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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
( x ) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2004
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______________ To ______________________
Commission file number 0-11997
CARRINGTON LABORATORIES, INC.
(Exact name of registrant as specified in its charter)
Texas 75-1435663
------------------------------- ---------------------------------
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
2001 Walnut Hill Lane, Irving, Texas 75038
-----------------------------------------------------
(Address of principal executive offices and Zip Code)
972-518-1300
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(Registrant's telephone number, including area code)
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days
Yes [ X ] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [ X ]
The number of shares of the registrant's common stock outstanding as of
August 6, 2004 was 10,647,534.
INDEX
Page
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Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets
at June 30, 2004 (unaudited) and
December 31, 2003 3
Condensed Consolidated Statements of
Operations for the three and six months
ended June 30, 2004 and 2003 (unaudited) 4
Condensed Consolidated Statements
of Cash Flows for the six months
ended June 30, 2004 and 2003 (unaudited) 6
Notes to Condensed Consolidated Financial
Statements (unaudited) 7
Item 2. Management's Discussion and Analysis of 11
Financial Condition and Results of
Operations
Item 3. Quantitative and Qualitative Disclosures 17
About Market Risk
Item 4. Controls and Procedures. 17
Part II. OTHER INFORMATION
Item 1. Legal Proceedings 18
Item 2. Changes in Securities and Use of Proceeds 19
Item 4. Submission of Matters to a Vote 19
Item 6. Exhibits and Reports on Form 8-K 20
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Carrington Laboratories, Inc.
Condensed Consolidated Balance Sheets
(Amounts in thousands)
June 30, December 31,
2004 2003
------ ------
(unaudited)
ASSETS:
Current Assets:
Cash and cash equivalents $ 2,449 $ 1,920
Accounts receivable, net 3,257 3,098
Inventories, net 4,670 5,960
Prepaid expenses 459 253
------ ------
Total current assets 10,835 11,231
Property, plant and equipment, net 10,787 10,538
Customer relationships, net 681 777
Other assets, net 208 238
------ ------
Total assets $22,511 $22,784
====== ======
LIABILITIES AND SHAREHOLDERS' EQUITY:
Current Liabilities:
Line of credit $ 1,587 $ 1,587
Accounts payable 1,448 2,037
Accrued liabilities 1,226 1,604
Current portion of long-term debt and
capital lease obligations 1,132 1,104
Deferred revenue 2,816 1,880
------ ------
Total current liabilities 8,209 8,212
Long-term debt and capital lease obligations 1,395 1,953
SHAREHOLDERS' EQUITY:
Common stock 107 104
Capital in excess of par value 53,566 53,000
Accumulated deficit (40,763) (40,482)
Treasury stock at cost (3) (3)
------ ------
Total shareholders' equity 12,907 12,619
------ ------
Total liabilities and shareholders' equity $22,511 $22,784
====== ======
The accompanying notes are an integral part of these statements.
Carrington Laboratories, Inc.
Condensed Consolidated Statements of Operations (unaudited)
(Dollar amounts and shares in thousands, except per share amounts)
Three Months Ended
June 30,
2004 2003
------ ------
Revenue:
Net product sales $ 7,216 $ 7,345
Royalty income 617 617
Grant income, DelSite 158 -
------ ------
Total revenue 7,991 7,962
Cost of sales 4,813 4,883
------ ------
Gross margin 3,178 3,079
Expenses:
Selling, general and administrative 1,954 1,968
Research and development 213 170
Research and development-DelSite 1,002 629
Other income (9) (68)
Interest expense, net 54 41
------ ------
Net income (loss) before income taxes (36) 339
Provision for income taxes - -
------ ------
Net income (loss) $ (36) $ 339
====== ======
Basic and diluted earnings (loss) per share $ (0.00) $ 0.03
Basic and diluted average shares outstanding 10,577 10,026
The accompanying notes are an integral part of these statements.
Carrington Laboratories, Inc.
Condensed Consolidated Statements of Operations (unaudited)
(Dollar amounts and shares in thousands, except per share amounts)
Six Months Ended
June 30,
2004 2003
------ ------
Revenue:
Net product sales $13,907 $13,631
Royalty income 1,235 1,235
Grant income, DelSite 189 -
------ ------
Total revenue 15,331 14,866
Cost of sales 9,387 9,221
------ ------
Gross margin 5,944 5,645
Expenses:
Selling, general and administrative 3,938 3,844
Research and development 453 377
Research and development-DelSite 1,766 1,340
Other income (37) (68)
Interest expense, net 105 112
------ ------
Net income (loss) before income taxes (281) 40
Provision for income taxes - -
------ ------
Net income (loss) $ (281) $ 40
====== ======
Basic and diluted earnings (loss) per share $ (0.03) $ 0.00
Basic and diluted average shares outstanding 10,509 10,009
The accompanying notes are an integral part of these statements.
Carrington Laboratories, Inc.
Condensed Consolidated Statements of Cash Flows (unaudited)
(Dollar amounts in thousands)
Six Months Ended
June 30,
2004 2003
------ ------
Cash flows used in operating activities
Net income (loss) $ (281) $ 40
Adjustments to reconcile net income (loss) to net
cash used in operating activities:
Provision for bad debts - 30
Provision for inventory obsolescence 90 192
Depreciation and amortization 659 616
Changes in assets and liabilities:
Receivables (159) (1,143)
Inventories 1,200 (1,566)
Prepaid expenses (206) (176)
Other assets 30 67
Accounts payable and accrued liabilities (967) 949
Deferred revenue 936 (5)
------ ------
Net cash provided by (used in) operating
activities 1,302 (996)
------ ------
Investing activities:
Purchases of property, plant and equipment (812) (910)
------ ------
Net cash used in investing activities (812) (910)
Financing activities:
Proceeds from debt issuance - 500
Principal payments on debt and capital lease
obligations (530) (381)
Issuances of common stock 569 59
------ ------
Net cash provided by financing activities 39 178
------ ------
Net (decrease) increase in cash and cash equivalents 529 (1,728)
Cash and cash equivalents, beginning of period 1,920 3,636
------ ------
Cash and cash equivalents, end of period $ 2,449 $ 1,908
====== ======
Cash paid during the period for interest $ 114 $ 43
Cash paid during the period for federal, state
and local income taxes 8 32
Assets acquired under capital leases - 182
The accompanying notes are an integral part of these statements.
Notes to Condensed Consolidated Financial Statements (unaudited)
(1) Condensed Consolidated Financial Statements:
The condensed consolidated balance sheet as of June 30, 2004, the condensed
consolidated statements of operations for the three and six month periods
ended June 30, 2004 and 2003 and the condensed consolidated statements of
cash flows for the six month periods ended June 30, 2004 and 2003 of
Carrington Laboratories, Inc., (the "Company") have been prepared by the
Company without audit, pursuant to the rules and regulations of the
Securities and Exchange Commission. In the opinion of management, all
adjustments (which include all normal recurring adjustments) necessary to
present fairly the consolidated financial position, results of operations
and cash flows for all periods presented have been made. Certain
information and footnote disclosures normally included in financial
statements prepared in accordance with accounting principles generally
accepted in the United States of America have been condensed or omitted.
These condensed consolidated financial statements should be read in
conjunction with the audited financial statements and notes thereto included
in the Company's annual report to shareholders on Form 10-K for the year
ended December 31, 2003. Certain prior year amounts have been reclassified
to conform with the 2004 presentation.
(2) Stock-Based Compensation:
The Company accounts for employee stock options in accordance with
Accounting Principles Board Opinion No. 25 (APB 25), Accounting for Stock
Issued to Employees and Financial Accounting Standards Board Interpretation
No. 44, Accounting for Certain Transactions involving Stock Compensation, an
interpretation of APB Opinion No. 25. Under APB 25, the Company recognizes
no compensation expense related to employee or director stock options when
options are granted with exercise prices at the quoted market price of the
stock on the date of grant.
The Company has adopted the disclosure-only provisions of Statement of
Financial Accounting Standards No. 123 (FAS 123), Accounting for Stock-Based
Compensation and Statement of Financial Accounting Standards No. 148 (FAS
148), Accounting for Stock-Based Compensation - Transition and Disclosure -
An Amendment of FASB Statement No. 123. Under the provisions of FAS 123,
pro forma compensation expense related to options issued to employees is
disclosed based on the fair value of options on the grant date.
The following table (in thousands) illustrates the effect on net income
(loss) if the Company had applied the fair value recognition provision of
FAS 123 to stock based compensation:
----------------------------------------------------------------------------
Three Months Ended Six Months Ended
June 30, June 30,
2004 2003 2004 2003
----------------------------------------------------------------------------
Net income (loss) (in thousands):
As reported $ (36) $ 339 $ (281) $ 40
Less: Stock-based compensation
expense determined under
fair value-based method (117) (160) (950) (220)
------ ------ ------ ------
Pro forma net income (loss) $ (153) $ 179 $(1,231) $ (180)
====== ====== ====== ======
Net income (loss) per share:
As reported $ (0.00) $ 0.03 $ (0.03) $ 0.00
Pro forma $ (0.01) $ 0.02 $ (0.12) $ (0.02)
Because options vest over a period of several years and additional awards
are generally made each year, the pro forma information presented above is
not necessarily indicative of the effects on reported or pro forma net
earnings or losses for future years.
(3) Net Income (Loss) Per Share:
Basic income (loss) per common share is computed by dividing net income
(loss) by the weighted average number of common shares outstanding during
the period.
When the effects are not anti-dilutive, diluted net income (loss) per common
share is computed by dividing net income by the weighted average number of
shares outstanding and the impact of all dilutive potential common shares,
primarily stock options. The dilutive impact of stock options is determined
by applying the "treasury stock" method.
In calculating the diluted income (loss) per share for the three-month and
six-month periods ended June 30, 2004, no effect was given to options or
warrants, because the effect of including these securities would have been
anti-dilutive. Options and warrants outstanding for the three-month and
six-month periods ended June 30, 2003 were not included in the computation
of diluted income per share when the exercise price of the respective
security was greater than the average market price of the common shares and,
therefore, the effect would be anti-dilutive. Total options and warrants
outstanding as of June 30, 2004 and 2003 were 1,666,000, and 1,683,000
respectively.
(4) Concentration of Credit Risk:
Financial instruments that potentially expose the Company to concentrations
of credit risk consist primarily of trade accounts receivable. The
Company's customers are not concentrated in any specific geographic region
but are concentrated in the health and personal care industry. Significant
sales, defined as amounts in excess of ten percent (10%) of revenue, were
made to two customers. Sales to Natural Alternatives International, Inc.,
("Natural Alternatives") a customer in the Consumer Services Division,
accounted for 51% and 38% of the company's total revenue during the quarter
ended June 30, 2004 and 2003, respectively. Sales to Medline Industries,
Inc., ("Medline") a customer in the Medical Services Division, accounted for
20% and 23% of the company's total revenue during the quarter ended June 30,
2004 and 2003, respectively.
Customers with significant receivable balances as of June 30, 2004, defined
as amounts in excess of ten percent (10%) of gross receivables included
Natural Alternatives, ($1,595,000) and Medline ($797,300). Of these amounts,
$2,168,000 has been collected as of August 6, 2004.
(5) Inventories:
The following summarizes the components of inventory (in thousands):
June 30, December 31,
2004 2003
------ ------
Raw materials and supplies $ 2,512 $3,009
Work-in-process 865 638
Finished goods 2,103 3,048
Less obsolescence reserve (810) (735)
------ ------
Total $ 4,670 $ 5,960
====== ======
(6) Debt:
In March 2003, the Company received a loan of $500,000 from Bancredito, a
Costa Rica bank, with interest and principal to be repaid in monthly
installments over eight years. The interest rate on the loan is the U.S.
Prime Rate (4.25%) plus 2.0%. The loan is secured by a mortgage on an
unused, 164-acre parcel of land owned by the Company in Costa Rica plus a
lien on specified oral patch production equipment. The proceeds of the loan
were used in the Company's operations. As of June 30, 2004, there was
$436,000 outstanding on the loan.
In July 2003, the Company received a loan of $1.0 million from Comerica
Bank-Texas ("Comerica") under a variable rate installment note with interest
and principal to be repaid in monthly installments over five years. The
interest rate on the loan is the U.S. Prime Rate (4.25%) plus 0.5%. The
loan is collateralized by the Company's accounts receivable and inventory
and by a lien on the Company's production facility in Irving, Texas. The
proceeds of the loan are being used in the Company's operations. As of June
30, 2004, there was $817,000 outstanding on the loan.
The Company also has a $3.0 million line of credit with Comerica
structured as a demand note without a stated maturity date and with an
interest rate equal to the Comerica prime rate (4.25%) plus 0.5%. The line
of credit is collateralized by the Company's accounts receivable and
inventory and by a first lien on the Company's production facility and is
used for operating needs, as required. As of June 30, 2004, there was
$1,587,000 outstanding on the credit line with $813,000 credit available for
operations, net of outstanding letters of credit of $600,000.
The credit facility with Comerica includes covenants that require the
Company to maintain certain financial ratios. The Company was not in
compliance with three of the covenant provisions, as defined by Comerica, as
of June 30, 2004. The affected covenants were; 1) Total Net Worth: the
Company was $568,000 below the covenant level of $12.5 million, 2) Current
Ratio: the Company was .08 below the covenant level of 2.0 and 3) Liquidity
Ratio: the Company was .13 below the covenant level of 2.50. Both of
the credit facilities with Comerica are cross-collateralized and cross-
defaulted. Comerica has waived the events of noncompliance for the period
ended June 30, 2004. The Company and Comerica are currently in negotiations
to amend the debt covenants.
Pursuant to the 2000 Distributor and License Agreement with Medline, the
Company is to receive $12.5 million in base royalties over a five-year
period ending November 30, 2005. In December 2002, the Company received an
advance on future royalty payments due from Medline of $2.0 million, which
was recorded in the Company's financial statements as a loan to be repaid in
quarterly installments through September 2005. The interest rate on the
loan is 6.5%. As of June 30, 2004, there was $954,000 outstanding on the
advance.
(7) Income Taxes:
The tax effects of temporary differences including net operating loss
carryforwards have given rise to net deferred tax assets. At June 30, 2004
and December 31, 2003, the Company provided a valuation allowance against
the entire balance of deferred tax asset due to the uncertainty as to the
realization of the asset. At December 31, 2003, the Company had net
operating loss carryforwards of approximately $43.6 million for federal
income tax purposes, which began expiring in 2003, and research and
development tax credit carryforwards of approximately $386,000, which began
expiring in 2003, all of which are available to offset federal income taxes
due in current and future periods. For the three-month and six-month
periods ended June 30, 2004 and 2003, the Company recognized no benefit for
income taxes.
(8) Contingencies:
From time to time in the normal course of business, the Company is a party
to various matters involving claims or possible litigation. Management
believes the ultimate resolution of these matters will not have a material
adverse effect on the Company's financial position or results of operations.
(9) Commitments:
In December 2002, the Company purchased certain assets of the Custom
Division of Creative Beauty Innovations, Inc. ("CBI"). As part of the
purchase price for the acquired assets, for the five-year period ending in
December 2007, the Company agreed to pay CBI an amount equal to 9.0909% of
the Company's net sales up to $6.6 million per year and 8.5% of the
Company's net sales over $6.6 million per year of CBI products to
CBI's transferred customers. The Company recorded royalty expense of
approximately $68,000 related to the sale of CBI products to CBI's
transferred customers in the quarter ended June 30, 2004.
On May 3, 2004, the Company retained Redington, Inc. to provide certain
investor relations services. In addition to cash payments for their
consulting services, Redington was also granted a non-qualified stock option
to purchase 150,000 shares of the Company's Common Stock at a price of $4.15
per share, the closing price on that date. The options are exercisable
based upon the attainment of certain sustained share price levels during a
defined period of time.
(10) Reportable Segments:
The Company operates in three reportable segments: 1) Medical Services
Division, which sells human and veterinary medical products through
distributors and provides manufacturing services to customers in medical
products markets; 2) Consumer Services Division, which provides bulk raw
materials, finished products and manufacturing services to customers in
the cosmetic and nutraceutical markets and 3) DelSite Biotechnologies,
Inc. ("DelSite"), a research and development subsidiary responsible for
the development of the Company's proprietary GelSite[TM] technology for
controlled release and delivery of bioactive pharmaceutical ingredients.
The Company previously reported its results in two segments: Medical
Services Division and Caraloe, Inc. The Caraloe activities have been
renamed the Consumer Services Division. In addition, due to the growing
significance of DelSite's operations, in 2004 the Company began reporting
DelSite as a separate segment. DelSite was previously reported as part of
the corporate operations category.
The Company evaluates performance and allocates resources based on profit or
loss from operations before income taxes.
Assets which are used in more than one segment are reported in the segment
where the predominant use occurs. Total cash for the Company is included in
the Corporate Assets figure.
Reportable Segments (in thousands)
Medical Consumer
Services Services DelSite Corporate Total
----------------------------------------------------------------------------
Quarter ended June 30, 2004
Revenues from unaffiliated
customers $ 2,512 $5,321 $ 158 $ - $ 7,991
Income (loss) before
income taxes (681) 1,489 (844) - (36)
Identifiable assets 7,615 10,924 923 3,049 22,511
Capital expenditures - 77 570 - 647
Depreciation and
amortization 87 215 26 - 328
Quarter ended June 30, 2003
Revenues from unaffiliated
customers $ 2,450 $5,512 $ - $ - $ 7,962
Income (loss) before
income taxes (244) 1,212 (629) - 339
Identifiable assets 8,607 12,013 300 2,626 23,546
Capital expenditures 118 177 - - 295
Depreciation and
amortization 61 217 21 - 299
Six months ended June 30, 2004
Revenues from unaffiliated
customers $ 5,400 $9,742 $ 189 $ - $15,331
Income (loss) before
income taxes (1,039) 2,335 (1,577) - (281)
Capital expenditures - 120 692 - 812
Depreciation and
amortization 183 425 51 - 659
Six months ended June 30, 2003
Revenues from unaffiliated
customers $ 5,310 $9,556 $ - $ - $14,866
Income (loss) before
income taxes (494) 1,874 (1,340) - 40
Capital expenditures 291 437 182 - 910
Depreciation and
amortization 158 415 43 - 616
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
BACKGROUND
The Company is a research-based biopharmaceutical, medical device, raw
materials and nutraceutical company engaged in the development,
manufacturing and marketing of naturally-derived complex carbohydrates and
other natural product therapeutics for the treatment of major illnesses, the
dressing and management of wounds and nutritional supplements. The Company
operates in three reportable segments: 1) Medical Services Division, which
sells human and veterinary medical products through distributors and
provides manufacturing services to customers in medical products markets;
2) Consumer Services Division, which provides bulk raw materials, finished
products and manufacturing services to customers in the cosmetic and
nutraceutical markets and 3) DelSite, a research and development subsidiary
responsible for the development of the Company's proprietary GelSite[TM]
technology for controlled release and delivery of bioactive pharmaceutical
ingredients.
The Company previously reported its results in two segments: Medical
Services Division and Caraloe, Inc. The Caraloe activities have been
renamed the Consumer Services Division. In addition, due to the growing
significance of DelSite's operations, the Company has decided to report
DelSite as a separate segment. DelSite was previously reported as part of
the corporate operations category.
Products sold through the Medical Services Division include hydrogels, wound
cleansers, hydrocolloids, advanced wound covering products, incontinence-
care products and two lines of condition-specific products. Many products
sold through this division contain the Company's proprietary, medical-grade
raw material, Acemannan Hydrogel[TM]. The Company regularly engages in
development projects to create line extensions and other new products for
this category. Products sold through the Consumer Services Division include
Manapol[R] and other proprietary and non-proprietary raw materials sold to
nutraceutical and cosmetic customers; nutritional products sold under the
AloeCeuticals[R] brand; skin care products sold under the Snow and Sun[TM]
brand and private-labeled products manufactured to customer specifications,
including powders, creams, liquids, gels, lotions, drinks, tablets and
capsules for various customers.
Prior to 1996, the Company generated most of its revenues from product sales
in its Medical Services Division. In 1996, the Company launched its line of
raw materials, including Manapol[R] powder, through its Consumer Services
Division. In 2000, the Company entered into a Distributor and License
Agreement with Medline granting Medline exclusive rights to distribute the
Company's wound care products in the US. In 2001, the Company created its
specialty manufacturing group to provide services to cosmetic, nutraceutical
and medical markets. In December 2002, the Company acquired the assets of
the custom division of CBI, which substantially increased revenues for the
Consumer Services Division. In 2003 approximately 29% of the Company's
revenues were generated through product sales and royalties in its Medical
Services Division and 71% through sales of products and services in its
Consumer Services Division. Since 2001, significant sales, defined as
amounts in excess of ten percent (10%) of revenue, were made to two
customers: Natural Alternatives and Medline.
Sales to Natural Alternatives, a customer in the Consumer Services Division,
accounted for 51% and 38% of the Company's total revenue during the quarter
ended June 30, 2004 and 2003, respectively. Sales to Natural Alternatives
are governed by a joint supply agreement with Natural Alternatives and
Mannatech. Due to the nature of the product and the Company's relationship
with Natural Alternatives and Mannatech, the Company expects this supply
agreement will be renewed prior to its expiration at the end of November
2004. Sales to Medline, a customer in the Medical Services Division,
accounted for 20% and 23% of the Company's total revenue during the quarter
ended June 30, 2004 and 2003, respectively. Effective April 9, 2004, the
Company entered into an amendment to the Distributor and License Agreement
which, among other things, extended the term of the Distributor and License
Agreement and the accompanying Supply Agreement through November 30, 2008.
The Company's wholly-owned subsidiary, DelSite, operates independently from
the Company's research and development program and is responsible for the
research, development and marketing of the Company's proprietary GelSite[TM]
technology for controlled release and delivery of bioactive pharmaceutical
ingredients. Additional revenues to the Company arise from time to time
through research grants awarded to DelSite.
LIQUIDITY AND CAPITAL RESOURCES
Cash at June 30, 2004 was $2,449,000 versus $1,920,000 at December 31, 2003.
The increase in cash was primarily due to a $1,290,000 reduction in
inventory levels, the receipt of $1,250,000 from Medline as an advance
payment of royalties in consideration of the extended term of the
Distributor and License Agreement and proceeds from stock option exercises
and employee purchases of shares of $569,000. These cash receipts were
partially offset by the Company's investment of $812,000 in capital
expenditures to acquire operating assets, reduced debt and capital lease
obligations of $530,000 and reduced accounts payable and accrued liabilities
of $967,000.
In July 2003, the Company received a loan of $1.0 million from Comerica
under a variable rate installment note with interest and principal to be
repaid in monthly installments over five years. The interest rate on the
loan is the U.S. Prime Rate (4.25%) plus 0.5%. The loan is collateralized
by the Company's accounts receivable and inventory and by a first lien on
the Company's production facility in Irving, TX. The proceeds of the loan
are being used in the Company's operations. As of June 30, 2004, there was
$817,000 outstanding on the loan.
The Company also has a line of credit with Comerica that provides for
borrowings of up to $3.0 million based on the level of qualified accounts
receivable and inventory. The line of credit is collateralized by accounts
receivable and inventory. Borrowings under the line of credit bear interest
at Comerica's prime rate (4.25%) plus 0.5%. The credit facility with
Comerica includes covenants that require the Company to maintain certain
financial ratios. The Company was not in compliance with three of the
covenant provisions, as defined by Comerica, as of June 30, 2004. The
affected covenants were; 1) Total Net Worth: the Company was $318,000 below
the covenant level of $12.5 million, 2) Current Ratio: the Company was .08
below the covenant level of 2.0 and 3) Liquidity Ratio: the Company was .13
below the covenant level of 2.50. Both of the credit facilities with
Comerica are cross-collateralized and cross-defaulted. Comerica has waived
the events of non-compliance for the period ended June 30, 2004. The
Company and Comerica are currently in negotiations to amend the debt
covenants. As of June 30, 2004, there was $1,587,000 outstanding on the
credit line with $813,000 credit available for operations, net of
outstanding letters of credit of $600,000.
In March 2003, the Company received a loan of $500,000 from Bancredito, a
Costa Rica bank, with interest and principal to be repaid in monthly
installments over eight years. The interest rate on the loan is the U.S.
Prime Rate (4.25%) plus 2.0%. The loan is secured by a mortgage on an
unused, 164-acre parcel of land owned by the Company in Costa Rica plus a
lien on specified oral patch production equipment. The proceeds of the loan
were used in the Company's operations. As of June 30, 2004, there was
$436,000 outstanding on the loan.
Pursuant to the Distributor and License Agreement with Medline, the Company
is to receive $12.5 million in base royalties over a five-year period ending
November 30, 2005. Effective April 9, 2004, the Company entered into an
Amendment (the "Amendment") to the Distributor and License Agreement. The
Amendment modified certain provisions contained in the Distributor and
License Agreement and the Supply Agreement. Among other things, the
Amendment extends the term of the Distributor and License Agreement and the
term of the Supply Agreement through November 30, 2008, and subject to
certain refund rights more specifically described in the Amendment, provides
that the Company will receive an additional $1.25 million of royalties, to
be paid upon the signing of the Amendment, in consideration of the extended
term of the Distributor and License Agreement. The Company received the
funds on April 21, 2004. The Company continues to recognize royalty income
under this agreement, as amended, on a straight-line basis. At June 30,
2004, the Company had received $2.8 million more in royalties than it had
recognized in income, which is recorded as deferred revenue on the balance
sheet. Royalties to be received subsequent to June 30, 2004 total $2.0
million. In December 2002, the Company received an advance on future
royalty payments due from Medline of $2.0 million which was recorded in the
Company's financial statements as a loan to be repaid in quarterly
installments through September 2005. The advance bears interest at 6.5%
and is being repaid by reducing each quarterly royalty payment due from
Medline by approximately $200,000. As of June 30, 2004, there was $954,000
outstanding on the advance.
The Company anticipates capital expenditures in 2004 of approximately $1.9
million. The Company has spent $812,000 in the first six months of 2004 and
anticipates spending $1.1 million in the remaining six months of the year.
The expenditures will primarily be comprised of production and laboratory
equipment and facility modifications.
Presently, the Company's debt/equity ratio is 0.74 to 1. Debt includes all
current liabilities and long-term debt. Based on its current estimates,
management believes that the Company has the capacity to incur additional
debt, and, in 2004, the Company intends to seek additional financing to be
used as working capital. The Company anticipates that such borrowings,
together with the expected cash flows from operations and licensing
agreements and expected revenues from the Company's existing government
grant program related to DelSite, will provide the funds necessary to
finance its current operations, including expected levels of research and
development for at least the next twelve months. However, the Company does
not expect that its current cash resources will be sufficient to finance
future major clinical studies and costs of filing new drug applications
necessary to develop its products to their full commercial potential.
Additional funds, therefore, may need to be raised through equity offerings,
borrowings, licensing arrangements or other means. Management believes that
each of the enumerated financing avenues is presently available to the
Company. However, there is no assurance that the Company will be able to
obtain such funds on satisfactory terms when they are needed.
As a result of the current level of sales of raw materials produced at the
Company's processing facility in Costa Rica, the Company's demand for Aloe
vera L. leaves has exceeded and continues to exceed both the current and the
normal production capacity of its farm. It has therefore been necessary for
the Company to purchase Aloe vera L. leaves from other sources in Costa Rica
at prices comparable to the cost of acquiring leaves from the Company's
farm. From time to time the Company also imports leaves from other Latin
American countries at prices comparable to those in the local market. The
Company anticipates that the suppliers it currently uses will be able to
meet all of its requirements for leaves for the foreseeable future.
Since March 1998, the Company has been a minority investor in Aloe and Herbs
International, Inc., a Panamanian corporation ("Aloe & Herbs"), the owner of
Rancho Aloe (C.R.), S.A., a Costa Rican corporation, which produces Aloe
vera L. leaves and sells them to the Company at competitive, local market
rates.
RESULTS OF OPERATIONS
Quarter ended June 30, 2004 compared to quarter ended June 30, 2003
Revenue for the quarter ended June 30, 2004, increased 0.4%, or $29,000, to
$7,991,000 as compared to $7,962,000 during the quarter ended June 30, 2003.
Consumer Services revenue during the second quarter of 2004 decreased 3.5%,
or $191,000, to $5,321,000 versus $5,512,000 for the same quarter last year.
The decrease in Consumer Services revenue is attributable to decreased
specialty manufacturing sales of $622,000, which was primarily attributable
to decreased sales to a major customer, decreased sales of cosmetic products
of $627,000, which was primarily attributable to lower cosmetic product
demand, and was partially offset by increased raw material sales of
$1,058,000, which was primarily attributable to increased demand from
Natural Alternatives.
Medical Services revenue during the quarter ended June 30, 2004, increased
2.5%, or $62,000 to $2,512,000 as compared to $2,450,000 during the quarter
ended June 30, 2003. The increase in Medical Services revenue was
attributable to increased demand from Medline.
Grant revenue in the amount of $158,000 was generated from a Small Business
Innovation Research (SBIR) biodefense grant to DelSite. The total amount of
the grant awarded was up to $888,000 over a two-year period beginning in
March of 2004, depending on actual expenses for approved research. The
grant will fund additional development of GelVac[TM], DelSite's intranasal
vaccine delivery platform technology.
Gross margin was $3,178,000 during the quarter ended June 30, 2004, as
compared to $3,079,000 during the quarter ended June 30, 2003, an increase
of 3.2%. Gross margin as a percentage of revenue grew to 39.8% during the
second quarter of 2004 from 38.7% during the same quarter last year. The
increase in gross margin was attributable to a favorable shift in the mix of
products sold which was partially offset by higher manufacturing variances
of $316,000 primarily attributable to lower production volumes in the United
States.
Selling, general and administrative expenses during the quarter ended June
30, 2004, decreased $14,000 to $1,954,000 as compared to $1,968,000 during
the quarter ended June 30, 2003.
Product-support research and development during the quarter ended June 30,
2004, increased to $213,000 as compared to $170,000 during the quarter
ended June 30, 2003, primarily due to additional formulation development
activities as the Company pursues new customers. The Company continues to
focus the efforts of this group on product development in support of its
manufacturing business. Research and development for DelSite during the
quarter ended June 30, 2004, increased $373,000 or 59.3% to $1,002,000 as
compared to $629,000 during the quarter ended June 30, 2003, as product
development efforts for injectible and intranasal delivery platforms
continued and business development efforts increased.
Net interest expense during the quarter ended June 30, 2004, increased
$13,000 from the quarter ended June 30, 2003, to $54,000 for the quarter
ended June 30, 2004, as a result of higher debt balances.
Net loss for the second quarter of 2004 was $36,000 as compared to net
income of $339,000 for the same quarter last year, a decrease of $375,000
based on the factors described above. Loss per share for the second quarter
2004 was $0.00 compared to earnings per share of $0.03 for the second
quarter of 2003.
Six months ended June 30, 2004 compared to six months ended June 30, 2003
Revenue for the six months ended June 30, 2004 increased $465,000, or 3.1%,
to $15,331,000 as compared to $14,866,000 for the six months ended June 30,
2003. Consumer Services revenue for the six months ended June 30, 2004
increased $186,000 or 1.9% to $9,742,000 as compared to $9,556,000 for the
six months ended June 30, 2003. The increase in Consumer Services revenue
was primarily attributable to increased raw material sales of $1,377,000,
which was primarily attributable to increased demand from Natural
Alternatives and was partially offset by decreased sales of cosmetic
products of $288,000 and decreased specialty manufacturing sales of
$903,000, which was primarily attributable to decreased sales to a major
customer.
Medical Services revenue during the six months ended June 30, 2004 increased
$90,000 or 1.7% to $5,400,000 as compared to $5,310,000 for the six months
ended June 30, 2003. The increase in Medical Services revenue was
attributable to increased demand from Medline.
Gross margin for the six months ended June 30, 2004 increased $299,000 or
5.3% to $5,944,000 as compared to $5,645,000 for the six months ended June
30, 2003. Gross margin as a percentage of revenue increased to 38.8% for
the six months ended June 30, 2004 from 38.0% for the six months ended June
30, 2003. The increase in gross margin was attributable to a shift in
the mix of products toward higher margin product sales and was partially
offset by higher manufacturing variances of $123,000 that was primarily
attributable to lower production volumes in the United States.
Selling, general and administrative expenses for the six months ended June
30, 2004 increased $94,000 or 2.4% to $3,938,000 as compared to $3,844,000
for the six months ended June 30, 2003 primarily due to legal expenses
incurred in the settlement of the Singer lawsuit and continued legal
expenses incurred in defending the Company against claims made by Swiss
American Products.
Product-support research and development for the six months ended June 30,
2004 increased to $453,000 as compared to $377,000 for the six months ended
June 30, 2003 primarily due to additional formulation development activities
as the Company pursues new customers. The Company continues to focus the
efforts of this group on product development in support of its manufacturing
business. Research and development for DelSite for the six months ended
June 30, 2004 increased $426,000 or 31.8% to $1,766,000 as compared to
$1,340,000 for the six months ended June 30, 2003 as product development
efforts for injectible and intranasal delivery platforms continued and
business development efforts increased.
Net interest expense for the six months ended June 30, 2004 decreased $7,000
to $105,000 as compared to $112,000 for the six months ended June 30, 2003
as the result of lower interest rates on existing debt balances.
Net loss for the six months ended June 30, 2004 increased $321,000 to
$281,000 from net income of $40,000 for the six months ended June 30, 2003.
The increase is primarily due to the factors described above. Loss per
share for the six months ended June 30, 2004 was $0.03 as compared to an
earnings per share of $0.00 for the six months ended June 30, 2003.
OTHER ITEMS
Governmental Regulation
The Company is subject to regulation by numerous governmental authorities in
the United States and other countries. Certain of the Company's proposed
products will require governmental approval prior to commercial use. The
approval process applicable to pharmaceutical products and therapeutic
agents usually takes several years and typically requires substantial
expenditures. The Company and any licensees may encounter significant
delays or excessive costs in their respective efforts to secure necessary
approvals. Future United States or foreign legislative or administrative
acts could also prevent or delay regulatory approval of the Company's or any
licensees' products. Failure to obtain requisite governmental approvals or
failure to obtain approvals of the scope requested could delay or preclude
the Company or any licensees from marketing their products, or could limit
the commercial use of the products, and thereby have a material adverse
effect on the Company's liquidity and financial condition.
Cautionary Statements for the Purposes of the "Safe Harbor" Provisions for
"Forward-Looking Statements"
Certain statements contained in this report are "forward-looking statements"
within the meaning of Section 27A of the Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. Such
statements are subject to risks, uncertainties and other factors, which
could cause actual results to differ materially from future results
expressed or implied by such forward-looking statements. Potential risks
and uncertainties include, but are not limited to, the ability of the
Company and/or DelSite to obtain sufficient funds to finance DelSite's
proposed activities; the ability of DelSite to successfully exploit the
Company's new drug delivery technology; the adequacy of the Company's cash
resources and cash flow from operations to finance its current operations;
the Company's intention, plan or ability to repurchase shares of its
outstanding Common Stock; the Company's ability to obtain the quantity or
quality of raw materials it needs; and the impact of governmental
regulations. For further information about the risks, uncertainties and
other factors that could cause the Company's results to differ materially
from the results indicated by such forward-looking statements refer to the
Company's Annual Report on Form 10-K for the year ended December 31, 2003.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Fluctuations in interest rates on any variable rate debt instruments, which
are tied to the prime rate, would affect our earnings and cash flows but
would not affect the fair market value of the variable rate debt. The
Company's exposure to market risk from changes in foreign currency exchange
rates and the supply and prices of Aloe vera L. leaves has not changed
materially from its exposure at December 31, 2003, as described in the
Company's Annual Report on Form 10-K for the year then ended. See also,
"Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Liquidity and Capital Resources."
Item 4. Controls and Procedures
The Company's management under the supervision and with the participation of
its principal executive officer and principal financial officer, evaluated
the effectiveness of the Company's disclosure controls and procedures as of
the end of the period covered by this report. Based on that evaluation, its
principal executive officer and principal financial officer concluded that
the Company's disclosure controls and procedures as of the end of the period
covered by this report have been designed and are functioning effectively to
provide reasonable assurance that the information required to be disclosed
by the Company in reports filed under the Securities Exchange Act of 1934 is
recorded, processed, summarized and reported within the time periods
specified in the SEC's rules and forms. We believe that a controls system,
no matter how well designed and operated, can not provide absolute assurance
that the objectives of the controls system are met, and no evaluation of
controls can provide absolute assurance that all control issues and
instances of fraud, if any, within a company have been detected. There have
been no changes in the Company's internal control over financial reporting
during our most recent fiscal quarter that have materially affected, or are
reasonably likely to materially affect our internal control over financial
reporting.
Part II OTHER INFORMATION
Item 1. Legal Proceedings
On April 3, 2001, Arthur Singer, a former employee of the Company (the
"Plaintiff"), filed a lawsuit entitled Arthur Singer vs. Carrington
Laboratories, Inc. and Carlton Turner, CV-01-2084 in the United States
District Court for the Eastern District of New York, Long Island Division,
alleging multiple causes of action against the Company and its chief
executive officer (the "Defendants") and seeking damages in excess of $4.0
million, plus legal fees and expenses. The Plaintiff, who was formerly
employed by the Company as a sales representative, alleged in substance that
the Company failed to pay the full amount of commissions owed to him; that
the Defendants breached an alleged contract of employment with him; that the
Company deprived him of the opportunity to exercise some vested stock
options, prevented some of his unvested stock options from vesting and
caused all of his options to expire earlier than they otherwise would have;
and that the Defendants misrepresented that the Company intended to retain
him as an employee, fraudulently induced him to remain in its employ and
breached alleged covenants of fair dealing.
On May 31, 2001, the Defendants filed a motion seeking to have the complaint
dismissed or to have the case transferred to Texas. On August 28, 2001, the
Defendants' motion to transfer was granted, and the case was transferred to
the United States District Court for the Northern District of Texas, Dallas
Division, as Case No. 01-CV-1776.
The Defendants and Plaintiff then both filed motions for summary judgment.
On October 3, 2003, the court denied the Plaintiffs motion for summary
judgment and granted Defendants motion for summary judgment for all
complaints except three, the alleged damages for which total approximately
$56,000.
On January 5, 2004, a jury trial was held to settle the remaining claims,
with the jury finding for the Plaintiff on one claim, awarding $28,162, plus
interest, for unpaid commissions, and finding for the Defendants on a second
claim. The judge dismissed the third claim at the end of testimony, citing
lack of sufficient evidence to support the Plaintiff's claim. The court
awarded no legal fees or expenses to the Plaintiff. Total judgment was for
approximately $35,000, which was recorded as of the period ended December
31, 2003.
On June 23, 2004, the United States District Court denied the Plaintiff's
appeal for reasonable legal fees. On July 7, 2004, the Plaintiff filed a
motion of appeal with the Fifth Circuit Court regarding all judgments
entered by the District Court.
On June 22, 2001, a lawsuit styled Swiss-American Products, Inc. v. G. Scott
Vogel and Carrington Laboratories Inc., Cause No. 01-5163-A, was filed in
the 193rd Judicial District Court of Dallas County, Texas. On June 25,
2001, the Company was served with this lawsuit, an Ex Parte Temporary
Restraining Order, and an Order Appointing Independent Third Party Expert
Pursuant to Temporary Restraining Order. The suit alleges, among other
things, that Mr. Vogel (the Company's former Vice President, Operations)
improperly obtained proprietary information of Swiss-American Products, Inc.
("Plaintiff") from a former employer that manufactured products under
contract for Plaintiff, and used that information on behalf of the Company,
in breach of certain common law duties and a confidentiality agreement
between his former employer and Plaintiff. The suit further alleges that
Mr. Vogel and the Company ("Defendants") conspired to unlawfully disclose,
convert and misappropriate Plaintiff's trade secrets.
The suit seeks permanent injunctive relief, including a permanent injunction
prohibiting Defendants from disclosing or using to Plaintiff's disadvantage
any confidential proprietary information belonging to Plaintiff which Mr.
Vogel allegedly obtained from his former employer, or from developing or
marketing products based on Plaintiff's formulas or other information
allegedly taken from Mr. Vogel's former employer. The suit also seeks to
recover damages in an unspecified amount from Defendants.
Following a hearing on July 30, 2001, the trial court entered an order
setting the case for trial on July 30, 2002 and granted a temporary
injunction that prohibits Defendants from (i) disclosing or using any of
Plaintiff's confidential, proprietary or trade secret information; (ii)
developing or marketing a wound cleanser product that is the same or
substantially the same as reflected in a formula that is at issue in the
lawsuit (although this prohibition expressly does not apply to products
actively manufactured and sold by the Company before January 1, 2001 using
the exact same formula then in effect); and (iii) destroying, concealing,
altering, removing or disposing of any documents, files, computer data or
other things relating to Plaintiff or Mr. Vogel's former employer, or
containing or referring to trade secrets or confidential or proprietary
information of Plaintiff or Mr. Vogel's former employer.
A trial was held on October 7, 2003. Three days into the proceeding a
mistrial was declared due to juror misconduct. The trial judge subsequently
ordered the two parties to mediate the suit and such mediation was held on
May 17, 2004, despite the efforts of the mediator the parties were unable to
reach a settlement. Although a trial date had been set for June 1, 2004,
the court has moved the trial start date to September 21, 2004.
The Company believes that Plaintiff's claims are without merit and intends
to vigorously defend against those claims.
Item 2. Changes in Securities and Use of Proceeds
EQUITY SECURITIES REPURCHASE PROGRAM
In March 2001, the Board of Directors authorized the Company to repurchase
up to one million shares of its outstanding Common Stock. The Company
believes it has the financial resources necessary to repurchase shares from
time to time pursuant to the Board's repurchase authorization. The Company
did not repurchase any shares of its outstanding Common Stock during the
quarter ended June 30, 2004.
Item 4. Submission of Matters to a Vote of Security Holders
(a) The annual meeting of the shareholders of the Company was held
on May 20, 2004.
(b) Proxies were solicited by the Board of Directors of the Company
pursuant to Regulation 14A under the Securities and Exchange Act of 1934;
there was no solicitation in opposition to the Board of Directors' nominees
for director as listed in the proxy statement; and all of such nominees were
duly elected as reported below.
(c) Out of a total of 10,519,316 shares of the Company's common
stock outstanding and entitled to vote, 9,730,875 shares were present in
person or by proxy, representing approximately 92.5% of the outstanding
shares.
The first matter voted on by the shareholders, as fully described in
the proxy statement for the annual meeting, was the election of directors.
The following table presents the number of shares voted for, voted against,
and withheld for each nominee for director.
NOMINEE FOR NUMBER OF VOTES NUMBER OF VOTES NUMBER OF VOTES
DIRECTOR FOR AGAINST WITHHELD
-----------------------------------------------------------------------
Thomas J. Marquez 9,576,100 140,834 13,941
Selvi Vescovi 9,587,215 140,834 2,826
Ronald R. Blanck 9,587,215 140,834 2,826
Edwin Meese, III 9,586,900 140,834 3,141
The second matter voted on by the shareholders, as fully described in
the proxy statement for the annual meeting, was a proposal to amend the
Company's Employee Stock Purchase Plan to increase the aggregate number of
shares of Common Stock issuable under the plan from 1,000,000 to 1,250,000.
The proposal was adopted with the holders of 4,624,203 shares voting in
favor. The holders of 546,159 shares voted against the proposal, and the
holders of 42,290 shares abstained from voting. Broker non-votes totaled
4,518,223.
The third matter voted on by the shareholders, as fully described in
the proxy statement for the annual meeting, was a proposal to approve the
Company's 2004 Stock Option Plan to replace the Company's 1995 Stock Option
Plan. The proposal was adopted with the holders of 4,247,769 shares voting
in favor. The holders of 837,831 voted against the proposal, and the
holders of 127,052 shares abstained from voting. Broker non-votes totaled
4,518,223.
(d) Inapplicable.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
31.1 Rule 13a-14(a)/15d-14(a) Certification.
31.2 Rule 13a-14(a)/15d-14(a) Certification.
32.1 Section 1350 Certification.
32.2 Section 1350 Certification.
(b) Reports on Form 8-K
On April 22, 2004 the Company filed a Current Report on Form
8-K in which it reported that the Company had entered into an
Amendment to Distributor and License Agreement and Supply
Agreement with Medline Industries, Inc., effective April 9,
2004. The Amendment modified certain provisions between
Carrington and Medline and also extended the term of each of
the Agreements through November 30, 2008, and, subject to
certain refund rights more specifically described in the
Amendment, provided that Carrington will receive a $1.25
million advance payment of royalties in consideration of the
extended term of the Distributor and License Agreement.
On May 12, 2004, the Company filed a Current Report on Form
8-K in which it reported that it had released a press release
describing its financial results for the three-month period
ended March 31, 2004.
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.
CARRINGTON LABORATORIES, INC.
(Registrant)
Date: August 12, 2004 By: /s/ Carlton E. Turner
-----------------------------
Carlton E. Turner,
President and
Chief Executive Officer
(principal executive officer)
Date: August 12, 2004 By: /s/ Robert W. Schnitzius
-----------------------------
Robert W. Schnitzius,
Vice President and
Chief Financial Officer
(principal financial and
accounting officer)
INDEX TO EXHIBITS
Item Description
No.
31.1 CEO Certification of SEC Reports Pursuant to Rule 13a-14(a)/15d-
14(a), as adopted Pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002.
31.2 CFO Certification of SEC Reports Pursuant to Rule 13a-14(a)/15d-
14(a), as adopted Pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002.
32.1 CEO Certification of SEC Reports Pursuant to 18 U.S.C. Section
1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
32.2 CFO Certification of SEC Reports Pursuant to 18 U.S.C. Section
1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.