U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[ X ] QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 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 0-12471
-------
COLORADO MEDTECH, INC.
----------------------
(Exact name of issuer as specified in its charter)
COLORADO 84-0731006
-------- ----------
(State or other jurisdiction of Employer (IRS Identification No.)
incorporation or organization)
6175 Longbow Drive, Boulder, Colorado 80301
-------------------------------------------
(Address of principal executive offices)
(303) 530-2660
--------------
(Issuer's telephone number)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Exchange Act 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
-- ---
As of October 31, 2001, the Company had 12,972,219 shares of Common Stock
outstanding.
COLORADO MEDTECH, INC.
FORM 10-Q
<Table>
<Caption>
PART I FINANCIAL INFORMATION PAGE
----
Item 1. Financial Statements:
Condensed Consolidated Balance Sheets -
September 30, 2001 (unaudited) and June 30, 2001 3
Condensed Consolidated Statements of Operations (Unaudited) -
For the three months ended September 30, 2001 and 2000 5
Condensed Consolidated Statements of Cash Flows (Unaudited) -
For the three months ended September 30, 2001 and 2000 6
Notes to Condensed Consolidated Financial Statements (Unaudited) - 7
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations 14
Item 3. Quantitative and Qualitative Disclosures about Market Risk 19
PART II OTHER INFORMATION
Item 1. Legal Proceedings 20
Item 6. Exhibits and Reports on Form 8-K 20
</Table>
2
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
COLORADO MEDTECH, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
ASSETS
<Table>
<Caption>
(UNAUDITED)
September 30, 2001 June 30, 2001
------------------ ------------
CURRENT ASSETS:
Cash and cash equivalents $ 7,098,519 $ 8,127,076
Short-term investments 1,694,492 1,677,290
Accounts receivable, net 11,113,724 13,505,201
Inventories 11,451,537 11,720,505
Deferred income taxes 3,234,201 3,234,201
Prepaid expenses and other 2,025,149 1,768,355
----------- -----------
Total current assets 36,617,622 40,032,628
PROPERTY AND EQUIPMENT, net 4,694,709 4,637,282
GOODWILL AND INTANGIBLES 3,533,273 3,585,772
NOTES RECEIVABLE - RELATED PARTIES 999,796 999,796
INVESTMENT IN LAND 500,000 500,000
DEFERRED INCOME TAXES AND OTHER 1,631,756 1,644,455
----------- -----------
TOTAL ASSETS $47,977,156 $51,399,933
=========== ===========
</Table>
The accompanying notes are an integral part of these balance sheets.
3
COLORADO MEDTECH, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
LIABILITIES AND SHAREHOLDERS' EQUITY
<Table>
<Caption>
(UNAUDITED)
September 30, 2001 June 30, 2001
------------------ --------------
CURRENT LIABILITIES:
Accounts payable $ 6,213,957 $ 7,168,168
Accrued product service costs 406,769 424,163
Accrued salaries and wages 2,692,129 3,054,307
Other accrued expenses 1,645,564 1,905,229
Customer deposits 2,770,940 3,451,332
Current portion of capital lease obligation 42,545 41,715
------------ ------------
Total current liabilities 13,771,904 16,044,914
Capital lease obligation, net of current portion 22,550 33,503
------------ ------------
Total liabilities 13,794,454 16,078,417
------------ ------------
SHAREHOLDERS' EQUITY:
Common Stock, no par value, 25,000,000 shares authorized;
12,972,219 and 12,967,319 issued and outstanding at
September 30, 2001 and June 30, 2001, respectively 16,179,176 16,161,004
Retained earnings 18,028,611 19,174,464
Unrealized loss on available-for-sale investment (25,085) (13,952)
------------ ------------
Total shareholders' equity 34,182,702 35,321,516
------------ ------------
TOTAL LIABILITIES AND
SHAREHOLDERS' EQUITY $ 47,977,156 $ 51,399,933
============ ============
</Table>
The accompanying notes are an integral part of these balance sheets.
4
COLORADO MEDTECH, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2001 AND 2000
(UNAUDITED)
<Table>
<Caption>
2001 2000
------------ ------------
SALES AND SERVICE:
Outsourcing Services $ 6,334,968 $ 9,697,646
Medical Products 10,684,375 7,373,500
------------ ------------
Total Sales and Service 17,019,343 17,071,146
------------ ------------
COST OF SALES AND SERVICE:
Outsourcing Services 5,555,002 6,271,607
Medical Products 6,633,252 5,039,785
------------ ------------
Total Cost of Sales and Service 12,188,254 11,311,392
------------ ------------
GROSS PROFIT 4,831,089 5,759,754
------------ ------------
COSTS AND EXPENSES:
Marketing and selling 987,970 921,383
Operating, general and administrative 4,365,497 3,315,680
Research and development 832,259 1,013,558
Other operating expenses 596,980 268,447
------------ ------------
Total operating expenses 6,782,706 5,519,068
------------ ------------
(LOSS) EARNINGS FROM OPERATIONS (1,951,617) 240,686
OTHER INCOME, net 100,764 292,220
------------ ------------
(LOSS) INCOME BEFORE PROVISION
FOR INCOME TAXES (1,850,853) 532,906
(BENEFIT) PROVISION FOR INCOME TAXES (705,000) 199,000
------------ ------------
NET (LOSS) INCOME $ (1,145,853) $ 333,906
============ ============
NET (LOSS) INCOME PER SHARE
Basic $ (.09) $ .03
============ ============
Diluted $ (.09) $ .03
============ ============
WEIGHTED AVERAGE
SHARES OUTSTANDING
Basic 12,970,726 12,422,867
============ ============
Diluted 12,970,726 13,155,868
============ ============
</Table>
The accompanying notes are an integral part of these statements.
5
COLORADO MEDTECH, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2001 AND 2000
(UNAUDITED)
<Table>
<Caption>
2001 2000
----------- -----------
OPERATING ACTIVITIES:
Net income (loss) $(1,145,853) $ 333,906
Adjustment to reconcile net income to net
cash flows (used in) provided by operating activities-
Depreciation and amortization 587,328 507,057
Provision for deferred taxes -- 49,189
Accretion of short-term investments (22,787) (142,648)
Changes in operating assets and liabilities-
Accounts receivable, net 2,391,477 1,908,646
Inventories, net 268,968 (1,664,271)
Prepaid expenses and other assets (259,295) (350,450)
Accounts payable and accrued expenses (1,582,447) 248,088
Customer deposits (680,392) 150,473
----------- -----------
Net cash flows (used in) provided by operating activities (443,001) 1,039,990
----------- -----------
INVESTING ACTIVITIES:
Capital expenditures (592,256) (144,987)
Purchases of short-term investments -- (1,171,942)
Sales of short-term investments -- 210,000
----------- -----------
Net cash flows used in investing activities (592,256) (1,106,929)
----------- -----------
FINANCING ACTIVITIES:
Issuance of common stock 16,823 1,362,732
Repayment of borrowings (10,123) (12,566)
----------- -----------
Net cash flows provided by financing activities 6,700 1,350,166
----------- -----------
Net (decrease) increase in cash and cash equivalents (1,028,557) 1,283,227
Cash and cash equivalents, at beginning of period 8,127,076 8,560,065
----------- -----------
Cash and cash equivalents, at end of period $ 7,098,519 $ 9,843,292
=========== ===========
</Table>
The accompanying notes are an integral part of these statements.
6
COLORADO MEDTECH, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE-MONTH PERIODS ENDED SEPTEMBER 30, 2001 AND 2000
(UNAUDITED)
NOTE 1 - SIGNIFICANT ACCOUNTING POLICIES
The financial information is unaudited and should be read in conjunction with
the consolidated financial statements and notes thereto filed with the Company's
annual report on Form 10-K for the year ended June 30, 2001 (the "Form 10-K").
The accounting policies utilized in the preparation of the financial information
herein presented are the same as set forth in the Company's annual consolidated
financial statements filed with the Form 10-K, except as modified for interim
accounting policies which are within the guidelines set forth in Accounting
Principles Board Opinion No. 28.
In the opinion of management, the accompanying unaudited condensed consolidated
financial statements contain all adjustments necessary to present fairly the
Company's financial position as of September 30 and June 30, 2001 and the
results of its operations and its cash flows for the three-month periods ended
September 30, 2001 and 2000. All of the adjustments were of a normal and
recurring nature.
Reclassifications
Certain amounts have been reclassified in the prior year financial statements to
be consistent with 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
general improvement of the Company's quality systems.
Cash Flow Information
The following sets forth the supplemental disclosures of cash flow information
for the three-month periods ended September 30:
<Table>
<Caption>
2001 2000
---- ----
(In thousands)
Cash paid for interest $ 3 $ 3
Cash paid for income taxes $-- $45
</Table>
During the periods ended September 30, 2001 and 2000, the Company received
non-cash tax benefits of $1,000 and $290,000, respectively, for the exercise of
stock options and warrants in disqualifying stock transactions.
NOTE 2 - BORROWINGS
Credit Facility
The Company entered into a credit facility (the "Credit Facility") 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 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%. At September 30, 2001, the
applicable rate was 4.63%. All accounts
7
receivable and inventory secure outstanding balances, but no amounts had been
advanced under the Credit Facility as of October 31, 2001. The agreement
contains various restrictive covenants customary in asset-based loans. In
connection with the Wedel litigation (See "Note 10: Contingencies and Subsequent
Events"), the court entered an order on January 26, 2001 that restricts the
Company's ability to draw on the Credit Facility while CIVCO Medical Instruments
Co., Inc. ("CIVCO"), a subsidiary of Colorado MEDtech, is a party to the Credit
Facility. In addition, CIVCO cannot pay any dividends to the Company during the
pendency of the dispute.
On November 13, 2001, the Company and the lender amended the Credit Facility 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
(6.0% at September 30, 2001) or (b) the federal funds effective rate (3.0% at
September 30, 2001) plus 0.5%. Had the Company been able to draw funds under the
amendment at September 30, 2001, the applicable interest rate would have been
8.0%. As of October 31, 2001, no funds had been advanced under the credit
facility.
Capital Leases
The Company is obligated under a capital lease agreement that terminates in
April 2003 as follows:
<Table>
<Caption>
September 30, 2001
(In thousands)
Minimum lease payments
Current $ 46
Long-term 23
----
Total lease payments 69
Amounts representing interest (7.9%) (4)
----
$ 65
====
</Table>
NOTE 3 - 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. Total comprehensive income and the components of comprehensive
income follow:
<Table>
<Caption>
Three Months Ended
September 30,
----------------------
2001 2000
------- -------
(In thousands)
Net (loss) income $(1,146) $ 334
Changes in unrealized loss on
available-for-sale investments, net of taxes (11) (23)
------- -------
Comprehensive income $(1,157) $ 311
======= =======
</Table>
8
NOTE 4 - EARNINGS PER SHARE
Basic earnings per share are computed on the basis of the weighted average
common 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 three months ended September 30, 2001, the Company operated
at a loss. Therefore, all of the outstanding options and warrants were
anti-dilutive in nature and were not used in the calculation of fully diluted
weighted average shares outstanding.
The reconciliation between the number of shares used to calculate basic and
diluted earnings per share is as follows:
(In thousands, except earnings per share amounts)
<Table>
<Caption>
Three Months Ended
September 30,
-----------------------
2001 2000
-------- --------
Net (loss) income $ (1,146) $ 334
======== ========
Weighted average number of common shares
outstanding (shares used in basic earnings
per share computation) 12,971 12,423
Effect of stock options and warrants
(treasury stock method) -- 733
-------- --------
Shares used in diluted earnings per share
computation 12,971 13,156
======== ========
Basic earnings per share $ (.09) $ .03
======== ========
Diluted earnings per share $ (.09) $ .03
======== ========
Options and warrants that were of an antidilutive
nature that were outstanding but not included in
the shares used in diluted earnings per share 2,461 1,419
======== ========
</Table>
NOTE 5 - STOCK AND STOCK OPTIONS
During the three months ended September 30, 2001, the Company granted options to
purchase 39,000 shares of the Company's common stock to certain employees of the
Company. The options to purchase the Company's common stock were issued at
exercise prices ranging from $3.90 to $4.70 per share, which were the fair
market values of the Company's common stock on the dates of the grants. The
options vest over a four-year period and are exercisable for a period of ten
years from the date of grant.
During the three months ended September 30, 2001, 4,900 stock options were
exercised by certain employees at prices per share ranging from $3.03 to $3.82,
resulting in cash proceeds to the Company of $16,823.
During the three months ended September 30, 2001, the Company issued to an
outside director of the Company a warrant to purchase 26,250 shares of the
Company's common stock at $2.85 per share, the fair market value of the common
stock on the date of grant, which warrant vests as follows: 11,250 shares shall
be exercisable on August 24, 2001, and the remaining 15,000 shares shall vest at
the rate of
9
2,500 shares on each of the six (6) monthly anniversaries of August 24, 2001,
beginning September 24, 2001 and ending February 24, 2002. The warrant is
exercisable five years from date of grant. The warrant was issued as
consideration for consulting services provided by the director to the Company.
The Company has computed the fair value of the warrant issued under this
agreement using the Black Scholes pricing model, assuming a risk free interest
rate of 4.53%, expected life of four years, expected volatility of 87.2%, and 0%
dividend rate. Based on this calculation, the warrant has a fair value of
approximately $49,000, which will be expensed ratably over the vesting period.
Unvested options will continue to be marked to market over the vesting period.
NOTE 6 - SEGMENT INFORMATION
The Company operates in two industry segments, Outsourcing Services and Medical
Products. The Outsourcing Services segment is made up of the RELA division
("RELA") and the service portion of the Imaging and Power Systems division
("IPS"). This segment designs, develops and manufactures medical products for a
broad range of customers that includes major medical device and biotechnology
companies.
The Medical Products segment is made up of CIVCO and the products portion of
IPS. 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; specialized medical
accessories for imaging equipment and for minimally invasive surgical equipment,
and high voltage x-ray generator subsystems for CT scanners.
The following is a breakout of the Company's operating revenue and gross profit
by segment for the three-month periods ended September 30, 2001 and 2000:
<Table>
<Caption>
Outsourcing Medical Reconciling Consolidated
Services Products Items Totals
----------- -------- ----------- -------------
(In thousands)
Three months ended September 30, 2001:
Operating revenue $ 7,050 $10,758 $ (789) $17,019
Gross profit 780 4,051 -- 4,831
Three months ended September 30, 2000:
Operating revenue $13,296 $ 7,373 $(3,598) $17,071
Gross profit 3,426 2,334 -- 5,760
</Table>
Included in the operating revenues disclosed above are intersegment operating
revenues of the Outsourcing Services segment of $715,000 and $3,598,000 for the
quarters ended September 30, 2001 and 2000, respectively. The Medical Products
segment had $74,000 and $0 of intersegment revenues for the quarters ended
September 30, 2001 and 2000, respectively.
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.
The following is a breakout of the Company's assets by segment at September 30,
2001 compared to June 30, 2001:
<Table>
<Caption>
Outsourcing Medical Consolidated
Services Products Totals
----------- -------- ------------
(In thousands)
Assets at September 30, 2001 $27,880 $20,097 $47,977
Assets at June 30, 2001 $27,567 $23,833 $51,400
</Table>
10
NOTE 7 - RECENTLY ISSUED ACCOUNTING STANDARDS
In June 2001, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards ("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.
During August 2001, the FASB issued SFAS No. 144 "Accounting for the Impairment
or Disposal of Long-Lived Assets". This standard addresses financial accounting
and reporting for the impairment of long-lived assets and for long-lived assets
to be disposed of. This statement supercedes SFAS No. 121 "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of",
and the accounting and reporting provisions of Accounting Principles Board
("APB") Opinion No. 30 "Reporting the Results of Operations - Reporting the
Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions", for the disposal of a segment
of a business (as previously defined in that opinion). This standard is
effective for financial statements issued for fiscal years beginning after
December 15, 2001, and interim periods within those fiscal years. Management is
reviewing the provisions of this statement and does not expect them to have a
material effect on the Company's financial statements.
NOTE 8 - GOODWILL AND INTANGIBLES
The Company adopted SFAS No. 141, "Business Combinations" and SFAS No. 142,
"Goodwill and Other Intangible Assets" during the three month period ended
September 30, 2001. 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.
The Company had recorded on its balance sheet $2,776,000 of goodwill as of
September 30, 2001. As a result of adopting SFAS No. 142, the Company is no
longer amortizing its goodwill related to the December 2000 acquisition of the
operating assets of the ultrasound supplies group of ATL Ultrasound. The Company
previously was recording approximately $46,000 of amortization expense on a
quarterly basis associated with this goodwill. No goodwill amortization was
reported for the three months ended September 30, 2000 for the ATL Ultrasound
asset acquisition. The Company will complete its annual impairment test as
required by SFAS No. 142 during the fourth quarter of fiscal year 2002.
The Company had recorded $850,000 (net of accumulated amortization of $150,000)
on its balance sheet relating to an acquired intangible asset as of September
30, 2001. The acquired intangible asset consists of a business support, product
development and non-competition agreement acquired in connection with the
December 2000 acquisition of the operating assets of the ultrasound supplies
group of ATL Ultrasound. The Company recorded $50,000 of amortization expense
related to this asset during the three months ended September 30, 2001.
11
NOTE 9 - NOTES RECEIVABLE - RELATED PARTIES
During January 2001, the Board of Directors approved a program to loan 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 September 30, 2001,
accrued interest on the loans was approximately $59,000 and is included in other
current assets on the balance sheet. Interest income of approximately $21,000
from the loans is included in interest income and other for the quarter ended
September 30, 2001.
NOTE 10 - CONTINGENCIES AND SUBSEQUENT EVENTS
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 November 2001, the Company and the lender
amended the credit facility to remove CIVCO, thus permitting Colorado MEDtech to
utilize it. The net assets of CIVCO as of September 30, 2001 were approximately
$6,531,000.
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 parties concluded an arbitration hearing
in early November 2001 and are awaiting the arbiter's ruling.
In May 2001, a former customer, Gen-Probe, Incorporated, threatened litigation
against Colorado MEDtech in connection with a development and manufacturing
project. In response to its threat and in anticipation that Gen-Probe was about
to file suit against Colorado MEDtech, on May 23, 2001, Colorado MEDtech filed a
suit for declaratory judgment against Gen-Probe in United States District Court
for the District of Colorado. The suit sought a declaration that Colorado
MEDtech did not breach the agreements pursuant to which the development and
manufacturing services were performed. The parties signed a tolling agreement in
which they agreed that defenses based on the passage of time were tolled until
October 31, 2001. In October 2001, the tolling agreement was amended to provide
that such defenses of the parties are tolled until January 31, 2002, and
Gen-Probe agreed not to file suit against Colorado MEDtech until after January
31, 2002. As a part of the amendment to the tolling agreement, Colorado MEDtech
dismissed without prejudice its suit, with leave to re-file the suit if the
dispute is not
12
resolved prior to January 31, 2002. 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.
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
required 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 have resulted in seizure, injunction, and/or civil
penalties. On October 11, 2001, the Company received a letter from the FDA
resolving the issues identified in the warning letter, and allowing the Company
to resume production of devices affected by the warning letter.
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
As an aid to understanding the Company's operating results, the following table
indicates the percentage relationships of income and expense items to total
revenue for the line items included in the Condensed Consolidated Statements of
Operations for the three-month periods ended September 30, 2001 and 2000, and
the percentage change in those items for the three-month period ended September
30, 2001, from the comparable period in 2000.
<Table>
<Caption>
Percentage Change From
As a Percentage of Total Revenues Prior Year's Comparable Period
- --------------------------------- ------------------------------
Three-Month Period Three-Month Period
Ended September 30, Ended September 30,
------------------- -------------------
2001 2000 LINE ITEMS 2001
---- ---- ---------- ----
% % %
37.2 56.8 Sales, Outsourcing Services (34.7)
62.8 43.2 Sales, Medical Products 44.9
- ----- ----- ----
100.0 100.0 Total Sales and Service (0.3)
- ----- ----- ----
32.6 36.7 Cost of Sales, Outsourcing Services (11.4)
39.0 29.5 Cost of Sales, Medical Products 31.6
- ----- ----- ----
71.6 66.2 Total Cost of Sales and Services 7.8
- ----- ----- ---
28.4 33.8 Gross Profit (16.1)
- ----- ----- -----
5.8 5.4 Marketing and Selling 7.2
25.7 19.4 Operating, Gen'l and Admin 31.7
4.9 6.0 Research and Development (17.9)
3.5 1.6 Other Operating Expenses 122.4
- ----- ----- -----
39.9 32.4 Total Operating Expenses 22.9
- ----- ----- ----
(11.5) 1.4 Earnings from Operations (910.9)
0.6 1.7 Other Income, Net (65.5)
- ----- ----- -----
(10.9) 3.1 (Loss) Earnings Before Income Taxes (447.3)
(4.1) 1.2 (Benefit) Provision for Income Taxes (454.3)
- ----- ----- ------
(6.8) 1.9 (LOSS) NET INCOME (443.2)
===== ===== ======
</Table>
14
RESULTS OF OPERATIONS
Revenues for the three-month period ended September 30, 2001, compared to the
same period in the prior year, and the percentage of total revenue contributed
by each of our segments, are as follows:
<Table>
<Caption>
Three Months Ended
September 30,
-----------------------------------
2001 2000
---- ----
Revenues $17.0 million $17.1 million
Outsourcing Services 37.2% 56.8%
Medical Products 62.8% 43.2%
</Table>
Although revenues for the three-month periods ended September 30, 2001 and 2000
were similar in total, the revenue mix changed between medical products and
outsourcing services. Medical products revenues increased 45% in the quarter
ended September 30, 2001, compared to the same quarter in fiscal 2000 due to
increased sales from new business resulting from the purchase of the operating
assets of the ultrasound supplies group of ATL Ultrasound in December 2000 and
the increase in sales of x-ray generators. Our contract to produce x-ray
generators for Hitachi was cancelled, and once the buildout of x-ray generators
is complete, revenues for this product will decline significantly.
Revenues from outsourcing services decreased 35% for the quarter ended September
30, 2001 compared to September 30, 2000. In January 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). During the quarter ended September 30,
2001, the warning letter impaired our ability to acquire new customers and
caused delays shipping certain medical devices. In October 2001, we received a
letter from the FDA resolving the issues identified in the warning letter,
allowing us to resume production of previously restricted products. The decrease
in outsourcing services revenues in the quarter ended September 30, 2001,
compared to the prior year quarter, was also due in part to the sale of our CDT
subsidiary in April 2001 and the phase out of the Automation division in
February 2001, each of which was undertaken as part of our restructuring
strategy. CDT and Automation each contributed revenues to the outsourcing
services segment in the quarter ended September 30, 2000.
Gross margin decreased to 28% for the three-month period ended September 30,
2001, compared to 34% for the same period in the prior year. The medical
products segment had gross margins of 38% and 32% for the quarters ended
September 30, 2001 and 2000, respectively. The increase was due to new business
resulting from the acquisition of the operating assets of the ultrasound
supplies group of ATL Ultrasound, which contributed to our higher margin product
lines, and increased sales of MRI components. Outsourcing services segment gross
margins were 12% and 35% for the three months ended September 30, 2001 and 2000,
respectively. This decrease was a result of the increase in direct costs of
quality system improvements on our projects, project delays, discounts extended
on certain outsource engineering projects, under-utilization of staff and
overruns on fixed price contracts. We believe that resolution of the warning
letter will allow us to refine the new policies and procedures and improve our
manufacturing process.
15
Marketing and selling expenses increased 7% for the three-month period ended
September 30, 2001, compared to the same period in the prior year. The increase
was due to the addition of sales and marketing personnel and an increased effort
to find more opportunities and markets for our medical device connectivity
concept. Marketing and selling expenses as a percentage of total revenues were
6% and 5% for the three-month periods ended September 30, 2001 and 2000,
respectively.
Operating, general and administrative expenses increased 32% for the three-month
period ended September 30, 2001, compared to the same period in the prior year.
As a percentage of revenues, operating, general and administrative expenses
increased to 26% for the three-month period ended September 30, 2001, compared
to 19% for the same period in the prior year. The increase was due to acquiring
experienced personnel and the actions taken to improve quality systems, tools
and processes. As a result of cost reduction measures and the resolution of the
FDA warning letter, we expect operating, general and administrative expenses to
decrease in the quarter ending December 31, 2001.
Research and development expenses decreased 18% for the three-month period ended
September 30, 2001, compared to the same period in fiscal 2000. Research and
development expenses were attributable to RF solid state amplifiers, medical
device connectivity and ultrasound guidance systems and covers. The decrease in
research and development expenses was due to the transition of the RF solid
state amplifier to manufacturing and the cancellation of the high voltage x-ray
generator program for CT scanners. We believe research and development expenses
will remain near the level experienced in the quarter ended September 30, 2001.
Consistent with our operating plans, we continue to pursue the acquisition or
development of new or improved technology or products. Should we identify such
opportunities, the amount of future research and development expenditures may
increase.
Other operating expenses increased 122% for the three-month period ended
September 30, 2001, compared to the same period in the prior year. As a
percentage of revenue, other operating expenses were 4% and 2% for the quarters
ended September 30, 2001 and 2000. The increase was due to the costs associated
with consultants working on issues related to the FDA warning letter, severance
charges and increased legal expenses (see Note 10 of the Notes to Condensed
Consolidated Financial Statements - Contingencies and Subsequent Events).
Other income decreased 65% for the three-month period ended September 30, 2001,
compared to the same period in fiscal 2000. The decrease was due to a lower
average cash and investments balance and lower interest rates.
During the three month period ended September 30, 2001, compared to the same
period in the prior year, the Company's net income, diluted earnings per share
and diluted weighted average common equivalent shares outstanding used to
calculate earnings per share were as follows:
(In thousands, except per share amounts)
<Table>
<Caption>
Three Months Ended
September 30,
------------------------
2001 2000
-------- --------
Net income $ (1,146) $ 334
Diluted earnings per share $ (.09) $ .03
Diluted weighted average common
equivalent shares outstanding 12,971 13,156
</Table>
16
The net loss for the quarter ended September 30, 2001 was due to the factors
described above in this section with respect to revenues, gross margin,
operating, general and administrative expenses, and other expenses. The decrease
in diluted weighted average common equivalent shares outstanding was due to the
exclusion of outstanding options and warrants in 2001 because their effect would
have been antidilutive.
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. As of September 30, 2001 and June 30, 2001, amounts outstanding
under this obligation were $65,000 and $75,000, respectively.
We entered into a credit facility (the "Credit Facility) 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
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 September 30, 2001, the applicable rate was
4.63%. All accounts receivable and inventory secure outstanding balances, but no
amounts had been advanced under the facility as of October 31, 2001. The
agreement contains various restrictive covenants customary in asset-based loans.
In connection with the Wedel litigation (See Note 10 of the Notes to Condensed
Consolidated Financial Statements - Contingencies and Subsequent Events), 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 Colorado MEDtech during the pendency of the
dispute.
On November 13, 2001, we amended the facility 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 (6.0% at September 30, 2001) or (b)
the federal funds effective rate (3.0% at September 30, 2001) plus 0.5%. Had we
been able to draw funds under the amendment at September 30, 2001, the
applicable interest rate would have been 8.0%. As of October 31, 2001, no funds
had been advanced under the credit facility.
Cash flows used in operating activities were $443,000 for the quarter ended
September 30, 2001, compared to cash provided of $1,040,000 for the same period
in the previous year. During the quarter ended September 30, 2001, cash used in
operating activities was primarily associated with our net loss of $1,146,000,
compared to net income of $334,000 in the same quarter of the previous year.
During the quarter ended September 30, 2001, collections of accounts receivable
provided cash of $2,391,000. Depreciation and amortization for the quarters
ended September 30, 2001 and 2000 was $587,000 and $507,000, respectively.
Offsetting the cash provided by the collection of receivables and depreciation
and amortization charges were decreases in accounts payable and accrued expenses
of $1,582,000 and the use of customer deposits of $680,000. The decrease in
accounts payable and other accrued expenses was attributable to the reduction in
inventory purchases from the slowdown of the x-ray generator program and payment
of the Company's 401(k) match for fiscal 2001 eligible contributions.
17
Cash flows used in investing activities were $592,000 during the quarter ended
September 30, 2001, primarily related to the purchase of software and associated
licenses, as well as the purchase of land for the expansion of the CIVCO
facility. This compares to cash used of $1,106,000 in the same quarter of the
previous year, primarily related to the purchase of short-term investments.
Working capital decreased to $22,846,000 at September 30, 2001, from $23,988,000
at June 30, 2001. The ratio of current assets to current liabilities increased
to 2.7 to 1 at September 30, 2001, compared to 2.5 to 1 at June 30, 2001. The
reduction in working capital was primarily related to the decrease in cash from
the loss incurred during the quarter. The average number of days outstanding of
the Company's accounts receivable at September 30, 2001 was 60 days, compared to
61 days at June 30, 2001.
We believe 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, payment for outstanding or potential
litigation, 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 QSR. Our efforts to address the
issues raised in the warning letter and improve our quality systems have used
some of our capital resources. In October 2001, we received a letter from the
FDA resolving the issues identified in the warning letter. The resolution has
allowed us to resume production of Class III medical devices, reduce
expenditures for consulting services, begin refining policies and procedures for
our quality system and pursue additional sales and marketing opportunities.
As part of the Wedel litigation (see Note 10 of the Notes to Condensed
Consolidated Financial Statements - Contingencies and Subsequent Events), 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 be
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 Colorado MEDtech during the pendency of the dispute.
The restrictions include a provision that CIVCO cannot pay any dividends to
Colorado MEDtech during the pendency of the dispute.
We are currently under audit by the Internal Revenue Service for a prior period
tax return. Should an unfavorable conclusion come out of the audit, it could
have an adverse affect on our financial condition and liquidity.
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.
FORWARD - LOOKING STATEMENTS
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
18
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 existing and potential litigation, the risks associated with regulation by
the Federal Food and Drug Administration including compliance with the Quality
System Regulation, the risk that acquired companies cannot be successfully
integrated with existing operations and the risk 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 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.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As part of our cash management strategy, we had short-term investments at
September 30, 2001 consisting of approximately $1,694,000 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 October 1,
2001. Based on amounts invested in U.S. Treasury and government agency
securities, if the markets were to experience an increase in rates of 1%, we
would have a resulting decline in future quarterly earnings, fair values and
cash flows of approximately $7,000.
We have a line of credit that bears interest on outstanding balances at 2% above
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 a capital lease obligation totaling approximately
$65,000 at September 30, 2001 at a fixed interest rate of 7.9%.
19
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
See Note 10 of the Notes to Condensed Consolidated Financial Statements above -
"Contingencies and Subsequent Events," which is incorporated herein by
reference.
The Company is involved in legal actions arising in the ordinary course of
business. Management does not believe the outcome of such other legal actions
will have a material adverse effect on the Company's consolidated financial
position or results of operations.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.50 Second Amendment to Credit Agreement dated November 13, 2001
between Colorado MEDtech, Inc. and KeyBank National
Association.
(b) Reports on Form 8-K during the quarter ended September 30, 2001:
The company filed a current report on Form 8-K dated September 17, 2001
reporting the issuance of a press release regarding an update on its
Food and Drug Administration (FDA) regulatory status.
20
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Colorado MEDtech, Inc.
-------------------------
(Registrant)
DATE: November 14, 2001
/s/ Stephen K. Onody
-------------------------
Stephen K. Onody
Chief Executive Officer
DATE: November 14, 2001
/s/ Gregory A. Gould
-------------------------
Gregory A. Gould
Chief Financial Officer
21
EXHIBIT INDEX
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
10.50 Second Amendment to Credit Agreement dated November 13, 2001
between Colorado MEDtech, Inc. and KeyBank National
Association.
</Table>