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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the quarterly period ended June 30, 2006
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: 1-10184
ABATIX CORP.
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(Exact name of registrant as specified in its charter)
Delaware
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(State or other jurisdiction of incorporation or organization)
75-1908110
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(I.R.S. Employer Identification No.)
2400 Skyline Drive, Suite 400, Dallas, Texas
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(Address of principal executive offices)
75149
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(Zip Code)
(214) 381-0322
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(Registrant's telephone number, including area code)
8201 Eastpoint Drive, Suite 500, Dallas, Texas, 75227
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(Former name, address and former fiscal year, if changed since last report)
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 a large accelerated filer, an
accelerated filer or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [X]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
Common stock outstanding at August 7, 2006 was 1,711,148.
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PART 1 - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
ABATIX CORP. AND SUBSIDIARY
Consolidated Balance Sheets
June 30, December 31,
2006 2005
------------ ------------
(Unaudited)
Assets
------
Current assets:
Cash $ 395,054 $ 790,097
Trade accounts receivable, net of allowance for doubtful
accounts of $770,376 in 2006 and $663,300 in 2005 9,590,144 12,029,054
Inventories 11,254,419 10,842,852
Prepaid expenses and other assets 744,884 861,480
Deferred income taxes 498,518 440,646
Receivables from employees 360 1,630
------------ ------------
Total current assets 22,483,379 24,965,759
Property and equipment, net of accumulated depreciation of
$2,898,892 in 2006 and $2,961,039 in 2005 1,146,971 1,034,248
Deferred income taxes 278,224 328,067
Other assets 150,515 103,649
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$ 24,059,089 $ 26,431,723
============ ============
Liabilities and Stockholders' Equity
------------------------------------
Current liabilities:
Notes payable and current maturities of long term debt $ 7,055,485 $ 9,917,338
Accounts payable 4,051,683 3,419,561
Accrued compensation 343,744 413,506
Other accrued expenses 930,187 1,597,145
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Total current liabilities 12,381,099 15,347,550
Long term debt 23,555 33,697
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Total liabilities 12,404,654 15,381,247
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Stockholders' equity:
Preferred stock - $1 par value, 500,000 shares
authorized; none issued - -
Common stock - $ .001 par value, 5,000,000 shares authorized;
2,437,314 shares issued in 2006 and 2005 2,437 2,437
Additional paid-in capital 2,574,560 2,574,560
Retained earnings 11,334,780 10,730,821
Treasury stock at cost, 726,166 common shares in 2006
and 2005 (2,257,342) (2,257,342)
------------ ------------
Total stockholders' equity 11,654,435 11,050,476
Commitments and contingencies
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$ 24,059,089 $ 26,431,723
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See accompanying notes to consolidated financial statements.
2
ABATIX CORP. AND SUBSIDIARY
Consolidated Statements of Operations
(Unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------- ----------------------------
2006 2005 2006 2005
------------ ------------ ------------ ------------
Net sales $ 16,955,806 $ 16,027,711 $ 33,562,136 $ 30,754,476
Cost of sales (12,056,394) (11,638,261) (24,023,361) (22,223,281)
------------ ------------ ------------ ------------
Gross profit 4,899,412 4,389,450 9,538,775 8,531,195
Selling, general and administrative expenses (4,125,112) (3,739,536) (8,277,997) (7,492,249)
------------ ------------ ------------ ------------
Operating profit 774,300 649,914 1,260,778 1,038,946
Other income (expense):
Interest expense (122,680) (74,704) (252,960) (137,288)
Other, net (13,435) 55 (8,871) 2,123
------------ ------------ ------------ ------------
Earnings before income taxes 638,185 575,265 998,947 903,781
Income tax expense (254,223) (225,552) (394,988) (355,753)
------------ ------------ ------------ ------------
Net earnings $ 383,962 $ 349,713 $ 603,959 $ 548,028
============ ============ ============ ============
Basic and diluted earnings per common share
$ .22 $ .20 $ .35 $ .32
============ ============ ============ ============
Basic and diluted weighted average shares
outstanding (note 3) 1,711,148 1,711,148 1,711,148 1,711,148
============ ============ ============ ============
See accompanying notes to consolidated financial statements.
3
ABATIX CORP. AND SUBSIDIARY
Consolidated Statements of Cash Flows
(Unaudited)
Six Months Ended
June 30,
----------------------------
2006 2005
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Cash flows from operating activities:
Net earnings $ 603,959 $ 548,028
Adjustments to reconcile net earnings to net cash provided
by (used in) operating activities:
Depreciation and amortization 247,997 211,145
Deferred income taxes (8,029) 15,301
Provision for losses on receivables 145,643 315,025
Provision for obsolescence of inventory 61,062 139,627
Loss on disposal of assets 15,186 11,078
Changes in operating assets and liabilities:
Receivables 2,293,267 (564,469)
Inventories (472,629) (1,462,978)
Prepaid expenses and other assets 116,596 (16,304)
Other assets, primarily deposits (46,866) 455
Accounts payable 632,122 523,911
Accrued expenses (736,720) 58,869
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Net cash provided by (used in) operating activities 2,851,588 (220,312)
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Cash flows from investing activities:
Purchase of property and equipment (382,106) (215,319)
Proceeds from disposal of assets 6,200 700
Advances to employees (989) (530)
Collection of advances to employees 2,259 3,980
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Net cash used in investing activities (374,636) (211,169)
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Cash flows from financing activities:
Borrowings on notes payable to bank 8,373,707 9,862,499
Repayments on notes payable to bank (11,245,702) (9,460,223)
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Net cash (used in) provided by financing activities (2,871,995) 402,276
------------ ------------
Net decrease in cash (395,043) (29,205)
Cash at beginning of period 790,097 338,443
------------ ------------
Cash at end of period $ 395,054 $ 309,238
============ ============
See accompanying notes to consolidated financial statements.
4
ABATIX CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1) Basis of Presentation, General and Business
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Abatix Corp. ("Abatix") and subsidiary, (collectively, the "Company") market and
distribute personal protection and safety equipment, and durable and nondurable
supplies to the environmental industry, the industrial safety industry, the
homeland security industry and, combined with tools and tool supplies, the
construction industry. At June 30, 2006, the Company operated seven sales and
distribution centers in five states and a temporary facility in Louisiana. The
temporary facility in Louisiana is scheduled to close at the end of August 2006.
In response to the summer 2004 hurricanes in Florida, the Company operated a
temporary facility in Tampa from August 2004 until February 2005.
The Company's wholly-owned subsidiary, International Enviroguard Systems, Inc.
("IESI") imports disposable protective clothing products sold through the
Company's distribution channels and through other distributors.
Note 1 of the Notes to Consolidated Financial Statements included in the
Company's Form 10-K for the year ended December 31, 2005 contains a description
of the Company's significant accounting policies. Since December 31, 2005, there
have been no changes in our critical accounting policies and no significant
changes to our assumptions and estimates related to them.
The accompanying consolidated financial statements are prepared in accordance
with the instructions to Form 10-Q, are unaudited and do not include all the
information and disclosures required by generally accepted accounting principles
in the United States of America for complete financial statements. All
adjustments that, in the opinion of management, are necessary for a fair
presentation of the results of operations for the interim periods have been made
and are of a recurring nature unless otherwise disclosed herein. The results of
operations for such interim periods are not necessarily indicative of results of
operations for a full year.
The preparation of the accompanying consolidated financial statements requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities, the disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates. See Note 2 for the discussion regarding a change in accounting
estimate.
The accompanying consolidated financial statements include the accounts of
Abatix and IESI. All significant intercompany accounts and transactions have
been eliminated in consolidation. Certain prior year amounts have been
reclassified for consistency in presentation.
5
(2) Change in Accounting Estimate
-----------------------------
In the second quarter of 2006, the Company obtained improved data related to its
liability for health care costs incurred, but not reported. In accordance with
Statement of Financial Accounting Standards No. 154, "Accounting Changes and
Error Corrections," the Company reduced its liability for these costs by
approximately $81,000 (net of tax of $53,000), or $.05 per share, as a change in
accounting estimate. The Company will continue to accumulate future data which
could result in additional changes to this accounting estimate.
(3) Earnings per Share
------------------
At the Annual Stockholders Meeting on May 23, 2006, the stockholders approved
the 2006 Stock Plan, which became effective June 1, 2006. The Plan provides the
Compensation Committee of the Board of Directors with the ability to grant stock
awards, including restricted stock awards, restricted stock units, performance
units, performance shares or other stock-based awards, including stock options,
to employees, directors and/or third-party service providers. The maximum number
of shares of Common Stock authorized for issuance and issuable under the Plan is
three hundred thousand (300,000) shares, although no shares have been issued.
Basic earnings per share is calculated using the weighted average number of
common shares outstanding during each period, while diluted earnings per share
includes the effects of all dilutive potential common shares. For the three- and
six-month periods ended June 30, 2006 and 2005, there were no dilutive
securities outstanding.
(4) Supplemental Information for Statements of Cash Flows
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The Company paid interest of $223,532 and $134,897 in the six months ended June
30, 2006 and 2005, respectively. The Company paid income taxes of $975,766 and
$394,733 in the six months ended June 30, 2006 and 2005, respectively.
(5) Segment Information
-------------------
Identification of operating segments is based principally upon differences in
the types and distribution channel of products. The Company's reportable
segments consist of Abatix and IESI. The Abatix operating segment includes the
Company's corporate operations, aggregated operating branches (including any
temporary facilities), which are principally engaged in distributing
environmental, safety, homeland security and construction equipment and supplies
to contractors and industrial manufacturing facilities in the western half of
the United States. The IESI operating segment, which consists of the Company's
wholly-owned subsidiary, International Enviroguard Systems, Inc., is engaged in
the wholesale distribution of disposable protective clothing to companies
similar to, and including, Abatix. The IESI operating segment distributes
products throughout the United States and the Caribbean.
The accounting policies are consistent in each operating segment as described in
Note 1 of the Notes to Consolidated Financial Statements included in the
Company's Form 10-K for the year ended December 31, 2005. The Company evaluates
the performance of its operating segments based on operating profit after a
charge for the carrying value of inventory and accounts receivable. Intersegment
sales are at agreed upon pricing and intersegment profits are eliminated in
consolidation.
6
Summarized financial information concerning the Company's reportable segments is
shown in the following table. There are no significant noncash items.
Abatix IESI Totals
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THREE MONTHS ENDED
JUNE 30, 2006
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Sales from external customers $ 16,201,439 $ 754,367 $ 16,955,806
Intersegment sales - 320,384 320,384
Interest expense 122,680 - 122,680
Depreciation and amortization 126,796 2,330 129,126
Segment profit 562,877 235,589 798,466
Capital expenditures 305,368 24,012 329,380
THREE MONTHS ENDED
JUNE 30, 2005
- ------------------------------
Sales from external customers $ 15,105,066 $ 922,645 $ 16,027,711
Intersegment sales - 146,976 146,976
Interest expense 74,704 - 74,704
Depreciation and amortization 104,351 1,784 106,135
Segment profit 426,304 219,317 645,621
Capital expenditures 134,467 - 134,467
SIX MONTHS ENDED
JUNE 30, 2006
- ------------------------------
Sales from external customers $ 32,193,869 $ 1,368,267 $ 33,562,136
Intersegment sales - 542,337 542,337
Interest expense 252,960 - 252,960
Depreciation and amortization 243,690 4,307 247,997
Segment profit 863,406 411,770 1,275,176
Capital expenditures 358,094 24,012 382,106
SIX MONTHS ENDED
JUNE 30, 2005
- ------------------------------
Sales from external customers $ 28,841,104 $ 1,913,372 $ 30,754,476
Intersegment sales - 290,288 290,288
Interest expense 137,288 - 137,288
Depreciation and amortization 207,566 3,579 211,145
Segment profit 526,486 491,696 1,018,182
Capital expenditures 213,617 1,702 215,319
SEGMENT ASSETS
- ------------------------------
June 30, 2006 $ 22,990,631 $ 1,208,582 $ 24,199,213
December 31, 2005 25,158,984 1,355,270 26,514,254
7
Below is a reconciliation of (i) total segment profit to operating profit on the
Consolidated Statements of Operations, and (ii) total segment assets to total
assets on the Consolidated Balance Sheets for all periods presented. The sales
from external customers represent the net sales on the Consolidated Statements
of Operations.
Three Months Ended June 30, Six Months Ended June 30,
---------------------------- ----------------------------
2006 2005 2006 2005
------------ ------------ ------------ ------------
Profit for reportable segments $ 798,466 $ 645,621 $ 1,275,176 $ 1,018,182
Elimination of intersegment profits (24,166) 4,293 (14,398) 20,764
------------ ------------ ------------ ------------
Operating profit $ 774,300 $ 649,914 $ 1,260,778 $ 1,038,946
============ ============ ============ ============
June 30, December 31,
2006 2005
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Total assets for reportable segments $ 24,199,213 $ 26,514,254
Elimination of intersegment assets (140,124) (82,531)
------------ ------------
Total assets $ 24,059,089 $ 26,431,723
============ ============
The Company's sales, substantially all of which are on an unsecured credit
basis, are to various customers from its permanent distribution centers in
Texas, California, Arizona, Washington, Nevada and its temporary facility in
Louisiana. The Company evaluates credit risks on an individual basis before
extending credit to its customers and it believes the allowance for doubtful
accounts adequately provides for loss on uncollectible accounts. During the six
months ended June 30, 2006 and 2005, no single customer accounted for more than
10% of net sales, although sales to environmental contractors were approximately
46% and 45% of consolidated net sales in those periods, respectively. A
reduction in spending on environmental projects could significantly impact
sales.
The customer base is comprised of more than 3,000 accounts that have purchased
from Abatix during the first six months of 2006. The top ten companies owing
money to the Company as of June 30, 2006 represented approximately 27% of the
total receivable balance. Non-payment by any one of these accounts would have a
significant negative impact on the cash flows of the Company. During times of
disasters, such as the hurricanes affecting the Gulf Coast region in 2005, the
concentration of balances in a few customers could be significantly larger as it
was at December 31, 2005 when the top ten accounts represented approximately 41%
of the total receivable balance. Most of these accounts, at both December 31,
2005 and June 30, 2006, have been customers of the Company for more than three
years, with several being customers of the Company for more than ten years.
8
Although no vendor accounted for more than 10% of the Company's sales, two
product classes (groupings of similar products) accounted for greater than 10%
of sales for the first six months of 2006 or 2005.
o The first product class, plastic sheeting and bags, accounted for
approximately 20% and 17% of net sales in the first six months of 2006 and
2005, respectively. A major component of these products is petroleum.
Further increases in oil prices or shortages in supply could significantly
impact sales and the Company's ability to supply its customers with certain
products at a reasonable price.
o The second product class, disposable clothing, accounted for approximately
13% and 14% of net sales in the first six months of 2006 and 2005,
respectively. A majority of these products are produced internationally,
predominantly in China. Changes in political climates could impact our
ability to obtain these products from our current source.
(6) Subsequent Events
-----------------
On July 24, 2006, management made a decision to close the temporary facility in
Louisiana because the business being done could be supported more cost
effectively from our other facilities. The costs to close this temporary
facility, which are primarily freight costs to transfer the inventory to other
locations, is not expected to exceed $50,000 and will be paid and expensed in
the third quarter 2006. These costs will be included in the selling, general and
administrative expenses line on the Consolidated Statement of Operations.
On July 26, 2006, the Company executed a lease agreement for a facility in
Jacksonville, Florida. This facility will become the Company's eighth full
service sales and distribution facility and is expected to be operational in
August 2006.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
Introduction
- ------------
The following information should be read in conjunction with the Management's
Discussion and Analysis of Financial Condition and Results of Operations
included in the Company's Form 10-K for the year ended December 31, 2005.
The Company is a supplier of mainly safety related products and tools to workers
involved in the construction, manufacturing and homeland security markets. From
seven fully-stocked distribution facilities/sales offices in the western and
southwestern part of the United States, and one temporary facility in Louisiana
to serve our customers helping with the aftermath of the hurricanes affecting
the Gulf Coast region, the Company primarily distributes equipment and commodity
products to the local geographic areas surrounding its facilities.
IESI, the Company's wholly-owned subsidiary, imports disposable clothing from
China. IESI sells their product throughout the United States and the Caribbean
through distributors, including Abatix.
9
The Company's management believes that hiring additional sales staff,
controlling costs, geographic expansion, diversification of customer base and
responding effectively to competitive challenges are important to the long-term
success of the Company.
o Sales Staff - We sell our products based on relationships, among other
things. Our ability to hire, train and retain staff, especially in the
sales and customer service area is critical to our long-term success.
Competitive compensation and benefits as well as a good work-life
balance are critical to this area.
o Controlling Costs - To maintain our competitive position by providing
competitively priced products while also maintaining our
profitability, we must control our costs and effectively utilize our
assets. We continuously review our general and administrative costs
making adjustments where appropriate. Our ability to control costs can
be affected by outside factors, such as the price of fuel or other raw
materials or increases in interest rates. In addition, the cost to
initially comply with Section 404 of SOX 404 is expected to exceed
$700,000 by December 31, 2007, of which approximately $220,000 has
been spent through June 30, 2006.
o Geographic Expansion - The Company needs to leverage our
infrastructure and knowledge over a larger revenue base. While the
Company intends to focus on growing revenues in its existing
locations, the Company will also explore geographic expansion. This
expansion could come in the form of opening new locations or acquiring
existing companies. These possibilities require significant planning
time and financial resources which could limit our ability to
implement.
o Customer Base - While no customer represents 10% or more of the
Company's revenues, there are several large customers, especially at
IESI. The loss of one or more of those customers would have an impact
on our revenue and profitability. The Company intends to pursue
additional customers in an attempt to lessen the impact of any one
customer and improve on existing customer relationships. While we
intend to market our customer service in an attempt to obtain higher
margins, obtaining market share generally has a negative effect on
product margins.
o Competitive Environment - Past results and future prospects are
significantly affected by the competitive environment in which we
operate. We experience intense competition for sales of our products
in all of our markets. Our competition ranges from small
owner-operator distributors to large national retail chains selling to
the construction industry and large national companies selling to the
construction and industrial industries. Typically, the smaller
companies are built around very strong relationships which make it
hard to penetrate, while the larger companies have a distinct
geographic and price advantage.
10
In addition to the above mentioned critical success factors, significant
short-term boosts of revenue, like the hurricanes of 2004 and 2005, although
positively impacting the sales and net income of the Company, also place strains
on the Company's resources as partially identified below:
o Non-recurring revenues
o Comparisons of financial results between periods are not always
evident without reading the financial statements as a whole.
o There is no reliable method to determine the amount of impact
disasters will have on the Company, nor is there a reliable method to
determine how long the impact may last.
o Accounts receivable
o The sharp rise in non-recurring revenues from these events can cause
significant balances owed to the Company by a few customers. Balancing
this concentration risk with sales is a difficult process that
involves significant judgment.
o Much of the work performed by the Company's customers is related to
insurance claims. Occasionally, there is difficulty in getting the
insurance company to pay the amount owed and can possibly delay when
payment is received by Abatix.
o Inventory
o Certain products can be in short supply because the Company's vendors
are unable to ramp up production to meet the demand in the required
time frame.
o Damage caused by catastrophic events can affect the manufacturing and
transportation of inventory, including raw materials used by others to
manufacture products sold by the Company.
o Products in demand in the affected areas can decimate inventory levels
in other facilities and not allow us to serve all of our customers in
a normal manner.
o Potential shortages in product result in advanced purchases and
maintenance of higher levels of safety stock. If there is little or no
damage caused by a catastrophic event or if advance purchasing is too
aggressive in estimating needs, the Company could be left with excess
inventory.
o Cash
o Significant increases in revenues in a short period of time utilize
the cash resources available to the Company as the inventory is
purchased and paid for generally between 10 - 40 days, while the
average collection period is generally more than 60 days.
o Advance purchases in anticipation of increased sales and possible
shortages in supply elongates the cash cycle.
o With higher interest rates, the increased borrowing levels normally
associated with these events would translate to higher interest
expense.
11
o Human Resources
o There is significant planning time involved in responding to these
events that would normally be spent on other areas of the business.
o Immediate response to these disasters is handled by currently employed
personnel which can detract from the service levels provided to our
customer base in our other facilities.
o We have generally found a lack of sufficient human resource talent
outside of the Company to meet the short-term needs demanded by our
temporary facilities.
o Significant amounts of time are spent managing and projecting the cash
flows to ensure cash resources are available.
o Fluctuations in financial results can result in extra requirements
placed on the corporate staff as a result of comments, inquiries and
compliance with regulatory agencies.
Management has learned from our experience over the past two years and is
working to improve our response to these types of events in an attempt to
minimize the impact of the items mentioned above. However, each event has its
own set of challenges that require significant estimates and judgments of the
Company personnel involved.
Other than historical and factual statements, the matters and items discussed
herein are forward-looking statements that involve risks and uncertainties.
Actual results of the Company may differ materially from the results discussed
herein. Certain, but not all, factors that could contribute to such differences
are discussed throughout this report. We do not undertake any obligation to
publicly update forward-looking statements to reflect events or circumstances
after the date on which the statement is made or to reflect the occurrence of
unanticipated events, except as required by law or regulation.
OVERVIEW OF THE QUARTER AND FIRST SIX MONTHS RESULTS
o Net sales increased 6% for the second quarter and 9% for the first six
months when compared to 2005.
o Gross profit increased 12% for both the second quarter and the first six
months when compared to 2005.
o Selling, general and administrative costs increased 10% for both the second
quarter and for the first six months when compared to 2005.
o Net income of $384,000 increased $34,000 for the second quarter when
compared to 2005.
o Net income of $604,000 increased $56,000 for the first six months when
compared to 2005.
This discussion and analysis of our results of operations and financial
condition is intended to provide investors with an understanding of the
Company's recent performance, its financial condition and its prospects. We will
discuss and provide our analysis of the following:
o Results of Operations and Related Information
o Liquidity and Capital Resources
o Critical Accounting Policies
o New Accounting Standards
o Business Outlook
o Information Concerning Forward-Looking Statements
12
RESULTS OF OPERATIONS AND RELATED INFORMATION
- ---------------------------------------------
SECOND QUARTER 2006 COMPARED WITH 2005
Net Sales
- ---------
Consolidated net sales increased 6% to $16,956,000 from 2005. The Abatix
operating segment net sales increased 7% to $16,201,000, while the IESI
operating segment net sales to external customers decreased 18% to $754,000.
o The increase in sales at the Abatix operating segment resulted from
increased sales to the construction and industrial manufacturing markets,
as spending has increased due to the current status of the U.S. economy.
o The decrease in sales to external customers at the IESI operating segment
resulted from lower sales to its two largest customers.
Gross Profit
- ------------
Consolidated gross profit of $4,899,000 increased 12% from 2005. Expressed as a
percentage of sales, gross profit was 28.9% and 27.4% in 2006 and 2005,
respectively. The increase in gross profit dollars is primarily a result of:
o higher sales volume and pricing in the industrial and construction markets
at the Abatix segment, and
o higher pricing at the IESI segment.
Selling, General and Administrative ("S,G&A") Expenses
- ------------------------------------------------------
S,G&A expenses of $4,125,000 increased 10% from 2005. The significant changes
are:
o higher labor costs as a result of higher selling volume and normal annual
increases in wages,
o higher rent due to the temporary facility in Louisiana and higher rent for
our Dallas operations as we had a short-term lease until the new facility
was ready for occupancy in late July.
o higher freight expenses as a result of higher selling volume and higher
fuel costs, and
o costs to comply with the internal control section of the Sarbanes-Oxley
Act, partially offset by
o lower legal expenses and
o the change in accounting estimate resulting in a non-recurring reduction in
health care costs of $134,000.
Expressed as a percentage of sales, S,G&A expenses were 24.3% and 23.3% for 2006
and 2005, respectively, as the general and administrative costs increased at a
faster rate than the growth in revenues.
13
Additional Statement of Operations Commentary
- ---------------------------------------------
o Operating profit, as a percentage of sales, was 4.6% of sales in 2006 and
4.1% of sales in 2005. The Abatix segment operating profit of 3.5% of sales
for 2006 increased from 2.8% in 2005. The IESI segment operating profit of
21.9% of sales in 2006 increased from 20.5% in 2005.
o The increase at the Abatix segment is a result of the change in
accounting estimate to lower the health care liability, partially offset
by higher other selling, general and administrative costs without a
corresponding increase sales volume and/or pricing.
o The increase at the IESI segment is a result of higher pricing and
volume, partially offset by higher selling, general and administrative
costs.
o Interest expense of $123,000 increased approximately $48,000 from 2005
primarily due to higher interest rates and higher borrowed balances.
o Our effective tax rate was 39.8% in 2006 and 39.2% in 2005.
o Net earnings of $384,000 or $.22 per share increased approximately $34,000
from net earnings of $350,000 or $.20 per share in 2005 as a result of
higher operating income, partially offset by higher interest expense.
FIRST SIX MONTHS 2006 COMPARED WITH 2005
Net Sales
- ---------
Consolidated net sales increased 9% to $33,562,000 from 2005. The Abatix
operating segment net sales increased 12% to $32,194,000, while the IESI
operating segment net sales to external customers decreased 28% to $1,368,000.
o The increase in sales at the Abatix operating segment resulted from
increased sales to the construction and industrial manufacturing markets,
and to a lesser extent, the environmental market, as spending has increased
due to the current status of the U.S. economy.
o The decrease in sales to external customers at the IESI operating segment
resulted from lower sales to its two largest customers.
Gross Profit
- ------------
Consolidated gross profit of $9,539,000 increased 12% from 2005. Expressed as a
percentage of sales, gross profit was 28.4% and 27.7% in 2006 and 2005,
respectively. The increase in gross profit dollars is primarily a result of:
o higher sales volume in the industrial, construction and environmental
markets at the Abatix segment,
o partially offset by lower sales volume at the IESI segment.
14
Selling, General and Administrative ("S,G&A") Expenses
- ------------------------------------------------------
S,G&A expenses of $8,278,000 increased 10% from 2005. The significant changes
are:
o higher labor costs as a result of higher selling volume and normal annual
increases in wages,
o higher rent due to the temporary facility in Louisiana and higher rent for
our Dallas operations as we had a short-term lease until the new facility
was ready for occupancy in late July,
o higher freight expenses as a result of higher selling volume and higher
fuel costs, and
o costs to comply with the internal control section of the Sarbanes-Oxley
Act, partially offset by
o lower legal expenses and
o the change in accounting estimate resulting in a non-recurring reduction in
health care costs of $134,000.
Expressed as a percentage of sales, S,G&A expenses were 24.7% and 24.4% for 2006
and 2005, respectively, as the general and administrative costs increased at a
faster rate than the growth in revenues.
Additional Statement of Operations Commentary
- ---------------------------------------------
o Operating profit of 3.8% of sales for 2006 improved from 3.4% of sales in
2005. The Abatix segment operating profit of 2.7% of sales for 2006
improved from 1.8% in 2005. The IESI segment operating profit of 21.6% of
sales in 2006 declined from 22.3% in 2005.
o The improvement at the Abatix segment is a result of higher sales
volume, higher pricing and the change in accounting estimate to lower
the health care liability.
o The decline at the IESI segment is a result of lower sales volume.
o Interest expense of $253,000 increased approximately $116,000 from 2005
primarily due to higher interest rates and higher borrowed balances.
o Our effective tax rate was 39.5% in 2006 and 39.4% in 2005.
o Net earnings of $604,000 or $.35 per share increased approximately $56,000
from net earnings of $548,000 or $.32 per share in 2005 as a result of
higher operating income, partially offset by higher interest expense.
15
LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------
Cash provided by operations during 2006 of $2,852,000 increased when compared to
cash used by operations during 2005 of $220,000.
o Accounts receivable
o Gross accounts receivable decreased 18% since December 31, 2005 as the
Company collected a majority of the money it was owed, primarily in the
first quarter 2006, from customers that did significant hurricane
related work in the Gulf Coast region in the second half of 2005.
o Approximately 27% of the receivables balance is held by ten companies,
with the largest company comprising approximately 7% of the receivables
balance. While these companies are long-term customers of Abatix and
payment in full is expected, non-payment or delays in payment of these
balances owed would have a significant negative impact on the cash flows
of the Company.
o Cash provided by operations were partially offset by:
o net repayments on the notes payable, and
o the purchase of fixed assets.
Cash requirements for investing activities during 2006 of $375,000 increased by
$163,000 when compared to 2005. These requirements were primarily the purchase
of warehouse rack and equipment related to space utilization improvements from
the relocation of our Houston facility, software to improve the functionality of
the Company's website and the normal upgrade of computer hardware and software.
Purchases for the remainder of 2006 are estimated to be approximately $550,000
and are expected to include:
o the replacement of delivery vehicles,
o the continued normal upgrade of computer hardware and software,
o office furniture and equipment and warehouse rack and equipment related to
the relocation of the Corporate and Dallas facilities, also including IESI,
and
o office furniture and equipment, warehouse rack and equipment, computers and
leasehold improvements related to the opening of the Jacksonville, Florida
office.
The Company has a $12,000,000 working capital line of credit with its financial
institution and a $500,000 capital equipment credit facility.
o Based on the borrowing formula calculated as of June 30, 2006, the Company
had the capacity to borrow up to a maximum of $10,434,000 on its working
capital line.
o As of August 7, 2006, there are advances of $7,969,000 outstanding on the
working capital credit facility.
o As of August 7, 2006, there are advances of $186,000 outstanding on the
capital equipment credit facility.
16
o Both credit facilities expire in October 2008 and bear a variable rate of
interest tied to the prime rate. Although, the Company, at its option, can
convert the working capital facility to a Libor rate loan.
o The equipment facility is payable on demand.
o The majority of the Company's credit facilities are at one financial
institution. There is risk associated with having the majority of the
Company's relationship with one financial institution.
Contractual Obligations
- -----------------------
The following table presents the Company's total contractual obligations as of
June 30, 2006 for which future cash flows are fixed or determinable (in
thousands).
2011
and
2006 2007 2008 2009 2010 beyond Total
-------- -------- -------- -------- -------- -------- --------
Contractual obligations:
Operating leases $ 419 $ 879 $ 739 $ 711 $ 610 $ 2,036 $ 5,394
Working capital line of credit 6,844 - - - - - 6,844
Equipment notes 46 89 67 32 1 - 235
Employment contracts 304 - - - - - 304
Open purchase orders 1,442 - - - - - 1,442
Office equipment leases and
other 46 60 64 9 - - 179
-------- -------- -------- -------- -------- -------- --------
Total contractual obligations $ 9,101 $ 1,028 $ 870 $ 752 $ 611 $ 2,036 $ 14,398
======== ======== ======== ======== ======== ======== ========
Commentary:
o The amounts for 2006 represent the approximate contractual obligations for
the remainder of 2006.
o The operating lease amounts do not include any commitments related to our
new facility in Jacksonville, Florida as this lease was executed in late
July 2006.
o Even though the Company's working capital line of credit agreement has a
maturity date of October 2008, there is no defined payment schedule.
Therefore, this line of credit is classified as a current liability on the
Consolidated Balance Sheets. In addition, the above amount does not include
a contractual obligation related to the interest since the interest rate is
variable and the working capital line of credit balance fluctuates,
therefore making the interest component not fixed and determinable. If the
June 30, 2006 balance were outstanding for an entire year, the interest
payable would be approximately $530,000 at the Company's current interest
rate.
17
o The Company's equipment notes are comprised of term notes of 24 to 60
months in length. Certain of these term notes also have a call feature, and
are therefore classified as current liabilities on the Consolidated Balance
Sheets. The other term notes with no call feature are properly classified
between the current liabilities and non-current liabilities sections on the
Consolidated Balance Sheets.
o The employment agreements with the Chief Executive, Operating and Financial
Officers were effective on January 1, 2005 and expire on December 31, 2006.
It is expected that during the fourth quarter of 2006, these agreements
will be renewed for a similar two year period.
o The open purchase orders represent amounts the Company anticipates will
become payable within the next year for saleable product.
NEW ACCOUNTING STANDARDS
- ------------------------
On July 13, 2006, the Financial Accounting Standards Board issued Interpretation
("FIN") 48, "Accounting for Uncertainties in Income Tax." The purpose of FIN 48
is to clarify and set forth consistent rules for accounting for uncertain tax
positions in accordance with Statement of Financial Accounting Standards No.
109, "Accounting for Income Taxes." FIN 48 defines the threshold for recognizing
the benefits of tax-return positions in the financial statements as
"more-likely-than-not" to be sustained by the taxing authority and applies to
all tax positions. The cumulative effect of applying the provisions of this
interpretation is required to be reported separately as an adjustment to the
opening balance of retained earnings in the year of adoption. Additionally, FIN
48 requires other annual disclosures. FIN 48 is effective as of the beginning of
the first fiscal year beginning after December 15, 2006 with earlier application
permitted if no interim financial statements have been issued. The Company is in
the process of reviewing and evaluating FIN 48, but has not yet determined the
impact it may have on the Company's financial statements.
BUSINESS OUTLOOK
- ----------------
Our goal for 2006 is to produce revenue growth, exclusive of the non-recurring
revenues in the Gulf Coast region in 2005, as it is vital to our long-term
success.
o We are anticipating the industrial manufacturing and construction markets
to remain steady or improve slightly as the general economy and, in
particular, the real estate market, have stabilized. However, recent
increases in interest rates and the cost of materials for real estate
projects could negatively impact those segments and the economy in general.
o We anticipate growth in the environmental market, and in particular, the
restoration subset of that market. However, year over year growth in 2006
will be difficult because of the positive impact on our business, estimated
at approximately $9,000,000, from the hurricanes in 2005.
o We do not expect much growth in the homeland security market. However, we
will continue to seek both public and private sector opportunities.
18
o Continued shortages in supplies of product, in particular the equipment
necessary to respond to catastrophic events and plastic sheeting and bags
used in environmental cleanup, could impact the Company's ability to serve
the customers. In addition, (i) price increases attributable to increased
raw materials cost, (ii) decrease in supply of product caused by damage
from the weather events or (iii) increases in demand for product caused by
the weather events could cause increases in product costs which could
impact sales.
o Hiring of additional sales staff will be critical for long-term growth of
the Company.
o Diversification of our customer base, especially at the IESI segment, will
also help provide more consistent results. Although no customer is more
than 5% of our revenues, we have several large customers, the loss of which
would impact our sales and profitability. The growth at the IESI segment
was primarily generated by two customers. We are focused on helping all of
our customers grow, as well as adding to our customer base.
o Acquisitions and additional locations will most likely be critical for the
long-term growth of the Company. Although we are not certain if and when we
will open more locations, we continue to evaluate certain markets as
possibilities. We are not currently evaluating any acquisitions.
Overall margins for 2006 are anticipated to be in the 27 - 28% range.
o We are utilizing certain tools and reporting from our new computer system
in an effort to enhance margins. In addition, these tools and reporting
should allow us to identify issues that can be addressed more quickly,
thereby minimizing possible margin erosion.
o We continue to evaluate the consolidation of certain vendors to gain access
to better pricing.
o Alternative methods for sourcing products are also being evaluated to
enhance our purchasing process.
o However, further competitive pressures or changes in the customer or
product mix could negatively impact any and all efforts by the Company to
maintain or improve product margins.
The Company will need to manage costs to stay competitive.
o In 2005, the Company began its work to comply with SOX 404 and has spent
approximately $220,000 through June 30, 2006. The Company currently
estimates that it will incur in excess of $700,000 in costs, most of which
are external costs, related to this work.
o The costs to close our temporary facility in Louisiana are not expected to
exceed $50,000 and will be expensed as incurred in the third quarter of
2006.
o There will be additional costs in the third and fourth quarters of 2006
related to the start up of our facility in Jacksonville, Florida. The
revenues related to this facility will not be sufficient in the start up
months to offset these costs.
o The Corporate office, including the Dallas sales/distribution center and
our wholly-owned subsidiary, IESI, moved to a new facility in July 2006.
There are significant costs related to the move and related to the new
facility. Some of these costs are period costs and will be expensed as
incurred in the third quarter. Other non-period costs (e.g., leasehold
improvements) will be amortized or depreciated over time.
o We intend to continue evaluating costs, including labor related costs, rent
and freight which make up approximately 75% of our selling, general and
administrative costs, to ensure our cost structure is in line with our
revenue stream and supports our business model.
19
o Unless revenues improve significantly and are sustainable, S,G&A expenses
are estimated to be in the 25% range for 2006.
o The Company's credit facilities are variable rate notes tied to the lending
institution's prime or Libor rates. Increases in these rates have already
and could continue to negatively affect the Company's earnings.
Depending on many factors, including the timing of sales and the effects of
hurricanes in 2006, if any, cash flow from operations for the entire year of
2006 is expected to be positive as the Company collected a significant amount of
the receivables from the sales increase in the last half of 2005, improvements
are made to inventory and purchasing and there is further refinement in our cost
structure.
o Unless the Company employs a more aggressive growth strategy, management
believes the Company's current credit facilities, together with cash
provided by operations, will be sufficient for its capital and liquidity
requirements for the next twelve months.
o The Company does not expect a significant change in its accounts receivable
collection days and also believes its allowance for bad debts is sufficient
to cover any anticipated losses.
o The Company's inventory turns have decreased over the past twelve months.
This decrease is primarily a result of the inventory levels in anticipation
of continued sales in the areas impacted by the hurricanes in 2005 or for
future water restoration business. Continued work in reducing inventory
levels is still needed; however, the Company believes its allowance for
inventory obsolescence is sufficient to cover any valuation issues.
o A new location could require approximately $100,000 in fixed asset
purchases, comprised of computers, office furniture, warehouse racking and
potentially a delivery vehicle. Cash would be required to stock a location
with product and to finance the customers' purchases. Cash flow from
operations and borrowings on our lines of credit would most likely be used
to finance any new location.
o Unless the Company's stock could be used as currency, any acquisitions
would most likely require the raising of capital as the borrowing capacity
on the lines of credit and the cash flow from operations would most likely
not be sufficient to support an acquisition of reasonable size.
o The Company currently estimates that it will incur in excess of $500,000 in
additional costs through 2007 related to the implementation of SOX 404.
INFORMATION CONCERNING FORWARD-LOOKING STATEMENTS
- -------------------------------------------------
Certain statements contained herein, among other things, are of a
forward-looking nature relating to future events or the future business
performance of Abatix. Such statements involve a number of risks and
uncertainties including, without limitation, the occurrence, timing and property
devastation of disasters; global, national and local economic and political
conditions; changes in laws and regulations relating to the Company's products
and the import of such products; market acceptance of new products; existence or
development of competitive products the Company represents that outperform
current product lines or are priced more competitively; inability to hire and
train quality people or retain current employees; changes in interest rates; the
financial status of and relationships with key customers and vendors; efforts to
control and/or reduce costs; fluctuations in oil prices; or the Company's
success in the process of management's assessment and auditor attestation of
internal controls, as required by the SOX 404. We do not undertake any
obligation to publicly update forward-looking statements to reflect events or
circumstances after the date on which the statement is made or to reflect the
occurrence of unanticipated events, except as required by law or regulation.
20
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
There have been no material changes from the information previously reported
under Item 7A of the Company's Annual Report on Form 10-K for the fiscal year
ended December 31, 2005.
ITEM 4. CONTROLS AND PROCEDURES.
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
- ------------------------------------------------
As of June 30, 2006, the Company evaluated, under the supervision and with the
participation of the Company's management, including the Company's Chief
Executive Officer and Chief Financial Officer, of the effectiveness of the
design and operation of the Company's disclosure controls and procedures
pursuant to Rule 13a-15 and 15d-15 of the Securities Exchange Act of 1934 (the
"Exchange Act"). Based upon that evaluation, the Chief Executive Officer and
Chief Financial Officer conclude that the Company's disclosure controls and
procedures were effective in timely alerting them to material Company (including
its consolidated subsidiary) events and information required to be included in
the Company's Exchange Act filings.
INTERNAL CONTROL OVER FINANCIAL REPORTING
- -----------------------------------------
The Company is currently undergoing a comprehensive effort to ensure compliance
with the regulations under SOX 404 that take effect for the Company's fiscal
year ending December 31, 2007. This effort includes internal control
documentation and design evaluation under the direction of senior management. In
the course of its ongoing evaluation, management has identified certain areas
requiring improvement, which the Company is addressing. Management routinely
reviews potential internal control issues with the Company's Audit Committee.
CHANGES IN INTERNAL CONTROL
- ---------------------------
There have been no significant changes in the Company's internal controls over
financial reporting or in other factors, which could significantly affect
internal controls over financial reporting subsequent to the date the Company
carried out its evaluation.
LIMITATIONS ON THE EFFECTIVENESS OF CONTROLS
- --------------------------------------------
Our management, including the Chief Executive Officer and the Chief Financial
Officer, does not expect that our disclosure controls and procedures or our
internal control over financial reporting will prevent all error and all fraud.
A control system, no matter how well designed and operated, can provide only
reasonable, not absolute, assurance that the control system's objectives will be
met.
21
Further, the design of a control system must reflect the fact that there are
resource constraints, and the benefits of controls must be considered relative
to their costs. Because of the inherent limitations in all control systems, no
evaluation of controls can provide absolute assurance that all control issues
and instances of fraud, if any, have been detected. These inherent limitations
include the realities that judgments in decision-making can be faulty, and that
breakdowns can occur because of simple error or mistake.
The design of any system of controls is based in part upon certain assumptions
about the likelihood of future events, and there can be no assurance that any
design will succeed in achieving its stated goals under all potential future
conditions. Over time, controls may become inadequate because of changes in
conditions or deterioration in the degree of compliance with policies and
procedures. Because of the inherent limitations in a cost-effective control
system, misstatements due to error or fraud may occur and not be detected.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS. None
ITEM 1A. RISK FACTORS. There has been no material change from the risk factors
previous disclosed in the Company's Form 10-K for the year ended
December 31, 2005.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS. NONE
ITEM 3. DEFAULTS UPON SENIOR SECURITIES. None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
The Annual Stockholders' Meeting was held on May 23, 2006. Represented
at the meeting in person or by proxy were 1,680,938 shares of common
stock or more than 98.2% of all shares of common stock outstanding.
Following is a list of directors elected to serve until the next annual
meeting of stockholders and the corresponding vote tabulations for the
shares represented at the meeting, of which, at least 97.2% voted for
each nominee. There were no broker non-votes with respect to this
matter.
Votes Votes
Nominee For Withheld
- ------------------------- ------------ ------------
Terry W. Shaver 1,647,708 33,230
Gary L. Cox 1,635,078 45,860
A. David Cook 1,647,708 33,230
Donald N. Black 1,647,688 33,250
Eric A. Young 1,647,688 33,250
22
At the meeting, the stockholders also voted on two proposals presented
by the corporation. The following table shows the vote tabulation for
the shares represented at the meeting.
Votes Broker
Proposal Votes For Against Abstain Non-votes
- ------------------------------ --------- --------- --------- ---------
Ratification of Auditors 1,673,896 6,742 300 30,210
Approve 2006 Stock Plan 1,070,135 38,952 4,930 597,131
ITEM 5. OTHER INFORMATION.
In July 2006, Gary L. Cox, the Company's Executive Vice President, Chief
Operating Officer and a Director, adopted a stock trading plan in
accordance with Rule 10b5-1 of the Securities Act of 1934.
ITEM 6. EXHIBITS.
(31.1) Certification of Chief Executive Officer required by Rule
13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act
of 1934, as amended (the "Exchange Act"), filed herewith.
(31.2) Certification of Chief Financial Officer required by Rule
13a-14(a) or Rule 15d-14(a) of the Exchange Act, filed
herewith.
(32.1) Certification of Chief Executive Officer required by Rule
13a-14(b) or Rule 15d-14(b) of the Exchange Act and Section
1350 of Chapter 63 of Title 18 of the United States Code,
filed herewith.
(32.2) Certification of Chief Financial Officer required by Rule
13a-14(b) or Rule 15d-14(b) of the Exchange Act and Section
1350 of Chapter 63 of Title 18 of the United States Code,
filed herewith.
23
SIGNATURE
---------
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.
ABATIX CORP.
(Registrant)
Date: August 8, 2006 By: /s/ Frank J. Cinatl, IV
----------------------------------
Frank J. Cinatl, IV
Vice President and Chief Financial
Officer of Registrant
(Principal Accounting Officer)
24