UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended SEPTEMBER 30, 2004
Commission file number 000-04217
ACETO CORPORATION
(Exact name of registrant as specified in its charter)
New York 11-1720520
-------- ----------
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) Number)
One Hollow Lane, Lake Success, NY 11042
---------------------------------------
(Address of principal executive offices
(516) 627-6000
(Registrant's telephone number, including area code)
www.aceto.com
-------------
(Registrant's website address)
Name of each exchange on which registered: The Nasdaq National Market.
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes _X_ No____
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes _X_ No____
The Registrant has 16,065,480 shares of common stock outstanding as of November
4, 2004.
ACETO CORPORATION AND SUBSIDIARIES
FORM 10-Q
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2004
Table of Contents
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets - September 30, 2004 (unaudited) and
June 30, 2004
Consolidated Statements of Income - Three Months Ended
September 30, 2004 and 2003 (unaudited)
Consolidated Statements of Cash Flows - Three Months Ended
September 30, 2004 and 2003 (unaudited)
Notes to unaudited Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Item 4. Controls and Procedures
PART II. OTHER INFORMATION
Item 6. Exhibits
Signatures
Exhibits
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
ACETO CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except per-share amounts)
September 30, June 30,
2004 2004
---- ----
(unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 30,926 $ 32,330
Short-term investments 867 888
Receivables:
Trade, less allowance for doubtful accounts (September, $1,030;
June, $1,033) 52,803 53,084
Other 1,101 1,504
-------- --------
53,904 54,588
Inventory 41,531 41,784
Prepaid expenses and other current assets 1,721 1,165
Income taxes receivable 521 606
Deferred income tax benefit, net 1,566 1,613
-------- --------
Total current assets 131,036 132,974
Long-term notes receivable 722 747
Property and equipment 7,716 7,044
Less accumulated depreciation and amortization 4,849 4,390
-------- --------
2,867 2,654
Goodwill 3,197 3,179
Intangible assets, net 3,634 3,701
Deferred income tax benefit 3,915 4,579
Other assets 2,062 1,863
-------- --------
Total assets $147,433 $149,697
======== ========
See accompanying notes to consolidated financial statements and accountants' review report.
3
ACETO CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except per-share amounts)
September 30, June 30,
2004 2004
---- ----
(unaudited)
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Drafts and acceptances payable $ 5,139 $ 4,610
Short-term bank loans 271 -
Accounts payable 24,206 31,292
Note payable - related party 1,000 1,000
Accrued compensation 2,294 2,836
Accrued environmental remediation 1,274 1,326
Other accrued expenses 6,109 6,070
--------- ---------
Total current liabilities 40,293 47,134
Long-term liabilities 2,748 2,140
Minority interest 153 157
--------- ---------
Total liabilities 43,194 49,431
Commitments and contingencies (Note 11)
Shareholders' equity:
Common stock, $.01 par value:
(40,000 shares authorized; 17,571 shares issued;
16,066 and 16,045 shares outstanding at
September 30, 2004 and June 30, 2004, respectively) 176 176
Capital in excess of par value 57,170 57,191
Retained earnings 59,865 56,490
Treasury stock, at cost:
(1,505 and 1,526 shares at September
30, 2004 and June 30, 2004, respectively) (14,927) (15,135)
Accumulated other comprehensive income 1,955 1,544
--------- ---------
Total shareholders' equity 104,239 100,266
--------- ---------
Total liabilities and shareholders' equity $ 147,433 $ 149,697
========= =========
See accompanying notes to consolidated financial statements and accountants' review report.
4
ACETO CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(unaudited)
(in thousands, except per-share amounts)
Three Months Ended
September 30,
2004 2003
---- ----
Net sales $ 80,820 $ 72,337
Cost of sales 67,222 60,167
-------- --------
Gross profit 13,598 12,170
Selling, general and administrative expenses 9,502 7,973
-------- --------
Operating income 4,096 4,197
Other income (expense):
Interest expense (20) (20)
Interest and other income, net 548 377
-------- --------
528 357
-------- --------
Income before income taxes 4,624 4,554
Provision for income taxes 1,249 1,435
-------- --------
Net income $ 3,375 $ 3,119
======== ========
Net income per common share (a):
Basic $ 0.21 $ 0.20
Diluted $ 0.21 $ 0.20
Weighted average shares outstanding (a):
Basic 16,053 15,494
Diluted 16,407 15,969
(a) The number of shares outstanding and the per-share information for
September 30, 2003 have been adjusted for a 3-for-2 stock dividend, paid
January 2, 2004.
See accompanying notes to consolidated financial statements and accountants'
review report.
5
ACETO CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(in thousands)
Three Months Ended
September 30,
2004 2003
---- ----
Operating activities:
Net income $ 3,375 $ 3,119
Adjustments to reconcile net income to net cash (used in) provided
by operating activities:
Depreciation and amortization 339 238
Provision for doubtful accounts 40 187
Non-cash stock compensation 81 97
Deferred income taxes 711 -
Income tax benefit on exercise of stock options 18 181
Changes in assets and liabilities:
Investments - trading securities 21 16
Trade accounts receivable 527 (2,676)
Other receivables 306 (172)
Inventory 416 5,218
Prepaid expenses and other current assets (550) (393)
Other assets (268) 67
Drafts and acceptances payable 509 (481)
Accounts payable (7,212) 2,005
Accrued compensation (549) (756)
Accrued environmental remediation (52) -
Income taxes receivable 85 745
Other accrued expenses and long-term liabilities 703 (1,772)
-------- --------
Net cash (used in) provided by operating activities (1,500) 5,623
-------- --------
Investing activities:
Payments received on notes receivable 23 118
Purchases of property and equipment (391) (171)
-------- --------
Net cash used in investing activities (368) (53)
-------- --------
Financing activities:
Proceeds from exercise of stock options 87 318
Borrowings (payments) of short-term bank loans 271 (534)
-------- --------
Net cash provided by (used in) financing activities 358 (216)
-------- --------
Effect of exchange rate changes on cash 106 99
-------- --------
Net (decrease) increase in cash (1,404) 5,453
Cash at beginning of period 32,330 20,263
-------- --------
Cash at end of period $ 30,926 $ 25,716
======== ========
See accompanying notes to consolidated financial statements and accountants' review report.
6
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
(in thousands, except per-share amounts)
(1) BASIS OF PRESENTATION
The consolidated financial statements of Aceto Corporation and subsidiaries
("Aceto" or the "Company") included herein have been prepared by the Company and
reflect all adjustments (consisting solely of normal recurring adjustments)
necessary to present fairly the financial position, results of operations and
cash flows for all periods presented. Interim results are not necessarily
indicative of results which may be achieved for the full year.
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets,
liabilities, revenues and expenses reported in those financial statements. These
judgments can be subjective and complex, and consequently actual results could
differ from those estimates and assumptions. The Company's most critical
accounting policies relate to revenue recognition; allowance for doubtful
accounts; inventory; goodwill and other intangible assets; environmental
matters; pension benefits; income taxes and other contingencies.
These consolidated financial statements do not include all disclosures
associated with consolidated financial statements prepared in accordance with
accounting principles generally accepted in the United States of America.
Accordingly, these statements should be read in conjunction with the Company's
consolidated financial statements and notes thereto contained in the Company's
Form 10-K for the year ended June 30, 2004.
Certain reclassifications have been made to the prior consolidated financial
statements to conform to the current presentation.
(2) BUSINESS ACQUISITIONS
On December 31, 2003, the Company, through its wholly owned subsidiary Aceto
Holding GmbH ("Aceto Holding"), acquired from Corange Deutschland Holding GmbH
("Corange"), all of the capital stock of Pharma Waldhof Beteiligungs GmbH
("Pharma Waldhof"), and all of the partnership interest of Pharma Waldhof GmbH &
Co. KG. Pharma Waldhof is the general partner of Pharma Waldhof GmbH & Co. KG.
The following unaudited pro forma financial information presents a summary of
the Company's consolidated results of operations for the three months ended
September 30, 2003, assuming the Pharma Waldhof acquisition had taken place as
of July 1, 2003:
Three months ended
September 30,
2003
-------------------
Net sales $ 74,697
Net income $ 3,649
Net income per common share:
Basic $ 0.24
Diluted $ 0.23
The unaudited pro forma financial information has been prepared for comparative
purposes only and reflects the addition of the historical unaudited results of
Pharma Waldhof. The pro forma financial information includes adjustments to the
Company's historical results to reflect reduced interest income generated from
cash that was used for the acquisition, depreciation and amortization expenses
and related income tax adjustments. The pro forma information does not purport
to be indicative of operating results that would have been achieved had the
acquisition taken place on the dates indicated or the results that may be
obtained in the future.
7
(3) GOODWILL AND OTHER INTANGIBLE ASSETS
Intangible assets subject to amortization as of September 30, 2004 and June 30,
2004 were as follows:
Gross Carrying Accumulated Net Book
Value Amortization Value
----- ------------ -----
September 30, 2004
------------------
Customer relationships $2,720 $ 290 $2,430
Customer lists 600 420 180
Non-compete agreements 643 454 189
------ ------ ------
$3,963 $1,164 $2,799
====== ====== ======
June 30, 2004
-------------
Customer relationships $2,644 $ 189 $2,455
Customer lists 600 390 210
Non-compete agreements 643 442 201
------ ------ ------
$3,887 $1,021 $2,866
====== ====== ======
Amortization expense for intangible assets subject to amortization amounted to
$143 and $55 for the three months ended September 30, 2004 and 2003,
respectively. The estimated aggregate amortization expense for intangible assets
subject to amortization for each of the succeeding years ended September 30 are
as follows: 2005: $572; 2006: $512; 2007: $452; 2008: $449; 2009: $404; 2010:
$410.
As of September 30, 2004 and June 30, 2004, the Company also had $835 of
intangible assets pertaining to trademarks which are not subject to
amortization.
The balances of goodwill by segment as of September 30, 2004 and June 30, 2004
were as follows:
September 30, June 30
2004 2004
---- ----
Health sciences $ 2,252 $ 2,234
Institutional sanitary supplies & other 945 945
------- -------
Total $ 3,197 $ 3,179
======= -======
The changes in goodwill and the gross carrying value of customer relationships
is attributable to foreign currency exchange rates used to translate the
financial statements of foreign subsidiaries.
(4) COMMON STOCK
On December 4, 2003, the shareholders of the Company approved an increase in the
Company's authorized common stock to 40,000 shares. In addition, the Board of
Directors of the Company declared a 3-for-2 stock dividend that was paid January
2, 2004, to shareholders of record on December 17, 2003. The Company transferred
$53 to common stock from capital in excess of par value, representing the
aggregate par value of the shares issued.
All references to the number of common shares and the per common share amounts
have been restated to give retroactive effect to the above stock dividend for
all periods presented.
(5) STOCK-BASED COMPENSATION
The Company applies the intrinsic value method as outlined in Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB
25), and related interpretations for stock options and other stock-based awards
while disclosing pro forma net income and earnings per share as if the fair
value method had been
8
applied in accordance with Statement of Financial Accounting Standards (SFAS)
No. 123, "Accounting for Stock-Based Compensation."
Under the intrinsic value method, no compensation expense is recognized if the
exercise price of the Company's employee stock options equals or exceeds the
market price of the underlying stock on the date of grant. Since the Company has
issued all stock option grants with exercise prices equal to, or greater than,
the market value of the common stock on the date of grant, no compensation cost
has been recognized. SFAS No. 123 requires that the Company provide pro forma
information regarding net income and net income per common share as if
compensation cost for the Company's stock option programs had been determined in
accordance with the fair value method prescribed therein. The following table
illustrates the effect on net income and net income per common share as if the
Company had measured the compensation cost for the Company's stock option
programs under the fair value method in each period presented:
Three months ended
September 30,
2004 2003
---- ----
Net income - as reported $3,375 $3,119
Deduct: Total stock-based employee
compensation expense determined under
fair value method for all awards, net
of related tax effects
(6,253) (256)
------ -----
Net (loss) income - pro forma (2,878) 2,863
Net income (loss) per share:
Basic - as reported $ 0.21 $ 0.20
Basic - pro forma $ (0.18) $ 0.18
Diluted - as reported $ 0.21 $ 0.20
Diluted - pro forma $ (0.18) $ 0.18
Stock-based employee compensation expense under the fair value method for the
three months ended September 30, 2004 includes the entire fair value of 881
options granted to employees and 41 options granted to directors in September
2004, all of which had an exercise price equal to or greater than the market
value of the common stock on the date of grant, as such options were vested as
of their date of grant.
(6) NET INCOME PER COMMON SHARE
A reconciliation between the numerators and denominators of the basic and
diluted income per common share follows:
Three months ended
September 30,
2004 2003
---- ----
Net income available for common shareholders $ 3,375 $ 3,119
======== ========
Weighted average common shares outstanding
(basic) (a) 16,053 15,494
Effect of dilutive securities:
Stock options (a) 354 475
-------- --------
Weighted average common and potential common
shares outstanding (diluted) (a) 16,407 15,969
======== ========
Net income per common share:
Basic $ 0.21 $ 0.20
======== ========
Diluted $ 0.21 $ 0.20
======== ========
9
(a) Share and per share information for September 30, 2003 have been adjusted
for a 3-for-2 stock dividend, paid January 2, 2004.
Employee stock options of 925 for the three months ended September 30, 2004 were
not included in the diluted income per common share calculation because their
effect would have been anti-dilutive.
(7) COMPREHENSIVE INCOME
Comprehensive income consists of net income and other gains and losses affecting
shareholders' equity that, under generally accepted accounting principles, are
excluded from net income. The components of comprehensive income were as
follows:
Three months ended
September 30,
2004 2003
---- ----
Comprehensive income:
Net income $3,375 $3,119
Foreign currency translation
adjustment 459 157
Unrealized gain on forward
currency contracts 120 -
Change in fair value of cross
currency interest rate swaps (168) (88)
------ ------
Total $3,786 $3,188
====== ======
The financial statements of the Company's foreign subsidiaries are measured
using the local currency as the functional currency. New exchange gains or
losses resulting from the translation of financial statements of foreign
operations are accumulated in other comprehensive income. The currency
translation adjustments are not adjusted for income taxes as they relate to
indefinite investments in non-US subsidiaries.
(8) DEFERRED INCOME TAXES
The decrease in the deferred income tax assets of $711 during the quarter ended
September 30, 2004 related to the reduction of taxes payable due to the
utilization of foreign net operating loss carryforwards.
(9) SUPPLEMENTAL CASH FLOW INFORMATION
Cash paid for interest and income taxes for the three months ended September 30,
2004 and 2003 were as follows:
2004 2003
---- ----
Interest $ 8 $ 5
Income taxes 512 441
(10) RELATED PARTY TRANSACTIONS
Certain directors of the Company are affiliated with law firms which serve as
counsel to the Company on various corporate matters. During the three months
ended September 30, 2004 and 2003, the Company incurred legal fees of $34 and
$70, respectively, for services rendered to the Company by these law firms. The
fees charged by such firms were at rates comparable to rates obtainable from
other firms for similar services.
10
(11) COMMITMENTS AND CONTINGENCIES AND SHORT-TERM BORROWINGS
As of September 30, 2004, the Company had outstanding purchase obligations
totaling $14,517 with suppliers to the Company's Germany, Netherlands and
Singapore operations to acquire certain products for resale to third party
customers.
During November 2004, the Company expects to enter into an agreement to purchase
approximately 1,300 gross square meters (whole number, not in thousands) of
office space located in Shanghai, China. The purchase price is expected to be
approximately $2,900, of which $1,750 will be paid upon execution of the
agreement and the remainder will be paid in installments through March 2005.
The Company and its subsidiaries are subject to various claims which have arisen
in the normal course of business. The impact of the final resolution of these
matters on the Company's results of operations or liquidity in a particular
reporting period is not known. Management is of the opinion, however, that the
ultimate outcome of such matters will not have a material adverse effect upon
the Company's financial condition or liquidity.
Commercial letters of credit are issued by the Company during the ordinary
course of business through major domestic banks as requested by certain
suppliers. The Company had open letters of credit of approximately $1,452 and
$1,161 as of September 30, 2004 and June 30, 2004, respectively. The terms of
these letters of credit are all less than one year. No material loss is
anticipated due to non-performance by the counterparties to these agreements.
As of September 30, 2004, the Company borrowed $271 under a line of credit in
Singapore with an interest rate of 5.2%.
(12) RECENT ACCOUNTING PRONOUNCEMENTS
In March 2004, the Financial Accounting Standards Board ("FASB") issued a
proposed statement, "Share-Based Payment - An Amendment to Statement Nos. 123
and 95," that addresses the accounting for share-based payment transactions in
which an enterprise receives employee services in exchange for (a) equity
instruments of the enterprise or (b) liabilities that are based on the fair
value of the enterprise's equity instruments or that may be settled by the
issuance of such equity instruments. The proposed statement would eliminate the
ability to account for share-based compensation transactions using Accounting
Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to
Employees," and generally would require, instead, that such transactions be
accounted for using a fair value based method. In October 2004, the FASB delayed
the effective date of this standard to be applied prospectively for interim or
annual periods beginning after June 15, 2005 (the Company's 2006 fiscal year),
as if all share-based compensation awards granted, modified or settled after
December 15, 1994 had been accounted for using the fair value based method of
accounting. Management will continue to monitor the FASB's progress on the
issuance of this proposed statement and its impact on the Company's consolidated
financial statements.
(13) SEGMENT INFORMATION
The Company's four reportable segments, organized by product, are as follows:
o Health Sciences - includes the active ingredients for generic
pharmaceuticals, vitamins, and nutritional supplements, as well
as products used in preparing pharmaceuticals, primarily by
major innovative drug companies, and biopharmaceuticals.
o Chemicals & Colorants - products include a variety of specialty
chemicals used in plastics, resins, adhesives, coatings, food,
flavor additives, fragrances, cosmetics, metal finishing,
electronics and many other areas; dye and pigment intermediates
used in the color-producing industries like textiles, inks,
paper, and coatings; intermediates used in the production of
agrochemicals.
o Agrochemicals - products include herbicides, fungicides and
insecticides, as well as a sprout inhibitor for potatoes.
o Institutional Sanitary Supplies & Other - products include
cleaning solutions, fragrances, and deodorants for commercial
and industrial customers.
11
Certain freight and storage costs are not allocated to the segments as such
costs are managed on an entity-wide basis, and the information to reasonably
allocate such costs is not readily available.
The Company does not allocate assets by segment. The Company's chief operating
decision maker evaluates performance of the segments based on net sales and
gross profit. The Company does not allocate assets by segment because the chief
operating decision maker does not review the assets by segment to assess the
segments' performance, as the assets are managed on an entity-wide basis.
Three Months Ended September 30, 2004 and 2003:
Institutional
Sanitary
Health Chemicals & Supplies & Consolidated
Sciences Colorants Agrochemicals Other Totals
-------- --------- ------------- ----- ------
2004
- ----
Net sales $52,240 $24,004 $3,115 $1,461 $80,820
Gross profit 9,525 3,761 818 425 14,529
Unallocated
Cost of sales (1) (931)
-------
Net gross profit $13,598
2003
- ----
Net sales $45,007 $23,141 $2,789 $1,400 $72,337
Gross profit 8,594 3,453 680 587 13,314
Unallocated
Cost of sales (1) (1,144)
-------
Net gross profit $12,170
(1) Represents certain freight and storage costs that are not allocated to a
segment.
Net sales and gross profit by location for the three months ended September 30,
2004 and 2003 and long-lived assets by location as of September 30, 2004 and
June 30, 2004 were as follows:
Net Sales Gross Profit Long-lived Assets
--------- ------------ -----------------
Three months ended Three months ended As of
September 30, September 30, September 30, June 30,
2004 2003 2004 2003 2004 2004
---- ---- ---- ---- ---- ----
United States $44,671 $44,292 $6,707 $7,129 $1,900 $1,748
Germany 14,873 8,796 4,009 1,702 570 585
Netherlands 1,935 2,295 316 467 209 129
France 2,486 2,195 298 370 109 119
Asia-Pacific 16,855 14,759 2,268 2,502 79 73
------ ------ ------ ------ ----- -----
Total $80,820 $72,337 $13,598 $12,170 $2,867 $2,654
====== ====== ======= ======= ===== =====
12
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders
Aceto Corporation:
We have reviewed the accompanying consolidated balance sheet of Aceto
Corporation and subsidiaries as of September 30, 2004, the related consolidated
statements of income for the three-month periods ended September 30, 2004 and
2003, and the related consolidated statements of cash flows for the three-month
periods ended September 30, 2004 and 2003. These consolidated financial
statements are the responsibility of the Company's management.
We conducted our review in accordance with standards of the Public Company
Accounting Oversight Board (United States). A review of interim financial
information consists principally of applying analytical procedures and making
inquiries of persons responsible for financial and accounting matters. It is
substantially less in scope than an audit conducted in accordance with the
standards of the Public Company Accounting Oversight Board (United States), the
objective of which is the expression of an opinion regarding the financial
statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our reviews, we are not aware of any material modifications that should
be made to the consolidated financial statements referred to above for them to
be in conformity with U.S. generally accepted accounting principles.
We have previously audited, in accordance with standards of the Public Company
Accounting Oversight Board (United States), the consolidated balance sheet of
Aceto Corporation and subsidiaries as of June 30, 2004, and the related
consolidated statements of income, shareholders' equity and comprehensive income
(loss), and cash flows for the year then ended (not presented herein); and in
our report dated September 9, 2004, we expressed an unqualified opinion on those
consolidated financial statements. In our opinion, the information set forth in
the accompanying consolidated balance sheet as of June 30, 2004, is fairly
stated, in all material aspects, in relation to the consolidated balance sheet
from which it has been derived.
As discussed in note 2 to the June 30, 2004 consolidated financial statements,
Aceto Corporation and subsidiaries adopted the provisions of Statement of
Financial Accounting Standards No. 141, "Business Combinations" and Statement
No. 142, "Goodwill and Other Intangible Assets" as of July 1, 2002.
/s/ KPMG LLP
Melville, New York
November 9, 2004
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
CAUTIONARY STATEMENT RELATING TO THE SAFE HARBOR PROVISIONS OF THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995
This Quarterly Report on Form 10-Q and the information incorporated by reference
includes "forward-looking statements" within the meaning of section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
We intend those forward looking-statements to be covered by the safe harbor
provisions for forward-looking statements. All statements regarding our expected
financial position and operating results, our business strategy, our financing
plans and the outcome of any contingencies are forward-looking statements. Any
such forward-looking statements are based on current expectations, estimates and
projections about our industry and our business. Words such as "anticipates,"
"expects," "intends," "plans," "believes," "seeks," "estimates," or variations
of those words and similar expressions are intended to identify such
forward-looking statements. Forward-looking statements are subject to risks and
uncertainties that could cause actual results to differ materially from those
set forth or implied by any forward-looking statements. Factors that could cause
actual results to differ materially from forward-looking statements include, but
are not limited to, unforeseen environmental liabilities, uncertain military,
political and economic conditions in the world, the mix of products sold and the
profit margins thereon, order cancellation or a reduction in orders from
customers, the nature and pricing of competing products, the availability and
pricing of key raw materials, dependence on key members of management, risks of
entering into new European markets, continued successful integration of
acquisitions, and economic and political conditions in the United States and
abroad.
NOTE REGARDING DOLLAR AMOUNTS
In this quarterly report, all dollar amounts are expressed in thousands, except
for share prices and per-share amounts.
EXECUTIVE SUMMARY
We are a global distributor of chemically-derived pharmaceuticals,
biopharmaceuticals, specialty chemicals, and agrochemicals. Our offices in
China, Germany, France, the Netherlands, Singapore, India, Poland, Hong Kong,
the United Kingdom and the United States, along with warehouses worldwide,
enable us to respond quickly to global customer demands, assuring that a
consistent, high-quality supply of pharmaceutical, biopharmaceutical, specialty
chemicals and agrochemicals is never far away. We are able to offer our
customers very competitive pricing, continuity of supply, and quality control.
Our 57 years of experience, our reputation for reliability and stability, and
our long-term relationships with our suppliers have fostered loyalty among our
customers.
We remain confident about our short- and long-term business prospects. In the
short-term, we anticipate continued organic growth, including growth resulting
from our launching four new active pharmaceutical ingredients (APIs) per year,
entering the developing biopharmaceutical market, globalization of our Chemicals
& Colorants business, expansion of our Agrochemicals segment by acquisition of
product lines, continued enhancement of our sourcing operations in China and
India, and steady improvement of our regulatory capabilities.
We believe that new product launches and product introductions demonstrate that
Aceto has come to be recognized by the worldwide generic pharmaceutical industry
as a reliable supplier. Our long-term plans involve seeking strategic
acquisitions that enhance our earnings, forming alliances with partners that add
to our capabilities, and establishing significant business operations in Eastern
Europe. We believe Eastern Europe has great potential in the API business, given
that entry of Eastern European countries into the European Union will result in
their being subject to the same strict pharmaceutical regulations as their
Western European counterparts.
We are reporting net sales of $80,820 for the quarter ended September 30, 2004,
which represents an 11.7% increase over the $72,337 reported in the same period
of the prior year. The strong sales caused our net income to increase to $3,375,
or $0.21 per diluted share, which is 8.2% higher than the same period in fiscal
2004.
Our financial position as of September 30, 2004 remains strong, as we had cash
of $30,926, working capital of $90,743, no long-term debt, and shareholders'
equity of $104,239.
14
Our business is separated into four principal segments: Health Sciences,
Chemicals & Colorants, Agrochemicals, and Institutional Sanitary Supplies &
Other.
The Health Sciences segment is our largest and fastest growing segment in terms
of both sales and gross profits. This segment is comprised of APIs,
pharmaceutical intermediates, diagnostic chemicals and nutritional supplements.
APIs comprise about 70% of this segment's revenues. We typically partner with
both customers and suppliers years in advance of a drug coming off patent to
provide the generic equivalent.
We have an extensive pipeline of new generic products poised to reach commercial
levels over the coming years as the patents on existing drugs expire, both in
the United States and Europe, and we expect to launch a minimum of four per
year. In addition, as new members join the European Union, primarily from
Eastern Europe, they become subject to the same regulatory standards as their
Western Europe counterparts. With the opening of our office in Poland in January
2004, we are well positioned to take advantage of that opportunity.
The Chemicals & Colorants segment supplies chemicals used in the color-producing
industries such as textiles, ink, paper and coatings, as well as chemicals used
in plastic, resins, adhesives, coatings, food, flavor additives, and the
production of agrochemicals. Our sales of these products are predominantly in
the United States and purchases are primarily from China and Western Europe.
The Agrochemicals segment, while relatively small in terms of sales, is our most
profitable in terms of gross margin percentages. Our revenues are derived from
sales of herbicides, pesticides, and other Agrochemicals, primarily in the
United States and Western Europe. Our joint venture with Nufarm, which markets
Butoxone(R) is expected to increase our market share of the peanut, soybean and
alfalfa herbicide markets. We believe this will have a marginally positive
effect on the gross margins contribution in this segment.
Aceto's main strengths are sourcing, regulatory support and quality control. We
are currently the largest buyer of pharmaceutical and specialty chemicals for
export from China, purchasing from over 400 different factories.
Among our greatest strengths are our people and the ability they have to meet
the individual needs of customers. Eighty-five of our approximately 260
employees have technical degrees and we have eighteen employees whose exclusive
responsibility is regulatory compliance. This enables us to dispatch highly
skilled professionals whenever they might be needed.
In this section, we explain our general financial condition and results of
operations, including the following:
o factors that affect our business
o our earnings and costs in the periods presented
o changes in earnings and costs between periods
o sources of earnings
o the impact of these factors on our overall financial condition
As you read this section, refer to the accompanying consolidated statements of
income, which present the results of our operations for the three months ended
September 30, 2004 and 2003. We analyze and explain the differences between
periods in the specific line items of the consolidated statements of income.
15
CRITICAL ACCOUNTING POLICIES
The discussion and analysis of our financial condition and results of operations
is based on our consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States.
In preparing these financial statements, we were required to make estimates and
assumptions that affect the amounts of assets, liabilities, revenues and
expenses, and related disclosure of contingent assets and liabilities. We
evaluate our estimates on a regular basis, including those related to bad debts,
inventories, goodwill and intangible assets, environmental and other
contingencies, pension benefits and income taxes. We base our estimates on
various factors, including historical experience, consultation and advice from
third-party subject-matter experts, and on various assumptions that are believed
to be reasonable under the circumstances, the results of which form the basis
for making judgments about the carrying values of assets and liabilities that
are not readily apparent from other sources. Actual results may differ from
these estimates under different assumptions and circumstances.
We believe the following critical accounting policies affect our more
significant judgments and estimates used in the preparation of these
consolidated financial statements.
REVENUE RECOGNITION
We recognize revenue from product sales at the time of shipment and passage of
title and risk of loss to the customer. We have no acceptance or other
post-shipment obligations and we do not offer product warranties or services to
our customers.
Sales are recorded net of returns of damaged goods from customers, which
historically have been immaterial, and sales incentives offered to customers.
Sales incentives consist primarily of volume incentive rebates. We record such
volume incentive rebates as the underlying revenue transactions that result in
progress by the customer in earning the rebate are recorded, in accordance with
Emerging Issues Task Force (EITF) 01-09, "Accounting for Consideration Given by
a Vendor to a Customer (Including a Reseller of the Vendor's Products)."
ALLOWANCE FOR DOUBTFUL ACCOUNTS
We maintain allowances for doubtful accounts for estimated losses resulting from
the inability of our customers to make required payments. Allowances for
doubtful accounts are based on historical experience and known factors regarding
specific customers and industries in which the customers operate. If the
financial condition of our customers were to deteriorate, resulting in an
impairment of their ability to make payments, additional allowances would be
required.
INVENTORIES
Inventories, which consist principally of finished goods, are stated at the
lower of cost (first-in, first-out method) or market. We write down our
inventories for estimated excess and obsolete goods by an amount equal to the
difference between the carrying cost of the inventory and the estimated market
value based upon assumptions about future demand and market conditions. A
significant sudden increase in the demand for our products could result in a
short-term increase in the cost of inventory purchases, while a significant
decrease in demand could result in an increase in the amount of excess inventory
quantities on-hand. Additionally, our estimates of future product demand may
prove to be inaccurate, in which case we may have understated or overstated the
write-down required for excess and obsolete inventory. Although we make every
effort to ensure the accuracy of our forecasts of future product demand, any
significant unanticipated changes in demand could have a significant impact on
the value of our inventory and reported operating results.
GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill is calculated as the excess of the cost of purchased businesses over
the value of their underlying net assets. Other intangible assets principally
consist of customer relationships, trademarks, purchased customer lists, and
covenants not to compete. Goodwill and other intangible assets that have an
indefinite life are not amortized.
16
As required by Statement of Financial Accounting Standards (SFAS) No. 142,
"Goodwill and Other Intangible Assets", we test goodwill and other intangible
assets for impairment on at least an annual basis. To determine the fair value
of these intangible assets, there are many assumptions and estimates used that
directly impact the results of the testing. In making these assumptions and
estimates, we use industry-accepted valuation models and set criteria that are
reviewed and approved by various levels of management. Additionally, a
third-party valuation firm is used, as necessary, to help us evaluate recorded
goodwill. If our estimates or their related assumptions change in the future, we
may be required to record impairment charges for these assets.
The recoverability of long-lived assets aggregating $1,663 (including goodwill
of $945) at September 30, 2004 in the Institutional Sanitary Supplies & Other
segment is predicated on the market acceptance of the launch of new products. If
the actual revenue and profit results of these product launches are less than
anticipated, we may be required to record an impairment on the goodwill and/or
other long-lived assets of this segment.
ENVIRONMENTAL AND OTHER CONTINGENCIES
We establish accrued liabilities for environmental matters and other
contingencies when it is probable that a liability has been incurred and the
amount of the liability is reasonably estimable. If the contingency is resolved
for an amount greater or less than the accrual, or our share of the contingency
increases or decreases, or other assumptions relevant to the development of the
estimate were to change, we would recognize an additional expense or benefit in
income in the period such determination was made.
PENSION BENEFITS
In addition to our defined contribution plans in the United States, we sponsor
pension plans outside the United States covering fourteen employees who meet
eligibility requirements. Several statistical and other factors that attempt to
estimate the probability and magnitude of future events are used in calculating
the expense and liability related to the plans. These factors include
assumptions about the discount rate, expected return on plan assets and rate of
future compensation increases, within certain guidelines. In addition, our
actuarial consultants also use subjective factors such as withdrawal and
mortality rates to estimate these variables. The actuarial assumptions that we
use may differ materially from actual results due to changing market and
economic conditions, higher or lower withdrawal rates or longer or shorter life
spans of participants, among other things. Differences from these assumptions
may significantly affect the amount of pension expense and liability that we
record.
TAXES
We account for income taxes in accordance with SFAS No. 109, "Accounting for
Income Taxes." SFAS No. 109 establishes financial accounting and reporting
standards for the effects of income taxes that result from an enterprise's
activities during the current and preceding years. It requires an asset and
liability approach for financial accounting and reporting of income taxes.
Net deferred tax assets have been recorded based on our projecting to have
sufficient future earnings in order to realize these assets, and the net
deferred tax assets have been provided for at currently enacted income tax
rates. If we determine that a deferred tax asset will not be realizable, an
adjustment to the deferred tax asset will result in a reduction of net earnings
at that time.
Deferred taxes have not been provided on undistributed earnings of foreign
subsidiaries since substantially all of these earnings are expected to be
permanently reinvested in our foreign operations. A deferred tax liability will
be recognized if and when we expect to recover those undistributed earnings in a
taxable manner, such as through receipt of dividends or sale of the investments.
Determination of the amount of the unrecognized U.S. income tax liability is not
practical because of the complexities of the hypothetical calculation. In
addition, foreign tax credit carryforwards would be available to reduce a
portion of such U.S. tax liability.
17
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 2004 COMPARED TO THREE MONTHS ENDED SEPTEMBER
30, 2003
NET SALES BY SEGMENT
Three months ended September 30,
Comparison 2004
2004 2003 Over/(Under) 2003
---- ---- -----------------
% of % of $ %
Segment Net sales total Net sales total change change
- ------- --------- ----- --------- ----- ------ ------
Health Sciences $52,240 64.6% $ 45,007 62.2% $ 7,233 16.1%
Chemicals & Colorants 24,004 29.7 23,141 32.0 863 3.7
Agrochemicals 3,115 3.9 2,789 3.9 326 11.7
Institutional Sanitary
Supplies & Other 1,461 1.8 1,400 1.9 61 4.4
----- ----- ------ ----- ------ ----
Net sales $80,820 100.0% $ 72,337 100.0% $ 8,483 11.7%
====== ===== ====== ===== ====== ====
GROSS PROFIT BY SEGMENT
Three months ended September 30,
Comparison 2004
2004 2003 Over/(Under) 2003
---- ---- -----------------
% of % of $ %
Segment Net sales total Net sales total change change
- ------- --------- ----- --------- ----- ------ ------
Health Sciences $9,525 18.2% $ 8,594 19.1% $ 931 10.8%
Chemicals & Colorants 3,761 15.7 3,453 14.9 308 8.9
Agrochemicals 818 26.3 680 24.4 138 20.3
Institutional Sanitary
Supplies & Other 425 29.1 587 41.9 (162) (27.6)
----- ----- ------ ----- ------ ----
Segment gross profit 14,529 18.0 13,314 18.4 1,215 9.1
Freight and storage costs (1) (931) (1.2) (1,144) (1.6) 213 18.6
----- ----- ------ ----- ------ ----
Gross Profit $13,598 16.8% $12,170 16.8% $1,428 11.7%
====== ===== ====== ==== ===== ====
(1) Represents certain freight and storage costs that are not allocated to a segment.
18
NET SALES
Net sales increased $8,483 or 11.7%, to $80,820 for the three months ended
September 30, 2004 compared with $72,337 for the same period in the prior year.
We reported particularly strong sales for the Health Sciences segment, as
explained below. Net sales for the other three segments combined increased
$1,250 or 4.6% for the three months ended September 30, 2004 as compared to the
same period in the prior year.
HEALTH SCIENCES
Revenue for the Health Sciences segment rose to $52,240 for the three months
ended September 30, 2004, which represented a 16.1% increase over last year's
revenue of $45,007. Several factors contributed to the increase in revenue in
the Health Sciences segment. A large portion of the increase resulted from
improved sales in our European and Asian markets in addition to the newly
acquired Pharma Waldhof business, which in total contributed to an increase in
sales of $7,250. The European and Asian market increase was attributable to the
introduction of several new products, strong follow-up sales of existing
products, and a continued expansion of the distribution agreement with a major
supplier, which has allowed for increased product sales and customer penetration
in the current quarter. Included in the European and Asian revenue increases
were follow-up shipments of several generic products launched outside the US
market prior to this fiscal year which showed an increase of $1,931 over the
same period last year. Domestically, sales of active pharmaceutical ingredients
(APIs) decreased by a net $1,398 caused by a drop in demand for select products
and price erosion of the largest volume product shipped in the previous year.
The net overall decrease in domestic APIs sales includes an increase for the
re-launching of a broad based antibiotic amounting to $2,544. The pharmaceutical
intermediates product line contributed to the segment's improvement with a
$1,051 or 63% increase in sales over fiscal 2004. We believe sales of the
pharmaceutical intermediates products will continue to outperform last year's
pace for the remainder of fiscal 2005.
CHEMICALS & COLORANTS
Revenue for the Chemicals & Colorants segment was $24,004 for the three months
ended September 30, 2004 compared to $23,141 for the same period in the prior
year. This increase in revenue of $863 or 3.7% versus the same period in the
prior year is primarily attributable to the steady introduction of the Chemical
and Colorants products to our foreign subsidiaries product offerings. Our
chemical business is diverse in terms of products, customers and consuming
markets. This quarter was a further illustration of this diversity. One customer
within our color pigment and pigment intermediate business purchased $959 less
product in the first quarter of fiscal 2005. This loss was offset by increases
in our polymer additives and coatings business of $968 and $656 respectively.
AGROCHEMICALS
First quarter 2005 sales for the Agrochemical segment increased to $3,115 an
11.7% increase over the same period in the prior year of $2,789. The increase in
revenue in the Agrochemicals segment was attributable to higher volume for our
highest volume product as well as sales generated from several new products in
the current quarter. The Agrochemical segment sales trend for the first quarter
should continue during the balance of fiscal 2005.
GROSS PROFIT
Gross profit by segment before unallocated cost of sales (primarily storage and
certain freight costs) increased $1,215 to $14,529 (18.0% of net sales) for the
three months ended September 30, 2004 as compared to $13,314 (18.4% of net
sales) for the same period in the prior year. The Health Sciences segment made
the largest contribution to this increase as it accounted for $931 or 76.6% of
the overall increase.
HEALTH SCIENCES
The Health Science gross profit for the three months ended September 30, 2004
was $9,525, a 10.8% increase over last year's first quarter gross profit of
$8,594. The gross margin decreased to 18.2% in the first quarter of fiscal 2005
compared to last year's gross margin of 19.1%. Gross profit improvement in the
Health Sciences segment was attributable to the various revenue factors as
described above, namely an overall sales increase of $7,233. The gross margin
decrease can be primarily attributed to the lower than normal API gross margins
realized on the re-launched
19
anti-biotic of 11%. Additionally, the pharmaceutical intermediate business
realized a gross margin of 9.9% compared to last year's gross margin rate of
14.2%.
CHEMICALS & COLORANTS
Gross profits increased by $308 or 8.9% over the same period last year and the
segment showed improved margins of 15.7% versus 14.9% for the same period last
year. Contributions from categories such as food and beverages, miscellaneous
intermediates, polymer additives and foundry and metals in addition to improved
sales volume and margins in the European markets were the primary reasons for
the improvements. The increase in gross margin percentage was caused by a
decrease in sales to one major customer whose sales had generated lower than
usual margins, along with an improvement in margins across other categories due
to changes in product mix and, improved product pricing, in some cases. The
future trends are difficult to predict as they depend on product mix and the
introduction of new products.
AGROCHEMICALS
Gross margin for the Agrochemicals segment was 26.3% this quarter versus 24.4%
for the same period last year. There were gross profit contributions resulting
from a large increase in sales of one existing product, sales from several new
products as well as a price increase on one product. We expect to continue to
report increased gross margins for this segment compared to last fiscal year.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses ("SG&A") increased $1,529 or 19.2%
to $9,502 this quarter in comparison to $7,973 for the same period last year. As
a percentage of sales, SG&A increased to 11.8% in the first quarter of fiscal
2005 versus 11.0% for the comparable period in fiscal 2004. SG&A increased
primarily due to the inclusion of Pharma Waldhof ($673) which was acquired in
December 2003, costs of new business development initiatives including personnel
($253), legal fees related to recent business agreements and ongoing litigation
($180), fees associated with the implementation of a new ERP system ($124),
personnel and related costs for additional regulatory staffing ($66),
compliance-related professional fees as mandated by the Sarbanes-Oxley
legislation ($65), increased compensation costs ($295) and related fringe
benefit costs ($71). These increases were offset by a decrease in the provision
for bad debts of $135.
OPERATING INCOME
For the quarter ended September 30, 2004 operating income was $4,096 compared to
$4,197 for the same period last year, a decrease of $101 or 2.4%. This decrease
was due to the overall increase in gross profit of $1,428, with the main
contribution of $931 coming from the Health Sciences segment, which was offset
by higher SG&A expenses of $1,529.
INTEREST AND OTHER INCOME, NET
Interest and other income increased to $548 for the quarter ended September 30,
2004 as compared to $377 for the same period last year. The increase of $171 was
attributable to an increase of $62 regarding a government subsidy paid annually
for doing business in a free-trade zone in Shanghai, China, higher interest
income of $43 resulting from higher levels of cash and net gains on foreign
currency of $34.
PROVISION FOR INCOME TAXES
The effective tax rate decreased to 27.0% from 31.5% for the same period last
year. This decrease in the effective tax rate is due to proportionately higher
earnings in jurisdictions with lower tax rates, primarily China.
20
LIQUIDITY AND CAPITAL RESOURCES
CASH FLOWS
At September 30, 2004, we had $30,926 in cash, $867 in short-term investments
and $271 in short-term bank loans.
Our cash position at September 30, 2004 decreased $1,404 from the June 30, 2004
level. Operating activities used cash of $1,500, primarily from a net decrease
caused by changes in assets and liabilities, partially offset by net income of
$3,375.
Investing activities for the three months ended September 30, 2004 used cash of
$368 primarily related to purchases of property and equipment.
Financing activities for the three months ended September 30, 2004 provided cash
of $358 primarily as a result of borrowings of short-term bank loans of $271.
CREDIT FACILITIES
We have credit facilities with two European financial institutions. These
facilities provide us with a line of credit of 14,500 Euros (approximately
$17,880), as of September 30, 2004. We are not subject to any financial
covenants under these arrangements.
In addition, we have a revolving credit facility with a financial institution
which expires June 30, 2007 and provides for available credit of $10,000. At
September 30, 2004, we had utilized $1,452 in letters of credit, leaving $8,548
of this facility unused. Under the credit agreement, we may obtain credit
through direct borrowings and letters of credit. Our obligations under the
credit agreement are guaranteed by certain of our subsidiaries and are secured
by 65% of the capital of certain of our non-domestic subsidiaries. There is no
borrowing base on the credit agreement. Interest under the credit agreement is
at LIBOR plus 1.50%. The credit agreement contains several covenants requiring,
among other things, minimum levels of debt service and tangible net worth. We
are also subject to certain restrictive debt covenants, including covenants
governing liens, limitations on indebtedness, limitations on cash dividends,
guarantees, sale of assets, sales of receivables, and loans and investments. We
were in compliance with all covenants at September 30, 2004.
WORKING CAPITAL OUTLOOK
Working capital was $90,743 at September 30, 2004 versus $85,840 at June 30,
2004. The increase in working capital was primarily attributable to net income
during the period. We continually evaluate possible acquisitions of or
investments in businesses that are complementary to our own, and such
transactions may require the use of cash. We believe that our cash, other liquid
assets, operating cash flows, borrowing capacity and access to the equity
capital markets, taken together, provide adequate resources to fund ongoing
operating expenditures and the anticipated continuation of semi-annual cash
dividends. Further, we may obtain additional credit facilities to enhance our
liquidity.
21
OFF-BALANCE SHEET ARRANGEMENTS AND COMMITMENTS AND CONTINGENCIES
We have no material financial commitments other than those under operating lease
agreements, letters of credit and unconditional purchase obligations. We have
certain contractual cash obligations and other commercial commitments which will
impact our short-term and long-term liquidity. At September 30, 2004, we had no
significant obligations for capital expenditures. At September 30, 2004,
contractual cash obligations and other commercial commitments were as follows:
Payments Due and/or
Amount of Commitment
Expiration Per Period
---------------------
Less Than 1-3 4-5 After
Total 1 Year Years Years 5 Years
----- ------ ----- ----- -------
Operating leases $8,797 $1,707 $ 3,137 $ 2,462 $ 1,491
Commercial letters of credit 1,452 1,452 - - -
Standby letters of credit 131 131 - - -
Unconditional purchase
obligations (a) 14,517 14,517 - - -
------ ------ ----- ----- -----
Total $ 24,897 $ 17,807 $ 3,137 $ 2,462 $ 1,491
======= ======= ====== ====== ======
(a) As of September 30, 2004, we had outstanding purchase obligations totaling
$14,517 with suppliers to our Germany, Netherlands and Singapore operations to
acquire certain products for resale to customers.
Other significant commitments and contingencies included the following:
(1) We had a liability of $2,195 as of September 30, 2004 for our
non-qualified Supplemental Executive Retirement Plan. The
related funds held by the grantor trust amounted to $1,453 as of
September 30, 2004.
(2) During November 2004, we expect to enter into an agreement to
purchase approximately 1,300 gross square meters (whole number,
not in thousands) of office space located in Shanghai, China.
The purchase price is expected to be approximately $2,900 of
which $1,750 will be paid upon execution of the agreement and
the remainder will be paid in installments through March 2005.
(3) We, together with our subsidiaries, are subject to pending and
threatened legal proceedings that have arisen in the normal
course of business. We do not know the impact the final
resolution of these matters will have on our results of
operations or liquidity in a particular reporting period. Our
management is of the opinion, however, that the ultimate outcome
of such matters will not have a material adverse effect upon our
financial condition or liquidity.
RELATED PARTY TRANSACTIONS
Certain of our directors are affiliated with law firms which serve as our
counsel on various corporate matters. During the three months ended September
30, 2004 and 2003, we incurred legal fees of $34 and $70, respectively, for
services rendered to us by these law firms. The fees charged by such firms were
at rates comparable to rates obtainable from other firms for similar services.
22
RECENT ACCOUNTING PRONOUNCEMENTS
In March 2004, the Financial Accounting Standards Board ("FASB") issued a
proposed statement, "Share-Based Payment - An Amendment to Statement Nos. 123
and 95," that addresses the accounting for share-based payment transactions in
which an enterprise receives employee services in exchange for (a) equity
instruments of the enterprise or (b) liabilities that are based on the fair
value of the enterprise's equity instruments or that may be settled by the
issuance of such equity instruments. The proposed statement would eliminate the
ability to account for share-based compensation transactions using Accounting
Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to
Employees," and generally would require, instead, that such transactions be
accounted for using a fair value based method. In October 2004, the FASB delayed
the effective date of this standard to be applied prospectively for interim or
annual periods beginning after June 15, 2005 (the Company's 2006 fiscal year),
as if all share-based compensation awards granted, modified or settled after
December 15, 1994 had been accounted for using the fair value based method of
accounting. We will continue to monitor the FASB's progress on the issuance of
this proposed statement and its impact on our consolidated financial statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
MARKET RISK SENSITIVE INSTRUMENTS
The market risk inherent in our market risk sensitive instruments and positions
is the potential loss arising from adverse changes in market price, foreign
currency exchange rates and interest rates.
MARKET PRICE RISK
Short-term investments at September 30, 2004 of $867, which consists solely of
corporate securities and are recorded at fair value, have exposure to price
risk. This risk is estimated as the potential loss in fair value resulting from
a hypothetical 10% adverse change in prices quoted by stock exchanges and
amounts to $87 as of September 30, 2004. Actual results may differ.
FOREIGN CURRENCY EXCHANGE RISK
In order to reduce the risk of foreign currency exchange rate fluctuations, we
hedge some of our transactions denominated in a currency other than the
functional currencies applicable to each of our various entities. The
instruments used for hedging are short-term foreign currency contracts
(futures). The changes in market value of such contracts have a high correlation
to price changes in the currency of the related hedged transactions. At
September 30, 2004, we had foreign currency contracts outstanding that had a
notional amount of $2,014. The difference between the fair market value of the
foreign currency contracts and the related commitments at inception and the fair
market value of the contracts and the related commitments at September 30, 2004
was $120.
In addition, we also enter into cross currency interest rate swaps to reduce
foreign currency exposure on inter-company transactions. In June 2004 we entered
into a one-year cross currency interest rate swap transaction and in May 2003 we
entered into a five-year cross currency interest rate swap transaction, both for
the purpose of hedging fixed interest rate, foreign currency denominated cash
flows under inter-company loans. Under the terms of these derivative financial
instruments, U.S. dollar fixed principal and interest payments to be received
under inter-company loans will be swapped for EURO denominated fixed principal
and interest payments. The change in fair value of the swaps from date of
purchase to September 30, 2004 was $(677). The gains or losses on the
inter-company loans due to changes in foreign currency rates will be offset by
the gains or losses on the swap in the accompanying consolidated statements of
income.
We are subject to risk from changes in foreign exchange rates for our
subsidiaries that use a foreign currency as their functional currency and are
translated into U.S. dollars. These changes result in cumulative translation
adjustments which are included in accumulated other comprehensive income (loss).
On September 30, 2004, we had translation exposure to various foreign
currencies, with the most significant being the Euro and the Singapore dollar.
The potential loss as of September 30, 2004, resulting from a hypothetical 10%
adverse change in quoted foreign currency exchange rates amounted to $3,499.
Actual results may differ.
23
INTEREST RATE RISK
Due to our financing, investing and cash management activities, we are subject
to market risk from exposure to changes in interest rates. We utilize a balanced
mix of debt maturities along with both fixed-rate and variable-rate debt to
manage our exposure to changes in interest rates. Our financial instrument
holdings at year-end were analyzed to determine their sensitivity to interest
rate changes. In this sensitivity analysis, we used the same change in interest
rate for all maturities. All other factors were held constant. If there were an
adverse change in interest rates of 10%, the expected effect on net income
related to our financial instruments would be immaterial. However, there can be
no assurances that interest rates will not significantly affect our results of
operations.
ITEM 4. CONTROLS AND PROCEDURES
As required by Securities and Exchange Commission rules, we have evaluated the
effectiveness of the design and operation of our disclosure controls and
procedures as of the end of the period covered by this quarterly report. This
evaluation was carried out under the supervision and with the participation of
our management, including our principal executive officer and principal
financial officer. Based on this evaluation, these officers have concluded that
the design and operation of our disclosure controls and procedures are
effective. There were no significant changes to our internal controls or in
other factors that could significantly affect internal controls subsequent to
the date of their evaluation.
The term "disclosure controls and procedures" refers to controls and other
procedures that are designed to ensure that information that we are required to
disclose in the reports that we file or submit under the Securities Exchange Act
is recorded, processed, summarized and reported, within the time periods
specified in the SEC's rules and forms. Disclosure controls and procedures
include, without limitation, controls and procedures designed to ensure that
information required to be disclosed by us in the reports that we file under the
Exchange Act is accumulated and communicated to our management, including
principal executive officer and principal financial officer, as appropriate, to
allow timely decisions regarding required disclosure.
We are working closely with our corporate and securities lawyers to ensure that
we remain in compliance with the Sarbanes-Oxley Act of 2002, the SEC regulations
promulgated thereunder, and any related Nasdaq Stock Market rules.
24
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS
The exhibits filed as part of this report are listed below.
15.1 Letter of independent registered public accounting firm re:
unaudited interim financial information
31.1 Certification by President and CEO Leonard S. Schwartz pursuant
to U.S.C. Section 1350, as adopted pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
31.2 Certification by CFO Douglas Roth pursuant to U.S.C. Section
1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002.
32.1 Certification by President and CEO Leonard S. Schwartz pursuant
to U.S.C. Section 1350, as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002.
32.2 Certification by CFO Douglas Roth pursuant to U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
25
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.
ACETO CORPORATION
DATE November 9, 2004 BY /s/ Douglas Roth
----------------------------- ----------------
Douglas Roth, Chief Financial Officer
DATE November 9, 2004 BY /s/ Leonard S. Schwartz
----------------------------- -----------------------
Leonard S. Schwartz, Chairman,
President and Chief Executive Officer
26