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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended Commission File Number 0-16093
June 30, 2004
CONMED CORPORATION
(Exact name of the registrant as specified in its charter)
New York 16-0977505
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
525 French Road, Utica, New York 13502
(Address of principal executive offices) (Zip Code)
(315) 797-8375
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes x No
The number of shares outstanding of registrant's common stock, as of
August 2, 2004 is 29,829,405 shares.
CONMED CORPORATION
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 2004
PART I FINANCIAL INFORMATION
Item Number Page
ITEM 1. Financial Statements
- Consolidated Condensed Statements
of Income for the three and six month
periods ended June 30, 2003 and 2004 1
- Consolidated Condensed Balance Sheets
as of December 31, 2003 and June 30, 2004 2
- Consolidated Condensed Statements
of Cash Flows for the six months ended
June 30, 2003 and 2004 3
- Notes to Consolidated Condensed
Financial Statements 4
Item 2. Management's Discussion and Analysis
of Financial Condition and Results
of Operations 11
Item 4. Controls and Procedures 21
PART II OTHER INFORMATION
Item 1. Legal Proceedings 23
Item 4. Submission of Matters to a Vote of
Security Holders 23
Item 5. Other Information 23
Item 6. Exhibits and Reports on Form 8-K 24
Signatures 25
PART I FINANCIAL INFORMATION
ITEM 1.
CONMED CORPORATION
CONSOLIDATED CONDENSED STATEMENTS OF INCOME
(Unaudited, in thousands except per share amounts)
Three Months Ended Six Months Ended
------------------ ----------------
June 30, June 30,
-------- --------
2003 2004 2003 2004
---------- --------- --------- ----------
Net sales............................ $ 124,540 $ 130,912 $ 242,574 $ 264,876
Cost of sales........................ 59,409 62,198 115,787 125,803
---------- --------- --------- ----------
Gross profit......................... 65,131 68,714 126,787 139,073
Selling and administrative expense... 39,353 42,409 76,498 86,202
Research and development expense..... 4,378 4,836 8,081 9,575
Write-off of purchased in-process
research and development assets.... -- -- 7,900 --
Other expense (income), net.......... 3,310 -- (4,348) --
---------- --------- --------- ----------
47,041 47,245 88,131 95,777
---------- --------- --------- ----------
Income from operations............... 18,090 21,469 38,656 43,296
Loss on early extinguishment of debt 7,912 -- 8,078 --
Interest expense..................... 5,861 2,558 11,399 5,864
---------- --------- --------- ----------
Income before income taxes........... 4,317 18,911 19,179 37,432
Provision for income taxes........... 1,554 6,619 9,748 13,101
---------- --------- --------- ----------
Net income $ 2,763 $ 12,292 $ 9,431 $ 24,331
========== ========= ========= ==========
Per share data:
Net Income
Basic.............................. $ .10 $ .41 $ .33 $ .83
Diluted............................ .09 .41 .32 .81
Weighted average common shares
Basic.............................. 28,910 29,649 28,892 29,476
Diluted............................ 29,212 30,313 29,195 30,151
See notes to consolidated condensed financial statements.
1
CONMED CORPORATION
CONSOLIDATED CONDENSED BALANCE SHEETS
(Unaudited, in thousands except share and per share amounts)
December 31, June 30,
2003 2004
--------- ----------
ASSETS
Current assets:
Cash and cash equivalents............................ $ 5,986 $ 30,203
Accounts receivable, net............................. 60,449 54,675
Inventories.......................................... 120,945 116,094
Deferred income taxes................................ 10,188 9,481
Prepaid expenses and other current assets............ 3,538 3,548
--------- ----------
Total current assets............................... 201,106 214,001
--------- ----------
Property, plant and equipment, net..................... 97,383 96,253
Goodwill............................................... 290,562 290,676
Other intangible assets, net........................... 193,969 191,163
Other assets........................................... 22,038 20,275
--------- ----------
Total assets....................................... $ 805,058 $ 812,368
========= ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt.................... $ 4,143 $ 3,988
Accounts payable..................................... 18,320 21,276
Accrued compensation and benefits.................... 10,685 8,342
Income taxes payable................................. 10,877 6,313
Accrued interest..................................... 279 956
Other current liabilities............................ 10,551 6,658
--------- ---------
Total current liabilities.......................... 54,855 47,533
--------- ---------
Long-term debt......................................... 260,448 236,399
Deferred income taxes.................................. 46,143 53,419
Other long-term liabilities............................ 10,122 9,217
--------- ---------
Total liabilities.................................. 371,568 346,568
--------- ---------
Commitments and contingencies
Shareholders' equity:
Preferred stock, par value $.01 per share;
authorized 500,000 shares; none outstanding.......... -- --
Common stock, par value $.01 per share;
100,000,000 shares authorized; 29,140,644 and
29,798,219 shares issued and outstanding in
2003 and 2004, respectively...................... 291 298
Paid-in capital...................................... 237,076 246,907
Retained earnings.................................... 194,473 218,804
Accumulated other comprehensive income............... 2,069 210
Less 37,500 shares of common stock in treasury,
at cost............................................ (419) (419)
--------- ---------
Total shareholders' equity......................... 433,490 465,800
--------- ---------
Total liabilities and shareholders' equity.......... $ 805,058 $ 812,368
========= =========
See notes to consolidated condensed financial statements.
2
CONMED CORPORATION
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited, in thousands)
Six months ended
----------------
June 30,
--------
2003 2004
---------- ----------
Cash flows from operating activities:
Net income............................................... $ 9,431 $ 24,331
---------- ----------
Adjustments to reconcile net income
to net cash provided by operating activities:
Depreciation.......................................... 4,908 5,259
Amortization.......................................... 6,916 7,777
Deferred income taxes................................. 5,653 8,586
Pension settlement charge............................. 2,081 --
Write-off of deferred financing costs................. 2,181 --
Loss on early extinguishment of debt.................. 8,078 --
Write-off of purchased in-process research and
development assets.................................. 7,900 --
Increase (decrease) in cash flows
from changes in assets and liabilities:
Accounts receivable............................. (1,198) 3,774
Sale of accounts receivable..................... (1,000) 2,000
Inventories..................................... (6,290) 1,295
Accounts payable................................ (2,110) 2,956
Income taxes payable............................ (179) (5,765)
Accrued compensation and benefits............... (888) (1,515)
Accrued interest................................ (3,284) 677
Other assets/liabilities, net................... (13,643) (3,812)
---------- ----------
9,125 21,232
---------- ----------
Net cash provided by operating activities............. 18,556 45,563
---------- ----------
Cash flows from investing activities:
Payments related to business acquisitions,
net of cash acquired.................................. (51,454) --
Purchases of property, plant, and equipment, net......... (3,951) (4,338)
---------- ----------
Net cash used in investing activities................. (55,405) (4,338)
---------- ----------
Cash flows from financing activities:
Net proceeds from common stock issued
under employee plans................................... 1,004 9,010
Payments on debt......................................... (130,875) (24,204)
Proceeds of debt......................................... 163,000 --
Payments related to issuance of debt..................... (1,217) (164)
---------- ----------
Net cash provided by (used in) financing activities... 31,912 (15,358)
---------- ----------
Effect of exchange rate changes
on cash and cash equivalents........................... 1,671 (1,650)
---------- ----------
Net increase (decrease) in cash and cash equivalents....... (3,266) 24,217
Cash and cash equivalents at beginning of period........... 5,626 5,986
---------- ----------
Cash and cash equivalents at end of period................. $ 2,360 $ 30,203
========== ==========
See notes to consolidated condensed financial statements.
3
CONMED CORPORATION
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited, in thousands except per share amounts)
Note 1 - Operations and Significant Accounting Policies
- -------------------------------------------------------
Organization and Operations
The accompanying consolidated condensed financial statements include the
accounts of CONMED Corporation and its controlled subsidiaries ("CONMED", the
"Company", "we" or "us"). All intercompany accounts and transactions have
been eliminated. CONMED is a medical technology company specializing in
instruments, implants and video equipment for arthroscopic sports medicine and
powered surgical instruments, such as drills and saws, for orthopedic,
otolaryngologic ("ENT"), neuro-surgery and other surgical specialties. We are
a leading developer, manufacturer and supplier of radio frequency ("RF")
electrosurgery systems used routinely to cut and cauterize tissue in nearly
all types of surgical procedures worldwide, endosurgery products such as
trocars, clip appliers, scissors and surgical staplers, and a full line of
electrocardiogram ("ECG") electrodes for heart monitoring and other patient
care products. We also offer integrated operating room systems and equipment.
Our products are used in a variety of clinical settings, such as operating
rooms, surgery centers, physicians' offices and hospitals.
CONMED conducts its business through four principal operating units, CONMED
Patient Care, CONMED Endosurgery, CONMED Electrosurgery and Linvatec
Corporation. All of our operating units have been aggregated into one business
segment due to their similar economic characteristics, customer base, nature
of products and services, procurement, manufacturing and distribution
processes. Total Company performance is evaluated by our chief operating
decision maker which has been identified as the President and Chief Operating
Officer, who reviews operating results and makes resource allocation
decisions. Therefore, all required information regarding segment revenues,
profitability and total assets may be obtained from our consolidated condensed
financial statements.
Certain prior year amounts have been reclassified to conform with the
presentation used in 2004.
Stock-based Compensation
We account for our stock-based compensation plans under the recognition and
measurement principles of Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees". No compensation expense has been
recognized in the accompanying financial statements relative to our stock
option plans. Pro forma information regarding net income and earnings per
share is required by Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation" ("SFAS 123") and has been determined
as if we had accounted for our employee stock options under the fair value
method of that statement.
For purposes of the pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. The
following table illustrates the effect on net earnings as if the fair value
provisions of SFAS 123 had been applied to stock-based employee compensation:
4
Three months ended Six months ended
June 30, June 30,
-------- --------
2003 2004 2003 2004
------- -------- ------- --------
Net income - as reported........... $ 2,763 $ 12,292 $ 9,431 $ 24,331
------- -------- ------- --------
Pro forma stock-based employee
compensation expense, net of
related income tax effect........ (579) (1,459) (1,103) (2,017)
------- -------- ------- --------
Net income - pro forma............. $ 2,184 $ 10,833 $ 8,328 $ 22,314
======= ======== ======= ========
Earnings per share - as reported:
Basic............................ $ .10 $ .41 $ .33 $ .83
Diluted.......................... .09 .41 .32 .81
Earnings per share - pro forma:
Basic............................ $ .08 $ .37 $ .29 $ .76
Diluted.......................... .07 .36 .29 .74
Note 2 - Interim financial information
- --------------------------------------
The accompanying unaudited consolidated condensed financial statements have
been prepared in accordance with generally accepted accounting principles for
interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles
for annual financial statements. In the opinion of management, all adjustments
(consisting only of normal recurring accruals) considered necessary for a fair
presentation have been included. Results for the period ended June 30, 2004
are not necessarily indicative of the results that may be expected for the
year ending December 31, 2004.
The consolidated condensed financial statements and notes thereto should be
read in conjunction with the financial statements and notes for the year-ended
December 31, 2003 included in our Annual Report on Form 10-K.
Note 3 - Other comprehensive income
- -----------------------------------
Comprehensive income consists of the following:
Three months ended Six months ended
June 30, June 30,
2003 2004 2003 2004
------- -------- -------- --------
Net income...................... $ 2,763 $ 12,292 $ 9,431 $ 24,331
------- -------- -------- --------
Other comprehensive income:
Foreign currency
translation adjustment...... 875 (1,434) 2,188 (1,713)
Cash flow hedging
(net of income taxes)....... 262 (339) 655 (146)
------- -------- -------- --------
Comprehensive income.......... $ 3,900 $ 10,519 $ 12,274 $ 22,472
======= ======== ======== ========
5
Accumulated other comprehensive income consists of the following:
Accumulated
Cumulative Cash Other
Translation Flow Comprehensive
Adjustments Hedges Income
----------- ------- -------
Balance, December 31, 2003............ $ 1,923 $ 146 $ 2,069
Foreign currency translation
adjustments....................... (1,713) -- (1,713)
Cash flow hedging (net of
income taxes)..................... -- (146) (146)
-------- ------- --------
Balance, June 30, 2004................ $ 210 $ -- $ 210
======== ======= ========
Note 4 - Inventories
- --------------------
Inventories consist of the following:
December 31, June 30,
2003 2004
--------- ---------
Raw materials....................................... $ 35,352 $ 34,648
Work-in-process..................................... 14,583 14,913
Finished goods...................................... 71,010 66,533
--------- ---------
Total........................................ $ 120,945 $ 116,094
========= =========
Note 5 - Earnings per share
- ---------------------------
Basic earnings per share ("basic EPS") is computed based on the weighted
average number of common shares outstanding for the period. Diluted earnings
per share ("diluted EPS") gives effect to all dilutive potential shares
outstanding resulting from employee stock options during the period. The
following is a reconciliation of the weighted average shares used in the
calculation of basic and diluted EPS:
Three months ended Six months ended
June 30, June 30,
2003 2004 2003 2004
------ ------ ------ ------
Shares used in the calculation
of basic EPS(weighted average
shares outstanding)............ 28,910 29,649 28,892 29,476
Effect of dilutive potential
securities..................... 302 664 303 675
------ ------ ------ ------
Shares used in the calculation
of diluted EPS................. 29,212 30,313 29,195 30,151
====== ====== ====== ======
The shares used in the calculation of diluted EPS exclude options to purchase
shares where the exercise price was greater than the average market price of
common shares for the period. Such shares aggregated approximately 1.5 million
for the three and six months ended June 30, 2003, respectively. Shares
excluded from the calculation of diluted EPS aggregated 80 thousand for the
three and six months ended June 30, 2004.
6
Note 6 - Goodwill and other intangible assets
- ---------------------------------------------
The changes in the net carrying amount of goodwill for the six months ended
June 30, 2004 are as follows:
Balance as of January 1, 2004............ $ 290,562
Adjustments to goodwill resulting from
business acquisitions finalized........ (22)
Foreign currency translation............. 136
---------
Balance as of June 30, 2004.............. $ 290,676
=========
Other intangible assets consist of the following:
December 31, 2003 June 30, 2004
----------------- --------------
Gross Gross
Carrying Accumulated Carrying Accumulated
Amortized intangible assets: Amount Amortization Amount Amortization
--------- ------------ --------- ------------
Customer relationships $ 105,712 $ (15,447) $ 105,712 $ (16,839)
Patents and other intangible assets 33,258 (16,498) 33,404 (18,058)
Unamortized intangible assets:
Trademarks and tradenames 86,944 -- 86,944 --
--------- --------- --------- ---------
$ 225,914 $ (31,945) $ 226,060 $ (34,897)
========= ========= ========= =========
Other intangible assets primarily represent allocations of purchase price to
identifiable intangible assets of acquired businesses. The weighted average
amortization period for intangible assets which are amortized is 22 years.
Customer relationships are being amortized over 38 years. Patents and other
intangible assets are being amortized over a weighted average life of 10
years.
Amortization expense related to intangible assets which are subject to
amortization totaled $1,347 and $2,952 in the three and six months ended
June 30, 2004, respectively, and $1,542 and $2,894 in the three and six months
ended June 30, 2003, respectively, and is included in selling and
administrative expense on the consolidated condensed statement of income.
The estimated amortization expense for the year ending December 31, 2004,
including the six month period ended June 30, 2004 and for each of the five
succeeding years is as follows:
2004 $ 6,039
2005 4,983
2006 4,580
2007 4,580
2008 4,226
2009 4,112
We performed impairment tests of goodwill and indefinite-lived intangible assets
and evaluate the useful lives of acquired intangible assets subject to
amortization. These tests and evaluations are performed in accordance with
Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets". No impairment losses or adjustments to useful lives have
been recognized as a result of these tests. It is our policy to perform our
annual impairment tests in the fourth quarter.
Note 7 - Guarantees
- -------------------
We provide warranties on certain of our products at the time of sale. The
standard warranty period for our capital and reusable equipment is generally
one year. Liability under service and warranty policies is based upon a review
of historical warranty and service claim experience. Adjustments are made to
accruals as claim data and historical experience warrant.
7
The changes in the carrying amount of service and product warranties for the
six months ended June 30, 2004 are as follows:
Balance as of January 1, 2004.... $ 3,588
Provision for warranties......... 1,919
Claims made...................... (1,924)
--------
Balance as of June 30, 2004...... $ 3,583
========
Note 8 - Pension Plan
- ---------------------
The following table presents the components of net periodic pension cost for
the three and six month periods ended June 30, 2003 and 2004:
Three months ended Six months ended
June 30, June 30,
2003 2004 2003 2004
------- ------- ------- --------
Service cost............................... $ 1,042 $ 1,069 $ 2,084 $ 2,138
Interest cost on projected
benefit obligation....................... 605 634 1,210 1,268
Expected return on plan assets............. (432) (665) (864) (1,330)
Net amortization and deferral.............. 188 200 376 400
------- ------- ------- -------
Net periodic pension cost.................. $ 1,403 $ 1,238 $ 2,806 $ 2,476
======= ======= ======= =======
We previously disclosed in our Annual Report on Form 10-K for the year-ended
December 31, 2003 that we expected to fund our pension in 2004 by an amount
not to exceed $5.7 million. No pension funding was made during the three and
six month periods ended June 30, 2004.
Note 9 - Legal Proceedings
- --------------------------
From time to time, we are a defendant in certain lawsuits alleging product
liability, patent infringement, or other claims incurred in the ordinary
course of business. These claims are generally covered by various insurance
policies, subject to certain deductible amounts and maximum policy limits.
When there is no insurance coverage, as would typically be the case primarily
in lawsuits alleging patent infringement, we establish sufficient reserves to
cover probable losses, if any, associated with such claims. We do not expect
that the resolution of any pending claims will have a material adverse effect
on our financial condition or results of operations. There can be no
assurance, however, that future claims, the costs associated with claims,
especially claims not covered by insurance, will not have a material adverse
effect on our future performance.
Manufacturers of medical products may face exposure to significant product
liability claims. To date, we have not experienced any material product
liability claims, but any such claims arising in the future could have a
material adverse effect on our business or results of operations. We currently
maintain commercial product liability insurance of $25 million per incident
and $25 million in the aggregate annually, which we believe is adequate. This
coverage is on a claims-made basis. There can be no assurance that claims will
not exceed insurance coverage or that such insurance will be available in the
future at a reasonable cost to us.
8
Our operations are subject to a number of environmental laws and regulations
governing, among other things, air emissions, wastewater discharges, the use,
handling and disposal of hazardous substances and wastes, soil and groundwater
remediation and employee health and safety. In some jurisdictions
environmental requirements may become more stringent in the future. In the
United States certain environmental laws can impose liability for the entire
cost of site restoration upon each of the parties that may have contributed to
conditions at the site regardless of fault or the lawfulness of the party's
activities. While we do not believe that the present costs of environmental
compliance and remediation are material, there can be no assurance that future
compliance or remedial obligations could not have a material adverse effect on
our financial condition or results of operations.
In November 2003, we commenced litigation against Johnson & Johnson and
several of its subsidiaries, including Ethicon, Inc., for violation of federal
and state antitrust laws. The lawsuit claims that Johnson & Johnson engaged in
illegal and anticompetitive conduct with respect to sales of product used in
endoscopic surgery, resulting in higher prices to consumers and the exclusion
of competition. We have sought relief which includes an injunction restraining
Johnson & Johnson from continuing its anticompetitive practice as well as
receiving the maximum amount of damages allowed by law. Our claims against
Johnson & Johnson are currently in the discovery stage. While we believe that
our claims are well-grounded in fact and law, there can be no assurance that
we will be successful in our claim. In addition, the costs associated with
pursuing this claim may be material.
Note 10 - Other expense (income)
- --------------------------------
Other expense (income) consists of the following:
Three months ended Six months ended
June 30, June 30,
2003 2004 2003 2004
------- ----- -------- ----
Gain on settlement of a contractual
dispute, net of legal costs............ $ -- $ -- $ (9,000) --
Pension settlement costs................... 2,081 -- 2,081 --
Acquisition-related costs.................. 1,229 -- 2,571 --
------- ----- -------- ----
Other expense (income)..................... $ 3,310 $ -- $ (4,348) $ --
======= ===== ======== ====
During the quarterly period ended March 31, 2003, we entered into an agreement
with Bristol-Myers Squibb Company ("BMS") and Zimmer, Inc., ("Zimmer") to
settle a contractual dispute related to the 1997 sale by BMS and its then
subsidiary, Zimmer, of Linvatec Corporation to CONMED Corporation. As a result
of this agreement, BMS paid us $9.5 million in cash, which was recorded as a
gain on the settlement of a contractual dispute, net of $0.5 million in legal
costs.
During the quarterly period ended June 30, 2003, we announced a plan to
restructure our orthopedic sales force as part of our integration plan for the
March 10, 2003 acquisition of Bionx Implants, Inc. (the "Bionx acquisition").
As part of the orthopedic sales force restructuring, we incurred expenses in
the amount of $2.1 million associated with the settlement of losses on pension
obligations, pursuant to the Statement of Financial Accounting Standards No.
88, "Employer's Accounting for Settlements and Curtailments of Defined Benefit
Pension Plans and for Terminated Benefits".
9
During the three and six month periods ended June 30, 2003, we incurred
approximately $1.2 million and $2.6 million, respectively, in acquisition and
transition expenses related primarily to the December 31, 2002 acquisition of
CORE Dynamics, Inc. (the "CORE acquisition") and the Bionx acquisition. These
amounts consisted of retention bonuses, severance and other expenses to unwind
CORE operations in Jacksonville, Florida and Bionx operations in Blue Bell,
Pennsylvania and have been recorded in other expense.
Note 11 - Shareholders' equity
- ------------------------------
During the six month period ending June 30, 2004, we issued 0.6 million
additional shares of common stock under our stock option plans and employee
stock purchase plans. This issuance of common stock resulted in a $9.8 million
increase in Paid-in capital.
Note 12 - Write-off of Purchased In-Process Research and Development Assets
- ---------------------------------------------------------------------------
As disclosed in our Annual Report on Form 10-K for the year-ended December 31,
2003, we wrote-off $7.9 million of purchased in-process research and
development assets during the six month period ended June 30, 2003. These
assets were acquired in connection with the Bionx acquisition and are not
deductible for income tax purposes.
Note 13 -New Accounting Pronoucements
- -------------------------------------
In January 2003, the Financial Accouting Standards Board ("FASB") issused FASB
Interpretation No. 46 ("FIN 46"), "Consolidation of Variable Interest Entities,
and Interpretation of ARB No. 151," which requires variable interest entities
("VIE") to be consolidated if the equity investment at risk is not sufficent to
permit an entity to finance its activities without support from other parties or
the equity investors lack certain specified characteristics. In December 2003,
the FASB completed deliberations on proposed modifications to FIN 46 and
reissued FIN 46 (R) resulting in multiple effective dates based on the nature as
well as the creation date of the VIE. Adoption of this pronouncement has not had
any material impact on our financial condition or results of operations during
the first half of 2004.
10
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Forward-Looking Statements
In this Report on Form 10-Q, we make forward-looking statements about our
financial condition, results of operations and business. Forward-looking
statements are statements made by us concerning events that may or may not
occur in the future. These statements may be made directly in this document or
may be "incorporated by reference" from other documents. You can find many of
these statements by looking for words like "believes," "expects,"
"anticipates," "estimates" or similar expressions.
Forward-Looking Statements are not Guarantees of Future Performance
Forward-looking statements involve known and unknown risks, uncertainties and
other factors, including those that may cause our actual results, performance
or achievements, or industry results, to be materially different from any
future results, performance or achievements expressed or implied by such
forward-looking statements. Such factors include those identified under "Risk
Factors" in our Annual Report on Form 10-K for the year-ended December 31,
2003 and the following, among others:
o general economic and business conditions;
o cyclical customer purchasing patterns due to budgetary and other
constraints;
o changes in customer preferences;
o competition;
o changes in technology;
o the ability to evaluate, finance and integrate acquired businesses,
products and companies;
o the introduction and acceptance of new products;
o changes in business strategy;
o the possibility that United States or foreign regulatory and/or
administrative agencies may initiate enforcement actions against us or our
distributors;
o future levels of indebtedness and capital spending;
o quality of our management and business abilities and the judgment of
our personnel;
o the risk of litigation, especially patent litigation as well as the
cost associated with patent and other litigation;
o changes in foreign exchange and interest rates;
o changes in regulatory requirements; and
o the availability, terms and deployment of capital.
See "Management's Discussion and Analysis of Financial Condition and Results
of Operations" below and "Business" in our Annual Report on Form 10-K for the
year-ended December 31, 2003 for a further discussion of these factors. You
are cautioned not to place undue reliance on these forward-looking statements,
which speak only as of the date hereof. We do not undertake any obligation to
publicly release any revisions to these forward-looking statements to reflect
events or circumstances after the date of this Quarterly Report on Form 10-Q
or to reflect the occurrence of unanticipated events.
11
Overview:
CONMED Corporation ("CONMED", the "Company", "we" or "us") is a medical
technology company with six principal product lines. These product lines and
the percentage of consolidated revenues associated with each, are as follows:
Three months ended Six months ended
June 30, June 30,
2003 2004 2003 2004
----- ----- ----- -----
Arthroscopy................................ 35.7% 36.4% 35.6% 37.0%
Powered Surgical Instruments............... 23.9 24.0 25.0 24.5
Patient Care............................... 14.2 14.1 14.4 13.7
Electrosurgery............................. 15.2 15.7 14.7 15.4
Endosurgery................................ 9.5 9.6 9.3 8.9
Integrated Operating Room Systems.......... 1.5 0.2 1.0 0.5
----- ----- ----- -----
Consolidated Net Sales................... 100.0% 100.0% 100.0% 100.0%
----- ----- ----- -----
A significant amount of our products are used in surgical procedures with
approximately 75% of our revenues derived from the sale of disposable
products. We manufacture substantially all of our products in facilities
located in the United States. We market our products both domestically and
internationally directly to customers and through distributors. International
sales represent a significant portion of our business. During the six months
ended June 30, 2004, sales to purchasers outside of the United States
accounted for 36% of total net sales.
Business Environment, Opportunities and Challenges
The aging of the worldwide population along with lifestyle changes, continued
cost containment pressures on healthcare systems and the desire of clinicians
and administrators to use less invasive (or noninvasive) procedures are
important trends which are driving the growth for our surgical and patient
care products.
We have historically used strategic business acquisitions and exclusive
distribution relationships to diversify our product offerings, increase our
market share in certain product lines and realize economies of scale. In 2003
we made important progress in broadening our Arthroscopy product line with the
acquisition of Bionx Implants, Inc.. In January 2004, we announced an
agreement with Dolphin Medical, Inc., a subsidiary of OSI Systems, Inc., under
which we became the exclusive North American distributor for a full line of
Dolphin pulse oximetry products. These products are included in our Patient
Care product line. In March 2004, we announced a strategic co-marketing
relationship with eTrauma(R) Corporation, a developer and manufacturer of
picture archiving, digital communication systems and electronic medical
records software. Through this partnership our integrated operating room
product offerings will include eTrauma's digital communications product.
Continued innovation and commercialization of new proprietary products and
processes are essential elements of our long-term growth strategy. In March
2004, we unveiled fourteen new products at the American Academy of Orthopedic
Surgeons Annual Meeting which will enhance our arthroscopy and powered
instrument product offerings. Our reputation as an innovator is exemplified by
these recent product introductions, which include an IM3300 progressive scan,
enhanced definition, autoclavable camera; a PowerPro(R) pneumatic powered
instrument system; shoulder suture and suture anchors; Arthroscopic shaver
blades; a knee femoral screw; SmartNail(R) 2.4m bioresorbable nail; and the
10k{trademark} pump fluid management system.
12
Our current research initiatives include the development of reflectance
technology products. This technology permits non-invasive analysis of blood
oxygen levels in clinical situations which previously could not be
accomplished using traditional non-invasive techniques ("Pro2(R)"). We have
recently received clearance to market this product by the United States Food
and Drug Administration ("FDA") and anticipate a fourth quarter 2004 product
launch in Europe and 2005 introduction in the United States.
Additionally, in 2003 we acquired technology for a product referred to as
Endotracheal Cardiac Output Monitor ("ECOM"). Our ECOM product offering is
expected to replace catheter monitoring of cardiac output with a specially
designed endotracheal tube which utilizes proprietary bio-impedance
technology. A large portion of the marketing development of this product, as
well as future product enhancements, will be conducted in our newly created
research subsidiary in Israel. In June 2004, CONMED and our Israeli
subsidiary were awarded a $1 million grant from the BIRD Foundation to
assist in product development. We have recently received clearance to market
this product from the FDA and anticipate a 2005 product launch.
Certain of our products, particularly our line of surgical suction
instruments, tubing and ECG electrodes, are more commodity in nature, with
limited opportunity for product differentiation. These products compete in
mature, price sensitive markets. As a result, while sales volumes have
continued to increase we have experienced and expect that we will continue to
experience pricing and margin pressures in these product lines. We believe
that we may continue to profitably compete in these product lines by
maintaining and improving our low cost manufacturing structure. In addition,
we expect to continue to use cash generated from these low margin, low
investment products to invest in, improve and expand higher margin product
lines.
Critical Accounting Estimates
Preparation of our financial statements requires us to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenues
and expenses. Note 1 to the consolidated financial statements in our Annual
Report on Form 10-K for the year-ended December 31, 2003 describes the
significant accounting policies used in preparation of the consolidated
financial statements. The most significant areas involving management
judgments and estimates are described below and are considered by management
to be critical to understanding the financial condition and results of
operations of CONMED. There have been no significant changes in our critical
accounting estimates during the second quarter of 2004.
Revenue Recognition
Revenue is recognized when title has been transferred to the customer, which
is generally at the time of shipment. The following policies apply to our
major categories of revenue transactions:
o Sales to customers are evidenced by firm purchase orders. Title
and the risks and rewards of ownership are transferred to the
customer when product is shipped. Payment by the customer is due
under fixed payment terms.
o We place certain of our capital equipment with customers in
return for commitments to purchase disposable products over time
periods generally ranging from one to three years. In these
circumstances, no revenue is recognized upon capital equipment
shipment and we recognize revenue upon the disposable product
shipment. The cost of the equipment is amortized over the term of
the individual commitment agreements.
o Product returns are only accepted at the discretion of the
Company and in accordance with our "Returned Goods Policy".
Product returns have not been significant historically. We accrue
for sales returns, rebates and allowances based upon an analysis
of historical customer returns and credits, rebates, discounts and
current market conditions.
13
o The Company's terms of sale to customers generally do not
include any obligations to perform future services. Limited
warranties are generally provided for capital equipment sales and
provisions for warranty are provided at the time of product
shipment based upon an analysis of historical data.
o Amounts billed to customers related to shipping and handling are
included in net sales. Shipping and handling costs are included in
selling and administrative expense.
o We sell to a diversified base of customers around the world and,
therefore, believe there is no material concentration of credit
risk.
o We assess the risk of loss on accounts receivable and adjust the
allowance for doubtful accounts based on this risk assessment.
Historically, losses on accounts receivable have not been
material. Management believes the allowance for doubtful accounts
of $1.7 million at June 30, 2004 is adequate to provide for any
probable losses from accounts receivable.
Inventory Reserves
We maintain reserves for excess and obsolete inventory resulting from the
inability to sell our products at prices in excess of current carrying costs.
The markets in which we operate are highly competitive, with new products and
surgical procedures introduced on an on-going basis. Such marketplace changes
may result in our products becoming obsolete. We make estimates regarding the
future recoverability of the costs of our products and record a provision for
excess and obsolete inventories based on historical experience, expiration of
sterilization dates and expected future trends. If actual product life cycles,
product demand or acceptance of new product introductions are less favorable
than projected by management, additional inventory write-downs may be required.
Business Acquisitions
We have a history of growth through acquisitions, including the Bionx
acquisition in 2003. The assets and liabilities of acquired businesses are
recorded under the purchase method at their estimated fair values as of the
dates of acquisition. Goodwill represents costs in excess of fair values
assigned to the underlying net assets of acquired businesses. Other intangible
assets primarily represent allocations of purchase price to identifiable
intangible assets of acquired businesses. We have accumulated goodwill of
$290.7 million and other intangible assets of $191.2 million at June 30, 2004.
In accordance with Statement of Financial Accounting Standards No. 142,
"Goodwill and Other Intangible Assets," ("SFAS 142"), goodwill and
intangible assets deemed to have indefinite lives are not amortized, but are
subject to at least annual impairment testing. The identification and
measurement of goodwill impairment involves the estimation of the fair value
of our business. The estimates of fair value are based on the best information
available as of the date of the assessment, which primarily incorporate
management assumptions about expected future cash flows and contemplate other
valuation techniques. Future cash flows can be affected by changes in industry
or market conditions or the rate and extent to which anticipated synergies or
cost savings are realized with newly acquired entities.
Intangible assets with a finite life are amortized over the estimated useful
life of the asset. Intangible assets which continue to be subject to
amortization are also evaluated to determine whether events and circumstances
warrant a revision to the remaining period of amortization. An intangible
asset is determined to be impaired when estimated future cash flows indicate
the carrying amount of the asset may not be recoverable. Although no goodwill
or other intangible asset impairment has been recorded to date, there can be
no assurances that future impairment will not occur.
14
In connection with the Bionx acquisition, significant estimates were made in
the $7.9 million valuation of the purchased in-process research and
development assets ("IPRD"). The purchased in-process research and
development value relates to next generation arthroscopy products, which have
been or are expected to be released between the second quarter of 2003 and
fourth quarter of 2004. The acquired projects include enhancements and
upgrades to existing device technology, introduction of new device
functionality and the development of new materials technology for arthroscopic
applications.
The value of the Bionx in-process research and development was calculated
using a discounted cash flow analysis of the anticipated net cash flow stream
associated with the in-process technology of the related product sales. The
estimated net cash flows were discounted using a discount rate of 22%, which
was based on the weighted-average cost of capital for publicly-traded
companies within the medical device industry and adjusted for the stage of
completion of each of the in-process research and development projects. The
risk and return considerations surrounding the stage of completion were based
on costs, man- hours and complexity of the work completed versus to be
completed and other risks associated with achieving technological feasibility.
In total, these projects were approximately 40% complete as of the acquisition
date. The total budgeted costs for the projects were approximately $5.5
million and the remaining costs to complete these projects were approximately
$3.3 million as of the acquisition date.
The major risks and uncertainties associated with the timely and successful
completion of these projects consist of the ability to confirm the safety and
efficacy of the technologies and products based on the data from clinical
trials and obtaining the necessary regulatory approvals. In addition, no
assurance can be given that the underlying assumptions used to forecast the
cash flows or the timely and successful completion of such projects will
materialize, as estimated. For these reasons, among others, actual results may
vary significantly from the estimated results.
Pension Plan
We sponsor a defined benefit pension plan covering substantially all our
employees. Major assumptions used in accounting for the plan include the
discount rate, expected return on plan assets and rate of increase in employee
compensation levels. Assumptions are determined based on Company data and
appropriate market indicators, and are evaluated each year as of the plans'
measurement date. A change in any of these assumptions would have an effect on
net periodic pension costs reported in the consolidated financial statements.
As a result of lower market interest rates, we have lowered the discount rate
used in determining pension expense from 6.75% in 2003 to 6.25% in 2004. This
change in assumption resulted in higher pension expense higher pension expense
during 2004.
We have used an expected rate of return on pension plan assets of 8.0% for
purposes of determining the net periodic pension benefit cost. In determining
the expected return on pension plan assets, we consider the relative weighting
of plan assets, the historical performance of total plan assets and individual
asset classes and economic and other indicators of future performance. In
addition, we consult with financial and investment management professionals in
developing appropriate targeted rates of return. As a result of funding the
maximum deductible pension contributions in 2003, pension plan assets have
increased substantially, which resulted in higher expected returns and
decreased pension expense in 2004.
Based on these and other factors, 2004 pension expense is estimated at
approximately $5.0 million. Actual expense may vary significantly from this
estimate. During the six months ended June 30, 2004 and 2003 we recorded $2.5
million and $2.8 million in pension expense, respectively.
15
Income Taxes
The recorded future tax benefit arising from net deductible temporary
differences and tax carryforwards is approximately $15.5 million at June 30,
2004. Management believes that our earnings during the periods when the
temporary differences become deductible will be sufficient to realize the
related future income tax benefits.
We have established a valuation allowance to reflect the uncertainty of
realizing the benefits of certain net operating loss carryforwards recognized
in connection with the Bionx acquisition. In assessing the need for a
valuation allowance, we estimate future taxable income, considering the
feasibility of ongoing tax planning strategies and the realizability of tax
loss carryforwards. Valuation allowances related to deferred tax assets can be
impacted by changes to tax laws, changes to statutory tax rates and future
taxable income levels. In the event we were to determine that we would not be
able to realize all or a portion of our deferred tax assets in the future, we
would reduce such amounts through a charge to income in the period that such
determination was made.
Results of Operations
The following table presents, as a percentage of net sales, certain categories
included in our consolidated statements of income for the periods indicated:
Three months ended Six months ended
June 30, June 30,
------------------- -----------------
2003 2004 2003 2004
----- ----- ----- -----
Net sales.................................. 100.0% 100.0% 100.0% 100.0%
Cost of sales.............................. 47.7 47.5 47.7 47.5
----- ----- ----- -----
Gross profit............................ 52.3 52.5 52.3 52.5
Selling and administrative expense......... 31.6 32.4 31.5 32.6
Research and development expense........... 3.5 3.7 3.4 3.6
Write-off of purchased IPRD................ -- -- 3.3 --
Other expense (income), net................ 2.7 -- (1.8) --
----- ----- ----- -----
Income from operations................... 14.5 16.4 15.9 16.3
Loss on early extinguishment of debt....... 6.3 -- 3.3 --
Interest expense........................... 4.7 2.0 4.7 2.2
----- ----- ----- -----
Income before income taxes.............. 3.5 14.4 7.9 14.1
Provision for income taxes................. 1.3 5.0 4.0 4.9
----- ----- ----- -----
Net income.............................. 2.2% 9.4% 3.9% 9.2%
===== ===== ===== =====
Three months ended June 30, 2004 compared to three months ended June 30, 2003
Sales for the quarterly period ended June 30, 2004 were $130.9 million, an
increase of $6.4 million (5.1%) compared to sales of $124.5 million in the
comparable 2003 period. Favorable foreign currency exchange rates accounted
for $1.6 million of the above increase.
Arthroscopy sales increased $3.3 million (7.4%) in the quarterly period ended
June 30, 2004 to $47.7 million from $44.4 million in the comparable 2003
period, principally as a result of increased sales of our procedure specific,
shoulder repair and video imaging products.
Powered surgical instrument sales increased $1.7 million (5.7%) in the
quarterly period ended June 30, 2004 to $31.4 million from $29.7 million in
the comparable 2003 period, principally as a result of increased sales of
our PowerPro(R) line of instrument products. This increase was partially
offset by decreased sales of our small bone products.
16
Patient care sales increased $0.7 million (4.0%) in the quarterly period
ended June 30, 2004 to $18.4 million from $17.7 million in the comparable
2003 period, principally as a result of increased sales of our surgical
suction, vital signs and intravenous products.
Electrosurgery sales increased $1.7 million (9.0%) in the quarterly period
ended June 30, 2004 to $20.6 million from $18.9 million in the comparable 2003
period, principally as a result of increased sales of our new System 5000(R)
electrosurgical generator.
Endosurgery sales increased $0.6 million (5.0%) in the quarterly period ended
June 30, 2004 to $12.5 million from $11.9 million in the comparable 2003
period. This increase is principally due to increased sales of our various
laparoscopic instrument products and systems.
Integrated operating room system sales decreased $1.6 million in the quarterly
period ended June 30, 2004 to $0.3 million from $1.9 million in the
comparable 2003 period. This decrease is principally due to reduced operating
room system installations which are reliant upon the construction logistics of
our hospital customers.
Cost of sales increased to $62.2 million in the second quarter of 2004 as
compared to $59.4 million in the same period a year ago on increased sales
volumes in each of our principal product lines as mentioned above. During the
three months ended June 30, 2003 we incurred $0.3 million in acquisition
related charges as a result of the step-up to fair value recorded related to
the sale of inventory acquired in the Bionx and CORE acquisitions. Gross
margin percentage increased to 52.5% in 2004 as compared to 52.3% in 2003.
Selling and administrative expense increased to $42.4 million in the second
quarter of 2004 as compared to $39.4 million in the comparable 2003 period.
This increase is primarily attributable to the transition to a larger,
independent sales agent based sales force in our arthroscopy and powered
surgical instrument product lines and increased legal expenses associated with
the litigation against Johnson & Johnson, as discussed in Note 9. As a
percentage of sales, selling and administrative expense was 32.4% in the
second quarter of 2004 compared to 31.6% in the second quarter of 2003.
Research and development expense totaled $4.8 million in the second quarter
of 2004 as compared to $4.4 million in the second quarter of 2003. This
increase is principally as a result of research efforts focused on the
development of our Pro2(R) reflectance pulse oximetry and
Endotracheal Cardiac Output monitoring (ECOM)devices. As a percentage of
sales, research and development expense increased to 3.7% in the current
quarter compared to 3.5% in the comparable 2003 period.
As discussed in Note 10 to the Consolidated Condensed Financial Statements,
other expense in the three month period ended June 30, 2003 consisted
primarily of $2.1 million in pension settlement costs associated with the
restructuring of our orthopedic sales force and $1.2 million in acquisition
related costs. There was no comparable amount recorded in the second quarter
of 2004.
During the three months ended June 30, 2003 we repurchased $127.4 million of
our 9% senior subordinated notes and recorded a loss on the early
extinguishment of debt in the amount of $7.9 million. This amount represents
premium and unamortized deferred financing costs related to the purchase.
Interest expense in the second quarter of 2004 was $2.6 million compared to
$5.9 million in the second quarter of 2003. The decrease in interest expense
is primarily as a result of lower total outstanding borrowings during the
current quarter as compared to the same period a year ago and lower average
interest rates on our borrowings (inclusive of the implicit finance charge on
our accounts receivable sale facility). This decrease in interest expense is
also a consequence of the redemption of $127.4 million in 9% senior
subordinated notes in June 2003. Our total outstanding borrowings have
decreased to $240.4 million at June 30, 2004 as compared to $289.5 million at
June 30, 2003. The weighted average interest rates on our borrowings has
decreased to 3.59% for the three months ended June 30, 2004 as compared to
7.26% for the three months ended June 30, 2003.
A provision for income taxes has been recorded at an effective tax rate of 35%
for the second quarter 2004 and 36% for the second quarter of 2003. A
reconciliation of the United States statutory income tax rate to our effective
tax rate is included in our Annual Report on Form 10-K for the year-ended
December 31, 2003, Note 7 to the Consolidated Financial Statements.
17
Six months ended June 30, 2004 compared to six months ended June 30, 2003
Sales for the six months ended June 30, 2004 were $264.9 million, an increase
of $22.3 million (9.2%) compared to sales of $242.6 million in the comparable
2003 period. The Bionx acquisition accounted for $2.4 million of the above
increase and favorable foreign currency exchange rates accounted for $5.6
million.
Arthroscopy sales increased $11.9 million (13.8%) in the first half of 2004 to
$98.0 million from $86.1 million in the comparable 2003 period, principally as
a result of increased sales of our procedure specific, knee reconstruction,
soft tissue fixation and video imaging products.
Powered surgical instrument sales increased $4.2 million (6.9%) in the first
half of 2004 to $64.9 million from $60.7 million in the comparable 2003
period, principally as a result of increased sales of our PowerPro(R) line of
instrument products. This increase was partially offset by decreased sales of
our small bone products.
Patient care sales increased $1.4 million (4.0%) in the first half of 2004 to
$36.4 million from $35.0 million in the comparable 2003 period, principally as
a result of increased sales of our surgical suction products.
Electrosurgery sales increased $5.1 million (14.3%) in the first half of 2004
to $40.8 million from $35.7 million in the comparable 2003 period,
principally as a result of increased sales of our new System 5000(R)
electrosurgical generator.
Endosurgery sales increased $0.9 million (4.0%) in the first half of 2004
to $23.5 million from $22.6 million in the comparable 2003 period. This
increase is principally due to increased sales of our various laparoscopic
instrument products and systems.
Integrated operating room system sales decreased $1.1 million in the first
half of 2004 to $1.3 million from $2.4 million in the comparable 2003 period.
This decrease is principally due to reduced operating room system
installations which are reliant upon the construction logistics of our
hospital customers.
Cost of sales increased to $125.8 million in the first half of 2004 as
compared to $115.8 million in the same period a year ago on increased sales
volumes in each of our principal product lines as mentioned above. During the
first half of 2003 we incurred $0.7 million in acquisition related charges as
a result of the step-up to fair value recorded related to the sale of
inventory acquired in the Bionx and CORE acquisitions. Gross margin percentage
increased to 52.5% in 2004 as compared to 52.3% in 2003.
Selling and administrative expense increased to $86.2 million in the first
half of 2004 as compared to $76.5 million in the comparable 2003 period.
This increase is primarily attributable to the transition to a larger,
independent sales agent based sales force in our arthroscopy and powered
surgical instrument product lines and increased sales volumes in each of our
principal product lines. As a percentage of sales, selling and administrative
expense was 32.6% in the first half of 2004 as compared to 31.5% in the first
half of 2003.
Research and development expense totaled $9.6 million in the first half of
2004 as compared to $8.1 million in the comparable 2003 period. Of this
increase, $0.5 million relates to ongoing research and development related to
the Bionx acquisition while $0.8 million is attributable to Pro2(R) and ECOM
product development. As a percentage of sales, research and development
expense increased to 3.6% in 2004 as compared to 3.4% in 2003.
As discussed in Note 10 to the Consolidated Condensed Financial Statements,
other income in the six month period ended June 30, 2003 consisted primarily of
a $9.0 million net gain on the settlement of a contractual dispute, $2.1 million
in pension settlement costs associated with the restructuring of our orthopedic
sales force and $2.6 million in acquisition related costs. There was no
comparable amount recorded in the first half of 2004.
18
During the six months ended June 30, 2003 we repurchased $130.0 million of our
9% senior subordinated notes and recorded a loss on the early extinguishment
of debt in the amount of $8.1 million. This amount represents premium and
unamortized deferred financing costs related to the purchase.
Interest expense in the first half of 2004 was $5.9 million compared to $11.4
million in the first half of 2003. The decrease in interest expense is
primarily as a result of lower total outstanding borrowings during the current
period as compared to the same period a year ago and lower average interest
rates on our borrowings (inclusive of the implicit finance charge on our
accounts receivable sale facility). This decrease in interest expense is also
a consequence of the redemption of $130.0 million in 9% senior subordinated
notes during the first half of 2003. The weighted average interest rates on
our borrowings has decreased to 3.98% for the six months ended June 30, 2004
as compared to 7.42% for the six months ended June 30, 2003.
A provision for income taxes has been recorded at an effective tax rate of 35%
for the first half of 2004 and 51% for the first half of 2003. The effective
tax rate of 51% for the first half of 2003 is significantly higher than the
35% which we have experienced historically as a result of the
non-deductibility for income tax purposes of the $7.9 million in-process
research and development write-off recorded in conjunction with the Bionx
acquisition. A reconciliation of the United States statutory income tax rate
to our effective tax rate is included in our Annual Report on Form 10-K for
the year-ended December 31, 2003, Note 7 to the Consolidated Financial
Statements.
Liquidity and Capital Resources
Cash generated from operations, including sales of accounts receivable and
borrowings under our revolving credit facility, provide the necessary
liquidity to fund our working capital requirements, debt service under the
senior credit agreement and the funding of capital investments. In addition,
we use term borrowings, including borrowings under our senior credit agreement
and borrowings under separate loan facilities, in the case of real property
acquisitions, to finance our acquisitions.
Operating cash flows
Our net working capital position was $166.5 million at June 30, 2004. Net cash
provided by operating activities was $45.6 million in the six months ended
June 30, 2004 and $18.6 million in the six months ended June 30, 2003.
Net cash provided by operating activities in the six month period ended June
30, 2004 was favorably impacted by the following: depreciation, amortization,
deferred income taxes; decreases in inventory and accounts receivable;
increased sales of accounts receivable; and increases in accounts payable and
accrued interest, primarily related to the timing of the payment of these
liabilities.
Net cash provided by operating activities in the six month period ended June
30, 2004 was negatively impacted by the following: decreases in income taxes
payable and decreases in accrued compensation and benefits.
During the three month period ended June 30, 2004 we experienced strong
operating cash flow, increasing our cash balance by approximately $21 million.
We are currently in discussions regarding a potential acquisition, if completed,
would utilize existing cash balances and a portion of our available line of
credit to finance the purchase.
19
Investing cash flows
Capital expenditures were $4.3 million and $4.0 million for the six months
ended June 30, 2004 and 2003, respectively. These capital expenditures
represent the ongoing capital investment requirements of our business.
Investing cash flows in 2003 also included $51.5 million in payments related
to business acquisitions, net of cash acquired, principally related to the
Bionx acquisition.
Financing cash flows
Financing activities in the first half of 2004 consisted primarily of the
repayment of $24.2 million in borrowings.
Our senior credit agreement consists of a $100 million revolving credit
facility and a $260 million term loan. There were no borrowings outstanding on
the revolving credit facility as of June 30, 2004. As of June 30, 2004, the
total amount outstanding on the term loan was $222.9 million. The term loan is
scheduled to be repaid over a period of approximately 6 years, with scheduled
principal payments of $2.6 million annually through December 2007 increasing
to $60.3 million in 2008 and the remaining balance outstanding due in
December 2009. We may be required, under certain circumstances, to make
additional principal payments based on excess annual cash flow as defined in
the senior credit agreement. Interest rates on the term facility are at the
London Interbank Offered Rate ("LIBOR") plus 2.25% (3.62% at June 30, 2004).
Interest rates on the revolving credit facility are at LIBOR plus 2.50%
(3.87% at June 30, 2004).
The senior credit agreement is collateralized by substantially all of our
personal property and assets, except for our accounts receivable and related
rights which have been sold in connection with our accounts receivable sales
agreement. The senior credit agreement contains covenants and restrictions
which, among other things, require maintenance of certain working capital
levels and financial ratios, prohibit dividend payments and restrict the
incurrence of certain indebtedness and other activities, including
acquisitions and dispositions. The senior credit agreement contains a material
adverse effect clause that could limit our ability to access additional
funding under our senior credit agreement should a material adverse change in
our business occur. We are also required, under certain circumstances, to make
mandatory prepayments from net cash proceeds from any issue of equity and
asset sales.
The 2001 debt outstanding in connection with the purchase of property in
Largo, Florida utilized by our Linvatec subsidiary consists of a note bearing
interest at 7.50% per annum with semiannual payments of principal and interest
through June 2009 (the "Class A note"); and a note bearing interest at 8.25%
per annum compounded semiannually through June 2009, after which semiannual
payments of principal and interest will commence, continuing through June 2019
(the "Class C note"). The principal balances outstanding on the Class A note
and Class C note aggregated $9.0 million and $7.8 million, respectively, at
June 30, 2004. These loans are secured by our Largo, Florida property.
Management believes that cash generated from operations, including accounts
receivable sales, current cash resources and available borrowing capacity
under our senior credit agreement will be adequate to meet our anticipated
operating working capital requirements, debt service and the funding of
capital expenditures in the foreseeable future.
Off-Balance Sheet Arrangements
We have an accounts receivable sales agreement pursuant to which we and
certain of our subsidiaries sell on an ongoing basis certain accounts
receivable to CONMED Receivables Corporation ("CRC"), a wholly-owned,
bankruptcy-remote, special-purpose subsidiary of CONMED Corporation. CRC may
in turn sell up to an aggregate $50.0 million undivided percentage ownership
interest in such receivables (the "asset interest") to a commercial paper
conduit. The accounts receivable sales agreement was amended and restated with
substantially the same terms and conditions on October 23, 2003 but replaced
the commercial paper conduit with a bank. The commercial paper conduit or the
bank's (the "purchaser") share of collections on accounts receivable are
calculated as defined in the accounts receivable sales agreement, as amended.
Effectively, collections on the pool of receivables flow first to the
purchaser and then to CRC, but to the extent that the purchaser's share of
collections may be less than the amount of the purchaser's asset interest,
there is no recourse to CONMED or CRC for such shortfall. For receivables
which have been sold, CONMED Corporation and its subsidiaries retain
collection and administrative responsibilities as agent for the purchaser. As
of June 30, 2004, the undivided percentage ownership interest in receivables
sold by CRC to the purchaser aggregated $46 million, which has been accounted
for as a sale and reflected in the balance sheet as a reduction in accounts
receivable. Expenses associated with the sale of accounts receivable,
including the purchaser's financing costs to purchase the accounts receivable
were $0.4 million in the six month period ended June 30, 2004 and are
included in interest expense.
20
There are certain statistical ratios, primarily related to sales dilution and
losses on accounts receivable, which must be calculated and maintained on the
pool of receivables in order to continue selling to the purchaser. The pool of
receivables is in compliance with these ratios. Management believes that
additional accounts receivable arising in the normal course of business will be
of sufficient quality and quantity to meet the requirements for sale under the
accounts receivable sales agreement. In the event that new accounts receivable
arising in the normal course of business do not qualify for sale, then
collections on sold receivables will flow to the purchaser rather than being
used to fund new receivable purchases. To the extent that such collections would
not be available to CONMED in the form of new receivables purchases, we would
need to access an alternate source of working capital, such as our $100 million
revolving credit facility. Our accounts receivable sales agreement, as amended,
also requires us to obtain a commitment (the "purchaser commitment"), on an
annual basis, from the purchaser to fund the purchase of our accounts
receivable. The purchaser commitment expires on October 21, 2004. We currently
expect the purchaser to extend its commitment for an additional year. In the
event we are unable to renew our purchaser commitment, we would need to access
an alternate source of working capital, such as our $100 million revolving
credit facility.
Contractual Obligations
The following table summarizes our contractual obligations for the next five
years and thereafter (amounts in thousands). There were no capital lease
obligations as of June 30, 2004:
Payments Due By Period
----------------------
Less than 1-3 3-5 More than
Total 1 Year Years Years 5 Years
--------- -------- -------- --------- ---------
Long-term debt......... $ 240,387 $ 3,988 $ 8,483 $ 96,261 $ 131,655
Purchase obligations 49,180 48,588 569 23 -
Operating lease
obligations.......... 10,769 1,971 3,527 3,907 1,364
--------- -------- -------- --------- ---------
Total contractual
obligations.......... $ 300,336 $ 54,547 $ 12,579 $ 100,191 $ 133,019
========= ======== ======== ========= =========
Item 4. Controls and Procedures
An evaluation of the effectiveness of the design and operation of the Company's
disclosure controls and procedures was carried out under the supervision and
with the participation of the Company's management, including the Chairman and
Chief Executive Officer and the Vice President-Finance and Chief Financial
Officer (the "Certifying Officers") as of June 30, 2004. Based on that
evaluation, the Certifying Officers concluded that the Company's disclosure
controls and procedures are effective to bring to the attention of the
Company's management the relevant information necessary to permit an assessment
of the need to disclose material developments and risks pertaining
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to the Company's business in its periodic filings with the Securities and
Exchange Commission. There was no change in the Company's internal control over
financial reporting during the quarter ended June 30, 2004 that materially
affected, or is reasonably likely to materially affect, the Company's internal
control over financial reporting.
22
PART II OTHER INFORMATION
Item 1. Legal Proceedings
Reference is made to Item 3 of the Company's Annual Report on Form 10-K for
the year-ended December 31, 2003 and to Note 9 of the Notes to Consolidated
Condensed Financial Statements included in Part I of this Report for a
description of certain legal matters.
Item 4. Submission of Matters to a Vote of Security Holders
The annual meeting of stockholders of CONMED Corporation was held on May 18,
2004 (the "Annual Meeting"). Holders of Common Stock were entitled to elect
eight directors. On all matters which came before the Annual Meeting, holders
of Common Stock were entitled to one vote for each share held. Proxies for
26,551,395 of the 29,725,841 shares of Common Stock entitled to vote were
received in connection with the Annual Meeting.
The following table sets forth the names of the eight persons elected at the
Annual Meeting to serve as directors until the first annual meeting of
stockholders following the end of the Company's fiscal year ending December
31, 2004 and the number of votes cast for, against or withheld with respect to
each person.
Election of Directors
Director Votes Received Votes Withheld
- -------- -------------- --------------
Eugene R. Corasanti 25,688,308 863,087
Joseph J. Corasanti 25,722,935 828,460
Bruce F. Daniels 25,618,168 933,227
Jo Ann Golden 26,218,912 332,483
Steve Mandia 26,217,966 333,429
William D. Matthews 26,214,292 337,103
Robert E. Remmell 25,421,019 1,130,376
Stuart J. Schwartz 26,355,709 195,686
Broker
Management Proposals For Against Abstain Non-votes
--- ------- ------- ---------
Approval of PricewaterhouseCoopers
LLP as independent auditors for the
Company for the fiscal year ending
December 31, 2004; 24,844,031 1,655,632 51,732 --
Approval of Amendment to 1999
Long-Term Incentive Plan 17,910,420 3,072,418 271,859 5,296,698
Item 5. Other Information
On June 15, 2004, Robert E. Remmell, who was then a Director of the CONMED
Corporation Board of Directors died. The Nominating Committee of the Board of
Directors has no intention at this time to propose, appoint or
nominate any person to the Board of Directors to replace Mr. Remmell.
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Item 6. Exhibits and Reports on Form 8-K
Exhibits
Exhibit No. Description of Exhibit
----------- ----------------------
31.1 Certification of Eugene R. Corasanti pursuant to Rule
13a-14(a) or Rule 15d-14(a), of the Securities Exchange
Act, as adopted pursuant to Section 302 of the Sarbanes-
Oxley Act of 2002.
31.2 Certification of Robert D. Shallish, Jr. pursuant to Rule
13a-14(a) or Rule 15d-14(a), of the Securities Exchange
Act, as adopted pursuant to Section 302 of the Sarbanes-
Oxley Act of 2002.
32.1 Certification of Eugene R. Corasanti and Robert D.
Shallish, Jr. pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002.
Reports on Form 8-K
On July 23, 2004, the Company filed a Report on Form 8-K furnishing as
Exhibit 99.1 under Item 12, a July 22, 2004 press release announcing financial
results for the three and six month periods ended June 30, 2004.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CONMED CORPORATION
(Registrant)
Date: August 9, 2004
/s/ Robert D. Shallish, Jr.
----------------------------------
Robert D. Shallish, Jr.
Vice President - Finance
(Principal Financial Officer)
25