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FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2002
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period to
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Commission file number 1-11394
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MEDTOX SCIENTIFIC, INC.
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(Exact name of registrant as specified in its charter)
Delaware 95-3863205
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(State or other jurisdiction of (I.R.S. Employer
incorporated or organization) Identification No.)
402 West County Road D, St.Paul, Minnesota 55112
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number including area code: (651) 636-7466
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Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes No X
The number of shares of Common Stock, $.15 par value, outstanding as of July 31,
2002, was 4,807,836.
MEDTOX SCIENTIFIC, INC.
INDEX
Page
Part I Financial Information:
Item 1: Financial Statements (Unaudited)
Consolidated Statements of Operations - Three and
Six Months Ended June 30, 2002 and 2001 ............ 3
Consolidated Balance Sheets - June 30, 2002
and December 31, 2001 ...................................... 4
Consolidated Statements of Cash Flows - Six
Months Ended June 30, 2002 and 2001 .............. 5
Notes to Consolidated Financial Statements........... 6
Item 2:
Management's Discussion and Analysis of
Financial Condition and Results of Operations ........ 10
Item 3:
Quantitative and Qualitative Disclosure
About Market Risk ..........................................21
Part II Other Information ............................................... 22
Signatures .................................................... 23
Item 1: FINANCIAL STATEMENTS (UNAUDITED)
MEDTOX SCIENTIFIC, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in thousands except per share amounts)
(Unaudited)
Three Months Ended Six Months Ended
June 30, 2002 June 30, 2001 June 30, 2002 June 30, 2001
------------------- ------------------ ----------------- -----------------
REVENUES:
Laboratory services $ 10,540 $ 9,991 $ 19,877 $ 19,295
Product sales 3,378 2,570 6,392 4,872
------------------- ------------------ ----------------- -----------------
13,918 12,561 26,269 24,167
COST OF REVENUES:
Cost of services 6,724 6,575 13,080 12,970
Cost of sales 1,272 950 2,361 2,003
------------------- ------------------ ----------------- -----------------
7,996 7,525 15,441 14,973
------------------- ------------------ ----------------- -----------------
GROSS PROFIT 5,922 5,036 10,828 9,194
OPERATING EXPENSES:
Selling, general and
administrative 4,237 3,451 8,015 6,591
Research and development 304 318 578 633
------------------- ------------------ ----------------- -----------------
4,541 3,769 8,593 7,224
------------------- ------------------ ----------------- -----------------
INCOME FROM OPERATIONS 1,381 1,267 2,235 1,970
OTHER INCOME (EXPENSE):
Interest expense (340) (288) (693) (528)
Other expense, net (33) (19) (49) (44)
------------------- ------------------ ----------------- -----------------
(373) (307) (742) (572)
------------------- ------------------ ----------------- -----------------
NET INCOME $ 1,008 $ 960 $ 1,493 1,398
=================== ================== ================= =================
BASIC EARNINGS PER COMMON
SHARE (1) $ 0.21 $ 0.22 $ 0.31 $ 0.33
=================== ================== ================= =================
DILUTED EARNINGS PER COMMON
SHARE (1) $ 0.20 $ 0.21 $ 0.29 $ 0.31
=================== ================== ================= =================
WEIGHTED AVERAGE NUMBER OF SHARES
OUTSTANDING:
Basic (1) 4,792,279 4,273,852 4,788,576 4,268,513
Diluted (1) 5,145,718 4,544,931 5,086,791 4,513,027
(1) Share and per share amounts for the three and six months ended June 30, 2001
have been restated for the ten percent stock dividends paid on July 5, 2002 and
November 9, 2001.
MEDTOX SCIENTIFIC, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share data)
(Unaudited)
June 30, December 31,
2002 2001
-------------- ---------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 228 $ 67
Accounts receivable:
Trade, less allowance for doubtful accounts ($1,315 in 2002 and $1,069 in 2001) 10,674 8,439
Other 91 181
-------------- ---------------
Total accounts receivable 10,765 8,620
Inventories 3,790 3,897
Prepaid expenses and other 1,498 1,617
-------------- ---------------
Total current assets 16,281 14,201
BUILDING, EQUIPMENT AND IMPROVEMENTS, net 13,682 12,200
GOODWILL, net of accumulated amortization of $5,133 in 2002 and 2001 15,197 15,197
OTHER INTANGIBLE ASSETS, net of accumulated amortization of $454 in 2002 and $187 in 2001 1,946 2,213
OTHER ASSETS 362 345
-------------- ---------------
TOTAL ASSETS $ 47,468 $ 44,156
============== ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Line of credit $ 5,022 $ 2,914
Accounts payable 2,852 2,914
Accrued expenses 3,092 3,450
Current portion of long-term debt 2,290 2,120
Current portion of capital leases 130 223
-------------- ---------------
Total current liabilities 13,386 11,621
LONG-TERM DEBT, net of current portion 9,602 9,749
LONG-TERM PORTION OF CAPITAL LEASES, net of current portion 219 266
STOCKHOLDERS' EQUITY:
Preferred stock, $1.00 par value; authorized shares, 50,000; none issued and outstanding - -
Common stock, $0.15 par value; authorized shares, 14,400,000; issued and outstanding
shares, 4,794,458 in 2002 and 4,746,732 in 2001 654 647
Additional paid-in capital 80,589 75,199
Stock dividend distributable 65 -
Deferred stock-based compensation (666) (463)
Accumulated deficit (56,102) (52,584)
Note receivable from related party (103) (103)
Treasury stock (176) (176)
-------------- ---------------
Total stockholders' equity 24,261 22,520
-------------- ---------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 47,468 $ 44,156
============== ===============
MEDTOX SCIENTIFIC, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
Six Months Ended
June 30, 2002 June 30, 2001
------------------- --------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 1,493 $ 1,398
Adjustments to reconcile net income to net cash provided by (used in)
operating activities:
Depreciation and amortization 1,241 1,207
Provision for losses on accounts receivable 183 93
Deferred compensation 182 75
Changes in operating assets and liabilities:
Accounts receivable (2,327) (2,624)
Inventories 107 236
Prepaid expenses and other current assets 119 12
Other assets (17) -
Accounts payable and accrued expenses (420) (354)
Accrued restructuring costs - (160)
------------------- --------------------
Net cash provided by (used in) operating activities 561 (117)
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (2,309) (7,584)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from sale of common stock 66 55
Net proceeds on revolving credit facility 2,108 825
Proceeds from long-term debt 1,103 7,400
Principal payments on long-term debt (1,227) (623)
Principal payments on capital leases (141) (121)
------------------- --------------------
Net cash provided by financing activities 1,909 7,536
------------------- --------------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 161 (165)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 67 213
------------------- --------------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 228 $ 48
=================== ====================
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for:
Interest $ 669 $ 538
MEDTOX SCIENTIFIC, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2002
NOTE A - BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of MEDTOX
Scientific, Inc. (the "Company") have been prepared in accordance with generally
accepted accounting principles for interim financial information and with the
instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do
not include all of the information and notes required by generally accepted
accounting principles. In the opinion of management, all adjustments (consisting
only of normal recurring adjustments) considered necessary for a fair
presentation of financial condition and results of operations have been
included. Operating results for the six-month period ended June 30, 2002 are not
necessarily indicative of the results that may be attained for the entire year.
These consolidated financial statements should be read in conjunction with the
consolidated financial statements and the notes thereto included in the
Company's Annual Report on Form 10-K for the year ended December 31, 2001.
Reclassifications: Certain reclassifications have been made to the 2001
financial statements to conform with the 2002 presentations.
In June 2001, the Financial Accounting Standards Board (FASB) issued Statement
of Accounting Financial Standards No. 142 (SFAS 142), "Goodwill and Other
Intangible Assets." This statement requires that goodwill and intangible assets
deemed to have an indefinite life not be amortized. Instead of amortizing
goodwill and intangible assets deemed to have an indefinite life, the statement
requires a test for impairment to be performed annually, or immediately if
conditions indicate that such an impairment could exist. The Company adopted the
provisions of SFAS 142 effective January 1, 2002, and as a result, will no
longer record goodwill amortization of approximately $0.8 million per year. The
Company completed the first step of the initial goodwill impairment test during
the second quarter of 2002 and determined that there was no impairment of
goodwill upon adoption of SFAS No. 142.
The following table provides the comparable effects of the adoption of SFAS No.
142 for the three and six months ended June 30, 2002 and June 30, 2001.
(In thousands, except per share data)
Three months ended Six months ended
June 30, 2002 June 30, 2001 June 30, 2002 June 30, 2001
------------- ------------- ------------- -------------
Reported net income $ 1,008 $ 960 $ 1,493 $ 1,398
Add back goodwill amortization - 205 - 412
---------- ---------- ---------- ----------
Adjusted net income $ 1,008 $ 1,165 $ 1,493 $ 1,810
========== ========== ========== ==========
Reported earnings per share - basic $ 0.21 $ 0.22 $ 0.31 $ 0.33
Goodwill amortization - 0.05 - 0.09
---------- ---------- ---------- ----------
Adjusted earnings per share - basic $ 0.21 $ 0.27 $ 0.31 $ 0.42
========== ========== ========== ==========
Reported earnings per share - diluted $ 0.20 $ 0.21 $ 0.29 $ 0.31
Goodwill amortization - 0.05 - 0.09
---------- ---------- ---------- ----------
Adjusted earnings per share - diluted $ 0.20 $ 0.26 $ 0.29 $ 0.40
========== ========== ========== ==========
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations." SFAS No. 143 addresses financial accounting and reporting for
obligations associated with the retirement of long-lived assets and the
associated asset retirement costs. SFAS No. 143 is effective for the Company on
January 1, 2003. The Company is currently in the process of evaluating the
impact of the adoption of SFAS No. 143.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 requires that a liability for
costs associated with exit or disposal activities be recognized when the
liability is incurred. Existing generally accepted accounting principles provide
for the recognition of such costs at the date of management's commitment to an
exit plan. In addition, SFAS No. 146 requires that the liability be measured at
fair value and be adjusted for changes in estimated cash flows. The provisions
of SFAS No. 146 are effective for exit or disposal activities initiated after
December 31, 2002. The Company is currently in the process of evaluating the
impact of the adoption of SFAS No. 146.
NOTE B - SEGMENTS
The Company has two reportable segments: Laboratory Services and Product Sales.
The Laboratory Services segment consists of MEDTOX Laboratories, Inc. Services
provided include forensic toxicology, clinical toxicology, clinical testing for
the pharmaceutical industry, pediatric lead testing, heavy metals analyses,
courier delivery, and medical surveillance. Providing revenues from external
customers for each group of services within the Laboratory Services segment is
impracticable. The Product Sales segment consists of MEDTOX Diagnostics, Inc.
Products manufactured include easy to use, inexpensive, on-site drug tests such
as PROFILE(R)-II, PROFILE-IIA(R), PROFILE(R)-ER, EZ-SCREEN(R), and
VERDICT(R)-II.
The Company's reportable segments are strategic business units that offer
different products and services. They are managed separately as each business
requires different products, services and marketing strategies.
In evaluating financial performance, management focuses on net income as a
segment's measure of profit or loss.
Segment Information
(In thousands)
Three Months Ended Six Months Ended
June 30, 2002 June 30, 2001 June 30, 2002 June 30, 2001
------------- ------------- ------------- -------------
Laboratory Services:
Revenues $ 10,540 $ 9,991 $ 19,877 $ 19,295
Interest expense 323 276 663 503
Depreciation and amortization 577 555 1,149 1,145
Segment net income 316 554 330 847
Segment assets 41,708 34,515 41,708 34,515
Capital expenditures for segment
assets 974 443 1,436 7,423
Three Months Ended Six Months Ended
June 30, 2002 June 30, 2001 June 30, 2002 June 30, 2001
------------- ------------- ------------- -------------
Product Sales:
Revenues 3,378 2,570 6,392 4,872
Interest expense 17 12 30 25
Depreciation and amortization 50 32 92 62
Segment net income 692 406 1,163 551
Segment assets 5,760 4,014 5,760 4,014
Capital expenditures for segment
assets 713 65 873 161
Company:
Revenues 13,918 12,561 26,269 24,167
Interest expense 340 288 693 528
Depreciation and amortization 627 587 1,241 1,207
Net income 1,008 960 1,493 1,398
Total assets 47,468 38,529 47,468 38,529
Capital expenditures for total
assets 1,687 508 2,309 7,584
The following is a summary of revenues from external customers for each group of
products and services provided within the Product Sales segment:
(In thousands)
Three Months Ended Six Months Ended
June 30, 2002 June 30, 2001 June 30, 2002 June 30, 2001
------------- ------------- ------------- -------------
Substance abuse testing products $ 2,962 $ 2,241 $ 5,545 $ 4,131
Contract manufacturing services 362 257 713 522
Agricultural diagnostic products 54 72 134 219
---------------------------------------- ----------------------------------------
$ 3,378 $ 2,570 $ 6,392 $ 4,872
======================================== ========================================
NOTE C - INVENTORIES
Inventories consisted of the following:
(In thousands)
June 30, December 31,
2002 2001
---------------- ------------
Raw materials $ 1,361 $ 1,570
Work in process 549 414
Finished goods 468 460
Supplies, including off-site inventory 1,412 1,453
-------------- ------------
$ 3,790 $ 3,897
============= ============
NOTE D - EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per
common share: (Dollars in thousands, except per share amounts)
Three Months Ended Six Months Ended
June 30, 2002 June 30, 2001 June 30, 2002 June 30, 2001
Net income (A) $ 1,008 $ 960 $ 1,493 $ 1,398
============= ============= ============== ===============
Weighted average number of basic
common shares outstanding (B) 4,792,279 4,273,852 4,788,576 4,268,513
Dilutive effect of stock options and
warrants computed based on the
treasury stock method using average
market price 353,439 271,079 298,215 244,514
------------- ------------- -------------- --------------
Weighted average number of diluted
common shares outstanding (C) 5,145,718 4,544,931 5,086,791 4,513,027
============= ============= ============== ==============
Basic earnings per common share (A/B) $ 0.21 $ 0.22 $ 0.31 $ 0.33
============= ============= ============== =============
Diluted earnings per common share (A/C) $ 0.20 $ 0.21 $ 0.29 $ 0.31
============= ============= ============== =============
Options and warrants to purchase 11,289, 11,289, 783,552, and 1,024,040 shares
of common stock were outstanding during the three and six months ended June 30,
2002 and 2001, respectively, but were not included in the computation of diluted
earnings per share as their exercise prices were greater than the average market
price of the common shares.
NOTE E - CONTINGENCIES
In March 2000, the Company was served with a copy of a complaint filed against
the Company in the Circuit Court of Cook County, Illinois, by the Methodist
Medical Center of Illinois (the Plaintiff). The Plaintiff alleged that the
Company interfered with various contractual relationships of the Plaintiff in
connection with the referral of certain customers to the Company by other
defendants previously sued by the Plaintiff in the same action. The Company had
filed a cross claim against the other defendants in the litigation based on such
defendants' contractual obligation to indemnify the Company against any damages,
costs or expenses (including attorney fees) incurred by the Company, arising out
of any claim of contractual interference by the Company in connection with the
referral of the customers to the Company by such defendants. The parties have
reached an agreement to settle the case, whereby the Company paid $75,000 with a
full release of all claims and a dismissal order entered in October 2001. The
Company will voluntarily dismiss its indemnity claims against the co-defendants
for reimbursement of the $75,000 paid, with the right of refiling the
indemnification claim existing for one year. The Company will continue to pursue
its right of indemnification for the $75,000 during the next year.
Item 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Cautionary Statement Identifying Important Factors
That Could Cause the Company's Actual Results to Differ
From Those Projected in Forward Looking Statements
In connection with the "safe harbor" provisions of the Private Securities
Litigation Reform Act of 1995, readers of this document and any document
incorporated by reference herein, are advised that this document and documents
incorporated by reference into this document contain both statements of
historical facts and forward looking statements. Forward looking statements are
subject to certain risks and uncertainties, which could cause actual results to
differ materially from those indicated by the forward looking statements.
Examples of forward looking statements include, but are not limited to (i)
projections of revenues, income or loss, earnings or loss per share, capital
expenditures, dividends, capital structure and other financial items, (ii)
statements of the plans and objectives of the Company or its management or Board
of Directors, including the introduction of new products, or estimates or
predictions of actions by customers, suppliers, competitors or regulatory
authorities, (iii) statements of future economic performance, and (iv)
statements of assumptions underlying other statements and statements about the
Company or its business.
This document and any documents incorporated by reference herein also identify
important factors which could cause actual results to differ materially from
those indicated by the forward looking statements. The factors that could affect
our actual results include the following:
o increased competition, including price competition
o general economic and business conditions, both nationally and
internationally
o changes in business strategy or development plans
o technological, evolving industry standards, or other problems that
could delay the sale of our products
o our inability to obtain appropriate licenses from third parties,
protect our trade secrets, operate without infringing upon the
proprietary rights of others, or prevent others from infringing on our
proprietary rights
o our inability to obtain sufficient financing to continue to expand
operations
o changes in demand for products and services by our customers
o our failure to obtain and retain new customers and alliance partners,
or a reduction in tests ordered or specimens submitted by existing
customers
o adverse results in litigation matters
o our ability to attract and retain experienced and qualified personnel
o failure to maintain our days sales outstanding levels
o losses due to bad debt
The cautionary statements made pursuant to the Private Litigation Securities
Reform Act of 1995 above and elsewhere by the Company should not be construed as
exhaustive or as any admission regarding the adequacy of disclosures made by the
Company prior to the effective date of such Act. Forward looking statements are
beyond the ability of the Company to control and in many cases the Company
cannot predict what factors would cause results to differ materially from those
indicated by the forward looking statements.
General
MEDTOX Scientific, Inc. (formerly EDITEK, Inc.), a Delaware corporation, was
organized in September 1986 to succeed the operations of a predecessor
California corporation. MEDTOX Scientific, Inc. and its wholly-owned
subsidiaries, MEDTOX Laboratories, Inc., MEDTOX Diagnostics, Inc., and New
Brighton Business Center LLC are referred to herein as "the Company". The
Company is engaged primarily in two distinct, but very much related, businesses.
The business of manufacturing and distribution of diagnostic devices is carried
on by MEDTOX Diagnostics, Inc. from its facility in Burlington, North Carolina
and the business of forensic and clinical laboratory services is conducted by
MEDTOX Laboratories, Inc. at its facility in St. Paul, Minnesota.
The Company has two reportable segments: "Laboratory Services" conducted by the
Company's wholly owned subsidiary, MEDTOX Laboratories, Inc. and "Products
Sales" conducted by the Company's wholly owned subsidiary MEDTOX Diagnostics,
Inc. Laboratory Services include forensic toxicology, clinical toxicology,
clinical testing for the pharmaceutical industry and heavy metal analyses as
well as logistics, data, and overall program management services. Product Sales
include sales of a variety of point-of-collection (POC) screening devices for
therapeutic drugs and drugs of abuse. For the three and six months ended June
30, 2002, Laboratory Services revenue accounted for 75.73% and 75.67%,
respectively, of the Company's revenues, compared with 79.54% and 79.84% for the
same periods in 2001. Revenue from Product Sales accounted for 24.27% and 24.33%
of the total revenues of the Company for the three and six months ended June 30,
2002, respectively, compared with 20.46% and 20.16% for the same periods in
2001.
Critical Accounting Policies
The Company has identified the policies outlined below as critical to its
business operations and an understanding of results of operations. The listing
is not intended to be a comprehensive list of all accounting policies. In many
cases, the accounting treatment of a particular transaction is specifically
dictated by accounting principles generally accepted in the United States, with
no need for management's judgment in their application. The impact and any
associated risks related to these policies on the Company's business operations
is discussed throughout Management's Discussion and Analysis of Financial
Condition and Results of Operations where such policies affect reported and
expected financial results. For a detailed discussion on the application of
these and other accounting policies, see Note 1 in the Notes to the Consolidated
Financial Statements in Item 14 on Form 10-K for the year ended December 31,
2001. Note that the preparation of this Form 10-Q requires management to make
estimates and assumptions that affect the reported amount of assets and
liabilities, disclosure of contingent assets and liabilities at the date of our
financial statements, and the reported amounts of revenue and expenses during
the reporting period. There can be no assurance that actual results will not
differ from those estimates.
The Company's critical accounting policies are as follows:
Accounts Receivable:
The Company performs ongoing credit evaluations of its customers and adjusts
credit limits based upon payment history and the customers' current credit
worthiness, as determined by management's review of their current credit
information. The Company continuously monitors collections and payments from its
customers and maintains a provision for estimated credit losses based upon the
Company's historical experience and any specific customer collection issues that
have been identified. While such credit losses have historically been within the
Company's general expectations and the provisions established, the Company
cannot guarantee that it will continue to experience the same credit loss rates
that have occurred in the past. The Company's consolidated trade accounts
receivable balance as of June 30, 2002 was $10.7 million, net of allowance for
doubtful accounts of $1.3 million.
Off-Site Supplies Inventory:
Off-site supplies represents collection kits and forms located at collections
sites throughout the United States used by Laboratory Services' customers to
submit specimens for testing services. At June 30, 2002, off-site inventory was
$0.7 million The process for estimating off-site inventory involves significant
assumptions and judgments. The estimate is based on the historical average time
that a collection site uses the inventory, as well as the amount of inventory
expected to be scrapped.
Goodwill:
The Company continually evaluates whether events and changes in circumstances
warrant revised estimates of useful lives or recognition of an impairment loss
of unamortized goodwill. The conditions that would trigger an impairment
assessment of unamortized goodwill include a significant, sustained negative
trend in operating results or cash flows, a decrease in demand for the Company's
products or services, a change in the competitive environment, and other
industry and economic factors. Until January 1, 2002, the Company measured
impairment of unamortized goodwill utilizing the undiscounted cash flow method.
The estimated cash flows were then compared to recorded goodwill amounts; if the
unamortized balance of the goodwill exceeded the estimated cash flows, the
excess of the unamortized balance would have been written off.
In June 2001, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 142, "Goodwill and Other Intangible
Assets" (SFAS No. 142). The Company adopted SFAS No. 142 on January 1, 2002.
According to the provisions of SFAS No. 142, the Company assessed the impact
based on a two-step approach to assess goodwill based on applicable reporting
units and reassessed any intangible assets, including goodwill, recorded in
connection with previous acquisitions. The Company recorded approximately $0.2
million and $0.4 million of goodwill amortization during the three and six
months ended June 30, 2001, respectively, and would have recorded approximately
$0.2 million and $0.4 million of goodwill amortization during the same periods
of 2002. In lieu of amortization, the Company performed the initial impairment
review of goodwill during the second quarter of 2002 and will be required to
perform such a review at least annually thereafter. The Company determined that
there was no impairment of goodwill upon adoption of SFAS No. 142. As of June
30, 2002, the Company had unamortized goodwill of $15.2 million. As of June 30,
2002, the Company had other identifiable intangible assets of $1.9 million.
Amortization expense of other identifiable intangible assets was approximately
$134,000, $267,000, $5,000, and $17,000 during the three and six months ended
June 30, 2002 and June 30, 2001 respectively.
Accounting for Income Taxes:
As part of the process of preparing the consolidated financial statements, the
Company is required to estimate income taxes in each of the jurisdictions in
which it operates. This process involves estimating actual current tax exposure
together with assessing temporary differences resulting from differing treatment
of items for tax and accounting purposes. These differences result in deferred
tax assets and liabilities. The Company must then assess the likelihood that
deferred tax assets will be recovered from future taxable income and, to the
extent management believes that recovery is not likely, the Company must
establish a valuation allowance. To the extent the Company increases or
decreases the valuation allowance in a period, the Company must include an
expense or benefit within the tax provision in the consolidated statement of
operations.
Significant management judgment is required in determining the provision for
income taxes, deferred tax assets and liabilities, and any valuation allowance
recorded against net deferred tax assets. As of December 31, 2001, the Company
has recorded a full valuation allowance of $13.9 million due to uncertainties
related to the Company's ability to utilize the net deferred tax assets,
primarily consisting of certain net operating losses (NOL) carried forward,
before they expire. The valuation allowance is based on management's estimate of
taxable income (primarily determined from four-year cumulative historical
results) and the period over which net deferred tax assets will be recoverable.
It is possible that the Company could be profitable in the future at levels
which cause management to conclude that it is more likely than not that the
Company will realize all or a portion of the NOL carryforward. Upon reaching
such a conclusion, the Company would immediately record the estimated net
realizable value of the net deferred tax asset at that time and would then
provide for income taxes at a rate equal to the Company's combined federal and
state effective rates, which would approximate 38% under current tax rates.
Subsequent revisions to the estimated net realizable value of the net deferred
tax asset could cause the provision for income taxes to vary significantly from
period to period, although the Company's cash payments would remain unaffected
until the benefit of the NOL is completely utilized.
Results of Operations
The Company achieved record revenues and net income for the three and six months
ended June 30, 2002. Revenues for the second quarter of 2002 increased 11% over
the second quarter of 2001, driven by sales of the PROFILE(R) Test Systems and
the expanding VERDICT(R)-II product line, as well as increased revenue from the
Company's specialty laboratory services. Gross margin improved over the second
quarter of 2001, reflecting improvement in Laboratory Services gross margin, as
well as the continuing shift in the Company's business mix toward Product Sales
at significantly higher margins. These positive trends were partially offset by
higher selling, general, and administrative expenses in the second quarter of
2002 over the same quarter in 2001, reflecting increased sales and marketing
efforts. The following table sets forth the percentages of total revenues
represented by certain items reflected in the Company's Consolidated Statements
of Operations:
Three Months Ended Six Months Ended
June 30, 2002 June 30, 2001 June 30, 2002 June 30, 2001
- -------------------------------------------------------------------------------------------------------------------
Revenues 100.0% 100.0% 100.0% 100.0%
Cost of revenues 57.4 59.9 58.8 62.0
---------- ---------- ---------- ---------------
Gross margin 42.6 40.1 41.2 38.0
Operating expenses:
Selling, general, and administrative 30.5 27.5 30.5 27.3
Research and development 2.2 2.5 2.2 2.6
---------- ----------- ---------- ----------
32.7 30.0 32.7 29.9
Other expense, primarily interest 2.7 2.5 2.8 2.3
---------- ----------- ---------- ----------
Net income 7.2% 7.6% 5.7% 5.8%
======== ========= ======== =========
Three Months Ended June 30, 2002 Compared to Three Months Ended June 30, 2001
Revenues
Revenues increased 11% to $13.9 million for the three months ended June 30,
2002, driven by a $0.8 million, or 31% increase in Product Sales revenues and a
$0.5 million, or 6% increase in Laboratory Services revenues.
The Product Sales segment achieved higher sales due to increased sales of
substance abuse testing products and contract manufacturing services, partially
offset by decreased sales of agricultural diagnostic products. Product sales
from substance abuse testing products, which incorporates the EZ-SCREEN(R),
PROFILE(R)-II, PROFILE(R)-ER, PROFILE-IIA(R) and VERDICT(R)-II on-site test kits
and other ancillary products for the detection of abused substances, increased
$0.7 million to $3.0 million in the second quarter of 2002. This growth
reflected strong sales in the PROFILE-ER(R), PROFILE-IIA(R) and VERDICT-II(R)
product lines resulting in a total of 614,000 disposable point of collection
devices sold in the second quarter of 2002 compared to 464,000 devices sold in
the same period of 2001. The PROFILE(R)-ER device is an on-site, nine
drugs-of-abuse panel, targeted at hospital laboratories for emergency response
screening in drugs-of-abuse overdose situations. The PROFILE-IIA(R) device,
introduced in October 2001, screens for five drugs of abuse and uses a unique
lateral flow test strip to screen for the five most common adulterants. The
VERDICT(R)-II was developed for the prison, probation, parole and rehabilitation
markets. The VERDICT(R)-II product line now consists of 16 different
configurations to detect from one to seven drugs of abuse. In 2002, the Company
has captured significant new business in California for its VERDICT(R)-II
product line related to the implementation of California Proposition 36, "The
Substance Abuse and Crime Prevention Act of 2000." An integral part of
implementing Proposition 36 involves frequent drug testing of individuals
subject to its mandates.
Sales of contract manufacturing services, microbiological and associated
products increased 41% to $0.4 million, reflecting increased revenues from both
historical customers and new customers. Product sales from agricultural
diagnostic products decreased 26% to $0.1 million primarily as a result of
decreased purchases by the U.S. Department of Agriculture (USDA) for the
Company's products. The USDA's needs for the Company's products vary from
year-to-year and sales to the USDA are expected to fluctuate accordingly.
The growth in Laboratory Services revenues was driven by a 10% increase in
revenues from the Company's specialty laboratory services due to the expansion
of clinical testing for the pharmaceutical industry and the October 2001
acquisition of Leadtech Corporation (Leadtech), a pediatric lead-testing
laboratory. Specimen volume from the Company's occupational health and corporate
clients increased 2%, reflecting the Company's continued success in acquiring
new client relationships and gaining market share, despite the continued
softness in new business employment.
Gross profit
Consolidated gross margin improved to 42.6% of revenues for the three months
ended June 30, 2002 compared to 40.1% of revenues for the same period of 2001,
reflecting improvement in Laboratory Services gross margin, as well as the
continuing shift in the Company's business mix toward Product Sales at
significantly higher margins.
Laboratory Services gross margin was 36.2% of revenues for the three months
ended June 30, 2002, up from 34.2% of revenues for the same period in 2001. This
improvement was primarily attributable to the Company's continued focus on
higher margin specialty laboratory testing services. Gross margin from Product
Sales declined slightly to 62.3% of revenues for the three months ended June 30,
2002 from 63.0% of revenues in the comparable period of 2001, and was impacted
by product mix factors.
Selling, general and administrative expenses
Selling, general and administrative expenses were $4.2 million, or 30.5% of
revenues in the second quarter of 2002, compared to $3.5 million or 27.5% of
revenues in the second quarter of 2001. The increase was primarily due to
increased sales and marketing expenses related to acquiring new business and
increased spending in client service support for clinical trial services.
Research and development expenses
Research and development expenses decreased 4% in the second quarter of 2002,
reflecting a slight planned reduction in spending for the development of new
products for on-site and other ancillary products in the Product Sales segment.
Other expense
Other expense, consisting primarily of interest expense, increased 22% in the
second quarter of 2002, reflecting higher average debt levels, partially offset
by lower interest rates.
Income tax expense
The Company does not record a tax provision as the net operating losses are
sufficient to cover any taxable income.
Net income
In the three months ended June 30, 2002, the Company recorded net income of $1.0
million, up 5% from the same period of last year. This slight improvement was
driven by an 11% increase in consolidated revenues and an improving gross
margin, partially offset by increased selling, general, and administrative
expenses and higher interest expense.
Laboratory Services net income was $0.3 million for the three months ended June
30, 2002 compared to $0.6 million in the same period of 2001. The decline in net
income was primarily attributable to increased sales and marketing expenses as
well as higher interest expense, partially offset by an improved gross margin.
Product Sales net income was $0.7 million for the three months ended June 30,
2002 compared to $0.4 million in the same period of 2001. This improvement was
primarily driven by the growth in sales.
Six Months Ended June 30, 2001 Compared to Six Months Ended June 30, 2001
Revenues
Revenues increased 9% to $26.3 million for the six months ended June 30, 2002,
driven by a $1.5 million, or 31% increase in Product Sales revenues and a $0.6
million, or 3% increase in Laboratory Services revenues.
The Product Sales segment achieved higher sales due to increased sales of
substance abuse testing products and contract manufacturing services, partially
offset by decreased sales of agricultural diagnostic products. Product sales
from substance abuse testing products, which incorporates the EZ-SCREEN(R),
PROFILE(R)-II, PROFILE(R)-ER, PROFILE-IIA(R) and VERDICT(R)-II on-site test kits
and other ancillary products for the detection of abused substances, increased
$1.4 million to $5.5 million in the first six months of 2002. This growth
reflected strong sales in the PROFILE-ER(R), PROFILE-IIA(R) and VERDICT-II(R)
product lines resulting in a total of 1,176,000 disposable point of collection
devices sold in first six months of 2002 compared to 840,000 devices sold in the
same period of 2001. The PROFILE(R)-ER device is an on-site, nine drugs-of-abuse
panel, targeted at hospital laboratories for emergency response screening in
drugs-of-abuse overdose situations. The PROFILE-IIA(R) device, introduced in
October 2001, screens for five drugs of abuse and uses a unique lateral flow
test strip to screen for the five most common adulterants. The VERDICT(R)-II was
developed for the prison, probation, parole and rehabilitation markets. The
VERDICT(R)-II product line now consists of 16 different configurations to detect
from one to seven drugs of abuse. In 2002, the Company has captured significant
new business in California for its VERDICT(R)-II product line related to the
implementation of California Proposition 36, "The Substance Abuse and Crime
Prevention Act of 2000." An integral part of implementing Proposition 36
involves frequent drug testing of individuals subject to its mandates.
Sales of contract manufacturing services, microbiological and associated
products increased 36% to $0.7 million, reflecting increased revenues from both
historical customers and new customers. Product sales from agricultural
diagnostic products decreased 39% to $0.1 million primarily as a result of
decreased purchases by the U.S. Department of Agriculture (USDA) for the
Company's products. The USDA's needs for the Company's products vary from
year-to-year and sales to the USDA are expected to fluctuate accordingly.
The growth in Laboratory Services revenues was driven by a 15% increase in
revenues from the Company's specialty laboratory services due to the expansion
of clinical testing for the pharmaceutical industry and the October 2001
acquisition of Leadtech Corporation (Leadtech), a pediatric lead-testing
laboratory. This positive trend was partially offset by a 3% drop in specimen
volume from the Company's occupational health and corporate clients, reflecting
the impact of the slowing economy and lower levels of employment hiring.
However, this impact has been partially mitigated by the Company's continued
success in acquiring new client relationships and gaining market share.
Gross profit
Consolidated gross margin improved to 41.2% of revenues for the six months ended
June 30, 2002 compared to 38.0% of revenues for the same period of 2001,
reflecting improvement in both Laboratory Services and Product Sales gross
margin, as well as the continuing shift in the Company's business mix toward
Product Sales at significantly higher margins.
Laboratory Services gross margin was 34.2% of revenues for the six months ended
June 30, 2002, up from 32.8% of revenues for the same period in 2001. This
improvement was primarily attributable to the Company's continued focus on
higher margin specialty laboratory testing services. Gross margin from Product
Sales improved to 63.1% of revenues for the first six months of 2002 from 58.9%
of revenues in the comparable period of 2001, driven by an increased mix of
higher margin products.
Selling, general and administrative expenses
Selling, general and administrative expenses were $8.0 million, or 30.5% of
revenues in the first six months of 2002, compared to $6.6 million or 27.3% of
revenues in same period of 2001. The increase was primarily due to increased
sales and marketing expenses related to acquiring new business and increased
spending in client service support for clinical trial services.
Research and development expenses
Research and development expenses decreased 9% in the first six months of 2002,
reflecting a slight planned reduction in spending for the development of new
products for on-site and other ancillary products in the Product Sales segment.
Other expense
Other expense, consisting primarily of interest expense, increased 30% in the
fist six months of 2002, reflecting higher average debt levels, partially offset
by lower interest rates.
Income tax expense
The Company does not record a tax provision as the net operating losses are
sufficient to cover any taxable income.
Net income
In the six months ended June 30, 2002, the Company recorded net income of $1.5
million, up 7% from the same period of last year. This improvement was driven by
a 9% increase in consolidated revenues and an improving gross margin, partially
offset by increased selling, general, and administrative expenses and higher
interest expense.
Laboratory Services net income was $0.3 million for the six months ended June
30, 2002 compared to $0.8 million in the same period of 2001. The decline in net
income was primarily attributable to increased sales and marketing expenses as
well as higher interest expense, partially offset by an improved gross margin.
Product Sales net income was $1.2 million for the six months ended June 30, 2002
compared to $0.6 million in the same period of 2001. This improvement was
primarily driven by the growth in sales and an increased gross margin.
Liquidity and Capital Resources
The working capital requirements of the Company have been funded primarily by
cash received from bank and debt financing and the sale of equity securities.
Net cash provided by operating activities was $0.6 million for the six months
ended June 30, 2002 compared to net cash used in operating activities of $0.1
million in the same period of 2001.
Net cash used in investing activities, consisting of capital expenditures, was
$2.3 million for the six months ended June 30, 2002 compared to $7.6 million in
the same period of 2001. In March of 2001, the Company purchased the three
building, 129,039 square foot complex in St. Paul, Minnesota, where the
Company's laboratory segment formerly leased 53,576 square feet. The purchase
price, exclusive of expenses and closing costs, was $6.35 million and was
financed by a mortgage loan from Principal Life Insurance Company of Des Moines,
Iowa in the amount of $6.2 million.
Net cash provided by financing activities of $1.9 million for the six months
ended June 30, 2002 primarily represented net proceeds from the revolving credit
facility which were used to fund the Company's operations. Net cash provided by
financing activities of $7.5 million in the first six months of 2001 was
principally associated with proceeds received under the mortgage loan discussed
above and the Company's credit agreement for the purchase of capital equipment.
In January 1998, the Company entered into a Credit Security Agreement (the Wells
Fargo Credit Agreement) with Wells Fargo Business Credit, Inc. The Wells Fargo
Credit Agreement, as amended, consists of (i) a term loan of $3.185 million
bearing interest at prime + 0.75%; (ii) a revolving line of credit, payable on
demand, of not more than $6.0 million or 85% of the Company's eligible trade
accounts receivable bearing interest at prime + 0.50%; and (iii) a capex note of
up to $3.5 million for the purchase of capital equipment bearing interest at
prime + 0.75% and (iv) availability of letters of credit in amounts not to
exceed the lesser of $300,000 (less outstanding letters of credit) or the
unborrowed portion of the revolving line of credit (less outstanding letters of
credit).
The Wells Fargo Credit Agreement requires the Company to comply with certain
covenants and maintain certain quarterly financial ratios as to minimum debt
service coverage and maximum debt to book net worth. It also sets minimum
quarterly net income and book net worth levels, which restrict the payment of
dividends. As of June 30, 2002, the Company was in compliance with the financial
covenants of the Wells Fargo Credit Agreement.
The Company is relying on expected positive cash flow from operations, its line
of credit and capex note to fund its future working capital and asset purchases.
The amount of credit on the revolving line of credit is based primarily on the
receivables of the Company and, as such, varies with the accounts receivable,
and to a lesser degree, the inventory of the Company. As of June 30, 2002, the
Company had total borrowing capacity of $6.0 million on its line of credit, of
which $5.0 million was borrowed, leaving a net availability of $1.0 million as
of June 30, 2002.
In the short term, the Company believes that the aforementioned capital will be
sufficient to fund the Company's planned operations through 2002. While there
can be no assurance that the available capital will be sufficient to fund the
future operations of the Company beyond 2002, the Company believes that future
profitable operations, as well as access to additional capital through debt or
equity financings, will be the primary means for funding the operations of the
Company for the long term.
The Company continues to follow a plan which includes (i) aggressively
monitoring and controlling costs, (ii) increasing revenue from sales of the
Company's existing products and services (iii) developing new products and
services, as well as (iv) continuing to selectively pursue synergistic
acquisitions to increase the Company's critical mass. However, there can be no
assurance that costs can be controlled, revenues can be increased, financing may
be obtained, acquisitions successfully consummated, or that the Company will be
profitable.
Impact of Inflation and Changing Prices
The impact of inflation and changing prices on the Company has been primarily
limited to salary, laboratory and operating supplies and rent increases and has
historically not been material to the Company's operations. In the future, the
Company may not be able to increase the prices of laboratory testing by an
amount sufficient to cover the cost of inflation, although the Company is
responding to these concerns by refocusing the laboratory operations towards
higher margin testing (including clinical and pharmaceutical trials) as well as
emphasizing the marketing, sales and operations of the Product Sales business.
Seasonality
The Company believes that the laboratory testing business is subject to seasonal
fluctuations in pre-employment screening. These seasonal fluctuations include
reduced volume in the summer months, year-end holiday periods, and other major
holidays. In addition, inclement weather may have a negative impact on volume
thereby reducing net revenues and cash flow.
Impact of New Accounting Standards
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations." SFAS No. 143 addresses financial accounting and reporting for
obligations associated with the retirement of long-lived assets and the
associated asset retirement costs. SFAS No. 143 is effective for the Company on
January 1, 2003. The Company is currently in the process of evaluating the
impact of the adoption of SFAS No. 143.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 requires that a liability for
costs associated with exit or disposal activities be recognized when the
liability is incurred. Existing generally accepted accounting principles provide
for the recognition of such costs at the date of management's commitment to an
exit plan. In addition, SFAS No. 146 requires that the liability be measured at
fair value and be adjusted for changes in estimated cash flows. The provisions
of SFAS No. 146 are effective for exit or disposal activities initiated after
December 31, 2002. The Company is currently in the process of evaluating the
impact of the adoption of SFAS No. 146.
Item 3 QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT
MARKET RISK.
Market risk is the risk that the Company will incur losses due to adverse
changes in interest rates or currency exchange rates and prices. The Company's
primary market risk exposures are to changes in interest rates. During 2001 and
through June 30, 2002, the Company did not have sales denominated in foreign
currencies nor did it have any subsidiaries located in foreign countries. As
such, the Company is not exposed to market risk associated with currency
exchange rates and prices.
As of June 30, 2002 and December 31, 2001, the Company had $1.05 million and
$100,000 of subordinated notes outstanding at fixed interest rates of 10% and
8.5%, respectively. In addition, at June 30, 2002 and December 31, 2001, the
Company had a $6.0 million and $6.1 million mortgage loan payable to Principal
Life insurance Company, respectively, at a fixed annual rate of 7.23% for the
first five years at which time the rate will be renegotiated by the parties. The
Company also had capital leases at various fixed rates. These financial
instruments are subject to interest rate risk and will increase or decrease in
value if market interest rates change.
The Company had approximately $9.1 million and $6.6 million outstanding on its
line of credit and long-term debt issued under the Wells Fargo Credit Agreement
as of June 30, 2002 and December 31, 2001, respectively. The debt under the
Wells Fargo Credit Agreement is held at variable interest rates. The Company has
cash flow exposure on its committed and uncommitted line of credit and long-term
debt due to its variable prime rate pricing. At June 30, 2002 and December 31,
2001, a 1% change in the prime rate would not materially increase or decrease
interest expense or cash flows.
PART II OTHER INFORMATION
ITEM 1 LEGAL PROCEEDINGS. See Part I, Note E
ITEM 2 CHANGES IN SECURITIES. Inapplicable
ITEM 3 DEFAULTS ON SENIOR SECURITIES. Inapplicable
ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS.
Set forth below is information concerning each matter
submitted to a vote at the Annual Meeting of Stockholders of
the Company on May 22, 2002.
Proposal No. 1: The stockholders elected each of the following persons
to serve on the Board of Directors of the Company for three year terms
or until their respective successors are duly elected and qualified.
Director's Name Votes For Votes Withheld
Richard J. Braun 3,719,145 13,450
Harry W. Alcorn, Jr. 3,719,140 13,455
During the second quarter of 2002, no other matters were
submitted to a vote of the securities holders of the Company.
ITEM 5 OTHER INFORMATION. Inapplicable
ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K.
a. Exhibits:
99.1 Certification of Chief Executive Officer
99.2 Certification of Chief Financial Officer
b. Reports on Form 8-K:
On June 13, 2002, the Company filed a Form 8-K announcing that
the United States Patent and Trademark Office granted a
business method patent to the Company for its on-site drug
testing.
On May 23, 2002, the Company filed a Form 8-K announcing the
results of its Annual Meeting of Shareholders as well as the
election of two new officers of the Company.
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.
Signature Title Date
/s/ Richard J. Braun President, Chief Executive Officer, August 14, 2002
Richard J. Braun amd Chairman of the Board of
Directors (Principal Executive
Officer)
/s/ Kevin J. Wiersma Vice President and Chief Operating August 14, 2002
Kevin J. Wiersma Officer (Principal Financial Officer)
/s/ Kari L. Golembeck Controller (Principal Accounting August 14, 2002
Kari L. Golembeck Officer)