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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
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FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1999
COMMISSION FILE NUMBER 333-33121
LEINER HEALTH PRODUCTS INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
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DELAWARE 95-3431709
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NUMBER)
INCORPORATION OR ORGANIZATION)
901 EAST 233RD STREET, CARSON, CALIFORNIA 90745
(310) 835-8400
(ADDRESS AND TELEPHONE NUMBER OF PRINCIPAL EXECUTIVE OFFICES)
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INDICATE BY CHECK MARK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS
REQUIRED TO BE FILED BY SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
1934 DURING THE PRECEDING 12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE
REGISTRANT WAS REQUIRED TO FILE SUCH REPORTS), AND (2) HAS BEEN SUBJECT TO
SUCH FILING REQUIREMENTS FOR THE PAST 90 DAYS.
YES X NO
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COMMON STOCK, $.01 PAR VALUE, OUTSTANDING AT AUGUST 11, 1999.
1,000 SHARES
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1
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LEINER HEALTH PRODUCTS INC.
REPORT ON FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 1999
TABLE OF CONTENTS
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PART I. Financial Information................................................3
ITEM 1. Financial Statements ...........................................3
Condensed Consolidated Statements of Operations (Unaudited) -
For the three months ended June 30, 1999 and 1998 ..............3
Condensed Consolidated Balance Sheets -
As of June 30, 1999 (Unaudited) and March 31, 1999 .............4
Condensed Consolidated Statements of Cash Flows (Unaudited) -
For the three months ended June 30, 1999 and 1998 ..............5
Notes to Condensed Consolidated Financial Statements (Unaudited) ....6
ITEM 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations .................................10
ITEM 3. Quantitative and Qualitative Disclosures about Market Risk ....16
PART II. Other Information .................................................17
SIGNATURE PAGE ............................................................. 18
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2
PART I ITEM 1
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LEINER HEALTH PRODUCTS INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
UNAUDITED
(IN THOUSANDS)
THREE MONTHS ENDED
JUNE 30,
----------------------------
1999 1998
------------ ------------
Net sales $ 120,899 $ 122,323
Cost of sales 90,662 88,877
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Gross profit 30,237 33,446
Marketing, selling and distribution expenses 19,530 17,810
General and administrative expenses 8,862 8,825
Amortization of goodwill 419 419
Closure of facilities 1,006 --
Other charges 375 477
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Operating income 45 5,915
Interest expense, net 7,160 6,319
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Loss before income taxes (7,115) (404)
Benefit for income taxes (3,027) (168)
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Net loss $ (4,088) $ (236)
============ ============
See accompanying notes to condensed consolidated financial statements.
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3
PART I ITEM 1
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LEINER HEALTH PRODUCTS INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
JUNE 30, MARCH 31,
1999 1999
--------------- --------------
UNAUDITED NOTE 1
ASSETS
Current assets:
Cash and cash equivalents $ 218 $ 77
Accounts receivable, net 84,314 127,127
Inventories 169,665 151,605
Prepaid expenses and other current assets 15,361 10,738
--------------- --------------
Total current assets 269,558 289,547
Property, plant and equipment, net 64,484 61,241
Goodwill, net 54,076 54,334
Deferred financing charges 10,131 10,565
Other noncurrent assets 11,605 9,851
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Total assets $ 409,854 $ 425,538
=============== ==============
LIABILITIES AND SHAREHOLDER'S DEFICIT
Current liabilities:
Bank checks outstanding, less cash on deposit $ 4,058 $ 6,539
Current portion of long-term debt 4,371 4,068
Accounts payable 74,538 82,244
Customer allowances payable 7,860 9,603
Accrued compensation and benefits 7,886 11,120
Other accrued expenses 9,052 9,350
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Total current liabilities 107,765 122,924
Long-term debt 321,353 317,859
Other noncurrent liabilities 4,256 4,253
Commitments and contingent liabilities
Shareholder's deficit:
Common stock 1 1
Capital in excess of par value 1,851 1,851
Accumulated deficit (25,385) (21,297)
Accumulated other comprehensive income (loss) 13 (53)
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Total shareholder's deficit (23,520) (19,498)
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Total liabilities and shareholder's deficit $ 409,854 $ 425,538
=============== ==============
See accompanying notes to condensed consolidated financial statements.
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4
PART I ITEM 1
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LEINER HEALTH PRODUCTS INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
UNAUDITED
(IN THOUSANDS)
THREE MONTHS ENDED
JUNE 30,
-------------------------
1999 1998
----------- ------------
OPERATING ACTIVITIES:
Net loss $ (4,088) $ (236)
Adjustments to reconcile net loss to net cash provided by (used in)
operating activities:
Depreciation 1,992 1,848
Amortization 2,204 2,073
Translation adjustment (66) (21)
Changes in operating assets and liabilities:
Accounts receivable 42,924 18,858
Inventories (17,711) (66,080)
Bank checks outstanding, less cash on deposit (2,518) 6,776
Accounts payable (7,821) 18,203
Customer allowances payable (1,738) (1,882)
Accrued compensation and benefits (3,244) (1,593)
Other accrued expenses (3,212) (2,238)
Other (1,882) (612)
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Net cash provided by (used in) operating activities 4,840 (24,904)
INVESTING ACTIVITIES:
Additions to property, plant and equipment, net (5,151) (12,034)
(Increase) decrease in other noncurrent assets (2,938) 85
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Net cash used in investing activities (8,089) (11,949)
FINANCING ACTIVITIES:
Net payments under bank revolving credit facility (25,849) (21,651)
Borrowings under bank term credit facility 30,000 59,763
Payments under bank term credit facility (361) (308)
Capital contribution from parent -- 26
Repurchase of minority interest -- (947)
Increase in deferred financing charges -- (752)
Net payments on other long-term debt (443) (268)
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Net cash provided by financing activities 3,347 35,863
Effect of exchange rate changes 43 234
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Net increase (decrease) in cash and cash equivalents 141 (756)
Cash and cash equivalents at beginning of period 77 1,026
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Cash and cash equivalents at end of period $ 218 $ 270
=========== ============
See accompanying notes to condensed consolidated financial statements.
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5
PART I ITEM 1
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LEINER HEALTH PRODUCTS INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
UNAUDITED
1. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements for
the three months ended June 30, 1999 include the accounts of Leiner Health
Products Inc. (the "Company") and its subsidiaries, including Vita Health
Products Inc. ("Vita Health"). Such financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10
of Regulation S-X. Accordingly, they do not include all of the information
and footnotes required by generally accepted accounting principles for
complete financial statements. In the opinion of management, all adjustments
(consisting of normal recurring accruals except for adjustments recorded in
connection with the closure of facilities-Note 8) considered necessary
for a fair presentation have been included. Operating results for the three
month period ended June 30, 1999 are not necessarily indicative of the
results that may be expected for the year ended March 31, 2000.
The balance sheet at March 31, 1999 has been derived from the audited
financial statements at that date but does not include all of the information
and footnotes required by generally accepted accounting principles for
complete financial statements.
For further information, refer to the consolidated financial statements and
footnotes thereto included in the Company's Annual Report on Form 10-K for
the year ended March 31, 1999.
Certain reclassifications have been made to the fiscal 1999 condensed
consolidated financial statements to conform with the fiscal 2000 presentation.
2. INVENTORIES
Inventories consist of the following (in thousands):
June 30, March 31,
1999 1999
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Raw materials, bulk vitamins and packaging materials .............. $ 105,877 $ 86,925
Work-in-process ................................................... 13,288 12,717
Finished products ................................................. 50,500 51,963
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$ 169,665 $ 151,605
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6
PART I ITEM 1
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LEINER HEALTH PRODUCTS INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
UNAUDITED
(CONTINUED)
3. LONG-TERM DEBT
On May 15, 1998, the Company entered into an Amended and Restated Credit
Agreement, which was amended on June 30, 1999 to include an additional U.S. term
loan in the amount of $30,000,000 as described below (the "Credit Agreement").
The Credit Agreement provided for one U.S. term loan due December 30, 2004 in
the amount of $68,000,000, two U.S. term loans due December 30, 2005 in the
amounts of $65,000,000 and $30,000,000, respectively, and a Canadian dollar
denominated term loan due December 30, 2004 in the amount of approximately U.S.
$12,000,000 (collectively, the "Term Facility"), and a revolving credit facility
in the amount of U.S. $125,000,000 (the "Revolving Facility") a portion of which
is made available to Vita Health in Canadian dollars. The unpaid principal
amount outstanding on the Revolving Facility is due and payable on June 30,
2003. The terms, conditions and restrictions of the Credit Agreement are
consistent with the terms, conditions and restrictions of the credit facility as
previously in effect, with the exception of certain debt covenants.
Borrowings under the Credit Agreement bear interest at floating rates that
are based on the agent lender's base rate (7.75% at June 30, 1999), the agent
lender's Canadian prime rate (6.25% at June 30, 1999), LIBOR (5.37% at June
30, 1999) or the lender's banker's acceptance rate (4.88% at June 30, 1999),
as the case may be, plus an "applicable margin" that is itself based on the
Company's leverage ratio. The leverage ratio is defined generally as the
ratio of total funded indebtedness to the consolidated earnings before
interest, taxes, depreciation, amortization expense and other special charges
and its effect on the applicable margin varies as follows: (a) for revolving
credit borrowings, from 0.75% to 2.5% for LIBOR- or banker's acceptance-based
loans, and from zero to 1.5% for alternate base rate- or Canadian prime
rate-based loans, (b) for the two Term B loans under the Term Facility, from
2.125% to 2.875% for LIBOR-based loans, and from 1.125% to 1.875% for
alternate base rate-based loans and (c) for the one Term C loan and the one
Term D loan under the Term Facility, from 2.25% to 3.0% for LIBOR-based
loans, and from 1.25% to 2.0% for alternate base rate-based loans. As of
June 30, 1999, the Company's weighted average interest rates were 7.82% for
U.S. borrowings and 7.29% for Canadian borrowings under the Credit Agreement.
In addition to certain agent and up-front fees, the Credit Agreement requires
a commitment fee of up to 0.5% of the average daily unused portion of the
Revolving Facility based on the Company's leverage ratio.
The Credit Agreement contains financial covenants that require, among other
things, the Company to comply with certain financial ratios and tests,
including those that relate to the maintenance of specified levels of cash
flow and shareholder's equity. The Company was in compliance with all such
financial covenants as of June 30, 1999. As of June 30, 1999, the Company had
$57,071,000 available under its Revolving Facility.
Principal payments on long-term debt as of June 30, 1999 through fiscal 2004
and thereafter are (in thousands):
Fiscal Year
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2000 .............................................. $ 3,492
2001 .............................................. 4,417
2002 .............................................. 2,275
2003 .............................................. 1,747
2004 .............................................. 100,111
Thereafter .............................................. 213,682
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Total .............................................. $ 325,724
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7
PART I ITEM 1
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LEINER HEALTH PRODUCTS INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
UNAUDITED
(CONTINUED)
4. Comprehensive Income
The components of comprehensive loss for the three months ended June 30, 1999
and 1998, are as follows (in thousands):
Three months ended
June 30,
--------------------------------
1999 1998
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Net loss .................................... $ (4,088) $ (236)
Foreign currency translation adjustment ..... 66 21
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Comprehensive loss .......................... $ (4,022) $ (215)
============== ===============
5. RELATED PARTY TRANSACTIONS
On June 30, 1997, Leiner Health Products Group Inc. ("Leiner Group"), the
Company's sole shareholder, and the Company entered into a consulting
agreement with North Castle Partners, L.L.C. (the "Sponsor") to provide the
Company with certain business, financial and managerial advisory services.
Mr. Charles F. Baird, Jr., Chairman of Leiner Group's Board of Directors,
acts as the managing member of the Sponsor through Baird Investment Group,
L.L.C. In exchange for such services, Leiner Group and the Company have
agreed to pay the Sponsor an annual fee of $1,500,000, payable semi-annually
in advance, plus the Sponsor's reasonable out-of-pocket expenses. This fee
may be reduced upon completion of an initial public offering of Leiner
Group's shares. The agreement also terminates on June 30, 2007, unless Baird
Investment Group, L.L.C. ceases to be the managing member of North Castle
Partners I, L.L.C., or upon the earliest of June 30, 2007 or the date that
North Castle Partners I, L.L.C. terminates before that date.
6. CONTINGENT LIABILITIES
The Company has been named in numerous actions brought in federal or state
courts seeking compensatory and, in some cases, punitive damages for alleged
personal injuries resulting from the ingestion of certain products containing
L-Tryptophan. As of August 5, 1999, the Company and/or certain of its
customers, many of whom have tendered their defense to the Company, had been
named in 671 lawsuits, of which 669 have been settled.
The Company entered into an agreement (the "Agreement") with the Company's
supplier of bulk L-Tryptophan, under which the supplier agreed to assume the
defense of all claims and to pay all settlements and judgements, other than
for certain punitive damages, against the Company arising out of the
ingestion of L-Tryptophan products. To date, the supplier has funded all
settlements and paid all legal fees and expenses incurred by the Company
related to these matters. No punitive damages have been awarded or paid in
any settlement.
Of the remaining two cases, management does not expect that the Company will
be required to make any material payments in connection with their resolution
by virtue of the Agreement, or, in the event that the supplier ceases to
honor the Agreement, by virtue of the Company's product liability insurance,
subject to deductibles with respect to the two currently pending claims not
to exceed $500,000 in the aggregate. Accordingly, no provision has been made
in the Company's consolidated financial statements for any loss that may
result from these remaining actions.
The Company is subject to other legal proceedings and claims which arise in
the normal course of business. While the outcome of these proceedings and
claims cannot be predicted with certainty, management does not believe the
outcome of any of these matters will have a material adverse effect on the
Company's consolidated financial position, results of operations or cash
flows.
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8
PART I ITEM 1
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LEINER HEALTH PRODUCTS INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
UNAUDITED
(CONTINUED)
7. BUSINESS SEGMENT INFORMATION
The Company operated in two reportable segments. One represents the Company's
U.S. operations ("Leiner U.S.") and the other represents the Company's
Canadian operations ("Vita Health"). The Company's operating segments
manufacture a range of vitamins, minerals and nutritional supplements and
distribute their products primarily through mass market retailers. The
Company evaluates segment performance based on operating profit, before the
effect of non-recurring charges and gains, and intersegment profit.
Selected financial information for the Company's reportable segments for the
three months ended June 30, 1999 and 1998 is as follows (in thousands):
Leiner Vita Consolidated
U.S. Health totals
---------------- ----------------- -------------
THREE MONTHS ENDED JUNE 30, 1999:
External sales $ 109,969 $ 10,930 $ 120,899
Intersegment sales 214 14 228
Segment operating (loss) income (889) 934 45
Depreciation and amortization 3,990 206 4,196
Interest expense, net 6,755 405 7,160
Income tax (benefit) expense (3,289) 262 (3,027)
Segment assets 378,881 30,973 409,854
Expenditures for long-lived assets 4,563 588 5,151
THREE MONTHS ENDED JUNE 30, 1998:
External sales $ 113,802 $ 8,521 $ 122,323
Intersegment sales 310 15 325
Segment operating income 5,492 423 5,915
Depreciation and amortization 3,756 165 3,921
Interest expense, net 6,020 299 6,319
Income tax (benefit) expense (218) 50 (168)
Segment assets 396,307 25,117 421,424
Expenditures for long-lived assets 11,301 733 12,034
8. CLOSURE OF FACILTIES
In the first quarter of fiscal 2000, the Company announced its plans to close
its Madison, Wisconsin facility in the second quarter of fiscal 2000. As a
result, the Company reserved approximately $1,006,000 in the first quarter of
fiscal 2000 for severance and other costs related to the closure.
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9
PART I ITEM 2
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
OVERVIEW
The following discussion explains material changes in the consolidated
results of operations for Leiner Health Products Inc. and its subsidiaries
(the "Company") including Vita Health Products Inc. of Canada ("Vita
Health"), a wholly-owned subsidiary, for the three months ended June 30, 1999
("first quarter of fiscal 2000") and the significant developments affecting
its financial condition since March 31, 1999. The following discussion should
be read in conjunction with the Company's audited consolidated financial
statements and notes thereto for the year ended March 31, 1999, which are
included in the Company's Annual Report on Form 10-K, on file with the
Securities Exchange Commission.
SEASONALITY
The Company's business is seasonal, as increased vitamin usage corresponds
with the cough, cold and flu season. Accordingly, the Company historically
has realized a significant portion of its sales, and a more significant
portion of its operating income, in the second half of the fiscal year.
RESULTS OF OPERATIONS
The following table summarizes the Company's historical results of operations
as a percentage of net sales for the three months ended June 30, 1999 and
1998.
PERCENTAGE OF NET SALES
---------------------------------
THREE MONTHS ENDED
JUNE 30,
---------------------------------
1999 1998
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Net sales ...................................... 100.0 % 100.0 %
Cost of sales .................................. 75.0 72.7
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Gross profit ................................... 25.0 27.3
Marketing, selling and distribution expenses ... 16.2 14.6
General and administrative expenses ............ 7.3 7.2
Amortization of goodwill ....................... 0.4 0.3
Closure of facilities ......................... 0.8 --
Other charges .................................. 0.3 0.4
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Operating income ............................... -- 4.8
Interest expense, net .......................... 5.9 5.1
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Loss before income taxes ....................... (5.9) (0.3)
Benefit for income taxes ....................... (2.5) (0.1)
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Net loss ....................................... (3.4) % (0.2) %
=============== ===============
Net sales for the first quarter of fiscal 2000 were $120.9 million, a
decrease of $1.4 million, or 1.2% versus the first quarter of fiscal 1999.
This decrease was primarily due to a decline of approximately $5.4 million in
the Company's non-core product sales of hair and skin care products which
totaled approximately $5.5 million in the first quarter of fiscal year 1999
and approximately $0.1 million in the first quarter of fiscal 2000.
Management does not expect there to be a significant increase in sales for
these non-core products during the remainder of fiscal 2000. The Company's
vitamin product sales in all its markets were flat during the three months
ended June 30, 1999, compared to the first quarter of the prior year. This
reflects a general decrease in the rate of growth of the overall U.S. vitamin
market for food, drug and mass merchandisers ("FDM Market") in the first
quarter of fiscal 2000 versus the comparable period in fiscal 1999.
Management estimates that the FDM Market, which represents over half of the
Company's sales, grew by 9.0% in the 13 week period ended June 27, 1999
versus the comparable period in 1998, which had grown by over 29% versus the
comparable period in 1997. Although lower than the growth rate in the first
quarter of fiscal 1999, the growth in the first quarter of fiscal 2000
increased from the 5.6% growth rate in the fourth quarter of fiscal 1999.
Management expects this improvement trend to continue throughout fiscal 2000,
most significantly in the second half.
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10
PART I ITEM 2
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The current trend in the Company's vitamin product sales also reflects the
rationalization of inventory balances being conducted by certain of the
Company's customers as they reacted to the decrease in the market growth rate
and began to position their stores for the winter selling season by reducing
inventory, implementing new store schematics that reduced space devoted to
the vitamin category and decreased in-store promotional activity. The Company
continues to emphasize higher growth products and to gain distribution in new
channels outside of the FDM Market. Sales of over-the-counter pharmaceuticals
("OTCs") increased 8.3% to $15.6 million, during the first quarter of fiscal
2000 as compared to the same period in fiscal 1999. Management expects this
trend in OTC sales to continue during the remainder of the year, as compared
to fiscal 1999, as the Company focuses on building these product sales.
Gross profit for the first quarter of fiscal 2000 was $30.2 million, a
decrease of $3.2 million, or 9.6%, from $33.4 million in the first quarter of
fiscal 1999. The decrease in gross profit during the quarter is primarily
attributable to the lower sales volume, a shift in product mix to sales of
lower margin multivitamins from higher margin herbal products and pricing
pressures. The pricing pressures are primarily on vitamin C and E products as
declining raw material prices have been recognized in the sales prices prior
to the cost of goods reductions cycling through inventory. Gross profit
margin was 25.0% for the first quarter of fiscal 2000, down from 27.3% in the
first quarter of the prior fiscal year due primarily to a change in product
mix, reflecting the decrease in sales of higher margin herbal products and
the effect of certain product line rationalizations, including certain skin
care products, liquid herbal products and the drug repack business. In
addition, the gross profit margin was adversely affected by certain plant
inefficiencies as production volumes were decreased in response to the market
slowdown. Management believes the decrease in the demand for herbal products
can be partially attributed to an increase in media reports questioning the
validity and quality of herbal products and the overall confusion in the
marketplace about the quality of herbal products. Management believes its
commitment to, and investment in, the quality of the Company's herbal
products will serve to differentiate the Company's products from its
competitors' herbal products, resulting in higher sales and gross profit in
future periods. Management also expects the gross profit margins to improve
during the second half of fiscal year 2000 as plant efficiencies improve,
including efficiencies at the Company's new facility in Fort Mill, South
Carolina as the benefits of having completed the start-up phase of operations
are realized there, and as the benefits of reduced raw material costs for
vitamin C and E products are realized.
Marketing, selling and distribution expenses, together with general and
administrative expenses (collectively, "Operating Expenses") for the first
quarter of fiscal 2000 were 23.5% of net sales, a slightly higher percentage
than the 21.8% in the first quarter of the prior year. Operating Expenses in
the first quarter of fiscal 2000 increased by $1.8 million, or 6.6%, as
compared to the first quarter in fiscal 1999. The increase in Operating
Expenses is due primarily to higher fixed costs as a result of infrastructure
development in support of advanced science and product quality initiatives
which began in the first quarter of fiscal 1999 and continue throughout
fiscal 2000. In addition, the Company increased advertising spending on
branded products in the first quarter of fiscal 2000 in an effort to better
position its products in the marketplace.
In the first quarter of fiscal 2000, the Company announced its plans to close
its Madison, Wisconsin facility in the second quarter of fiscal 2000, thereby
exiting its drug repack business. As a result, the Company reserved
approximately $1.0 million in the first quarter of fiscal 2000 primarily for
severance and other costs related to the closure.
In the first quarter of fiscal 2000, operating income, which was near
breakeven, was down $5.9 million or 99.2%, compared to the first quarter of
fiscal 1999. This decrease was primarily due to lower sales and gross profit
margins, higher Operating Expenses and the reserve for plant closures, all
noted above.
Net interest expense increased by $0.8 million during the first quarter of
fiscal 2000, versus the first quarter of fiscal 1999. This increase was due
primarily to an increase in the indebtedness of the Company.
The benefit for income taxes for the first quarter of fiscal 2000 was $3.0
million compared to $0.2 million in the first quarter of fiscal 1999. Based
on the latest estimates, the Company expects its effective tax rate to be
approximately 43.5% for the remainder of fiscal 2000, and to be higher than
the combined federal and state rate of 40% primarily because of the
nondeductibility for income tax purposes of goodwill amortization.
Primarily as a result of the factors discussed above, a net loss of $4.1
million was recorded in the first quarter of fiscal 2000 as compared to a net
loss of $0.2 million in the first quarter of fiscal 1999.
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11
PART I ITEM 2
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
OTHER INFORMATION
Earnings before interest, taxes, depreciation, amortization, other non-cash
charges and the charges related to the closure of facilities ("EBITDA")
totaled $4.8 million for the first quarter of fiscal 2000, down from $9.3
million in the comparable period in fiscal 1999. EBITDA can be calculated
from the financial statements with the exception of the amortization of
deferred debt issuance costs totaling $0.4 million and $0.5 million for the
three months ended June 30, 1999 and 1998, respectively, which is included
in interest expense in the statement of operations and in amortization
expense in the statement of cash flows. The Company believes that EBITDA
provides useful information regarding the Company's debt service ability, but
should not be considered in isolation or as a substitute for the statements
of operations or cash flow data.
LIQUIDITY AND CAPITAL RESOURCES
The Company's cash has historically been used to fund capital expenditures,
working capital requirements and debt service. The Company is required to
repay the $172.2 million in term loans outstanding as of June 30, 1999 under
the Credit Agreement (defined below) by December 30, 2005 with scheduled
principal payments of $1.7 million for fiscal 2000 through 2003, $37.0
million for fiscal 2004, $82.3 million for fiscal 2005, and $46.4 million for
fiscal 2006. The Company is also required to apply certain asset sale
proceeds, as well as 50% of its excess cash flow (as defined in the Credit
Agreement) unless a leverage ratio test is met, to prepay the borrowings
under the Credit Agreement. All outstanding revolving credit borrowings under
the Credit Agreement will become due on June 30, 2003.
During the first three months of fiscal 2000, net cash provided by operating
activities totaled $4.8 million. This resulted primarily from a positive net
change in operating assets and liabilities of $4.8 million. The changes in
the accounts receivable, inventory and accounts payable balances since the
beginning of the first quarter of fiscal 2000 are due primarily to the
seasonality of the Company's business whereby sales are normally higher in
the fourth quarter of the fiscal year when compared to the first quarter of
the fiscal year. Additionally, sales were higher in the third month of the
fourth quarter of fiscal 1999, as compared to the comparable period in fiscal
1998, which resulted in significantly more cash being received on accounts
receivable in the first quarter of fiscal 2000 versus the first quarter of
fiscal 1999.
Net cash used in investing activities was $8.1 million in the first three
months of fiscal 2000. This was primarily due to net capital expenditures of
$5.2 million. The major capital expenditures were related to investments in
capacity expansion at the new manufacturing, packaging and distribution
facility in South Carolina. Other non-current assets increased by $2.9
million during the first quarter of fiscal 2000 primarily due to an increase
in prepaid allowances to customers.
Net cash provided by financing activities was $3.3 million in the first three
months of fiscal 2000. This was primarily the result of increased net
borrowings under the Credit Agreement. On June 30, 1999, the Company entered
into a term loan under its Credit Agreement and received $30.0 million which
it used to pay off outstanding borrowings under its Revolving Facility
(defined below).
FINANCING ARRANGEMENTS
On May 15, 1998, the Company entered into an Amended and Restated Credit
Agreement, which was amended on June 30, 1999 to include an additional U.S.
term loan in the amount of $30,000,000 as described below ("Credit
Agreement"). The Credit Agreement provided for one U.S. term loan due
December 30, 2004 in the amount of $68,000,000 and two U.S. term loans due
December 30, 2005 in the amounts of $65,000,000 and $30,000,000,
respectively, and a Canadian dollar denominated term loan due December 30,
2004 in the amount of approximately U.S. $12,000,000 (collectively, the "Term
Facility"), and a revolving credit facility in the amount of U.S.
$125,000,000 (the "Revolving Facility") a portion of which is made available
to Vita Health in Canadian dollars. The unpaid principal amount outstanding
on the Revolving Facility is due and payable on June 30, 2003. As of August
4, 1999, the Company's unused availability under the Credit Agreement was
approximately $45.2 million.
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12
PART I ITEM 2
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The Revolving Facility includes letter of credit and swingline facilities.
Borrowings under the Credit Agreement bear interest at floating rates that
are based on LIBOR or on the applicable alternate base rate (as defined), and
accordingly the Company's financial condition and performance is and will
continue to be affected by changes in interest rates. The Company has entered
into an interest protection arrangement effective July 30, 1997 with respect
to $29.5 million of its indebtedness under the Credit Agreement that provides
a fixed rate of 6.17% on LIBOR rates plus applicable margin on the interest
rates payable thereon. The Credit Agreement imposes certain restrictions on
the Company, including restrictions on its ability to incur additional debt,
enter into sale-leaseback transactions, incur contingent liabilities, pay
dividends or make distributions, incur or grant liens, sell or otherwise
dispose of assets, make investments or capital expenditures, repurchase or
prepay its Senior Subordinated Notes due 2007 (the "Notes") or other
subordinated debt, or engage in certain other activities. The Company must
also comply with certain financial ratios and tests, including a minimum net
worth requirement, a maximum leverage ratio, a minimum interest coverage
ratio and a minimum cash flow coverage ratio.
The Company may be required to purchase the Notes upon a Change of Control
(as defined) and in certain circumstances with the proceeds of asset sales.
The Notes are subordinated to the indebtedness under the Credit Agreement.
The indenture governing the Notes imposes certain restrictions on the Company
and its subsidiaries, including restrictions on its ability to incur
additional debt, make dividends, distributions or investments, sell or
otherwise dispose of assets, or engage in certain other activities.
A portion of the outstanding borrowings under the Credit Agreement, amounting
to approximately U.S. $20.6 million as of June 30, 1999, is denominated in
Canadian dollars. All other outstanding borrowings under the Credit
Agreement, and all of the borrowings under the Notes, are denominated in U.S.
dollars.
At June 30, 1999, borrowings under the Credit Agreement bore interest at a
weighted average rate of 7.77% per annum. The Notes bear interest at a rate
of 9.625% per annum.
The Company currently believes that cash flow from operating activities,
together with revolving credit borrowings available under the Credit
Agreement, will be sufficient to fund the Company's currently anticipated
working capital, capital spending and debt service requirements until the
maturity of the Revolving Facility (June 30, 2003), but there can be no
assurance in this regard. The Company expects that its working capital needs
will require it to obtain new revolving credit facilities at the time that
the Revolving Facility matures, by extending, renewing, replacing or
otherwise refinancing the Revolving Facility. No assurance can be given that
any such extension, renewal, replacement or refinancing can be successfully
accomplished.
YEAR 2000 MATTERS
Many existing systems use only two-digit date fields to identify a year in
the date field, without considering the impact of the upcoming change in the
century (i.e., the number "01" is recognized as the year "1901"). Other
systems do not correctly process "leap year" dates. As a result, such systems
could fail or create erroneous results unless corrected to process data
related to the Year 2000 and beyond. The problems are expected to increase in
frequency and severity as the Year 2000 approaches, and are commonly referred
to as the "Year 2000 problem." The Company relies on its systems,
applications and devices in operating and monitoring all major aspects of its
business, including systems such as purchasing, order entry, sales, inventory
control, general ledger, accounts payable, billing, customer service,
manufacturing and lab equipment, embedded computer chips and networks and
telecommunications devices. These systems may severely affect the Company
unless these systems are made Year 2000 ready.
STATE OF READINESS. With the assistance of Year 2000 consultants, in May of
1997 the Company commenced a review of its internal information systems
("IS") to identify applications that are not Year 2000 ready and assess the
impact of the Year 2000 problem for the rest of its operations. The Company
has developed an overall plan to modify its internal systems to be Year 2000
ready and is well underway to implementing all phases and tasks depicted in
the plan. The Company has also formed a Year 2000 Steering Committee to
provide support and
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13
PART I ITEM 2
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
oversight to the Company's Year 2000 readiness activities in IS and non-IS
areas, the assessment of Year 2000 risks in connection with third-party
relationships, and the development of contingency plans.
The Company has identified the following three key areas of its business that
may be affected:
INTERNAL BUSINESS SYSTEMS. The Year 2000 problem could affect the systems,
transaction processing computer applications and devices used by the
Company to operate and monitor all major aspects of its business,
including financial systems (such as general ledger, accounts payable and
billing), customer service, infrastructure, materials requirement
planning, master production scheduling, networks and telecommunications
systems. The Company has completed its assessment phase and believes that
it has identified substantially all of the major systems, software
applications and related equipment used in connection with its internal
operations that must be modified or upgraded in order to minimize the
possibility of a material disruption to its business. The Company has
substantially completed its remediation phase of modifying and upgrading
all affected systems which are critical to the operations of the business.
The Company is currently performing the necessary testing to certify the
Year 2000 readiness of all of its systems. The Company estimates that all
systems will be Year 2000 ready by the end of October 1999. However, any
unforeseen problems which occur during the testing phase may adversely
affect the Company's Year 2000 readiness.
THIRD-PARTY SUPPLIERS. The Company relies, directly and indirectly, on
external systems utilized by its suppliers for products used in the
manufacture of its products. The Company has requested confirmation from
its major suppliers of their Year 2000 compliance. For its mission
critical business suppliers, the Company will perform the necessary due
diligence to seek additional assurances that these suppliers will be Year
2000 ready. Third-party supplier Year 2000 readiness inquiries are
estimated to be completed by the end of October 1999. There can be no
assurance that these suppliers will resolve any or all Year 2000 problems
with their systems in a timely manner. Any failure of these third parties
to resolve their Year 2000 problems in a timely manner could result in the
material disruption of the business of the Company. Any such disruption
could have a material adverse effect on the Company's business, financial
condition and results of operations. Although the Company believes that this
is the worst case Year 2000 scenario, it is developing additional contingency
programs that could potentially offset any negative impact.
MANUFACTURING AND FACILITY SYSTEMS. Systems such as heating, sprinklers,
elevators, security, test equipment, lab devices, and manufacturing
equipment at the Company's facilities, warehouses, and manufacturing
plants may also be affected by the Year 2000 problem. The Company has
contacted the facility owners and third-party vendors seeking assurances
of Year 2000 compliance. The Company's testing of mission critical
equipment and devices has started and the Company estimates that such
testing will be completed by the end of September 1999. There can be no
assurance that all Year 2000 related problems would be uncovered and
remediated through vendor assurances or testing processes. Any failure
of these systems could result in material disruption of the business of
the Company and such disruption could have a material effect on the
Company's business, financial condition and results of operations.
CONTINGENCY PLANNING. The Company recognizes the need for developing
contingency plans to address the Year 2000 issues that may pose a significant
risk to its on-going operations. Such plans could include the implementation
of manual procedures and controls to mitigate risk and compensate for system
deficiencies. The Company's Year 2000 Project Office is responsible for the
development of a Company-wide contingency plan to address the Company's
at-risk critical business functions and processes as a result of Year 2000
issues. The Company anticipates that development of such a contingency plan
will be completed by the end of September 1999. It should be noted that in the
normal course of business, the Company maintains disaster recovery plans
designed to address various potential IS-related interruptions. For example,
the Company has the capability of operating its information systems at a
third-party vendor site in the case of a disaster at its corporate computer
facility. Although these plans are not Year 2000-specific, they may be
applicable to address limited Year 2000 failures or interruptions by some
third parties resulting from their failure to be Year 2000 ready. There can
be no assurance that any Year 2000 contingency plans developed and
potentially deployed by the Company would be adequate to meet the Company's
needs without materially impacting its operations, that any such plan would
be successful or that the Company's
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14
PART I ITEM 2
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
results of operations would not be materially and adversely affected by the
delays and inefficiencies inherent in conducting operations in an alternative
manner.
COSTS TO ADDRESS YEAR 2000 READINESS. The Company has incurred approximately
$0.3 million of expenses in the first quarter of fiscal 2000 to address its
Year 2000 issues. The Company presently estimates that the total cost of
addressing its Year 2000 issues will be approximately $3.5 million. This
estimate was derived utilizing numerous assumptions, including the assumption
that the Company has already identified its most significant Year 2000 issues
and that the plans of its third party suppliers will be fulfilled in a timely
manner without cost to the Company. However, there can be no guarantee that
these assumptions are accurate, and actual results could differ materially
from those anticipated.
THE EURO CONVERSION
On January 1, 1999, eleven of the fifteen member countries of the European
Union (the "participating countries") established fixed conversion rates
between their existing sovereign currencies (the "legacy currencies") and the
euro. The participating countries agreed to adopt the euro as their common
legal currency on that date.
As of January 1, 1999, the participating countries no longer control their
own monetary policies by directing independent interest rates for the legacy
currencies. Instead, the authority to direct monetary policy, including money
supply and official interest rates for the euro, is exercised by the new
European Central Bank.
Following introduction of the euro, the legacy currencies are scheduled to
remain legal tender in the participating countries as denominations of the
euro between January 1, 1999 and January 1, 2002 (the "transition period").
During the transition period, public and private parties may pay for goods
and services using either the euro or the participating country's legacy
currency.
The impact of the euro is not expected to materially affect the results of
operations of the Company. The Company operates primarily in U.S.
dollar-denominated purchase orders and contracts, and the Company neither has
a large customer nor vendor base within the countries participating in the
euro conversion.
FORWARD-LOOKING STATEMENTS AND ASSOCIATED RISKS
Certain of the statements contained in this report (other than the financial
statements and other statements of historical fact) are forward-looking
statements, including statements regarding, without limitation, (i) the
Company's growth strategies; (ii) trends in the Company's business; and (iii)
the Company's future liquidity requirements and capital resources.
Forward-looking statements are made based upon management's current
expectations and beliefs concerning future developments and their potential
effects upon the Company. There can be no assurance that future developments
will be in accordance with management's expectations or that the effect of
future developments on the Company will be those anticipated by management.
The important factors described elsewhere in this report and in the Company's
Form 10-K for the fiscal year ended March 31, 1999 (including, without
limitation, those factors discussed in the "Business-Risk Factors" section of
Item 1 thereof), on file with the Securities and Exchange Commission, could
affect (and in some cases have affected) the Company's actual results and
could cause such results to differ materially from estimates or expectations
reflected in such forward-looking statements. In light of these factors,
there can be no assurance that events anticipated by the forward-looking
statements contained in this report will in fact transpire. The Company
undertakes no obligation to republish revised forward-looking statements to
reflect the occurrence of unanticipated events.
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15
PART I ITEM 3
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QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company does not believe that it has material exposure to interest rate,
foreign currency exchange rate or other relevant market risks. See
disclosures under Item 7a. "Quantitative and Qualitative Disclosures about
Market Risks" in the Company's Annual Report on Form 10-K for the fiscal year
ended March 31, 1999. No significant changes have occurred during the first
quarter of fiscal 2000.
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16
PART II OTHER INFORMATION
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ITEM 1. LEGAL PROCEEDINGS
The information in Note 6 to the Company's Condensed Consolidated
Financial Statements included herein is hereby incorporated by
reference.
ITEM 2. CHANGES IN SECURITIES
Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
4.1 First Amendment, dated June 30, 1999, to the Amended and
Restated Credit Agreement, among Leiner Health Products
Inc., Vita Health Products Inc., and the banks and other
financial institutions party thereto, as lenders.
27 Financial Data Schedule - June 30,1999
(b) Reports on Form 8-K:
None.
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17
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
LEINER HEALTH PRODUCTS INC.
By: /S/ ROBERT M. KAMINSKI
--------------------------------
Robert M. Kaminski
Chief Executive Officer and
Director
By: /S/ MICHAEL S. YUSKO
--------------------------------
Michael S. Yusko
Vice President and
Chief Financial Officer
Date: August 16, 1999
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18