.5%.
Capital Leases
The Company is obligated under capital lease agreements as follows:
<Table>
<Caption>
(In thousands)
Minimum lease payments:
Fiscal 2002 $ 46
Fiscal 2003 35
------
Total lease payments 81
Amount representing interest (7.9%) (6)
------
$ 75
======
</Table>
F-17
48
(6) SHAREHOLDERS' EQUITY
Preferred Stock
The Company's shareholders have authorized 5,000,000 shares of no par value
preferred stock, to be issuable from time to time in such series and to have
such rights and preferences as the Company's Board of Directors (the "Board")
may designate. As of June 30, 2001, no shares of preferred stock had been
issued.
Common Stock
The Company's shareholders have authorized 25,000,000 shares of no par
value common stock, of which 12,967,319 and 12,307,535 shares were issued and
outstanding as of June 30, 2001 and 2000, respectively.
During the year ended June 30, 2001, the Company purchased and retired
21,700 shares of its own common stock for approximately $109,000, as part of a
stock repurchase program. The stock was purchased at prices ranging from $5.00
to $5.13 per share.
On November 3, 1998, Vencor Operating, Inc., a subsidiary of Vencor, Inc.
("Vencor"), sold 3,560,000 shares of Colorado MEDtech, Inc. common stock held by
Vencor. The Company used approximately $4,176,000 of its short-term investments
to purchase from Vencor and retire 655,000 shares of its own stock for $6.38 per
share. A number of institutional investors purchased the remaining 2,905,000
shares. Prior to the transaction, the 3,560,000 shares held by Vencor
represented approximately 33% of the outstanding common stock of the Company.
CIVCO Pooling
On November 15, 1999, the Company acquired CIVCO by exchanging 736,324 of
its common shares for all of the outstanding stock of CIVCO and related real
estate assets held by its owners. Prior to the merger, CIVCO paid dividends on
its common shares of approximately $373,000 and $902,000 in the years ended June
30, 2000 and 1999, respectively.
Restricted Assets
In connection with the Wedel litigation, the Company is enjoined from
distributing dividends from its CIVCO subsidiary. The following summarizes the
financial position and results of operations of CIVCO:
<Table>
<Caption>
(In thousands)
June 30,
------------------------
2001 2000
---------- ----------
Cash and cash equivalents $ 3,265 $ 929
Other current assets 3,865 1,501
Noncurrent assets 1,792 1,829
Current liabilities (3,304) (1,416)
---------- ----------
Restricted net assets $ 5,618 $ 2,843
========== ==========
</Table>
F-18
49
<Table>
<Caption>
Year Ended June 30,
------------------------------------
2001 2000 1999
---------- ---------- ----------
Sales and services $ 17,521 $ 11,513 $ 10,373
Gross profit $ 9,282 $ 6,274 $ 5,478
Earnings from operations $ 4,469 $ 2,158 $ 1,233
Other $ 74 $ (35) $ (13)
Income before provision for
income taxes $ 4,543 $ 2,124 $ 1,246
Net Income $ 2,816 $ 2,124 $ 1,246
</Table>
Stock Option Plan
On June 25, 1992, the Board approved a Stock Option Plan (the "Plan"). The
Plan provides for the grant of both incentive and nonstatutory stock options as
defined by the Internal Revenue Code of 1986, stock appreciation rights and
supplemental bonuses at the discretion of the Board. Under the terms of the
Plan, the purchase price of the shares subject to an incentive option will be
the fair market value of the Company's common stock on the date the option is
granted. If the grantee owns more than 10% of the total combined voting power of
all classes of stock on the date of grant, the purchase price shall be at least
110% of the fair market value at the date of grant and the exercise term shall
be up to five years from the date of grant. All other options granted under the
Plan are exercisable up to 10 years from the date of grant. Under the Plan,
4,500,000 shares of common stock are reserved for options. At June 30, 2001,
538,035 shares were available for grant. Vesting periods for options issued are
determined by the Board at the date of grant and currently vest over two to four
years. A summary of the status of the Plan for the years ended June 30 follows:
<Table>
<Caption>
2001 2000 1999
---------- ---------- ----------
Beginning of fiscal year 2,323,449 2,035,318 2,035,151
Granted during period 1,110,200 994,775 485,600
Forfeited during period (696,678) (424,566) (60,801)
Exercised during period (545,935) (282,078) (424,632)
---------- ---------- ----------
Options outstanding at June 30, 2,191,036 2,323,449 2,035,318
========== ========== ==========
Options exercisable at June 30, 473,124 657,616 582,457
========== ========== ==========
</Table>
<Table>
<Caption>
2001 2000 1999
---------- ---------- ----------
Weighted average exercise price:
At beginning of period $ 7.45 $ 5.54 $ 3.98
At end of period $ 7.95 $ 7.45 $ 5.54
Exercisable at end of period $ 8.44 $ 4.26 $ 2.91
Options granted $ 6.00 $ 11.06 $ 9.77
Options exercised $ 3.44 $ 3.88 $ 2.76
Options forfeited $ 6.69 $ 9.12 $ 6.60
Weighted average fair value of options
granted during period $ 3.70 $ 5.67 $ 5.70
</Table>
F-19
50
<Table>
<Caption>
June 30, 2001
-------------------------------------------------------------------
Options Outstanding Options Exercisable
---------------------------------------- -----------------------
Weighted Weighted
Average Remaining Average
Range of Exercise Contractual Exercise
Exercise Prices Shares Price Life (Years) Shares Price
--------------- ------------- --------- ------------ ------ -------------
$ 3.03 - $ 4.19 536,236 $ 3.88 4.8 174,536 $ 3.62
$ 4.20 - $ 6.41 515,300 $ 5.44 7.0 80,150 $ 6.41
$ 6.42 - $ 7.94 480,000 $ 7.73 5.2 -- $ --
$ 7.95 - $ 13.19 444,500 $ 11.48 3.1 142,607 $ 10.92
$ 13.20 - $ 18.75 215,000 $ 17.33 3.4 75,831 $ 17.00
------------- -------
2,191,036 473,124
============= =======
</Table>
Non-Qualified Stock Options
The Company has issued non-qualified stock options outside the Plan to
purchase up to 728,651 shares of the Company's common stock in exchange for
employment recruiting services, the acquisition of CDT, and to employees. The
value of options issued to non-employees has been determined using the
Black-Scholes option pricing model and recorded in the accompanying consolidated
financial statements. All non-qualified stock options issued to employees were
granted with an exercise price that was equal to the fair market value of the
Company's stock on the date of grant. A summary of the status of the Company's
non-qualified stock options outside the Plan follows for the years ended June
30:
<Table>
<Caption>
2001 2000 1999
---------- ---------- ----------
Beginning of fiscal year 83,683 198,070 614,253
Granted during period -- -- --
Forfeited during period -- -- (1,541)
Exercised during period (28,930) (114,387) (414,642)
---------- ---------- ----------
Options outstanding at June 30, 54,753 83,683 198,070
========== ========== ==========
Options exercisable at June 30, 54,753 83,683 143,669
========== ========== ==========
</Table>
<Table>
<Caption>
2001 2000 1999
---------- ---------- ----------
Weighted average exercise price:
At beginning of period $ 2.97 $ 2.97 $ 2.05
At end of period $ 2.97 $ 2.97 $ 2.97
Exercisable at end of period $ 2.97 $ 2.97 $ 2.97
Options granted $ -- $ -- $ --
Options exercised $ 2.97 $ 2.97 $ 1.61
Options forfeited $ -- $ -- $ 2.97
</Table>
F-20
51
<Table>
<Caption>
June 30, 2001
--------------------------------------------------------
Options Outstanding Options Exercisable
---------------------------------- -------------------
Weighted Weighted
Average Remaining Average
Exercise Contractual Exercise
Exercise Price Shares Price Life (Years) Shares Price
-------------- ------ -------- ------------ ------ --------
$ 2.97 54,753 $ 2.97 1.6 54,753 $ 2.97
</Table>
Director, Consultant and Other Warrants
The Company grants warrants to its outside directors for serving on the
Board. The warrants have a five-year term, and have exercise prices equal to the
fair market value of the Company's stock on the date of grant.
A summary of the Company's warrants is as follows for the years ended June 30:
<Table>
<Caption>
2001 2000 1999
-------- -------- --------
Beginning of fiscal year 255,000 330,000 410,000
Granted during period 181,250 15,000 180,000
Forfeited during period (15,000) -- (45,000)
Exercised during period (30,000) (90,000) (215,000)
-------- -------- --------
Warrants outstanding at June 30, 391,250 255,000 330,000
======== ======== ========
Warrants exercisable at June 30, 301,250 255,000 255,000
======== ======== ========
</Table>
<Table>
<Caption>
2001 2000 1999
-------- -------- --------
Weighted average exercise price:
At beginning of period $ 6.96 $ 5.21 $ 4.16
At end of period $ 6.15 $ 6.96 $ 5.21
Exercisable at end of period $ 6.50 $ 6.96 $ 4.68
Warrants granted $ 5.17 $ 13.19 $ 7.00
Warrants exercised $ 6.71 $ 1.59 $ 4.37
Warrants forfeited $ 7.00 $ -- $ 6.80
Weighted average fair value of warrants
granted during period $ 3.14 $ 3.61 $ 2.74
</Table>
F-21
52
<Table>
<Caption>
June 30, 2001
-----------------------------------------------------------
Warrants Outstanding Warrants Exercisable
----------------------------------- --------------------
Weighted Weighted
Average Remaining Average
Range of Exercise Contractual Exercise
Exercise Prices Shares Price Life (Years) Shares Price
--------------- ------ -------- ------------ ------ --------
$3.03 - $4.19 36,250 $ 3.71 2.9 21,250 $ 3.37
$4.20 - $6.40 150,000 $ 5.13 4.4 75,000 $ 5.13
$6.41 - $6.99 60,000 $ 6.41 1.4 60,000 $ 6.41
$7.00 - $13.19 145,000 $ 7.71 2.2 145,000 $ 7.71
------- -------
391,250 301,250
======= =======
</Table>
Employee Stock Purchase Plan
In September 1996, the Board of Directors adopted an Employee Stock
Purchase Plan (the "ESPP"), effective for the plan year beginning January 1,
1997. Under the ESPP, as amended, the Company is authorized to issue up to
540,000 shares of common stock to its full time employees, nearly all of whom
are eligible to participate. Under terms of the ESPP, employees can have up to
10% of their salary withheld to purchase the Company's common stock. An employee
can enter the plan on the first day of each calendar quarter. The purchase price
of the stock is 85% of the lower of its beginning-of-the-period or
end-of-the-period market price. The maximum number of shares available during
the annual payment period beginning January 1, 2001 and ending December 31, 2001
(the "Plan Year") is limited to 150,000, and the maximum number of shares
available during the 2002 Plan Year is limited to 259,587 minus the number of
shares issued during the 2001 Plan Year.
Pro Forma Fair Value Disclosures
If the Company had accounted for its stock-based compensation plans using
the fair value method, the Company's net (loss) income and pro forma diluted
earnings (loss) per common share would have been reported as follows:
<Table>
<Caption>
(In thousands, except per share data)
Year Ended June 30,
-------------------------------------
2001 2000 1999
---------- ---------- ----------
Net (Loss) Income:
As reported $ (2,707) $ 2,991 $ 9,097
Pro forma $ (4,342) $ 1,776 $ 8,032
Diluted Earnings (Loss) Per
Common Share:
As reported $ (.21) $ .22 $ .69
Pro forma $ (.34) $ .14 $ .64
</Table>
F-22
53
The Company has computed the fair value of shares issued under the ESPP,
all options and warrants issued during fiscal years 2001, 2000 and 1999, for
purposes of the pro forma disclosure, using the Black-Scholes pricing model, and
the following weighted average assumptions:
<Table>
<Caption>
2001 2000 1999
--------- --------- ---------
Risk-free interest rate 5.60% 6.23% 4.99%
Expected lives 3.5 years 3.2 years 4.2 years
Expected volatility 84.4% 66.0% 64.5%
Expected dividend yield 0% 0% 0%
</Table>
(7) INCOME TAXES
The provision (benefit) for income taxes includes the following:
<Table>
<Caption>
(In thousands)
Year Ended June 30,
--------------------------------------
2001 2000 1999
---------- ---------- ----------
Current -
Federal $ (318) $ 2,237 $ 4,667
State 224 217 417
---------- ---------- ----------
Total Current (94) 2,454 5,084
Deferred -
Federal (2,258) (28) (349)
State (243) (3) (31)
Valuation allowance 225 -- --
---------- ---------- ----------
Total Deferred (2,276) (31) (380)
---------- ---------- ----------
Total $ (2,370) $ 2,423 $ 4,704
========== ========== ==========
</Table>
The Company established a valuation allowance due to the uncertainty that
the full amount of its capital loss carryforward would be applied against future
capital gains.
The Company's effective income tax rate was different than the statutory
federal income tax rate as follows:
<Table>
<Caption>
(In thousands)
Year Ended June 30,
--------------------------------------
2001 2000 1999
---------- ---------- ----------
Federal income tax (benefit) provision
at statutory rates $ (1,777) $ 1,895 $ 4,830
State income tax provision, net of
federal tax effect (12) 189 382
Permanent differences and other (47) 396 54
Tax effect of CIVCO Subchapter S income -- (57) (562)
Research and development credit (189) -- --
Non-taxable gain on sale of subsidiary (345) -- --
Capital loss for tax purposes on
sale of subsidiary (225) -- --
Valuation allowance 225 -- --
---------- ---------- ----------
Effective tax $ (2,370) $ 2,423 $ 4,704
========== ========== ==========
</Table>
F-23
54
Deferred taxes are determined based on estimated future tax effects of
differences between the amounts reflected in the financial statements and the
tax basis of assets and liabilities given the provisions of the enacted tax
laws. Deferred tax assets include the tax effect of NOL and tax credit
carryforwards. The net deferred tax assets and liabilities as of June 30, 2001
and 2000 are comprised of the following:
<Table>
<Caption>
(In thousands)
2001 2000
---------- ----------
Current
Tax effect of NOL carryforwards $ 280 $ 305
Allowance for doubtful accounts 157 179
Inventory reserves 1,759 268
Accrued vacation 443 330
Other accruals 455 593
Tax credits 140 140
---------- ----------
Net current deferred tax asset $ 3,234 $ 1,815
========== ==========
Noncurrent
Depreciation for book in excess of tax $ 716 $ 309
Goodwill amortization for book in excess of tax 421 330
Tax credits 378 --
Capital loss carryforwards 225 --
Valuation allowance (225) --
---------- ----------
Net noncurrent deferred tax asset $ 1,515 $ 639
========== ==========
</Table>
In accordance with certain provisions of the Internal Revenue Code, a
change in ownership of greater than 50% of a company within a three-year period
results in an annual limitation on the Company's ability to utilize its net
operating loss ("NOL") carryforwards from tax periods prior to the ownership
change. Such a change in ownership occurred with respect to the Company on
October 19, 1992. Accordingly, the NOL carryforwards at October 19, 1992 were
restricted to annual cumulative amounts of approximately $105,000 subject to the
expiration of these carryforwards, or approximately $1,575,000. As of June 30,
2001, the Company had NOL carryforwards available of approximately $738,000
related to this transaction. If these NOL's are not applied against taxable
income, they will expire. These NOL's were to begin expiring in 1999 and
continue to expire through 2007. The Company also has research and development
and investment tax credit carryforwards totaling approximately $518,000 that
began expiring in 1999 and continue to expire through 2021. The Company believes
that it will be able to utilize all of its NOL carryforwards and tax credits
prior to expiration.
(8) SEGMENT INFORMATION
The Company reports its results in two segments: Outsourcing Services and
Medical Products.
The Outsourcing Services segment was made up of RELA, CMED Manufacturing,
CDT, CMED Automation and the service portion of IPS. This segment designs,
develops and manufactures medical products for a broad range of customers that
include major pharmaceutical and medical device companies.
F-24
55
The Medical Products segment was made up of the products portion of IPS,
CIVCO and BioMed. This segment designs, develops and manufactures proprietary
medical products which include: high-performance RF amplifiers and integrated
power delivery subsystems for the medical imaging industry; high voltage x-ray
generator subsystems for CT scanners; a combination of tools and services to
support healthcare institutions in their efforts to establish Year 2000
compliance for their biomedical devices; and specialized medical accessories for
imaging equipment and for minimally invasive surgical equipment.
Following is a breakout of the Company's segments for the years ended June
30:
<Table>
<Caption>
(In thousands)
Outsourcing Medical Reconciling Consolidated
Services Products Items Totals
----------- -------- ----------- ------------
Fiscal 2001:
Operating revenue $ 57,449 $ 40,360 $ (20,634) $ 77,175
Gross profit 10,512 10,290 -- 20,802
Assets 27,567 23,833 -- 51,400
Expenditures for long-lived assets 1,525 723 -- 2,248
Fiscal 2000:
Operating revenue $ 49,734 $ 32,054 $ (7,785) $ 74,003
Gross profit 13,921 12,905 -- 26,826
Assets 26,841 21,645 (194) 48,292
Expenditures for long-lived assets 491 2,533 -- 3,024
Fiscal 1999:
Operating revenue $ 48,038 $ 28,314 $ (629) $ 75,723
Gross profit 18,362 12,253 (107) 30,508
Assets 34,096 18,280 (2,405) 49,971
Expenditures for long-lived assets 1,634 (426) -- 1,208
</Table>
Included in the operating revenues disclosed above are intersegment
operating revenues of the Outsourcing Services segment of $20,634,000,
$7,785,000 and $591,000 for the years ended June 30, 2001, 2000 and 1999,
respectively. The Medical Products segment had no intersegment revenues for the
years ended June 30, 2001 and 2000, and $38,000 of intersegment revenues for the
year ended June 30, 1999. The intersegment revenues account for the operating
revenue and margin reconciling items.
The assets reconciling item is the elimination of the investment in CDT
and CMED Automation for the years ended June 30, 2000 and 1999.
The Company manages its operating segments through the gross margin
component of each segment. It is impractical to break out other operating
expenses, including depreciation, on a segment basis.
F-25
56
The following customers accounted for more than 10% of the total
outsourcing services revenue for the years ended June 30, 2001, 2000 and 1999:
<Table>
<Caption>
Customer 2001 2000 1999
-------- ---- ---- ----
A 16% 14% 3%
B 12% 19% 25%
C 0% 10% 17%
</Table>
The following customers accounted for more than 10% of the total medical
products revenue for the years ended June 30, 2001, 2000 and 1999:
<Table>
<Caption>
Customer 2001 2000 1999
-------- ---- ---- ----
A 35% 45% 60%
B 16% 11% 0%
</Table>
The loss of any of these significant customers would have an adverse effect
on the Company.
As of June 30, 2001, the Company had receivables outstanding from the above
significant customers of approximately $6,100,000.
As a percentage of total revenues, foreign revenues accounted for the
following as of June 30,:
<Table>
<Caption>
2001 2000 1999
---- ---- ----
Japan 17% 13% 2%
France 1% 5% 11%
Other foreign revenue 7% 4% 2%
---- ---- ----
Total foreign revenue 25% 22% 15%
==== ==== ====
</Table>
(9) NOTES RECEIVABLE - RELATED PARTIES
During January 2001, the Board of Directors approved a program to loan to
officers of the Company up to $1,000,000 to purchase common stock of the Company
from persons other than the Company. The loans are full recourse to the
Borrower and bear interest at the prime rate plus 0.5%. Interest is payable
annually on the anniversary date of each note. All principal and remaining
accrued interest is due five years from the date of the respective note. As of
June 30, 2001, accrued interest on the loans was approximately $40,000 and is
included in other current assets on the balance sheet. Interest income of
approximately $40,000 from the loans is included in interest income and other
for the year ended June 30, 2001.
(10) COMMITMENTS AND CONTINGENCIES
Leases
The Company leases its operating facilities and certain computer and test
equipment pursuant to noncancellable operating lease arrangements. The Company
incurred rent expense of $1,190,000, $1,303,000 and $1,068,000 for the years
ended June 30, 2001, 2000 and 1999, respectively, under such agreements.
At June 30, 2001, future minimum lease payments under leases having an
initial or remaining noncancellable term of one year or more are approximately
$958,000 in 2002, $84,000 in 2003, $12,000 in 2004, and none thereafter.
F-26
57
Employment and Compensation Agreements
The Company has entered into employment agreements with certain key
employees. The employment agreements establish compensation and generally
provide for severance benefits to the employees upon termination of employment
or upon a change in control.
Legal Proceedings
On November 21, 2000, Victor J. Wedel and Sherrill Wedel filed a legal
proceeding against the Company and one of its directors, John V. Atanasoff, in
United States District Court for the Central District of California in
connection with the November 15, 1999 transaction in which the Company acquired
the outstanding stock of CIVCO Medical Instruments Co., Inc. and related real
estate from the Wedels in exchange for Company stock. The defendants moved to
stay this suit so that the claims could be arbitrated in accordance with an
agreement between Mr. Wedel and the Company to submit all disputes to binding
arbitration. While the court granted the requested stay, it also entered an
order that imposes certain restrictions on CIVCO and the Company during the
pendency of the dispute. The order includes a provision that the Company will
not draw on its credit facility while CIVCO is a party to the credit facility
and that CIVCO will not pay any dividends to the Company during the pendency of
the dispute. In September 2001 we entered into a commitment letter with the
lender pursuant to which the facility will be amended to remove CIVCO as a
party, thus permitting the Company to utilize it.
On March 3, 2001, the Wedels submitted a statement of claim to an
arbitrator group. The statement of claim alleges that the Company made
misrepresentations to and concealed material information from the plaintiffs in
connection with the CIVCO acquisition. The statement of claim further alleges
that there was a breach of the warranty contained in the CIVCO acquisition
agreement regarding the completeness and correctness of our filings with the
Securities and Exchange Commission. The amount of damages sought was $5,457,701
or, alternatively, rescission of the CIVCO acquisition. On March 30, 2001, the
plaintiffs amended their statement of claim to include an additional damage
theory pursuant to which they increased the damages sought to $15,462,804. The
Company and the other defendant have denied all substantive allegations of
wrongdoing and both parties are defending themselves. The arbitration hearing is
scheduled for October 2001. The Company cannot predict the eventual outcome of
this matter.
In May 2001, a former customer, Gen-Probe, Incorporated, threatened
litigation against the Company in connection with a development and
manufacturing project. In response to their threat and in anticipation that they
were prepared to file suit against us, on May 23, 2001, we filed a suit for
declaratory judgment against Gen-Probe in United States District Court for the
District of Colorado. The suit seeks a declaration that we did not breach the
agreements pursuant to which the development and manufacturing services were
performed. The parties have signed a tolling agreement pursuant to which
defenses of the parties based on the passage of time are tolled until October
31, 2001. Further, Gen-Probe has agreed not to file suit against the Company
until after October 31, 2001, and the Company agreed to stipulate that
Gen-Probe's answer in the pending litigation is not due prior to October 31,
2001. While the tolling agreement is in place, the parties are attempting to
resolve the dispute. Gen-Probe has stated that its damages in connection with
the dispute are in excess of $15 million. The Company cannot predict the
eventual outcome of this matter.
Other than mentioned above, the Company is involved in legal actions
arising in the ordinary course of business. Management does not believe the
outcome of such legal actions will have a material adverse effect on the
Company's consolidated financial position or results of operations.
F-27
58
Regulatory Actions
On January 26, 2001, the Company received a warning letter from the United
States Food and Drug Administration (FDA) regarding certain areas in which the
Company's Longmont, Colorado contract medical device manufacturing facility was
not in conformance with the FDA's Quality System Regulation (QSR). The letter
requires actions to be performed by the Company to ensure that requirements
under the QSR are met prior to the Company resuming manufacture of certain
classes of medical devices. Failure by the Company to address the areas of
non-conformance could result in seizure, injunction, and/or civil penalties.
This had an adverse material effect on the operations of the Company during the
year ended June 30, 2001. The Company has taken actions to strengthen its
quality systems and address the areas of non-conformance presented by the FDA.
An independent audit was completed and the Company is now waiting for the FDA to
complete its review. Delays in receiving clearance from the FDA may cause the
Company to incur additional costs and delay shipments of certain products
expected to be manufactured in the Longmont facility. Such delays would continue
to have a material adverse effect on the operations of the Company.
(11) 401(k) RETIREMENT PLAN
The Company has established the Colorado MEDtech, Inc. 401(k) Retirement
Plan, which is governed by Section 401(k) of the Internal Revenue Code.
Employees are eligible to enroll in the plan on January 1 and July 1, any time
after they become full time employees of the Company. The Company makes
discretionary contributions that vest over a three-year period. Company
contributions were approximately $407,000, $366,000 and $264,000 for the years
ended June 30, 2001, 2000 and 1999, respectively.
F-28
59
(12) SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
The Company's quarterly results of operations are summarized as follows:
(In thousands except earnings per share data)
<Table>
<Caption>
1st 2nd 3rd 4th
Quarter Quarter Quarter Quarter
---------- ---------- ---------- ----------
Fiscal Year Ended June 30, 2001
Net sales and service $ 17,071 $ 18,687 $ 20,958 $ 20,459
Gross profit $ 5,760 $ 5,582 $ 6,517 $ 2,943
Net income $ 334 $ (676) $ (635) $ (1,730)
Earnings per share:
Basic $ .03 $ (.05) $ (.05) $ (.13)
Diluted $ .03 $ (.05) $ (.05) $ (.13)
Fiscal Year Ended June 30, 2000
Net sales and service $ 20,659 $ 17,999 $ 18,349 $ 16,996
Gross profit $ 8,408 $ 6,250 $ 6,373 $ 5,794
Net income $ 2,241 $ 918 $ 790 $ (959)
Earnings per share:
Basic $ .19 $ .08 $ .06 $ (.08)
Diluted $ .16 $ .07 $ .06 $ (.08)
Fiscal Year Ended June 30, 1999
Net sales and service $ 16,062 $ 18,328 $ 19,656 $ 21,676
Gross profit $ 6,437 $ 7,335 $ 8,009 $ 8,727
Net income $ 1,860 $ 1,914 $ 2,472 $ 2,850
Earnings per share:
Basic $ .16 $ .17 $ .21 $ .24
Diluted $ .14 $ .15 $ .19 $ .21
</Table>
During the quarter ended June 30, 2001, the Company wrote down
approximately $3,100,000 of inventory due to the sudden and unplanned
cancellation of a manufacturing contract.
F-29
60
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required by this Item is incorporated herein by reference
to Colorado MEDtech's definitive Proxy Statement for its Annual Meeting of
Stockholders, to be held on November 16, 2001, to be filed with the Securities
and Exchange Commission pursuant to Schedule 14A under the Securities Exchange
Act of 1934.
ITEM 11. EXECUTIVE COMPENSATION.
The information required by this Item is incorporated herein by reference
to Colorado MEDtech's definitive Proxy Statement for its Annual Meeting of
Stockholders, to be held on November 16, 2001, to be filed with the Securities
and Exchange Commission pursuant to Schedule 14A under the Securities Exchange
Act of 1934.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required by this Item is incorporated herein by reference
to Colorado MEDtech's definitive Proxy Statement for its Annual Meeting of
Stockholders, to be held on November 16, 2001, to be filed with the Securities
and Exchange Commission pursuant to Schedule 14A under the Securities Exchange
Act of 1934.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this Item is incorporated herein by reference
to Colorado MEDtech's definitive Proxy Statement for its Annual Meeting of
Stockholders, to be held on November 16, 2001, to be filed with the Securities
and Exchange Commission pursuant to Schedule 14A under the Securities Exchange
Act of 1934.
-31-
61
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) (1) and (2) The following financial statements and financial statement
schedules are filed as part of this report:
Report of Independent Public Accountants
Consolidated Balance Sheets as of June 30, 2001 and 2000
Consolidated Statements of Operations for the Years Ended June 30,
2001, 2000 and 1999 Consolidated Statements of Shareholders' Equity for
the Years Ended June 30, 2001, 2000 and 1999 Consolidated Statements of
Cash Flows for the Years Ended June 30, 2001, 2000 and 1999 Notes to
Consolidated Financial Statements
All other schedules have been omitted because they were not applicable, not
required or the required information is shown in the consolidated
financial statements or notes thereto.
(3) Exhibits. See Exhibit Index included as the last page of this report,
which index is incorporated by reference.
(b) Reports on Form 8-K. We filed the following reports on Form 8-K for the
three-month period ended June 30, 2001:
1. A current report on Form 8-K dated April 23, 2001 regarding a press
release discussing expense reductions through a reduction in its contract
manufacturing workforce.
2. A current report on Form 8-K dated June 4, 2001 regarding investor and
analyst presentation materials of the President and Chief Executive Officer
and Chief Financial Officer used on June 4, 2001 and to be used from time
to time thereafter.
-32-
62
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
Dated: September 28, 2001. COLORADO MEDTECH, INC.
By: /s/ Stephen K. Onody
------------------------
Stephen K. Onody
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
<Table>
<Caption>
Signature Title Date
--------- ----- ----
/s/ Stephen K. Onody Chief Executive Officer, September 28, 2001
-------------------------------- President and Director
Stephen K. Onody (Principal Executive Officer)
/s/ Gregory A. Gould Chief Financial Officer September 28, 2001
-------------------------------- (Principal Financial and
Gregory A. Gould Accounting Officer)
/s/ John V. Atanasoff Director September 28, 2001
--------------------------------
John V. Atanasoff
/s/ Anthony J. Dimun Director September 28, 2001
--------------------------------
Anthony J. Dimun
/s/ John P. Jenkins Director September 28, 2001
--------------------------------
John P. Jenkins
/s/ Ira M. Langenthal Director September 28, 2001
--------------------------------
Ira M. Langenthal
/s/ Clifford W. Mezey Director September 28, 2001
--------------------------------
Clifford W. Mezey
/s/ Robert L. Sullivan Director September 28, 2001
--------------------------------
Robert L. Sullivan
/s/ John E. Wolfe Director September 28, 2001
--------------------------------
John E. Wolfe
</Table>
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63
INDEX TO EXHIBITS
<Table>
<Caption>
Exhibit Sequential
Number Description Page No.
------ ----------- ----------
3.1 Articles of Incorporation; Complete Copy, as Amended. (A)
3.2 Bylaws, as Amended.
4.2 Specimen of Common Stock Certificate. (B)
4.3 Rights Agreement between Colorado MEDtech, Inc. and American
Securities Transfer & Trust, Inc. dated January 14, 1999, as amended. (C)
10.31 Colorado MEDtech, Inc. Stock Option Plan. (D)
10.32 Employment Agreement between Colorado MEDtech, Inc. and
John V. Atanasoff, II. (E)
10.38 Extension of Employment Agreement between Colorado MEDtech, Inc.
and John V. Atanasoff, II (F)
10.42 Colorado MEDtech, Inc. 1996 Employee Stock Purchase Plan
10.44 Loan Agreement, Commercial Security Agreement, and Promissory Note dated
October 30, 1997 between Colorado MEDtech, Inc. and Bank One, Colorado N.A. (G)
10.45 Executive Employment Agreement between Colorado MEDtech, Inc.
and Stephen K. Onody. (D)
10.46 Letter agreement between Colorado MEDtech, Inc. and Gregory A. Gould. (D)
10.47 Credit Agreement, Security Agreement and Promissory Note dated December 21, 2000
between Colorado MEDtech, Inc. and KeyBank, National Association. (H)
10.48 First Amendment to Security Agreement dated February 28, 2001, and First Amendment to
Credit Agreement dated April 30, 2001, between Colorado MEDtech, Inc. and KeyBank
National Association. (I)
10.49 Form of Officer Loan Agreement, Master Promissory Note, Master
Escrow Agreement, and Security Agreement for 2001 Officer
Loans, and Schedule.
21.1 Subsidiaries of Colorado MEDtech, Inc.
23.1 Consent of Independent Public Accountants
</Table>
----------
(A) Filed as an exhibit to the Company's Annual Report on Form 10-K for the
year ended June 30, 1999.
(B) Filed with Registration Statement (No. 2-83841-D) on Form S-18 on May 17,
1983.
(C) Filed with Registration Statement on Form 8-A/A dated June 27, 2000.
(D) Filed as an exhibit to the Company's Annual Report on Form 10-K for the
year ended June 30, 2000.
(E) Filed as an exhibit to the Company's Current Report on Form 8-K, dated June
21, 1993
(F) Filed as an exhibit to the Company's Quarterly Report on Form 10-QSB for
the quarter ended March 31, 1996.
(G) Filed as an exhibit to the Company's Annual Report on Form 10-K for the
year ended June 30, 1998.
(H) Filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the
quarter ended December 31, 2000.
(I) Filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the
quarter ended March 31, 2001.
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