1
================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
- --------------------------------------------------------------------------------
FORM 10-Q
(Mark one)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED APRIL 1, 2000.
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _____________ TO _______________.
Commission File Number 333-86835
- --------------------------------------------------------------------------------
DJ ORTHOPEDICS, LLC
(Exact name of registrant as specified in charter)
DELAWARE 3842 52-2165554
(State or other jurisdiction of (Primary Standard Industrial (I.R.S. Employer Identification
incorporation or organization) Classification Code Number) Number)
DJ ORTHOPEDICS CAPITAL CORPORATION
(Exact name of registrant as specified in charter)
DELAWARE 3842 52-2157537
(State or other jurisdiction of (Primary Standard Industrial (I.R.S. Employer Identification
incorporation or organization) Classification Code Number) Number)
DONJOY, L.L.C.
(Exact name of registrant as specified in charter)
DELAWARE 3842 33-0848317
(State or other jurisdiction of (Primary Standard Industrial (I.R.S. Employer Identification
incorporation or organization) Classification Code Number) Number)
- --------------------------------------------------------------------------------
2985 Scott Street
Vista, California 92083
(800) 336-5690
(Address, including zip code, and telephone number, including area code, of
registrants' principal executive offices)
Indicate by check mark whether each registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
DJ ORTHOPEDICS, LLC Yes [X] No [ ]
DJ ORTHOPEDICS CAPITAL CORPORATION Yes [X] No [ ]
DONJOY, L.L.C. Yes [X] No [ ]
================================================================================
2
DJ ORTHOPEDICS, LLC
DJ ORTHOPEDICS CAPITAL CORPORATION
DONJOY, L.L.C.
FORM 10-Q INDEX
PAGE
----
EXPLANATORY NOTE 2
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets as of April 1, 2000 (unaudited) and December 31, 1999 3
Consolidated Statements of Operations for the three months ended
April 1, 2000 (unaudited) and April 3, 1999 (unaudited) 4
Statements of Changes in Consolidated Members' Equity (Deficit) for the
year ended December 31, 1999 and the three months
ended April 1, 2000 (unaudited) 5
Consolidated Statements of Cash Flows for the three months ended
April 1, 2000 (unaudited) and April 3, 1999 (unaudited) 6
Notes to Unaudited Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 11
Item 3. Quantitative and Qualitative Disclosures About Market Risk 17
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 18
Item 2. Changes in Securities and Use of Proceeds 18
Item 3. Defaults upon Senior Securities 18
Item 4. Submission of Matters to a Vote of Security Holders 18
Item 5. Other Information 18
Item 6. Exhibits and Reports on Form 8-K 18
SIGNATURES 19
EXPLANATORY NOTE
This integrated Form 10-Q is filed pursuant to the Securities Exchange Act of
1934, as amended, for each of DonJoy, L.L.C. ("DonJoy"), a Delaware limited
liability company, dj Orthopedics, LLC, a Delaware limited liability company
("dj Ortho"), a wholly-owned subsidiary of DonJoy and DJ Orthopedics Capital
Corporation ("DJ Capital"), a Delaware corporation, a wholly-owned subsidiary of
dj Ortho, (collectively, "the Company"). dj Ortho is a wholly-owned subsidiary
of DonJoy and represents substantially all of the revenues and net income of the
Company. DJ Capital was formed solely to act as a co-issuer (and as a joint and
several obligor) with dj Ortho of $100,000,000 aggregate principal amount at
maturity of 12 5/8% Senior Subordinated Notes due 2009. DJ Capital does not hold
any assets or other properties or conduct any business. No separate financial
information for DJ Capital has been provided herein because management believes
such information would not be meaningful because DJ Capital has no financial or
other data to report in response to the requirements of Form 10-Q and thus,
there is no separate information regarding DJ Capital to report herein.
2
3
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
DONJOY, L.L.C.
CONSOLIDATED BALANCE SHEETS
(in thousands, except unit data)
April 1, December 31,
2000 1999
----------------------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents ................................................ $ 8,676 $ 5,927
Accounts receivable, net of allowance for doubtful
accounts of $1,391 and $989 at April 1, 2000 and
December 31, 1999, respectively ....................................... 21,579 20,056
Accounts receivable, related parties ..................................... 1,469 1,350
Inventories, net ......................................................... 13,707 13,664
Other current assets ..................................................... 1,123 917
-------------------------
Total current assets ........................................................ 46,554 41,914
Property, plant and equipment, net .......................................... 7,750 7,297
Intangible assets, net ...................................................... 32,495 33,195
Debt issuance costs, net .................................................... 6,830 6,875
Other assets ................................................................ 321 135
-------------------------
Total assets ................................................................ $ 93,950 $ 89,416
=========================
LIABILITIES AND MEMBERS' DEFICIT
Current liabilities:
Accounts payable ......................................................... $ 5,695 $ 6,242
Accounts payable, related parties ........................................ 20 169
Accrued compensation ..................................................... 1,872 2,443
Accrued commissions ...................................................... 1,132 954
Long-term debt, current portion .......................................... 500 500
Accrued interest ......................................................... 3,682 526
Other accrued liabilities ................................................ 4,085 3,667
-------------------------
Total current liabilities ................................................... 16,986 14,501
12 5/8% Senior Subordinated Notes ........................................... 98,106 98,055
Long-term debt, less current portion ........................................ 14,625 14,750
Redeemable Preferred Units; 100,000 units authorized, 40,184 units
issued and outstanding at April 1, 2000 and December 31, 1999;
liquidation preference $34,872 and $33,684 at April 1, 2000 and
December 31, 1999, respectively ....................................... 33,878 32,539
Members' deficit:
Common units; 2,900,000 units authorized, 718,000 units issued
and outstanding at April 1, 2000 and December 31, 1999 ................ 66,521 66,521
Notes receivable from officers ........................................... (1,400) (1,400)
Accumulated deficit ...................................................... (134,766) (135,550)
-------------------------
Total members' deficit ...................................................... (69,645) (70,429)
-------------------------
Total liabilities and members' deficit ...................................... $ 93,950 $ 89,416
=========================
See accompanying notes.
3
4
DONJOY, L.L.C.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited, in thousands)
Three Months Ended
April 1, April 3,
2000 1999
------------------------
Net revenues:
Third parties .............................. $ 29,962 $ 25,509
Related parties ............................ 1,623 2,891
------------------------
Total net revenues .............................. 31,585 28,400
Cost of goods sold .............................. 12,673 13,349
------------------------
Gross profit .................................... 18,912 15,051
Operating expenses:
Sales and marketing ........................ 7,713 6,938
General and administrative ................. 4,783 4,475
Research and development ................... 607 558
------------------------
Total operating expenses ........................ 13,103 11,971
------------------------
Income from operations .......................... 5,809 3,080
Interest expense ................................ (3,811) --
Interest income ................................. 125 --
------------------------
Income before income taxes ...................... 2,123 3,080
Provision for income taxes ...................... -- 1,263
------------------------
Net income and comprehensive net income ......... 2,123 1,817
Less: Preferred unit dividends and accretion
of preferred unit fees ..................... (1,226) --
------------------------
Net income available to members ................. $ 897 $ 1,817
========================
See accompanying notes.
4
5
DONJOY, L.L.C.
STATEMENTS OF CHANGES IN CONSOLIDATED MEMBERS' EQUITY (DEFICIT)
(in thousands, except unit information)
NOTES TOTAL
RECEIVABLE RETAINED MEMBERS'
COMMON UNITS FROM EARNINGS EQUITY
UNITS AMOUNT OFFICERS (DEFICIT) (DEFICIT)
----------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1998 ..................... -- $ -- $ -- $ 12,832 $ 12,832
Capital contribution by Smith & Nephew, Inc.
in connection with the Recapitalization ....... 2,054,000 64,117 -- (16,264) 47,853
Issuance of common units at $100 per unit,
net of transaction fees of $1,563 ............. 645,500 62,987 -- -- 62,987
Purchase of common units from Smith &
Nephew, Inc. .................................. (2,000,000) (62,433) -- (136,707) (199,140)
Issuance of common units at $100 per unit,
in exchange for cash and notes receivable ..... 18,500 1,850 (1,400) -- 450
Preferred unit dividends and accretion
of preferred unit fees ........................ -- -- -- (2,343) (2,343)
Net income (excluding $196 allocated to
preferred unit holders) ....................... -- -- -- 6,932 6,932
----------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1999 ..................... 718,000 66,521 (1,400) (135,550) (70,429)
Preferred unit dividends and accretion
of preferred unit fees (unaudited) ............ -- -- -- (1,226) (1,226)
Net income (excluding $113 allocated to
preferred unit holders) (unaudited) ........... -- -- -- 2,010 2,010
----------------------------------------------------------------------
BALANCE AT APRIL 1, 2000 (UNAUDITED) ............. 718,000 $ 66,521 $ (1,400) $ (134,766) $ (69,645)
======================================================================
See accompanying notes.
5
6
DONJOY, L.L.C.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited, in thousands)
Three Months Ended
April 1, April 3,
2000 1999
-----------------------
OPERATING ACTIVITIES
Net income ........................................................... $ 2,123 $ 1,817
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization ..................................... 1,267 1,188
Amortization of debt issuance costs and discount on Senior
Subordinated Notes ............................................ 258 --
Changes in operating assets and liabilities:
Accounts receivable ............................................. (1,523) (739)
Inventories ..................................................... (43) 1,212
Other current assets ............................................ (206) (66)
Accounts payable ................................................ (547) (2,738)
Accrued compensation ............................................ (571) 155
Accrued commissions ............................................. 178 (187)
Accrued interest ................................................ 3,156 --
Intercompany activity ........................................... (268) 1,290
Restructuring reserve ........................................... -- (278)
Other accrued liabilities ....................................... 418 313
-----------------------
Net cash provided by operating activities ............................ 4,242 1,967
INVESTING ACTIVITIES
Purchases of property, plant and equipment ........................... (1,020) (340)
Other assets ......................................................... (186) (1)
-----------------------
Net cash used in investing activities ................................ (1,206) (341)
FINANCING ACTIVITIES
Repayment of long-term debt .......................................... (125) --
Debt issuance costs .................................................. (162) --
Intercompany obligations ............................................. -- (2,114)
-----------------------
Net cash used in financing activities ................................ (287) (2,114)
-----------------------
Net increase (decrease) in cash ...................................... 2,749 (488)
Cash at beginning of period .......................................... 5,927 809
-----------------------
Cash at end of period ................................................ $ 8,676 $ 321
=======================
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Interest paid ..................................................... $ 367 $ --
=======================
SUPPLEMENTAL DISCLOSURE OF NON-CASH TRANSACTIONS:
Dividends and accretion of preferred unit fee related to redeemable
preferred units ............................................... $ 1,226 $ --
=======================
See accompanying notes.
6
7
DONJOY, L.L.C.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(in thousands)
1. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements for the
three months ended April 1, 2000 and April 3, 1999 have been prepared in
accordance with generally accepted accounting principles for interim financial
information. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. These consolidated financial statements should be read in
conjunction with the audited consolidated financial statements of DonJoy, L.L.C.
(the "Company") and footnotes thereto included in the Annual Report on Form 10-K
for the year ended December 31, 1999. The accompanying consolidated financial
statements at April 1, 2000 and April 3, 1999 are unaudited and include all
adjustments (consisting of normal recurring accruals) which, in the opinion of
management, are necessary for a fair statement of the financial position,
operating results and cash flows for the interim date and periods presented.
INTERIM ACCOUNTING PERIODS
The Company's fiscal year ends on December 31. Each quarter consists of one
five-week and two four-week periods. The first and fourth quarters may have more
or less working days from year to year based on what day of the week holidays
fall on. Results for the interim period ended April 1, 2000 are not necessarily
indicative of the results to be achieved for the entire year or future periods.
The three-month period ended April 1, 2000 contained one more business day than
the three-month period ended April 3, 1999, resulting in the Company recognizing
$0.5 million more in revenues in the three-month period ended April 1, 2000 as
compared to the same period in 1999.
RECAPITALIZATION
On June 30, 1999, the Company consummated a $215.3 million recapitalization (the
"Recapitalization"). Under the Recapitalization, new investors, including Chase
DJ Partners, L.L.C. ("CDP") and affiliates of CDP, invested new capital of $94.6
million in the Company. In addition, certain members of management invested net
equity of $0.5 million, by purchasing $1.8 million in equity which was financed
in part by $1.4 million in interest-bearing, full recourse loans from the
Company. The Company's former sole equity holder (the "Former Parent") retained
54,000 common units, which represent approximately 7.5% of total units
outstanding in the Company. In connection with the recapitalization
transactions, the Company established dj Orthopedics, LLC ("dj Ortho") and DJ
Orthopedics Capital Corporation ("DJ Capital"). The Company sold all of its net
assets to dj Ortho for cash, which was funded with the net proceeds of $100.0
million of 12 5/8% Senior Subordinated Notes (the "Notes") issued by dj Ortho
and DJ Capital, as co-issuers, and the remainder by funds borrowed by dj Ortho
under a senior credit facility. The Notes are fully and unconditionally
guaranteed by the Company. dj Ortho is a wholly-owned subsidiary of the Company
and represents substantially all of the revenues and net income of the Company.
DJ Capital is a wholly-owned subsidiary of dj Ortho, has no significant assets
or operations and was formed solely for the purpose of being a co-issuer of the
Notes (see Note 4).
The proceeds of the equity investment together with $113.5 million of proceeds
from debt financing were used for approximately $199.1 million of consideration
paid to redeem a portion of members' equity from the Company's Former Parent,
and approximately $8.8 million of costs and fees paid in association with the
Recapitalization.
7
8
2. FINANCIAL STATEMENT INFORMATION
INVENTORIES
Inventories consist of the following (in thousands):
April 1, December 31,
2000 1999
---------------------------
Raw materials ................................ $ 6,293 $ 6,392
Work-in-progress ............................. 1,446 1,446
Finished goods ............................... 7,036 6,817
---------------------------
14,775 14,655
Less reserve for excess and obsolete ......... (1,068) (991)
---------------------------
$ 13,707 $ 13,664
===========================
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consists of the following (in thousands):
April 1, December 31,
2000 1999
--------------------------
Buildings and leasehold improvements .................. $ 3,585 $ 3,577
Office furniture, fixtures, equipment and other ....... 16,241 15,817
Construction in progress .............................. 1,889 1,297
--------------------------
21,715 20,691
Less accumulated depreciation and amortization ........ (13,965) (13,394)
--------------------------
$ 7,750 $ 7,297
==========================
INTANGIBLE ASSETS
Intangible assets arose primarily from the initial acquisition of dj Ortho in
1987 and dj Ortho's acquisition of Professional Care Products, Inc. in 1995. dj
Ortho acquired a license in 1999 related to the I-Flow technology. Intangible
assets consist of the following (in thousands):
Useful Life April 1, December 31,
(in years) 2000 1999
--------------------------------------------
Goodwill ........................... 20 $ 24,742 $ 24,742
Patented technology ................ 5-20 14,437 14,437
Customer base ...................... 20 11,600 11,600
Licensing agreements ............... 5 2,000 2,000
Assembled workforce ................ 5 250 250
Other .............................. 5-20 399 399
-------- --------
53,428 53,428
Less accumulated amortization ...... (20,933) (20,233)
-------- --------
$ 32,495 $ 33,195
======== ========
8
9
3. SEGMENT AND RELATED INFORMATION
The Company has two reportable segments as defined by Financial Accounting
Standards Board SFAS No. 131, Disclosures about Segments of an Enterprise and
Related Information. dj Ortho's reportable segments are business units that
offer different products that are managed separately because each business
requires different technology and marketing strategies. The rigid knee bracing
segment designs, manufactures and sells rigid framed ligament and osteoarthritis
knee braces and post-operative splints. The soft goods segment designs,
manufactures and sells fabric, neoprene and Drytex based products for the knee,
ankle, shoulder, back and wrist. dj Ortho's other operating segments are
included in specialty and other orthopedic products. None of the other segments
met any of the quantitative thresholds for determining reportable segments.
Information regarding industry segments is as follows (in thousands):
Three Months Ended
April 1, April 3,
2000 1999
-------------------------
Net revenues:
Rigid knee bracing .......................... $ 13,379 $ 12,947
Soft goods .................................. 10,641 9,495
-------------------------
Net revenues for reportable segments ........ 24,020 22,442
Specialty and other orthopedic products ..... 7,565 5,958
-------------------------
Total consolidated net revenues .................. $ 31,585 $ 28,400
=========================
Gross profit:
Rigid knee bracing .......................... $ 9,566 $ 9,418
Soft goods .................................. 5,300 4,632
-------------------------
Gross profit for reportable segments ........ 14,866 14,050
Specialty and other orthopedic products ..... 4,494 2,935
Brand royalties ............................. -- (987)
Other cost of goods sold .................... (448) (947)
-------------------------
Total consolidated gross profit .................. $ 18,912 $ 15,051
=========================
The accounting policies of the reportable segments are the same as those
described in the basis of presentation. dj Ortho allocates resources and
evaluates the performance of segments based on gross profit. Intersegment sales
were not significant for any period.
For the three months ended April 1, 2000 and April 3, 1999, dj Ortho had no
individual customer, supplier or distributor within a segment which accounted
for more than 10% or more of total annual revenues.
9
10
Assets allocated in foreign countries were not significant. Net revenues to
customers, attributed to countries based on the location of the customer, were
as follows (in thousands):
Three Months Ended
April 1, April 3,
2000 1999
-------- --------
United States:
Third parties ........................... $ 25,508 $ 23,057
Related parties ......................... 359 247
-------- --------
25,867 23,304
Europe:
Third parties ........................... 3,931 2,295
Related parties ......................... 266 1,468
-------- --------
4,197 3,763
Other foreign countries:
Third parties ........................... 523 157
Related parties ......................... 998 1,176
-------- --------
1,521 1,333
-------- --------
Total consolidated net revenues .............. $ 31,585 $ 28,400
======== ========
dj Ortho does not allocate assets to reportable segments because all property
and equipment are shared by all segments of dj Ortho.
4. CONDENSED FINANCIAL DATA
As discussed in Note 1 above, dj Ortho's obligations under the Notes are
guaranteed by its parent, DonJoy L.L.C. This guarantee and any guarantee by a
future wholly-owned subsidiary guarantor, is full and unconditional. Included in
non-current assets is an intercompany payable to DonJoy, L.L.C. of $45.0
million. The following condensed summarized financial information of dj Ortho
(the only issuer with operations and assets) is presented at April 1, 2000 and
for the three-months then ended:
April 1, 2000
-------------
Current assets ....................................... $ 46,497
Non-current assets ................................... $ 92,413
Current liabilities .................................. $ 16,986
Non-current liabilities:
Long-term debt .................................... $112,731
Three Months Ended
April 1, 2000
------------------
Net revenues ......................................... $ 31,585
Gross profit ......................................... $ 18,912
Net income ........................................... $ 2,104
dj Ortho and any future subsidiary guarantors comprise all the direct and
indirect subsidiaries of DonJoy (other than inconsequential subsidiaries) and
separate financial statements of dj Ortho and any future wholly-owned subsidiary
guarantors are not included, and dj Ortho and such subsidiary guarantors are not
filing separate reports under the Exchange Act because management has determined
that they would not be material to investors.
10
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
On June 30 1999, the Company consummated a $215.3 million recapitalization. In
connection with the recapitalization transactions, the Company established dj
Ortho and DJ Capital. The Company sold all of its net assets to dj Ortho for
cash which was funded with the net proceeds of $100 million principal amount of
12 5/8% Notes issued by dj Ortho and DJ Capital, as co-issuers, and the
remainder by funds borrowed by dj Ortho under a senior credit facility. In
addition, new investors, including certain members of management, invested new
capital of $96.4 million in equity in DonJoy. The proceeds of the equity
investment together with debt financings were used (i) for approximately $199.1
million of consideration paid to redeem a portion of members' equity from the
Company's Former Parent, and (ii) approximately $8.8 million of costs and fees
paid in association with the recapitalization. As part of the recapitalization
agreement, immediately prior to the recapitalization, the Company's Former
Parent canceled and capitalized the assets listed under cash and the liabilities
listed under intercompany obligations (which included current and deferred
income taxes due to Former Parent) and restructuring reserve. All such amounts
were treated as a capital contribution by the Former Parent to members' equity.
The following discussion should be read in conjunction with the Company's
historical consolidated financial statements and the related notes thereto and
the other financial data included in the Annual Report on Form 10-K for the year
ended December 31, 1999.
SEGMENTS. The Company designs, manufactures and markets orthopedic recovery
products and complementary products. The Company's product lines include rigid
knee braces, soft goods and a portfolio of specialty and other orthopedic
products. The Company's rigid knee braces include ligament braces, which provide
durable support for knee ligament instabilities, post-operative braces, which
provide both knee immobilization and a protected range of motion, and OA braces,
which provide relief of knee pain due to osteoarthritis. The Company's soft
goods products, most of which are fabric or neoprene-based, provide support
and/or heat retention and compression for afflictions of the knee, ankle, back
and upper extremities, including the shoulder, elbow, neck and wrist. The
Company's portfolio of specialty and other orthopedic products, which are
designed to facilitate orthopedic rehabilitation, include lower extremity
walkers, upper extremity braces, cold therapy systems and pain management
delivery systems. The rigid knee brace product lines and the soft goods product
lines constitute reportable segments under generally accepted accounting
principles. See Note 3 of Notes to Unaudited Consolidated Financial Statements.
DOMESTIC SALES. The Company's products are marketed globally under the DonJoy
and ProCare brand names through several distribution channels. In the United
States, the Company's DonJoy brand products are marketed to orthopedic surgeons,
orthotic and prosthetic centers, hospitals, surgery centers, physical therapists
and athletic trainers by 25 commissioned agents who employ approximately 185
sales representatives. After a product order is received by a sales
representative, the Company ships and bills the product directly to the
orthopedic professional and the Company pays a sales commission to the agent.
The gross profit and gross profit margins on DonJoy products sold in the United
States do not include the commissions paid to the agents on sales of such
products, which commissions are reflected in sales and marketing expense in the
consolidated financial statements. Domestic sales of DonJoy brand products
represented approximately 60.5% of total net revenues in the first three months
of 2000.
The Company's ProCare products are sold in the United States to third party
distributors, including large, national distributors, regional specialty dealers
and medical products buying groups who generally purchase such products at a
discount from list prices. These distributors then resell ProCare products to
large hospital chains, hospital buying groups, primary care networks and
orthopedic physicians for use by the patients. Domestic sales of ProCare
products represented approximately 21.4% of total net revenues in the first
three months of 2000.
INTERNATIONAL SALES. International sales, primarily in Europe, Canada and Japan,
accounted for approximately 18.1% and 17.9% of the Company's net revenues in the
first three months of 2000 and 1999, respectively. Sales in Germany, the
Company's largest foreign market, accounted for approximately 24.9% of the
Company's international net revenues in the first three months of 2000, and
sales in Italy accounted for approximately 13.8% of the Company's international
revenues in the first three months of 2000, with no other country accounting for
more
11
12
than approximately 10% of the Company's international net revenues in the first
three months of 2000. Total sales in Europe accounted for approximately 73.4% of
the Company's international net revenues in the first three months of 2000,
while sales in Germany, the United Kingdom, France, Spain and Italy, accounted
for approximately 51.0% of the Company's international net revenues in the first
three months of 2000. Sales in Japan accounted for approximately 6.7% of the
Company's international revenues in the first three months of 2000.
OFFICECARE PROGRAM. In 1996, in response to the needs of its customers, the
Company launched OfficeCare, an inventory management and insurance billing
program for its U.S. orthopedic physician customers. Under the OfficeCare
program, the Company provides the orthopedic physician with an inventory of
orthopedic products for immediate disbursement to the physician's patients. The
Company then directly seeks reimbursement from the patient's insurance company,
other third party payor or from the patient when self-pay is applicable.
Since its inception, the OfficeCare program has been promoted specifically to
provide the Company's orthopedic physician customers with a full complement of
soft goods and certain specialty products (including products of competitors)
for immediate patient use. The OfficeCare program is intended to introduce new
orthopedic physicians to the Company's product lines without financial risk to
the potential customer.
The OfficeCare program represented approximately 9.3% of the Company's net
revenues for the first three months of 2000 with sales of soft goods and
specialty and other orthopedic products representing the majority of such sales.
The OfficeCare program involves the Company's lower priced soft goods products,
but is designed to also strengthen the Company's relationship with the customer,
thereby also increasing sales of the higher end products. The OfficeCare program
has historically experienced a strong growth rate, with an increase of sales of
70.5% in the first three months of 2000 over the first three months of 1999. As
a result of the growth of the program, the Company's working capital needs have
increased due to higher levels of accounts receivable and inventories necessary
to operate the program. In addition, OfficeCare has expanded the Company's
involvement in the third party reimbursement process, or in certain cases
directly with the patient. The collection period for these receivables as
compared to other segments of the Company's business is significantly longer and
has also resulted in a corresponding need to increase the Company's bad debt
allowance requirements.
BASIS OF PRESENTATION; TAXES. As limited liability companies, DonJoy and the
Company are not subject to income taxes following the recapitalization. Instead,
DonJoy's earnings following the recapitalization will be allocated to its
members and included in the taxable income of its members. The indenture and the
new credit facility permit the Company to make distributions to DonJoy in
certain amounts to allow DonJoy to make distributions to its members to pay
income taxes in respect of their allocable share of taxable income of DonJoy and
its subsidiaries, including the Company.
RESULTS OF OPERATIONS. The Company operates its business on a manufacturing
calendar, with its fiscal year always ending on December 31. Each quarter is 13
weeks, consisting of one five-week and two four-week periods. The first and
fourth quarters may have more or less working days from year to year based on
what day of the week holidays fall on. The first three months of 2000 contained
one more business day than the first three months of 1999, which resulted in
approximately $0.5 million more revenue in the first three months of 2000 as
compared to the first three months of 1999. The components of the statement of
operations as a percentage of revenues are as follows:
12
13
Three Months Ended
April 1, April 3,
2000 1999
------------------------
Net revenues:
Rigid knee bracing ........................ 42.3% 45.6%
Soft goods ................................ 33.7 33.4
Specialty and other orthopedic products ... 24.0 21.0
------------------------
Total consolidated net revenues ................ 100.0 100.0
Cost of goods sold allocable to product lines .. 38.7 40.2
------------------------
Gross profit exclusive of brand royalties and
other cost of sales ......................... 61.3 59.8
Brand royalties ........................... -- 3.5
Other cost of goods sold .................. 1.4 3.3
------------------------
Gross profit ................................... 59.9 53.0
Sales and marketing ....................... 24.4 24.4
General and administrative ................ 15.2 15.8
Research and development .................. 1.9 2.0
------------------------
Income from operations ......................... 18.4 10.8
Interest expense ............................... (12.1) --
Interest income ................................ 0.4 --
------------------------
Income before income taxes ..................... 6.7 10.8
Provision for income taxes ..................... -- 4.4
------------------------
Net income ..................................... 6.7 % 6.4%
========================
EBITDA (a) data:
Income from operations ......................... $ 5,809 $ 3,080
Depreciation and amortization .................. 1,267 1,188
------------------------
7,076 4,268
Brand royalties ................................ -- 987
Eliminated Allocations ......................... -- 502
Other Corporate Allocations .................... -- 426
Estimated costs to replace Smith & Nephew
services .................................. -- (200)
------------------------
Adjusted EBITDA (b) ............................ $ 7,076 $ 5,983
========================
(a) "EBITDA" is defined as income from operations plus depreciation and
amortization. EBITDA is not a measure of performance under generally accepted
accounting principles. EBITDA should not be considered in isolation or as a
substitute for net income, cash flows from operating activities and other income
or cash flow statement data prepared in accordance with generally accepted
accounting principles, or as a measure of profitability or liquidity. However,
management has included EBITDA because it may be used by certain investors to
analyze and compare companies on the basis of operating performance, leverage
and liquidity and to determine a company's ability to service debt. Our
definition of EBITDA may not be comparable to that of other companies.
(b) In 1999, "Adjusted EBITDA" represents EBITDA (as defined above) adjusted to
eliminate:
(1) charges for brand royalties paid by the Company to Smith & Nephew
for use of the Smith & Nephew trademarks and trade names;
(2) Smith & Nephew overhead allocations for corporate managed accounts
and new business expense and corporate management expense which
will not be incurred following consummation of the
recapitalization (the "Eliminated Allocations");
13
14
(3) Smith & Nephew overhead allocations for research and development
and for amounts charged by Smith & Nephew for services provided to
the Company for finance (risk management, treasury, audit and
taxes), human resources and payroll and legal services
(collectively, the "Other Corporate Allocations");
and adjusted to include the estimated costs we expected to incur to replace the
services previously provided by Smith & Nephew as part of the Other Corporate
Allocations.
THREE MONTHS ENDED APRIL 1, 2000 COMPARED TO THREE MONTHS ENDED APRIL 3, 1999
NET REVENUES. Net revenues increased $3.2 million, or 11.2%, to $31.6 million
for the first three months of 2000 from $28.4 million for the first three months
of 1999. The first three months of 2000 contained one more business day than the
first three months of 1999, which resulted in approximately $0.5 million more
revenue in the first three months of 2000 as compared to the first three months
of 1999. Net revenues for the rigid knee bracing segment increased $0.4 million
over the prior period due to increased sales of ligament braces and
post-operative braces, including the introduction of the 4TITUDE brace in June
1999. Soft goods sales increased by $1.1 million over the prior period due
primarily to increased sales volumes of wrist splints, ankle braces, knee braces
and other general soft good supports. These increases also reflect the growth of
the OfficeCare program. Specialty and other orthopedic products sales increased
by $1.6 million over the prior period due primarily to the recently introduced
PainBuster(TM) Pain Management Systems, cold therapy units, shoulder bracing and
to increased sales of lower extremity walkers as well as the growth of the
OfficeCare program.
GROSS PROFIT. Gross profit increased $3.9 million, or 25.7%, to $18.9 million
for the first three months of 2000 from $15.1 million for the first three months
of 1999. Gross profit margin, exclusive of brand royalties and other cost of
goods sold not allocable to specific product lines, increased from 59.8% for the
first three months of 1999 to 61.3% for the first three months of 2000 primarily
as a result of increased specialty and other orthopedic product sales combined
with the implementation of lean manufacturing techniques. Gross profit for the
rigid knee bracing segment increased $0.1 million, with gross profit margin
decreasing to 71.5% for the first three months of 2000 from 72.7% for the
comparable period in 1999. This decrease in gross profit margin reflects the
change in product mix. Gross profit for the soft goods segment increased $0.7
million, with gross profit margin increasing to 49.8% for the first three months
of 2000 from 48.8% for the comparable period in 1999. This increase is primarily
a result of the change in product mix. Gross profit for the specialty and other
orthopedic products segment increased $1.6 million, with gross profit margin
increasing to 59.4% for the first three months of 2000 from 49.3% for the
comparable period in 1999. The increase in gross profit margin reflects lower
costs associated with the production of walkers, which resulted from the
production of these walkers moving to the Company's facilities in Mexico in the
first quarter of 2000 to take advantage of labor cost savings. Additionally, the
increase is a result of more favorable pricing terms on the PainBuster(TM) Pain
Management System.
As a result of the consummation of the recapitalization on June 30, 1999, the
Company no longer has the right to use the Smith & Nephew trademarks and trade
names and, accordingly, charges for brand royalties are no longer incurred by
the Company. In the first three months of 2000, other cost of goods sold not
allocable to specific product lines decreased from the comparable period in 1999
primarily due to increased manufacturing efficiencies.
SALES AND MARKETING EXPENSES. Sales and marketing expenses increased $0.8
million, or 11.2%, to $7.7 million for the first three months of 2000 from $6.9
million for the first three months of 1999. The increase primarily reflected
increased costs associated with the OfficeCare program.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
increased $0.3 million, or 6.9%, to $4.8 million for the first three months of
2000 from $4.5 million for the first three months of 1999. The increase was
primarily due to increased salaries and benefits and an increase in consulting
expenses related to the implementation of a new Enterprise Resource Planning
("ERP") system, offset by the elimination of the Smith & Nephew overhead charges
in 2000. Overall, general and administrative expenses declined as a percentage
of revenues to 15.2% for the first three months of 2000 from 15.8% for the
comparable period of 1999.
14
15
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses were
approximately equal over the two periods. During the first three months of 2000,
the majority of resources were focused on the development of the OAdjuster(TM)
brace, introduced in March 2000, along with the VISTA System, which is expected
to be introduced in the second half of 2000.
LIQUIDITY AND CAPITAL RESOURCES
The Company's principal liquidity requirements are to service its debt and meet
its working capital and capital expenditure needs. On June 29, 1999, all
long-term intercompany obligations and certain other current liabilities owed to
Smith & Nephew were contributed to members' equity in accordance with the
recapitalization agreement. The Company's current and long-term indebtedness at
April 1, 2000 was $113.2 million.
Net cash provided by operating activities was $4.2 million and $2.0 million in
the first three months of 2000 and 1999, respectively. The increase of $2.2
million in the first three months of 2000 reflects the increase in net income,
including accrued interest expense, in the first three months of 2000 as
compared to the first three months of 1999, offset by an increase in accounts
receivable during the first three months of 2000.
Cash flows used in investing activities were $1.2 million and $0.3 million in
the first three months of 2000 and 1999, respectively. Capital expenditures in
the first three months of 2000 primarily reflected an increase in construction
in progress related to the capitalization of costs directly associated with the
Company's ERP implementation.
Cash flows used in financing activities were $0.3 million and $2.1 million in
the first three months of 2000 and 1999, respectively. The changes are a result
of the change in intercompany obligations. Prior to the recapitalization, the
Company participated in Smith & Nephew's central cash management program,
wherein all of the Company's cash receipts were remitted to Smith & Nephew and
all cash disbursements were funded by Smith & Nephew. Upon consummation of the
recapitalization on June 30, 1999, the Company no longer participated in Smith &
Nephew's cash management program.
Interest payments on the Notes and on borrowings under the new credit facility
have significantly increased the Company's liquidity requirements. The new
credit facility provides for the term loan of $15.5 million, which was borrowed
in connection with the Recapitalization, and up to $25.0 million of revolving
credit borrowings under the new revolving credit facility, which are available
for working capital and general corporate purposes, including financing of
acquisitions, investments and strategic alliances. As of April 1, 2000, the
Company had no borrowings outstanding under the new revolving credit facility.
Borrowings under the term loan and the new revolving credit facility bear
interest at variable rates plus an applicable margin.
In addition, commencing with the year ended December 31, 1999, the Company is
required to make annual mandatory prepayments of the term loan under the new
credit facility in an amount equal to 50% of excess cash flow (as defined in the
new credit facility) (75% if the Company's leverage ratio exceeds a certain
level). The Company had no excess cash flow at December 31, 1999. In addition,
the term loan is subject to mandatory prepayments in an amount equal to (a) 100%
of the net cash proceeds of certain equity and debt issuances by DonJoy, the
Company or any of its subsidiaries and (b) 100% of the net cash proceeds of
certain asset sales or other dispositions of property by DonJoy, the Company or
any of its subsidiaries, in each case subject to certain exceptions. No
mandatory prepayments were required by the Company at December 31, 1999. The new
credit facility and the indenture impose certain restrictions on the Company,
including restrictions on its ability to incur indebtedness, pay dividends, make
investments, grant liens, sell its assets and engage in certain other
activities. In addition, the new credit facility requires the Company to
maintain certain financial ratios. Indebtedness under the new credit facility is
secured by substantially all of the assets of the Company, including the
Company's real and personal property, inventory, accounts receivable,
intellectual property and other intangibles.
The Company incurred fees and expenses of $8.8 million in connection with the
recapitalization. Approximately $7.4 million, principally relating to financing
fees and expenses, has been capitalized and will be amortized over the terms of
the related debt instruments.
15
16
As part of its strategy, the Company intends to pursue acquisitions, investments
and strategic alliances. The Company may require new sources of financing to
consummate any such transactions, including additional debt or equity financing.
There can be no assurance that such additional sources of financing will be
available on acceptable terms if at all. The Company's ability to satisfy its
debt obligations and to pay principal and interest on its indebtedness,
including the notes, fund working capital requirements and make anticipated
capital expenditures will depend on its future performance, which is subject to
general economic, financial and other factors, some of which are beyond its
control. Management believes that based on current levels of operations and
anticipated growth, cash flow from operations, together with other available
sources of funds including the availability of borrowings under the new
revolving credit facility, will be adequate for the foreseeable future to make
required payments of principal and interest on the Company's indebtedness,
including the notes, to fund anticipated capital expenditures and for working
capital requirements. There can be no assurance, however, that the Company's
business will generate sufficient cash flow from operations or that future
borrowings will be available under the new revolving credit facility in an
amount sufficient to enable the Company to service its indebtedness, including
the notes, or to fund its other liquidity needs.
SEASONALITY
The Company generally records its highest net revenues in the first and fourth
quarters due to the greater number of orthopedic surgeries and injuries
resulting from increased sports activity, particularly football and skiing. In
addition, during the fourth quarter, a patient has a greater likelihood of
having satisfied his annual insurance deductible than in the first three
quarters of the year, and thus there is an increase in the number of elective
orthopedic surgeries. Conversely, the Company generally has lower net revenues
during its second and third quarters as a result of decreased sports activity
and fewer orthopedic surgeries. The Company's results of operations would be
adversely and disproportionately affected if the Company's sales were
substantially lower than those normally expected during its first and fourth
quarters.
YEAR 2000
During fiscal 1999, the Company continued its company-wide program to prepare
the Company's computer systems for year 2000 compliance. The year 2000 issue
relates to computer systems that use the last two digits rather than all four to
define a year and whether such systems would properly and accurately process
information when the year changed to 2000. At the date of this report, the
Company had not yet experienced any material problems related to the year 2000.
The Company has not become aware of any significant year 2000 issues affecting
the Company's major customers or suppliers. The Company also has not received
any material complaints regarding any year 2000 issues related to its products.
Year 2000 related costs through April 1, 2000 were approximately $360,000 and
have been expensed as incurred. These costs included labor expended in
contacting customers and suppliers, testing systems and software, and software
upgrades for year 2000.
16
17
FORWARD LOOKING STATEMENTS
This Quarterly Report on Form 10-Q contains forward-looking statements which are
made pursuant to the safe harbor provisions of the Private Securities Litigation
Reform Act of 1995. Such forward-looking statements are based on the beliefs of
our management as well as on assumptions made by and information currently
available to us at the time such statements were made. When used in this
Quarterly Report on Form 10-Q, the words "anticipate," "believe," "estimate,"
"expect," "intends" and similar expressions, as they relate to our company are
intended to identify forward-looking statements. Actual results could differ
materially from those projected in the forward-looking statements. Important
factors that could affect our results include, but are not limited to, (i) our
high level of indebtedness; (ii) the restrictions imposed by the terms of our
indebtedness; (iii) the ability to generate cash to service our debt; (iv)
healthcare reform and the emergence of managed care and buying groups; (v)
patents and proprietary know-how; (vi) uncertainty of domestic and foreign
regulatory clearance and approvals; (vii) dependence on orthopedic
professionals, agents and distributors; (viii) our dependence on certain key
personnel; (ix) risks related to competition in our markets; (x) risks related
to changing technology and new product developments; (xi) the sensitivity of our
business to general economic conditions; (xii) uncertainty relating to third
party reimbursement; and (xiii) the other factors affecting future performance
referred to under the caption "Factors Affecting Future Performance" in the
Annual Report on Form 10-K for the year ended December 31, 1999.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to certain market risks as part of its ongoing business
operations. Primary exposure following consummation of the Recapitalization
includes changes in interest rates. The Company is exposed to interest rate risk
in connection with the term loan which bears interest at floating rates based on
London Inter-Bank Offered Rate ("LIBOR") or the prime rate plus an applicable
borrowing margin. The Company will manage its interest rate risk by balancing
the amount of fixed and variable debt. For fixed rate debt, interest rate
changes affect the fair market value but do not impact earnings or cash flows.
Conversely, for variable rate debt, interest rate changes generally do not
affect the fair market value but do impact future earnings and cash flows,
assuming other factors are held constant. As of April 1, 2000, the Company had
$100 million principal amount of fixed rate debt represented by the Notes and
$15.1 million of variable rate debt represented by borrowings under the new
credit facility (at an interest rate of 9.18% as of April 1, 2000). Based on the
Company's current balance outstanding under the term loan, an immediate increase
of one percentage point in the applicable interest rate would cause an increase
in interest expense of approximately $0.2 million on an annual basis. Up to
$25.0 million of variable rate borrowings is available under the new revolving
credit facility. The Company may use derivative financial instruments, where
appropriate, to manage its interest rate risks. However, the Company, as a
matter of policy, does not enter into derivative or other financial investments
for trading or speculative purposes. All of the Company's sales are denominated
in U.S. dollars, thus the Company is not subject to any foreign currency
exchange risks.
17
18
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is not a party to any material legal proceedings.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
27.1 Financial Data Schedule.
18
19
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on May 8, 2000 on its behalf
by the undersigned thereunto duly authorized.
DJ ORTHOPEDICS, LLC
DJ ORTHOPEDICS CAPITAL CORPORATION
DONJOY, L.L.C.
(Registrant)
Date: May 8, 2000 BY:/S/ LESLIE H. CROSS
----------------- ------------------------------------------
Leslie H. Cross
President and Chief Executive Officer
(Principal Executive Officer)
Date: May 8, 2000 BY:/S/ CYRIL TALBOT III
----------------- ------------------------------------------
Cyril Talbot III
Chief Financial Officer and Secretary
(Principal Financial Officer)
19