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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
Annual Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the fiscal year ended June 30, 2002 Commission File Number 0-20348
D & K HEALTHCARE RESOURCES, INC.
(Exact name of registrant as specified in its charter)
Delaware 43-1465483
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
8000 Maryland Avenue, Suite 920, St. Louis, Missouri 63105
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (314) 727-3485
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock, par value $.01
(Title of Class)
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 if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. /x/
State the aggregate market value of the voting stock held by
non-affiliates of the registrant: approximately $129,354,107 as of September 17,
2002.
Indicate the number of shares outstanding of each of the registrant's
classes of common stock, as of the latest practicable date: As of September 17,
2002, 14,578,966 shares of Common Stock, par value $.01, were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the following documents are incorporated by reference in
the Part of this report indicated below:
Part II - Registrant's 2002 Annual Report to Stockholders
Part III - Registrant's Proxy Statement for its 2002 Annual Meeting of
Stockholders
PART I
Item 1. Business
GENERAL
We are a wholesale distributor of pharmaceutical and related healthcare and
beauty aid products. We serve independent pharmacies, regional pharmacy
companies, national pharmacy chains and other healthcare providers. Our
independent and regional pharmacy customers are located in 24 states primarily
in the Midwest and South. Independent and regional pharmacies generally operate
single or multi-site locations in one or more states. National pharmacy chains
generally operate a large number of locations in multiple regions of the United
States. Our independent and regional pharmacy business has grown from $646.1
million in net sales in fiscal 2000 to $1.095 billion in fiscal 2002. Our
national pharmacy chain business has grown from $392.5 million in net sales in
fiscal 2000 to $1.247 billion in fiscal 2002. We sell branded pharmaceuticals
(approximately 92% of net sales in fiscal 2002), generic pharmaceuticals
(approximately 6% of net sales in fiscal 2002) and over-the-counter health and
beauty aids (approximately 2% of net sales in fiscal 2002). In addition to
distributing products to independent, regional and national pharmacies, we also
provide our products and services to other healthcare providers, including
hospitals, alternate-site care providers and pharmacy benefit management
companies.
On March 13, 2002, the Company declared a two-for-one stock split in the
form of a stock dividend, which was effective on April 11, 2002. All share and
per share amounts included in this report and in the consolidated financial
statements have been adjusted to retroactively reflect this stock split.
On July 5, 2001, we completed a secondary stock offering of approximately
4.8 million shares of our common stock. The net proceeds from the offering were
approximately $77 million, which were used to repay debt.
In July 2001, as part of the secondary stock offering, we increased our
ownership percentage in Pharmaceutical Buyers, Inc. (PBI) to 68% and in August
2001, we increased our ownership percentage another 2%. These additions were
accomplished with individuals exchanging PBI stock for shares of our common
stock. This exchange was provided for in the agreement for the original
transaction pursuant to which we acquired our initial 50% ownership interest.
These transactions are more fully described in Note 2 to our consolidated
financial statements.
On June 15, 2001, we acquired 100% of the outstanding stock of Diversified
Healthcare, LLC, a pharmaceutical distribution company based in Owensboro,
Kentucky that provides comprehensive pharmaceutical distribution services to
customers in the Midwest region.
We believe that our size, decentralized operating structure and high level
of customer service provide us with competitive advantages and position us to
benefit from trends impacting our industry. Our management believes that the
increasing size, scale and consolidation of the wholesale pharmaceutical
industry's national participants and their strategy to be primary or major
distributors to national pharmacy chains and other healthcare providers create
opportunities for us to effectively compete with them based on our business
focus and differentiated product offering.
INDUSTRY OVERVIEW
Wholesale pharmaceutical distributors serve pharmacies and other healthcare
providers by providing access to a single source for pharmaceutical and
healthcare products from hundreds of different manufacturers. In addition,
wholesale pharmaceutical distributors lower customer inventory costs, provide
efficient and timely product delivery and provide valuable inventory and
purchasing information. Customers also benefit from value-added programs
developed by wholesale pharmaceutical distributors to reduce costs and to
increase operating efficiencies for the customer, including packaging, stockless
inventory and pharmacy computer systems. One industry association analysis
estimates that wholesale distributors save the healthcare delivery system more
than $146 billion per year compared to purchasing directly from manufacturers.
Wholesale pharmaceutical distributors are an important distribution channel
for pharmaceutical manufacturers, accounting for approximately 72.4% of the
$174.4 billion of prescription drug sales to retailers and institutions during
2001. Wholesale pharmaceutical distribution industry sales increased from $2.4
billion in 1970 to more than $126.3
2
billion in 2001, and we expect them to continue to increase. The principal
factors contributing to this historical and expected growth are the following:
- AGING OF POPULATION. The number of individuals over age 50 in the United
States is projected to grow from 28% of the population presently to 32%
in 2010 and 35% by 2015. This demographic group represents the largest
percentage of new prescriptions filled and obtains more prescriptions
per capita annually than any other age group.
- INCREASED DRUG UTILIZATION. In recent years, a number of factors have
contributed to the increased utilization of drug-based therapies to
prevent and to treat disease. These factors include increased research
and development spending by pharmaceutical manufacturers leading to the
introduction of new pharmaceuticals, the lower costs of drug-based
therapy relative to surgery and increased direct to consumer advertising
by manufacturers.
- IMPORTANCE OF THE WHOLESALE DISTRIBUTION CHANNEL. Over the past decade,
as the cost and complexity of maintaining inventories and arranging for
delivery of pharmaceutical products has risen, manufacturers of
pharmaceuticals have significantly increased the distribution of their
products through wholesalers. Drug wholesalers are generally able to
offer their customers and suppliers more efficient distribution and
inventory management than pharmaceutical manufacturers. As a result,
from 1980 to 2001, the percentage of total pharmaceutical sales through
wholesale distributors increased from approximately 57.0% to
approximately 72.4%.
- RISING PHARMACEUTICAL COSTS. We believe that price increases for branded
pharmaceutical products by manufacturers will continue to equal or
exceed the overall increases in the Consumer Price Index. We believe
that these increases will be due in large part to relatively inelastic
demand for branded pharmaceuticals in the face of higher prices charged
for patented drugs as manufacturers attempt to recoup costs associated
with the development, clinical testing and FDA approval of new products.
From 1990 to 2001, the average retail price of a prescription increased
from $22.06 to $50.17.
CUSTOMERS AND PRODUCTS
Our customer base consists of independent pharmacies, regional pharmacy
companies, national pharmacy chains and other healthcare providers. Independent
pharmacies generally are community-based pharmacies, which we believe benefit
the most from our customized sales, information systems and other value added
services. Regional pharmacy companies generally focus on serving customers with
multiple sites in one or more states. National pharmacy chains generally have
stores located in more than one region in the United States and include the
pharmacy departments of supermarkets and mass merchandisers. Other healthcare
providers consist of hospitals, other alternate-site care providers (including
nursing homes, clinics, home health services and managed care organizations),
and pharmacy benefit management companies. We are committed to serving the
unique needs of independent and regional pharmacies and have structured our
business and operating model to be able to do this in an efficient and
profitable manner.
NET SALES
FISCAL YEARS ENDED
JUNE 30, 2000 JUNE 30, 2001 JUNE 30, 2002
------------- ------------- -------------
AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT
------ ------- ------ ------- ------ -------
(DOLLARS IN THOUSANDS)
Independent and regional $ 646,102 44.3% $ 748,399 45.5% $1,095,120 44.6%
pharmacies
National pharmacy chains 392,450 26.9% 796,611 48.4% 1,246,654 50.8%
Other healthcare providers 416,869 28.6% 98,148 5.9% 101,723 4.2%
PBI / Software sales (1) 2,626 0.2% 2,835 0.2% 10,251 0.4%
---------- ------ ---------- ------ ---------- ------
Total $1,458,047 100.0% $1,645,993 100.0% $2,453,748 100.0%
========== ====== ========== ====== ========== ======
- -------------
(1) For FY2002, includes sales from PBI, which is now consolidated.
3
During fiscal 2000, fiscal 2001 and fiscal 2002, our 10 largest customers
accounted for approximately 55.1%, 49.4%, and 56.4%, respectively, of our net
sales. Our largest customer during fiscal 2002 accounted for approximately 24%
of our net sales. Our largest customer in fiscal 2001 and fiscal 2000, which was
a different customer in each year, accounted for approximately 16% and 18% of
our net sales during those periods, respectively. In the fourth quarter of
fiscal 2000, our contracts with our two largest mail-order customers were
terminated by the customers. In each case, we were given the opportunity to
submit proposals to renew the contracts but elected not to do so at prices that
would have been required to retain the business. Sales to these customers in
fiscal 2000 represented approximately 18% and 5%, respectively, of our total net
sales for that period. The loss of these customers has not had a material
adverse effect on our sales. See Note 16 to our consolidated financial
statements for additional information regarding the impact of the loss of these
customers.
Independent and Regional Pharmacies
Consistent with our strategy since our inception, one of our primary
objectives has been to focus on serving the specialized needs of independent and
regional pharmacies while our larger national competitors have increasingly
organized their businesses around serving the primary needs of the national
pharmacy chain companies as well as their national contracts with group
purchasing organizations and pharmacy benefit managers. We have organized
ourselves to profitably and efficiently provide all of our services to our
independent and regional pharmacy customers from five distribution centers
located in four states, serving customers in 24 states primarily in the Midwest
and South. Our sales to independent and regional pharmacies grew from $646.1
million in fiscal 2000 to $1.095 billion in fiscal 2002. Each of our
distribution centers has the personnel and capabilities to autonomously provide
customized distribution, information systems, inventory management and other
services to our local independent pharmacy and regional pharmacy customers.
Our product offerings to independent and regional pharmacy companies
consist of more than 25,000 SKUs, including branded pharmaceuticals,
multi-source generics, private label products, repackaged pharmaceutical
products and over-the-counter health and beauty aids. We deliver our products
directly to the stores of our independent pharmacy customers and deliver both to
retail stores and to the warehouses of our regional pharmacy customers depending
on whether they have centralized inventory warehouses.
Our decentralized organization allows our distribution centers to form
strong, attentive and responsive business relationships with our independent and
regional pharmacy customers. Our specialized infrastructure and autonomous
distribution centers enable us to serve our independent and regional pharmacy
customers with a high level of customer service. We believe that we fulfill our
customers' orders with a high degree of accuracy and that our customers value
our flexibility and willingness to meet and accommodate their special requests
and needs. We believe that the large national wholesale distributors, which are
focused on and organized to serve primarily large national pharmacy chains and
national contracts, do not have the operating model or flexibility to service
independent and regional pharmacies as we do.
National Pharmacy Chains
By virtue of our strong independent and regional pharmacy business and our
competitive position and strong relationships with pharmaceutical manufacturers
and national pharmacy chain companies, we have built a business that serves as a
secondary supplier for the high-volume branded pharmaceutical distribution needs
of our manufacturers and national pharmacy chain customers. We provide our
national pharmacy chain customers with 700 to 800 high-volume, branded bulk
pharmaceuticals that we purchase from pharmaceutical manufacturers on favorable
terms. Our net revenues from these sales have grown from $392.5 million in
fiscal 2000 to $1.247 billion in fiscal 2002.
Our industry is subject to regulations that require organizations handling
the distribution or sale of pharmaceuticals to be able to trace the detailed
history of those specific products back to the manufacturer or an authorized
distributor. In order to ensure that we provide our customers with products that
have verifiable shipment histories, we purchase the vast majority of our
pharmaceuticals directly from manufacturers with the balance coming directly
from authorized distributors. As a result of our reputation and conservative
business practices, we believe that we are a desirable business partner for
pharmaceutical manufacturers and national pharmacy chains.
4
We utilize our longstanding manufacturer and national pharmacy chain
customer relationships to provide services that benefit both our customers and
our suppliers. Our management team has developed and maintains reputations and
contacts that enable them to identify opportunities to purchase branded
pharmaceuticals from manufacturers at attractive prices. In addition to the
experience and expertise of our management team in this area, we also employ
sophisticated information and inventory management systems to understand the
demand for particular products in advance of buying them for distribution. We
generally purchase only fast moving branded pharmaceuticals for supply to
national pharmacy chains. As a result, we minimize our inventory risk exposure
and have not experienced any material inventory expiration or obsolescence in
this part of our business. We have, however, had situations in which we have
sold pharmaceutical products to national pharmacy chains at prices lower than
what we expected when we procured those products.
ADDITIONAL SERVICES
Consistent with our strategy to offer a high level of customer service to
our pharmacy customers, we offer a number of proprietary information system,
marketing, and other business management solutions to assist our customers in
profitably operating and growing their businesses. Through our Tykon, Inc.
subsidiary, we develop and market a proprietary order entry/order confirmation
system to the drug distribution industry. We offer and fully support these
services from our distribution centers. We make these services available to all
of our customers, however our independent pharmacy customers have the most to
gain from them and are consequently the heaviest users of these services. In
providing our services and support to independent and regional pharmacy
customers, we give them access to resources and tools normally associated with
larger businesses. In so doing, we believe that we enable them to operate their
businesses more efficiently and that we increase our value to them.
We strive to offer services that enhance the operating efficiencies of our
customers and assist them in competing effectively. Principal elements of our
service offering to our customers include:
- RESOURCE(SM) a proprietary PC based order entry/order confirmation
system that completely automates all order creation, transmission and
confirmation operations and PARTNERS(SM) a fully automated and
customizable replenishment software system which helps pharmacies more
efficiently coordinate product supply and demand. Through these
proprietary order entry/order confirmation systems that completely
automate all order creation, transmission and confirmation operations,
our customers have the opportunity to improve their margins and
significantly reduce their working capital needs through effective
inventory management.
- SCRIPTMASTER(R) is our pharmacy dispensing management system, which
includes computerized order entry, point-of-sale capabilities, inventory
control, patient histories, drug interactions and pharmacy
reimbursement. This service provides cost savings and enhanced
efficiencies to pharmacy customers as well as valuable information on
prescription history for manufacturers.
We offer a broad range of merchandising and marketing services to our
independent pharmacy customers under our MedPlus(R) identity program. Under this
program, we plan and coordinate cooperative advertising programs and provide for
the availability of various promotional products, including a single-source
supply for generics at highly competitive prices from leading pharmaceutical
manufacturers. We also offer new product introduction programs, point-of-sale
materials, calendars, blood pressure testing units, automatic new product
distribution, rack jobbing, store fixturing and retail employee training
programs. Other services offered to independent pharmacies under MedPlus(R)
include: retail merchandising, inventory management systems, electronic order
entry, shelf labels and price stickers, private label products, monthly feature
promotions, home healthcare marketing programs, store layout assistance,
business management reports, pharmacy computer systems and monthly catalogs.
OPERATIONS
We are an organization of locally managed drug wholesale distribution
centers. Each distribution center has its own executive, sales and operations
staff. Management compensation at each center is determined by that center's
operating results. These operations utilize our corporate staff for procurement,
marketing, financial, legal and executive management resources and corporate
coordination of assets and working capital management. Our decentralized sales
and distribution network, combined with our centralized procurement and
corporate support staff structure, enable us to
5
provide high levels of specialized customer service while minimizing
administrative expenses and maximizing volume discounts for product purchases.
Our distribution centers include computer systems and sophisticated
materials handling equipment for receiving, storing and distributing large
quantities and varieties of products. We continuously seek to improve our
warehouse automation technologies to maximize operational efficiencies on a
cost-effective basis. We receive virtually 100% of our orders electronically
and, upon receipt of the customer's order at a distribution center, our
warehouse-management system produces a "picking document" containing product
selection, loading and truck routing information. The system also provides
customized price information (geared to local markets as determined by the
customer) or individual package price stickers to accompany each shipment to
facilitate the customer's pricing of the items. Virtually all items ordered from
our distribution centers are available and shipped by us less than 24 hours
after customers place the orders. Orders are delivered to customers by our fleet
of trucks and vans or by contract carriers.
SALES AND MARKETING
We employ sales representatives and customer service representatives at
each of our distribution centers. Our sales representatives receive regular
training to help them improve customer service and to provide them with the
skills and resources necessary to increase business with existing customers and
establish new customer relationships. We also maintain at each of our
distribution centers a telephone service department staffed with trained
representatives who answer customer questions and solve problems.
We focus our marketing efforts on developing and maintaining primary
relationships with customers. We emphasize frequent personal interaction between
our sales force and customers so that our customers learn to rely on our
dependability, responsiveness, accuracy of order filling and breadth of product
line. Our customers also rely on our sales force for assistance with
advertising, merchandising, stocking and inventory management.
We believe that our distribution center-based customer service departments
differentiate us from our national competitors; they are a key element in our
marketing program. Our decentralized customer service staffs focus on developing
relationships with our customers, responding quickly to customer inquiries and
placing orders accurately and efficiently.
PURCHASING AND INVENTORY CONTROL
We utilize sophisticated inventory control and purchasing software to track
our inventory, to analyze demand history and to project future demand. Our
system is designed to enhance profit margins by eliminating the manual ordering
process, allowing for automatic inventory replenishment and identifying
inventory buying opportunities.
We purchase products from approximately 1,200 manufacturers. We initiate
purchase orders with manufacturers through our information systems. During
fiscal 2002 and fiscal 2001, our 10 largest suppliers accounted for
approximately 71% and 66%, respectively, of our purchases by dollar volume. Our
largest supplier accounted for approximately 22% (by dollar volume) of our
purchases during fiscal 2002 and approximately 31% (by dollar volume) of our
purchases during fiscal 2001. Another vendor accounted for approximately 11% (by
dollar volume) of our purchases during fiscal 2002. As is common practice in our
industry, the majority of our supply contracts are terminable by either party
upon short notice and without penalty. We believe that our relationships with
our suppliers are good.
MANAGEMENT INFORMATION SYSTEMS
Each of our distribution centers operates as a distinct business with
complete system functionality including, order processing, inventory management,
accounts receivable, accounts payable, general ledger, master file maintenance,
and external and internal reporting. Historically, we have operated in a
distributed data processing environment. Each distribution center maintained its
own AS/400 system and Information Systems staff to support that function. Over
the past year, we have consolidated certain systems into data centers located in
St. Louis and Cape Girardeau. Each of the divisions is connected to the central
systems in St. Louis and Cape Girardeau.
In March 2000, we selected JD Edwards OneWorld(TM) product as our new
Enterprise Resource Planning software package. The OneWorld(TM) product is a
complete system that integrates sales order management, inventory
6
management, transportation management, customer service, accounts payable,
accounts receivable, general ledger and financial reporting. Once implementation
is complete, all systems will be consolidated in St. Louis and Cape Girardeau.
The new system will provide us with improved operations management and financial
reporting systems. Implementation of this system began in July 2000 and is
expected to be completed during fiscal 2003.
BUYING GROUP
In November 1995, we purchased 50% of Pharmaceutical Buyers, Inc. (PBI), a
Colorado-based group purchasing organization. PBI is one of the largest
pharmaceutical group purchasing organizations in the United States with over
2,000 member organizations. PBI's member organizations include long-term care
facilities, home infusion providers, and medical equipment distributors. In
connection with the secondary stock offering in July 2001, we increased our
ownership in PBI to 68% and an additional 2% was acquired in a subsequent
transaction in August 2001. The resulting required consolidation of PBI's
operations positively impacted our financial statements by increasing our gross
profit and gross margin percentage but has had no effect on our earnings per
share. See Note 13 to our consolidated financial statements.
COMPETITION
The wholesale distribution of pharmaceuticals, health and beauty aids, and
other healthcare products is highly competitive. National and regional
distributors compete primarily on the basis of service and price. Other
competitive factors include delivery service, credit terms, breadth of product
line, customer support, merchandising and marketing programs. We compete with
national and regional wholesale distributors, manufacturers and generic
pharmaceutical telemarketers and specialty distributors and with other wholesale
distributors for purchases of products and financial support in the form of
trade credit from manufacturers. Certain of our competitors, including McKesson
Corporation, AmeriSourceBergen Corporation and Cardinal Health, Inc., have
significantly greater financial and marketing resources than we do.
EMPLOYEES
As of August 31, 2002, we employed 456 persons, 408 of whom were full-time
employees. Approximately 25 employees at our Minneapolis, Minnesota distribution
center are covered by a collective bargaining agreement with the Miscellaneous
Drivers, Helpers and Warehousemen's Union, Local 638, which expires in March
2003. Approximately 11 employees at our Jewett Drug Co. subsidiary are covered
by a collective bargaining agreement with the General Drivers and Helpers Union
Local 749, affiliated with the International Brotherhood of Teamsters, which
expires February 29, 2004. In November 2001, the National Labor Relations Board
decertified the United Steelworkers of America as the collective bargaining
representative for approximately 34 employees at our Cape Girardeau, Missouri
distribution center. We believe that our employee relations are good.
FORWARD-LOOKING STATEMENTS
Certain statements in this document regarding future events, prospects,
projections or financial performance are forward looking statements. Such
forward looking statements are made pursuant to the safe harbor provisions of
the Private Securities Litigation Reform Act of 1995 and may also be identified
by words such as "anticipates," "believes," "estimates," "expects," "intends"
and similar expressions. Such statements are subject to risks and uncertainties
that could cause actual results to differ materially from those described in or
suggested by such forward looking statements. These risks and uncertainties
include the Company's ability to compete in a competitive industry, with many
competitors having substantially greater resources than the Company and the
Company's customers and suppliers generally having the right to terminate or
reduce their purchases or shipments on relatively short notice, changes in
interest rates, the Company's ability to maintain or improve its operating
margin with the industry's competitive pricing pressures, the changing business
and regulatory environment, including possible changes in reimbursement for
healthcare products and in manufacturers' pricing or distribution policies or
practices, the availability of investment purchasing opportunities, the loss of
one or more key suppliers for which alternative sources may not be available,
and the ability to integrate recently acquired businesses. Readers are cautioned
not to place undue reliance on these forward-looking statements that reflect the
Company's views as of the date hereof. The Company undertakes no obligation to
publicly update or revise any forward-looking statements.
7
Item 2. Properties
We conduct our business from a total of nine office, warehouse and
satellite depot facilities. Our primary operating facilities include:
LOCATION DESCRIPTION SQUARE FOOTAGE
-------- ----------- --------------
Cape Girardeau, Missouri (1).................... Distribution and administration 66,000
Lexington, Kentucky (1)......................... Distribution and administration 61,900
Minneapolis, Minnesota (2)...................... Distribution and administration 63,000
Aberdeen, South Dakota (1)...................... Distribution and administration 40,000
Weston, Florida (1)............................. Distribution and administration 24,000
Owensboro, Kentucky (2)........................ Distribution and administration 34,000
Caguas, Puerto Rico (1)......................... Distribution and administration 5,000
Boulder, Colorado (1)........................... PBI headquarters 5,500
St. Louis, Missouri (1)......................... Corporate offices 11,500
St. Louis, Missouri (3)......................... Corporate offices 31,765
- -------------
(1) Leased.
(2) Owned.
(3) Leased. To be occupied during fiscal 2003.
We also maintain warehouse and satellite depot facilities in Missouri and
Kentucky that enable us to efficiently distribute products on a timely basis. We
believe our facilities are adequate to support our present business plans.
Item 3. Legal Proceedings
No material legal proceedings are pending against us.
Item 4. Submission of Matters to a Vote of Security Holders
We did not submit any matters to a vote of our security holders during
the quarter ended June 30, 2002.
Item 4A. Executive Officers of the Registrant
The name, age and position of each of our executive officers are set
forth below.
J. Hord Armstrong, III, 61, has served as our Chairman of the Board, Chief
Executive Officer and Treasurer and as one of our directors since December 1987.
Prior to joining us, Mr. Armstrong served as Vice President and Chief Financial
Officer of Arch Mineral Corporation, a coal mining and sales corporation, from
1981 to 1987 and as its Treasurer from 1978 to 1981. Mr. Armstrong serves as a
Trustee of the St. Louis College of Pharmacy.
Martin D. Wilson, 41, has served as our President and Chief Operating
Officer since January 1996, as Secretary from August 1993 to April 1999 and as
one of our directors since 1997. Mr. Wilson previously served as our Executive
Vice President, Finance and Administration from May 1995 to January 1996, as our
Vice President, Finance and Administration from April 1991 to May 1995 and as
our Controller from March 1988 to April 1991. Prior to joining D&K, Mr. Wilson,
was associated with KPMG Peat Marwick, a public accounting firm.
Thomas S. Hilton, 50, has served as our Senior Vice President and Chief
Financial Officer since January 1999. Between May 1980 and June 1998, Mr. Hilton
was employed by the Peabody Group, a coal mining and sales corporation, serving
in a variety of management positions including Vice President and Treasurer from
March 1993 to May 1995 and as Vice President and Chief Financial Officer from
May 1995 to June 1998.
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Leonard R. Benjamin, 52, has served as our Vice President, General Counsel
and Secretary since April 1999. Between January 1999 and April 1999, Mr.
Benjamin was Assistant General Counsel of Innovex Corporation, a provider of
sales forces to the pharmaceutical industry. Between October 1998 and January
1999, Mr. Benjamin was counsel to KWS&P/SFA Inc., a software provider to the
pharmaceutical industry. Between April 1994 and July 1998, Mr. Benjamin was
employed by Walsh International Inc., a software provider to the pharmaceutical
industry, initially as Associate General Counsel and then as Vice President,
General Counsel and Secretary.
Brian G. Landry, 46, has served as our Vice President and Chief Information
Officer since April 2000. Mr. Landry previously served as Vice President, I.S.
product management from April 1999 to April 2000 and as Vice President and
General Manager of our Minneapolis distribution center from November 1996 to
April 1999. From October 1992 to October 1996, Mr. Landry was employed by
Cardinal Health as a general manager of a distribution center.
9
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
The information set forth under the caption "Price Range Per Common
Share" on page 1 of the registrant's 2002 Annual Report to Stockholders is
incorporated herein by this reference.
The following table contains certain information concerning shares of
common stock of the Company subject to options issued under the Company's 1992
Long-term Incentive Plan (as amended), 1993 Stock Option Plan (as amended) and
2001 Long-term Incentive Plan. The Company's stockholders have approved the 1992
Long-term Incentive Plan and the 2001 Long-term Incentive Plan. The 1993 Stock
Option Plan (the 1993 Plan) is for employees and certain other persons (other
than directors or executive officers of the Company) who perform services for
the Company. Under the 1993 Plan, the Company may grant options, which do not
qualify as Incentive Stock Options, at a price not less than fair market value
of the Company's common stock at the time of grant. The term of the options
shall not exceed 10 years from the date of grant. There were 700,000 shares
authorized under the 1993 Plan. The 1993 Plan did not require stockholder
approval.
EQUITY COMPENSATION PLAN INFORMATION
NUMBER OF SECURITIES
REMAINING AVAILABLE FOR
FUTURE ISSUANCE UNDER
NUMBER OF SECURITIES TO WEIGHTED-AVERAGE EQUITY COMPENSATION
BE ISSUED UPON EXERCISE EXERCISE PRICE OF PLANS (EXCLUDING
OF OUTSTANDING OPTIONS, OUTSTANDING OPTIONS, SECURITIES REFLECTED IN
WARRANTS AND RIGHTS WARRANTS AND RIGHTS COLUMN (a))
PLAN CATEGORY (a) (b) (c)
- -------------------------------------------------------------------------------------------------------------
Equity compensation plans
approved by stockholders 955,866 $14.30 841,000
- -------------------------------------------------------------------------------------------------------------
Equity compensation plans
not approved by
stockholders 136,250 $12.04 --
- -------------------------------------------------------------------------------------------------------------
TOTAL 1,092,116 $13.96 841,000
- -------------------------------------------------------------------------------------------------------------
Item 6. Selected Financial Data
The information set forth under the caption "Financial Highlights" on
page 1 of the registrant's 2002 Annual Report to Stockholders is incorporated
herein by this reference.
10
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
RESULTS OF OPERATIONS
The table below sets forth certain statement of operations data for the
last three fiscal years expressed as a percentage of net sales and in comparison
with the prior fiscal year. Unless otherwise indicated, for purposes of this
discussion, all references to "2002," "2001," and "2000" shall mean the
Company's fiscal years ended June 30, 2002, June 30, 2001, and June 30, 2000,
respectively.
-------------------------------------------- --------------------------------
Percentage Change from Prior
Percentage of Net Sales Year
-------------------------------------------- --------------------------------
2002 2001 2000 2001-2002 2000-2001
------------- ------------ ----------- ------------- ---------------
Net sales 100.00% 100.00% 100.00% 49.1% 12.9%
Gross profit 4.19% 4.18% 3.87% 49.4% 22.0%
Total operating expenses (2.30%) (2.54%) (2.34%) 34.9% 22.7%
------------- ------------ -----------
Income from operations 1.89% 1.64% 1.53% 72.0% 20.8%
Interest expense, net (0.40%) (0.72%) (0.66%) (18.7%) 24.1%
Other, net (0.03%) 0.00% 0.05% NM NM
Income tax provision (0.57%) (0.36%) (0.36%) 139.7% 13.2%
Minority interest (0.03%) - - NA NA
------------- ------------ -----------
Net income 0.86% 0.56% 0.56% 130.3% 11.5%
============= ============ ===========
FISCAL YEAR ENDED JUNE 30, 2002, COMPARED WITH THE FISCAL YEAR ENDED JUNE 30,
2001
NET SALES Net sales increased $807.8 million to $2.454 billion, or 49.1%,
for the fiscal year ended June 30, 2002, compared to the corresponding period of
the prior year. Sales growth was primarily in the independent and regional
pharmacy and national pharmacy chain groups. Sales to independent and regional
pharmacies increased $346.7 million to $1.095 billion, or 46.3%, as a result of
the net increase in sales to existing customers, the addition of DHI for a full
year, and the addition of new customers. National pharmacy chain sales increased
$450.0 million to $1.247 billion, or 56.5%, over fiscal 2001 as proceeds from
our equity offering were primarily used to capitalize on opportunities in this
trade class, while sales to healthcare providers increased $3.6 million to
$101.7 million, or 3.6%. The increase in net sales related to the consolidation
of PBI in fiscal 2002 was insignificant.
We made replenishment purchases and investment purchases, including both
forward purchasing and special purchasing opportunities, with our largest
supplier for fiscal 2002. We continue to make replenishment and forward
purchases, but do not anticipate any special purchasing opportunities in the
near future, with this supplier. If we are unable to identify and benefit from
other purchasing opportunities, then there could be a negative impact on our
revenues and earnings in future periods.
In addition, during fiscal 2002 we made $70.5 million in dock-to-dock
sales, which are not included in net sales due to our accounting policy of
recording only the commission on such transactions as a reduction to cost of
sales in our consolidated statements of operations. Dock-to-dock sales represent
bulk sales of pharmaceuticals to self-warehousing chain pharmacies for which we
act only as an intermediary in the order and subsequent delivery of products to
the customers' warehouses. The commission on dock-to-dock sales is typically
lower than the gross profit realized on sales of products from inventory.
Dock-to-dock sales were $85.1 million during fiscal 2001.
GROSS PROFIT Gross profit increased $34.0 million to $102.8 million, or
49.4%, for fiscal 2002, compared to the corresponding period of the prior year.
As a percentage of net sales, gross margin increased from 4.18% to 4.19% for the
fiscal year ended June 30, 2002, compared to the corresponding period of the
prior year. The slight increase in gross margin percentage was due to the
inclusion of PBI partially offset by competitive forces in the business and a
slightly higher mix of national pharmacy chain business that normally has lower
gross margins.
OPERATING EXPENSES Operating expenses (including depreciation and
amortization) increased $14.6 million to $56.5 million, or 34.9%, for the fiscal
year ended June 30, 2002 compared to the corresponding period of the prior year.
The ratio of operating expenses to net sales for fiscal 2002 was 2.30%, a 9.4%
decrease from the comparable period of the prior year. The increase in operating
expenses resulted from the inclusion of DHI and PBI operating
11
expenses during the year, a shift in sales mix to accounts requiring a higher
level of service, and higher depreciation expense related to portions of the new
ERP system being implemented. The ratio of operating expense to net sales fell
as a function of the increase in sales in national pharmacy business that has
lower incremental operating costs.
INTEREST EXPENSE, NET Net interest expense decreased $2.2 million to $9.7
million, or 18.7%, for the fiscal year ended June 30, 2002, compared to the
corresponding period of the prior year. As a percentage of net sales, net
interest expense decreased to 0.40% from 0.72% for fiscal 2002, compared to the
corresponding period of the prior year. The decrease in net interest expense was
primarily the result of lower average borrowing rates.
INCOME TAX PROVISION Our effective income tax rate was 39.3% for the fiscal
year ended June 30, 2002 compared to 39.2% for the corresponding period of the
prior year. These rates were different from the statutory blended federal and
state rates primarily because of the amortization of intangible assets that are
not deductible for federal and state income tax purposes. Our effective rate is
slightly higher than the corresponding period of last year due to the impact of
the sales mix on the blended state income tax rate.
MINORITY INTEREST We began recording minority interest during fiscal 2002
as a result of our additional investment in PBI in July 2001. Prior to fiscal
2002, our investment was treated under the equity method and our portion of the
earnings in PBI where recorded accordingly.
FISCAL YEAR ENDED JUNE 30, 2001, COMPARED WITH THE FISCAL YEAR ENDED JUNE 30,
2000
NET SALES Net sales increased $187.9 million to $1.646 billion, or 12.9%,
for the fiscal year ended June 30, 2001, compared to the corresponding period of
the prior year. Sales growth was primarily in the independent and regional
pharmacy and national pharmacy chain groups. Sales to independent and regional
pharmacies increased $102.3 million to $748.4 million, or 15.8%, as a result of
the net increase in sales to existing customers and the addition of new
customers. National pharmacy chain sales increased $404.2 million to $796.6
million, or 103.0%, over fiscal 2000 due to infrastructure investments and a
focused effort on this trade class, while sales to healthcare providers
decreased $318.7 million to $98.1 million, or 76.5%, as a result of the loss of
two mail order customers during the fourth quarter of fiscal 2000.
In addition, during fiscal 2001 we made $85.1 million in dock-to-dock
sales, which are not included in net sales due to our accounting policy of
recording only the commission on such transactions as a reduction to cost of
sales in our consolidated statements of operations. Dock-to-dock sales represent
bulk sales of pharmaceuticals to self-warehousing chain pharmacies for which we
act only as an intermediary in the order and subsequent delivery of products to
the customers' warehouses. The commission on dock-to-dock sales is typically
lower than the gross profit realized on sales of products from inventory.
Dock-to-dock sales were $46.8 million during fiscal 2000.
GROSS PROFIT Gross profit increased $12.4 million to $68.8 million, or
22.0%, for fiscal 2001, compared to the corresponding period of the prior year.
As a percentage of net sales, gross margin increased from 3.87% to 4.18% for the
fiscal year ended June 30, 2001, compared to the corresponding period of the
prior year. The increase in gross margin percentage was due to the
discontinuance of lower gross profit business from the mail order customers
mentioned above.
OPERATING EXPENSES Operating expenses (including depreciation and
amortization) increased $7.8 million to $41.9 million, or 22.7%, for the fiscal
year ended June 30, 2001 compared to the corresponding period of the prior year.
The ratio of operating expenses to net sales for fiscal 2001 was 2.54%, an 8.5%
increase from the comparable period of the prior year. The increase in operating
expenses and the ratio of operating expenses to net sales resulted primarily
from a shift in sales mix to accounts requiring a higher level of service and
related expense.
INTEREST EXPENSE, NET Net interest expense increased $2.3 million to $12.0
million, or 24.1%, for the fiscal year ended June 30, 2001, compared to the
corresponding period of the prior year. As a percentage of net sales, net
interest expense increased to 0.72% from 0.66% for fiscal 2001, compared to the
corresponding period of the prior year. The increase in net interest expense was
primarily the result of higher average borrowings related to our continued
growth.
INCOME TAX PROVISION Our effective income tax rate was 39.2% for the fiscal
year ended June 30, 2001 compared to 38.8% for the corresponding period of the
prior year. These rates were different from the statutory blended federal and
state rates primarily because of the amortization of intangible assets that are
not deductible for federal and state
12
income tax purposes. Our effective rate is slightly higher than the
corresponding period of last year due to the impact of the sales mix on the
blended state income tax rate.
LIQUIDITY AND CAPITAL RESOURCES
Our working capital requirements are generally met through a combination of
internally generated funds, borrowings under the revolving line of credit, the
accounts receivable securitization program, and trade credit from our suppliers.
On July 5, 2001, stockholders' equity was increased by approximately $77 million
as the result of our secondary stock offering. See Note 1 of our consolidated
financial statements.
We use the following ratios as key indicators of our liquidity and working
capital management:
JUNE 30, JUNE 30,
2002 2001
---- ----
Working capital (000s).................................. $ 182,636 $ 97,533
Current ratio........................................... 1.79 to 1 1.57 to 1
Working capital and current ratio at June 30, 2002 are higher than June 30,
2001 levels. Increases in inventory levels are related to seasonal sales
patterns and growth that have been partially offset by accounts payable
increases tied to timing of inventory receipts and related payments.
We invested $3.4 million in capital assets in fiscal 2002, as compared to
$3.5 million in the corresponding period in the prior year. The fiscal 2002 and
2001 expenditures were primarily related to the implementation of our new
Enterprise Resource Planning computer system, which is scheduled to be completed
during fiscal 2003. This system integrates sales order management, inventory
management, transportation management, customer service, accounts payable,
accounts receivable, general ledger and financial reporting. We believe that
continuing investment in capital assets is necessary to achieve our goal of
improving operational efficiency, thereby enhancing our productivity and
profitability.
Net cash inflows from financing activities totaled $61.3 million for the
year ended June 30, 2002 as compared to net cash outflows of $3.5 million for
the corresponding period in the prior year. During fiscal 2002, we received
proceeds from our secondary stock offering that was partially offset by
increased repayments under our revolving credit agreement. During the previous
year, the capacity under our accounts receivable securitization program
increased which made available funds for repayment of the revolving credit
facility.
On June 12, 2001, our revolving line of credit was amended to increase the
maximum borrowing capacity to $150 million and extend the term to August 2005.
Under the loan agreement, the total amount of loans and letters of credit
outstanding at any time may not exceed the lesser of an amount based on
percentages of eligible inventories (the borrowing base formula), or our maximum
borrowing capacity under this agreement but may not be less than $20 million.
The advances currently bear interest at a base rate of the London Interbank
Offering Rate (LIBOR) plus 1.75%, or at the prime rate plus 0.25% per annum
payable monthly. Through an interest rate swap agreement, we effectively fixed
the interest rate on $20 million of our revolving line of credit at a nominal
rate of 6.19%. At June 30, 2002 and June 30, 2001, the borrowing base formula
amounted to $241.4 million and $132.2 million, respectively. The unused portion
of the line of credit amounted to $71.3 million at June 30, 2002 and $56.9
million at June 30, 2001. The agreement expires in August 2005, and, therefore,
the related debt has been classified as long-term. The revolving line of credit
is secured by eligible inventories. In July 2002, our revolving line of credit
was amended to increase the maximum borrowing capacity to $200 million.
In the first quarter of fiscal 1999, we entered into an accounts receivable
securitization program under an asset securitization structure with our primary
lender. On June 8, 2001, this agreement was amended to increase the maximum
amount of receivables eligible to be sold to $150 million and the term was
extended to August 2005. At June 30, 2002, $120 million of this facility was
utilized. Under the program, undivided interests in a pool of eligible trade
receivables that have been contributed to the Seller are sold, without recourse,
to a multi-seller, asset backed commercial paper conduit ("Conduit"). Purchases
by the Conduit are financed with the sale of highly rated commercial paper. We
use the proceeds from the sale of our accounts receivable to repay long-term
debt, effectively reducing its overall borrowing costs. Funding costs under this
program are 4.85% on the first $50 million with the rate on the excess amounts
equal to the commercial paper rate. Certain program fees total an additional
0.75%. The portion of receivables not sold by the subsidiary remains an asset on
the balance sheet ($31.7 million as of June 30, 2002). In
13
August 2002, this agreement was amended to increase the maximum amount of
receivables eligible to be sold to $200 million.
Stockholders' equity increased to $167.4 million at June 30, 2002 from
$57.5 million at June 30, 2001, due to the impact of the equity offering and net
earnings during the period. We believe that funds available under the line of
credit and the securitization facility, together with internally generated
funds, will be sufficient to meet our capital requirements for the foreseeable
future.
INFLATION
Our financial statements are prepared on the basis of historical costs and
are not intended to reflect changes in the relative purchasing power of the
dollar. Because of our ability to take advantage of forward purchasing
opportunities, we believe that our gross profits generally increase as a result
of manufacturers' price increases in the products we distribute. Gross profits
may decline if the rate of price increases by manufacturers declines.
Generally, price increases are passed through to customers as they are
received by us and therefore reduce the negative effect of inflation. Other
non-inventory cost increases, such as payroll, supplies and services, have been
partially offset during the past three years by increased volume and
productivity.
RECENT TRENDS
During the first two months of the fiscal 2003 first quarter, the
Company's internal revenue and margin objectives for its national chain business
were not achieved. The sales shortfall is principally the result of fewer than
expected purchasing and sales opportunities available during the period. The
Company's sales in the national chain business have been variable from month to
month historically, driven largely by opportunistic purchases from
pharmaceutical companies for distribution primarily to national chains.
Additionally, the Company's growth in sales to the independent and
regional pharmacy trade class has trended below internal expectations in the
first two months of the quarter of fiscal 2003. The Company now expects this
trade class to achieve growth of approximately 10%, year-over-year, in the first
quarter. While below expectations, this performance should enable the Company to
further expand its share of this trade class, despite the unusually strong
growth it achieved in the year-ago first quarter. The Company believes its sales
performance in the trade class reflects a recent softening in retail sales
trends now being exhibited across the country. The Company also believes the
retail sales trends reflect a greater than expected revenue impact from generic
drugs' encroachment on branded pharmaceuticals, the impact of increasingly
higher prescription co-payment costs as well as funding challenges across most
state Medicaid systems.
CRITICAL ACCOUNTING POLICIES
The Company's more critical accounting policies include the accounts
receivable securitization program, the valuation of long-lived assets, and the
use of estimates (which inherently involve judgment and uncertainties) in
valuing accounts receivable.
Accounts Receivable Securitization Program
The Company and its wholly-owned, bankruptcy-remote subsidiary ("Seller")
has an accounts receivable securitization program. Under the program, undivided
interests in a pool of eligible trade receivables that have been contributed to
the Seller are sold, without recourse, to a multi-seller, asset backed
commercial paper conduit ("Conduit"). Purchases by the Conduit are financed with
the sale of highly rated commercial paper. The Company utilizes proceeds from
the sale of its accounts receivable to repay long-term debt, effectively
reducing its overall borrowing costs. Under the provisions of SFAS No. 125,
"Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities," (as amended by SFAS No. 140) the securitization transactions
have been recorded as sales, with those accounts receivable sold to the Conduit
removed from the consolidated balance sheet. The Seller is a separate legal
entity from the Company. The Seller's assets are available first and foremost to
satisfy the claims of its creditors. Eligible receivables, as defined in the
securitization agreement, consist of trade receivables from our subsidiaries,
excluding non-pharmaceutical receivables, reduced for certain items, including
past due balances and
14
concentration limits. Of the eligible pool of receivables contributed to the
Seller, undivided interests in only a portion of the pool are sold to the
Conduit. The portion of eligible receivables not sold to the Conduit remains an
asset of the Seller. The Seller's interest in these receivables is subordinate
to the Conduit's interest in the event of default under the securitization
agreement.
Valuation of Goodwill and Intangible Assets
Goodwill and certain identifiable intangibles assets are reviewed when
events or circumstances indicate that the net book value may not be recoverable.
Under SFAS No. 142,"Goodwill and Other Intangible Assets", goodwill and
intangible assets that have indefinite lives will no longer be amortized but
will be tested for impairment annually or more frequently if circumstances
indicate potential impairment. Other intangible assets will continue to be
amortized over their estimated useful lives.
Accounts Receivable
We perform ongoing credit evaluations of our customers, including reviews
of their current credit information, and adjust credit limits based upon payment
history and the customer's current credit worthiness. We continuously monitor
collections and payments from customers and maintain a provision for estimated
credit losses based upon the Company's historical experience and any specific
customer collection issues that have been identified. However, the ultimate
collectibility of a receivable is dependent upon the financial condition of an
individual customer, which could change rapidly and without advance warning.
NEW ACCOUNTING STANDARDS
The Financial Accounting Standards Board has issued SFAS No. 141, "Business
Combinations." SFAS No. 141 requires that all business combinations initiated
after June 30, 2001 be accounted for under the purchase method and addresses the
initial recognition and measurement of goodwill and other intangible assets
acquired in a business combination. SFAS 141 is effective for all business
combinations completed after June 30, 2001. See Note 2 of our consolidated
financial statements.
The Financial Accounting Standards Board has issued SFAS No. 142, "Goodwill
and Other Intangible Assets." Under the new standard, we will no longer be
required or permitted to amortize goodwill or other intangible assets with
indefinite lives reflected on the balance sheet. We will, however, be required
to evaluate these items reflected on the balance sheet to determine whether they
are impaired under the guidelines of the standard. Other intangible assets with
definite lives will continue to be amortized over their estimated useful lives.
We adopted SFAS No. 142 as of July 1, 2002. As a result of this adoption, the
Company will recognize an impairment loss of approximately $7.0 million ($4.2
million net of tax) during the first quarter of fiscal 2003. This will be
recognized as the cumulative effect of a change in accounting principle. This
impairment results from an appraisal valuation and relates to goodwill
originally established for the acquisition of Jewett Drug Co. The earnings per
share impact of goodwill amortization during fiscal 2002 was $0.08 per share.
The Financial Accounting Standards Board has issued SFAS No. 143, "Asset
Retirement Obligations" in June 2001. SFAS 143 provides guidance on accounting
and reporting for obligations associated with the retirement of tangible
long-lived assets and associated retirement costs. We adopted this statement in
fiscal 2002, and it did not affect our consolidated financial position.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-lived Assets", which supersedes SFAS 121,
"Accounting for Long-lived Assets and for Long-lived Assets to be Disposed Of",
and Accounting Principles Board Opinion No. 30, "Reporting the Results of
Operations - Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions". SFAS
144 establishes a single accounting model, based on the framework established in
SFAS 121, for long-lived assets to be disposed of by sale. We are in the process
of evaluating the adoption of this standard, but do not believe it will have a
material impact on our consolidated financial statements.
The FASB issued SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and
64, Amendment of FASB Statement No. 13, and Technical Corrections." This
statement updates, clarifies and simplifies existing accounting pronouncements
related to accounting for gains and losses from the extinguishments of debt and
accounting for certain
15
lease modifications. We are in the process of evaluating the adoption of this
standard, but do not believe it will have a material impact on our consolidated
financial statements.
The FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or
Disposal Activities." This statement addresses the accounting for costs
associated with disposal activities covered by SFAS No. 144 or with exit
activities previously covered by EITF 94-3. This statement will be applied
prospectively to any exit or disposal activities that we initiate after December
31, 2002.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Our primary exposure to market risk consists of changes in interest
rates on borrowings. An increase in interest rates would adversely affect the
operating results and the cash flow available to fund operations and expansion.
Based on the average variable borrowings, a change of 25 basis points in the
average variable borrowing rate would result in a change of approximately $0.4
million in annual interest expense. We continually monitor this risk and review
the potential benefits of entering into hedging transactions, such as interest
rate swap agreements, to mitigate the exposure to interest rate fluctuations.
Our hedging arrangements at June 30, 2002 are described in Note 8 to our audited
consolidated financial statements.
Item 8. Financial Statements and Supplementary Data
PAGE
---------------------------------------
Independent Auditors' Report Page 17
Consolidated Balance Sheets at June 30, 2002 and June 30, 2001 Page 19
Consolidated Statements of Operations for the years ended June 30, 2002,
June 30, 2001, and June 30, 2000 Page 20
Consolidated Statements of Stockholders' Equity for the years
Ended June 30, 2002, June 30, 2001, and June 30, 2000 Page 21
Consolidated Statements of Cash Flows for the years ended June 30, 2002,
June 30, 2001, and June 30, 2000 Page 22
Notes to Consolidated Financial Statements Page 23
16
INDEPENDENT AUDITORS' REPORT
The Board of Directors
D&K Healthcare Resources, Inc.:
We have audited the accompanying consolidated financial statements of D&K
Healthcare Resources, Inc. and subsidiaries as of June 30, 2002, and the related
consolidated statements of operations, stockholders' equity and cash flows for
the year then ended. In connection with our audit of the consolidated financial
statements, we also have audited the financial statement schedule. These
consolidated financial statements and the financial statement schedule are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements and the financial statement
schedule based on our audit. The consolidated financial statements and the
financial statement schedule of D&K Healthcare Resources, Inc. and subsidiaries
as of June 30, 2001, and for each of the years in the two-year period then
ended, were audited by other auditors who have ceased operations. Those auditors
expressed an unqualified opinion on those consolidated financial statements and
financial statement schedule, before the restatement described in Note 1 to the
consolidated financial statements, in their report dated August 7, 2001.
We conducted our audit in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of D&K Healthcare
Resources, Inc. and subsidiaries as of June 30, 2002, and the results of their
operations and their cash flows for the year then ended in conformity with
accounting principles generally accepted in the United States of America. Also,
in our opinion, the related financial statement schedule, when considered in
relation to the basic consolidated financial statements taken as a whole,
presents fairly, in all material respects, the information set forth therein.
As discussed above, the consolidated financial statements of D&K Healthcare
Resources, Inc. and subsidiaries as of June 30, 2001, and for each of the years
in the two-year period then ended, were audited by other auditors who have
ceased operations. As described in Note 1, the Company declared a two-for-one
stock split in the form of a stock dividend during the year ending June 30,
2002, and the amounts in the consolidated financial statements as of June 30,
2001, and for each of the years in the two-year period then ended, relating to
all share and per share amounts have been restated to retroactively reflect this
stock split. We audited the adjustments that were applied to restate the share
and per share amounts reflected in the June 30, 2001 and 2000 consolidated
financial statements. In our opinion, such adjustments are appropriate and have
been properly applied. However, we were not engaged to audit, review, or apply
any procedures to the June 30, 2001 and 2000 consolidated financial statements
of D&K Healthcare Resources, Inc. and subsidiaries other than with respect to
such adjustments and, accordingly, do not express an opinion or any other form
of assurance on the June 30, 2001 and 2000 consolidated financial statements
taken as a whole.
/s/ KPMG LLP
St. Louis, Missouri
August 7, 2002
17
THIS IS A COPY OF A REPORT PREVIOUSLY ISSUED BY ARTHUR ANDERSEN LLP AND HAS NOT
BEEN REISSUED BY ARTHUR ANDERSEN LLP. ALL SHARE AND PER SHARE AMOUNTS INCLUDED
IN THE CONSOLIDATED FINANCIAL STATEMENTS FOR FISCAL 2001 AND 2000 HAVE BEEN
ADJUSTED TO RETROACTIVELY REFLECT A TWO-FOR-ONE STOCK SPLIT IN THE FORM OF A
STOCK DIVIDEND THAT OCCURRED IN FISCAL 2002.
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To D&K Healthcare Resources, Inc.:
We have audited the accompanying consolidated balance sheets of D&K Healthcare
Resources, Inc. (a Delaware corporation) and subsidiaries as of June 30, 2001
and 2000, and the related consolidated statements of operations, stockholders'
equity and cash flows for each of the three years in the period ended June 30,
2001. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of D&K Healthcare Resources, Inc.
and subsidiaries as of June 30, 2001 and 2000, and the results of their
operations and their cash flows for each of the three years in the period ended
June 30, 2001, in conformity with accounting principles generally accepted in
the United States.
Our audit was made for the purpose of forming an opinion on the basic financial
statements taken as a whole. Schedule II is presented for purposes of complying
with the Securities and Exchange Commission's rules and is not part of the basic
financial statements. This schedule has been subjected to the auditing
procedures applied in the audit of the basic financial statements and, in our
opinion, fairly states in all material respects the financial data required to
be set forth therein in relation to the basic financial statements taken as a
whole.
/s/ Arthur Andersen LLP
St. Louis, Missouri
August 7, 2001
18
D&K HEALTHCARE RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data)
JUNE 30, 2002 JUNE 30, 2001
------------- -------------
ASSETS
Current Assets
Cash (including restricted cash of $11,754 and $7,516
respectively) $ 11,754 $ 7,516
Receivables, net of allowance for doubtful accounts of
$1,374 and $2,197, respectively 31,217 45,131
Inventories 364,244 214,739
Deferred income taxes 897 1,540
Prepaid expenses and other current assets 5,802 1,124
--------- ---------
Total current assets 413,914 270,050
Property and Equipment, net of accumulated depreciation
and amortization 11,104 10,865
Investment in PBI -- 4,552
Other Assets 5,024 2,758
Goodwill, net of accumulated amortization 51,131 41,979
Other Intangible Assets, net of accumulated amortization 1,965 --
--------- ---------
Total assets $ 483,138 $ 330,204
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Current maturities of long-term debt $ 2,270 $ 320
Accounts payable 215,777 158,930
Accrued expenses 13,231 13,267
--------- ---------
Total current liabilities 231,278 172,517
Long-term Liabilities 2,757 2,300
Deferred Income Taxes 249 3,388
Long-term Debt 81,457 94,489
--------- ---------
Total liabilities 315,741 272,694
Stockholders' Equity
Preferred stock -- --
Common stock 151 47
Paid-in capital 124,089 34,006
Accumulated other comprehensive loss (887) (356)
Retained earnings 49,590 29,359
Less treasury stock (5,546) (5,546)
--------- ---------
Total stockholders' equity 167,397 57,510
--------- ---------
Total liabilities and stockholders' equity $ 483,138 $ 330,204
========= =========
Preferred stock has no par value; 1 million shares are authorized. At June 30,
2002 and 2001, no shares were issued or outstanding.
Common stock has a par value of $.01 per share; 25 million shares are
authorized; 15,146,602 and 9,416,062 shares were issued at June 30, 2002 and
2001, respectively. At June 30, 2002, 14,553,802 shares were outstanding and
592,800 shares were held in treasury. At June 30, 2001, 8,823,262 shares were
outstanding and 592,800 shares were held in treasury.
The accompanying notes are an integral part of these statements.
19
D&K HEALTHCARE RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data) For the Years Ended
-------------------------------------------------------------
JUNE 30, 2002 JUNE 30, 2001 JUNE 30, 2000
------------- ------------- -------------
Net Sales $ 2,453,748 $ 1,645,993 $ 1,458,047
Cost of Sales 2,350,917 1,577,169 1,401,625
----------- ----------- -----------
Gross profit 102,831 68,824 56,422
Depreciation and Amortization 4,453 3,428 3,118
Operating Expenses 52,039 38,450 31,005
----------- ----------- -----------
Income from operations 46,339 26,946 22,299
----------- ----------- -----------
Other Income (Expense):
Interest expense (10,386) (13,311) (10,643)
Interest income 667 1,352 1,007
Equity in net income of PBI -- 607 634
Other, net (710) (563) 102
----------- ----------- -----------
(10,429) (11,915) (8,900)
----------- ----------- -----------
Income before income tax provision
and minority interest 35,910 15,031 13,399
Income Tax Provision (14,113) (5,887) (5,200)
Minority Interest (738) -- --
=========== =========== ===========
Net income $ 21,059 $ 9,144 $ 8,199
=========== =========== ===========
Basic Earnings Per Share $ 1.48 $ 1.08 $ 0.97
=========== =========== ===========
Diluted Earnings Per Share $ 1.42 $ 1.01 $ 0.92
=========== =========== ===========
The accompanying notes are an integral part of these statements.
20
D&K HEALTHCARE RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(in thousands)
ACCUMULATED
OTHER
COMMON PAID-IN COMPREHENSIVE RETAINED TREASURY
STOCK CAPITAL LOSS EARNINGS STOCK TOTAL
----- ------- ---- -------- ----- -----
BALANCE AT JUNE 30, 1999 $ 44 $ 29,555 $ -- $ 12,232 $ (944) $ 40,887
Net Income -- -- -- 8,199 8,199
Stock options exercised, including tax benefit 1 780 -- -- -- 781
Treasury stock acquired -- -- -- -- (4,602) (4,602)
--------- --------- --------- --------- --------- ---------
BALANCE AT JUNE 30, 2000 45 30,335 -- 20,431 (5,546) 45,265
Comprehensive income:
Net income -- -- -- 9,144 -- 9,144
Change in value of cash flow hedge, net of $227 tax
benefit -- -- (356) -- -- (356)
---------
Total comprehensive income 8,788
Stock options exercised, including tax benefit 2 3,671 -- -- -- 3,673
Dividends paid ($0.05/share) -- -- -- (216) -- (216)
--------- --------- --------- --------- --------- ---------
BALANCE AT JUNE 30, 2001 $ 47 $ 34,006 $ (356) $ 29,359 $ (5,546) $ 57,510
--------- --------- --------- --------- --------- ---------
Comprehensive income:
Net income -- -- -- 21,059 -- 21,059
Change in value of cash flow hedge, net of $347 tax
benefit -- -- (531) -- -- (531)
---------
Total comprehensive income 20,528
Secondary stock offering 24 76,838 -- -- -- 76,862
Shares issued upon acquisition of PBI 2 6,905 -- -- -- 6,907
Stock options exercised, including tax benefit 3 6,340 -- -- -- 6,343
Stock split in the form of a stock dividend 75 -- -- (75) -- --
Dividends paid ($0.0525/share) -- -- -- (753) -- (753)
--------- --------- --------- --------- --------- ---------
BALANCE AT JUNE 30, 2002 $ 151 $ 124,089 $ (887) $ 49,590 $ (5,546) $ 167,397
The accompanying notes are an integral part of these statements.
21
D&K HEALTHCARE RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands) For the Years Ended
-------------------------------------------------------
JUNE 30, 2002 JUNE 30, 2001 JUNE 30, 2000
------------- ------------- -------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 21,059 $ 9,144 $ 8,199
Adjustments to reconcile net income to net cash
flows from operating activities--
Depreciation and amortization 4,453 3,428 3,118
Amortization of debt issuance costs 1,096 1,126 764
Loss / (gain) from sale of assets 333 (57) (16)
Equity in net income of PBI -- (607) (634)
Deferred income taxes (1,796) (1,653) 270
Decrease (increase) in receivables, net 15,478 (5,577) (15,034)
(Increase) decrease in inventories (149,204) 2,472 (36,839)
Increase in prepaid expenses and other
current assets (5,576) (722) (792)
Increase (decrease) in accounts payable 56,626 7,519 (7,526)
Increase in accrued expenses 4,419 3,972 963
Other, net (1,800) 925 (427)
--------- --------- ---------
Net cash flows from operating activities (54,912) 19,970 (47,954)
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Payments for acquisitions, net of cash acquired 961 (9,037) --
Investment in other assets (200) (650) (804)
Cash dividend from PBI -- 450 350
Purchases of property and equipment (3,445) (3,450) (3,270)
Proceeds from sale of assets 543 57 16
--------- --------- ---------
Net cash flows from investing activities (2,141) (12,630) (3,708)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Borrowings under revolving line of credit 896,667 662,183 538,303
Repayments under revolving line of credit (912,752) (667,023) (479,767)
Proceeds from secondary stock offering 76,862
Proceeds from equipment loan -- -- 965
Payments of long-term debt (757) (17) (283)
Payments of capital lease obligations (236) (286) (118)
Proceeds from exercise of stock options 2,260 2,349 399
Payment of dividends (753) (216) --
Purchase of treasury stock -- -- (4,602)
Payments of deferred debt costs -- (475) (282)
--------- --------- ---------
Net cash flows from financing activities 61,291 (3,485) 54,615
--------- --------- ---------
Increase in cash 4,238 3,855 2,953
Cash, beginning of period 7,516 3,661 708
--------- --------- ---------
Cash, end of period $ 11,754 $ 7,516 $ 3,661
--------- --------- ---------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the period for--
Interest $ 9,258 $ 12,139 $ 10,499
Income taxes, net $ 11,076 $ 7,168 $ 3,698
The accompanying notes are an integral part of these statements.
22
D&K HEALTHCARE RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
The consolidated financial statements include the accounts of all divisions and
wholly-owned and majority-owned subsidiaries of D&K Healthcare Resources, Inc.
(the Company). All significant intercompany accounts and transactions are
eliminated.
Fiscal Year
The Company's fiscal year end is June 30. References to years relate to fiscal
years rather than calendar years unless otherwise stated.
Concentration of Credit Risk
The Company is a full-service, regional wholesale drug distributor. From
facilities in Missouri, Kentucky, Minnesota, South Dakota and Florida, the
Company distributes a broad range of pharmaceutical products, health and beauty
aids and related products to its customers in more than 24 states. The Company
is focused on serving the unique needs of independent and regional pharmacies
and have structured its business and operating model to be able to do this in an
efficient and profitable manner.
In 2002, sales to one customer represented approximately 24% of total net sales.
In 2001, sales to one customer represented approximately 16% of total net sales.
In 2000, sales to one customer represented approximately 18% of total net sales.
The supply contracts with two customers (including the Company's then largest
customer), representing approximately 23% of fiscal 2000 sales, were terminated
in the fourth quarter of fiscal 2000.
Use of Estimates
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
Revenue Recognition
Revenue is recognized when products are shipped or services are provided to
customers. Shipping and handling costs associated with the shipment of goods are
recorded as operating expenses in the consolidated statements of operations.
During 2002, 2001 and 2000, the Company had $70.5 million, $85.1 million, and
$46.8 million, respectively, of "dock-to-dock" sales, which are excluded from
net sales due to the Company's policy of recording only the commission on such
transactions as a reduction against cost of goods sold in the consolidated
statements of operations. Dock-to-dock sales represent large volume sales of
pharmaceuticals to major self-warehousing retail chain pharmacies whereby the
Company acts as an intermediary in the order and subsequent delivery of products
to the customers' warehouses.
Restricted Cash
Restricted cash of $11.8 million and $7.5 million, respectively, at June 30,
2002 and June 30, 2001, represents cash receipts from customers that must be
used to reduce borrowings under the revolving line of credit and are included in
cash.
23
Inventories
Inventories consist of pharmaceutical drugs and related over-the-counter items,
which are stated at the lower of cost or market. Cost is determined using the
first-in, first-out method.
Property and Equipment
Property and equipment is stated at cost, net of accumulated depreciation and
amortization. Depreciation and amortization are charged to operations primarily
using the straight-line method over the shorter of the estimated useful lives of
the various classes of assets, which vary from 2 to 30 years, or the lease term
for leasehold improvements. For income tax purposes, accelerated depreciation
methods are used. Repairs and maintenance costs are expensed as incurred.
Intangible Assets
Intangible assets are stated at cost less accumulated amortization. Amortization
is determined using the straight-line method over the estimated useful lives of
the related assets.
Long-Lived Assets
If facts and circumstances suggest that a long-lived asset, including intangible
assets, may be impaired, the carrying value is reviewed. If this review
indicates that the carrying value of the asset will not be recovered, as
determined based on projected undiscounted cash flows related to the asset over
its remaining life, the carrying value of the asset is reduced to its estimated
fair value. See Note 16 regarding implementation of SFAS No. 142.
Interest Rate Risk Management
Effective July 1, 2001, the Company adopted Statement of Financial Accounting
Standard No. 133, "Accounting for Derivatives and Hedging Activities", as
amended by SFAS No. 138 "Accounting for Certain Derivative Instruments and
Certain Hedging Activities." Under these standards, all derivative instruments
are recorded at fair value on the balance sheet and all changes in fair value
are recorded to earnings or to stockholders' equity through other comprehensive
income. The adoption of these standards did not have a material impact on the
Company's consolidated financial statements taken as a whole. The Company does
not use derivative instruments for trading or speculative purposes.
Income Taxes
Deferred tax assets and liabilities are recognized for estimated future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective basis
for income tax purposes. Deferred tax assets and liabilities are measured and
recorded using enacted tax rates in effect for the year in which those temporary
differences are expected to be recovered or settled.
Book Overdrafts
Accounts payable includes book overdrafts (outstanding checks) of $17.1 million
and $10.6 million at June 30, 2002 and June 30, 2001, respectively.
Stockholders' Equity
Treasury Stock. In May 1999, the board of directors authorized the repurchase of
up to 600,000 shares of the Company's outstanding common stock. The shares were
acquired in the open market during the twelve-month period from the date of
authorization. Of the 600,000 shares authorized, 592,800 shares were purchased
during the program.
24
Equity Offering. On July 5, 2001, the Company completed a secondary offering of
approximately 4.8 million shares of common stock with net proceeds of
approximately $77 million.
Authorization of additional shares of Common Stock. In January 2002, the Board
of Directors amended the Certificate of Incorporation of the Company to increase
the number of authorized shares of Common Stock to 25 million shares.
Stock Split. On March 13, 2002, the Company declared a two-for-one stock split
in the form of a stock dividend and distributed on April 11, 2002 to
shareholders of record on March 29, 2002. All share and per share amounts
included in the consolidated financial statements have been adjusted to
retroactively reflect this stock split.
Earnings per Share
Statement of Financial Accounting Standards No. 128, "Earnings per Share" (SFAS
No. 128) requires a dual presentation of basic and diluted earnings per share.
Basic earnings per share excludes dilution and is computed by dividing net
income by the weighted average number of common shares outstanding for the
period. Diluted earnings per share reflects the potential dilution that would
occur if securities or other contracts to issue common stock were exercised or
converted into common stock. All share and per share amounts have been stated in
accordance with the provisions of SFAS No. 128 (see Note 13).
NOTE 2. ACQUISITIONS:
In July 2001, as part of the secondary stock offering, the Company increased its
ownership percentage in Pharmaceutical Buyers, Inc. (PBI) to 68% and in August
2001, our ownership percentage increased another 2%. The aggregate purchase
price was $6.9 million. The value of the 400,000 shares issued was based on the
initial price of the secondary stock offering for the first increase and the
closing price of the stock for the second increase. These additions were
accomplished with individuals converting PBI stock to shares of our common
stock. This arrangement was part of the original transaction when we acquired
our initial 50% ownership interest. This transaction was accounted for under the
purchase method of accounting. Goodwill recognized in this transaction amounted
to $10.7 million, but is not deductible for tax purposes. Intangible assets
other than goodwill recognized in this transaction amounted to $1.9 million that
have a weighted-average useful life of approximately 15 years.
On June 15, 2001, the Company acquired 100% of the outstanding stock of
Diversified Healthcare, LLC, a pharmaceutical distribution company based in
Owensboro, Kentucky, that provides comprehensive pharmaceutical distribution
services to customers in the Midwest region. This transaction was accounted for
under the purchase method of accounting. The purchase price for this acquisition
was approximately $9.0 million, consisting of $7.5 million in cash and a $1.5
million 2-year note. Approximately $1.1 million of goodwill was recorded as part
of this transaction, which will be amortized over 25 years. Results of
operations were not significantly impacted during fiscal year 2001 as a result
of this transaction.
NOTE 3. PROPERTY AND EQUIPMENT:
Property and equipment consisted of the following (in thousands):
JUNE 30, 2002 JUNE 30, 2001
------------- -------------
Land $ 320 $ 535
Building and improvements 2,115 3,338
Fixtures and equipment 15,605 12,547
Leasehold improvements 2,082 2,728
Vehicles 518 749
-------- --------
20,640 19,897
Less-Accumulated depreciation and
amortization (9,536) (9,032)
-------- --------
$ 11,104 $ 10,865
======== ========
Total depreciation and amortization relating to property and equipment was $2.1
million in 2002, $1.6 million in 2001, and $1.2 million in 2000. The Company
leases certain properties under capital leases. Capital lease asset balances
25
consist of buildings of $1.3 million and $1.8 million as of June 30, 2002 and
2001, respectively. Related accumulated amortization amounted to approximately
$358,000 and $345,000 respectively.
NOTE 4. INVESTMENT IN PBI:
In November 1995, the Company purchased approximately 50% of the capital stock
of Pharmaceutical Buyers, Inc. ("PBI"), a Colorado-based group purchasing
organization. Pursuant to the transaction, the Company acquired approximately
50% of the voting and non-voting common stock of PBI for $3.75 million in cash.
The Company's investment in PBI was accounted for under the equity method until
July 2001 at which time an additional 18% ownership interest was acquired and
consolidated PBI for financial reporting purposes. See Note 2 for further
discussion of the additional ownership.
The Company's equity in the net income of PBI totaled $607,000 and $634,000,
respectively, for 2001 and 2000, which is net of amortization of goodwill
associated with its investment in PBI of $276,000 for each of these years. The
PBI goodwill was amortized using the straight-line method over a period of 25
years. During 2001 and 2000, the Company received cash dividends of $450,000 and
$350,000 from PBI, which were recorded as a reduction in the carrying amount of
the investment.
Summarized balance sheet information for PBI for its fiscal year ended December
31, 2001 and information for the periods ended June 30, 2002 and 2001 included
(in millions) (June 30, 2002 amounts were included in the consolidated results
of the Company):
JUNE 30, 2002 DECEMBER 31, 2001 JUNE 30, 2001
------------- ----------------- -------------
(unaudited)
Current assets $ 3.5 $ 3.4 $ 2.9
Non-current assets 0.5 0.5 0.6
Current liabilities 1.5 1.6 1.7
Non-current liabilities 2.5 2.5 3.4
Summarized income statement information for PBI for its fiscal year ended
December 31, 2001 and information for the six months ended June 30, 2002, 2001
and 2000 included (in millions) (June 30, 2002 amounts were included in the
consolidated results of the Company):
SIX MONTHS ENDED (unaudited)
12 MONTHS ENDED 12 MONTHS ENDED --------------------------------------
JUNE 30, 2002 DECEMBER 31, 2001 JUNE 30, 2001 JUNE 30, 2000
------------- ----------------- ------------- -------------
Net revenue $ 7.5 $ 6.7 $ 3.0 $ 2.9
Net income 2.4 2.1 0.8 0.8
In connection with its investment in PBI, the Company entered into an agreement
pursuant to which MassMutual is entitled to exchange its capital stock of PBI
with the Company at fair market value. The Company has the right, and it is
their intention, to satisfy this exchange with cash. If the Company elects not
to satisfy the exchange with cash, the Company could satisfy the exchange with
shares of its common stock, in which case MassMutual would have certain
registration rights.
Certain other shareholders of PBI had the option to exchange their combined 20%
ownership interests in PBI for shares of the Company's common stock under the
terms of the original purchase agreement. Those options were determined to be
dilutive in 2001 and 2000 and are included in the reconciliation of the basic
and the diluted earnings per share computation (See Note 13). See Note 2
regarding the conversion of these interests into the Company's stock during
fiscal 2002.
26
NOTE 5. INTANGIBLE ASSETS:
Intangible assets consisted of the following (in thousands):
JUNE 30, 2002 JUNE 30, 2001
------------- -------------
Goodwill, net of accumulated amortization of $8,472 and $51,131 $41,979
$6,292, respectively
Other intangible assets, net of accumulated amortization 1,965 --
of $149
------------ ------------
$53,096 $41,979
=========== ============
The goodwill is being amortized using the straight-line method over periods of 5
to 40 years. Amortization of goodwill totaled $2.2 million in 2002, $1.9 million
in 2001, and $1.8 million in 2000. Other intangible assets, which primarily
represent valued placed on supplier and customer relationships, are being
amortized using the straight-line method over periods of 5 to 15 years with an
approximate weighted-average amortization period of 13.5 years. Amortization of
intangible assets totaled $0.1 million in 2002 and is estimated to remain
approximately the same for the next five years. Other intangible assets not
subject to amortization total $0.2 million. Goodwill related to the Wholesale
drug distribution segment, net of amortization, was $38.3 and $39.3 million as
of June 30, 2002 and 2001, respectively. Goodwill related to the Company's other
segments, which are combined for reporting purposes, amounted to $12.8 million
and $2.7 million as of June 30, 2002 and 2001, respectively. Other intangible
assets related to the Wholesale drug distribution segment, net of amortization,
were $0.2 as of June 30, 2002. Other intangible assets related to the Company's
other segments amounted to $1.7 million as of June 30, 2002. The Company adopted
SFAS No. 142, "Goodwill and Other Intangible Assets" effective July 1, 2002. See
Note 16 for further discussion on the impact of the adoption of this statement.
NOTE 6. LONG-TERM DEBT:
Long-term debt consists of the following (in thousands):
JUNE 30, 2002 JUNE 30, 2001
------------- -------------
Revolving line of credit with banks $ 77,993 $ 93,151
Other, including capital lease obligations 5,734 1,658
-------- --------
83,727 94,809
Less--Current maturities (2,270) (320)
-------- --------
$ 81,457 $ 94,489
======== ========
As of June 30, 2002, the revolving line of credit had a maximum borrowing
capacity of $150 million, expiring in August 2005. Under the loan agreement, the
total amount of loans and letters of credit outstanding at any time may not
exceed the lesser of an amount based on percentages of eligible inventories (the
borrowing base formula), or our maximum borrowing capacity under this agreement
but may not be less than $20 million. The advances currently bear interest at a
base rate of the London Interbank Offering Rate (LIBOR) plus 1.75%, or at the
prime rate plus 0.25% per annum payable monthly. The Company was required to pay
annual facility fees of $807,000 and $521,323, respectively, in 2002 and 2001.
At June 30, 2002 and June 30, 2001, the borrowing base formula amounted to
$241.4 million and $132.2 million, respectively. At June 30, 2002 and June 30,
2001, the unused portion of the line of credit amounted to $71.3 million and
$56.9 million, respectively. The agreement expires August 7, 2005, and,
therefore, the related debt has been classified as long-term. The revolving line
of credit is secured by eligible inventories. In July 2002, this agreement was
amended to increase the maximum borrowing capacity to $200 million.
The Company is required under the terms of its debt agreements to comply with
certain financial covenants, including those related to interest coverage ratios
and cash flow to fixed charges ratios. The Company also is limited in its
ability
27
to make loans and investments, enter into leases, or incur additional debt,
among other things, without the consent of its lenders. The Company is in
compliance with its debt covenants as of June 30, 2002.
In June 2000, the Company entered into a $965,000 equipment financing
arrangement with a five-year term ending July 2005. The arrangement provides for
monthly payments bearing interest at LIBOR plus 1.95%. This arrangement is
secured by the equipment purchased with the proceeds.
At June 30, 2002, maturities of long-term debt, including capital lease
obligations, were as follows (in thousands):
FISCAL YEAR ENDING JUNE 30,
---------------------------
2003 $ 2,270
2004 1,360
2005 1,383
2006 78,676
2007 38
-------
$83,727
=======
At June 30, 2002 and June 30, 2001, the fair value of long-term debt
approximated its current carrying value.
NOTE 7. ACCOUNTS RECEIVABLE SECURITIZATION:
During 1999, the Company and its wholly-owned, bankruptcy-remote subsidiary
("Seller") established an accounts receivable securitization program. Under the
program, undivided interests in a pool of eligible trade receivables that have
been sold on a non-recourse basis by the Company to the Seller are then sold to
a multi-seller, asset backed commercial paper conduit ("Conduit"). Purchases by
the Conduit are financed with the sale of highly rated commercial paper. The
Company utilizes proceeds from the sale of its accounts receivable to repay
long-term debt, effectively reducing its overall borrowing costs. Funding costs
under this program are 4.85% on the first $50 million with the rate on the
excess amounts equal to the commercial paper rate. Certain program fees total an
additional 0.75%. At June 30, 2002, the securitization program had a maximum
capacity of $150 million which expires in August 2005. The funding cost of the
securitization program for fiscal year 2002 and 2001 was $4.2 million and $6.0
million, respectively. In August 2002, this program was amended to increase the
maximum capacity to $200 million.
Under the provisions of SFAS No. 125, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities," (as amended by SFAS No.
140, "Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities") the securitization transactions have been
recorded as sales, with those accounts receivable sold to the Conduit removed
from the consolidated balance sheet. The amount of undivided interests in
accounts receivable sold to the Conduit were $120.0 and $110.0 million at June
30, 2002 and 2001, respectively.
The Seller is a separate legal entity from the Company. The Seller's assets are
available first and foremost to satisfy the claims of its creditors. Eligible
receivables, as defined in the securitization agreement, consist of trade
receivables from our subsidiaries, excluding non-pharmaceutical receivables,
reduced for certain items, including past due balances and concentration limits.
Of the eligible pool of receivables contributed to the Seller, undivided
interests in only a portion of the pool are sold to the Conduit. The Seller's
interest in these receivables is subordinate to the Conduit's interest in the
event of default under the securitization agreement. The portion of eligible
receivables not sold to the Conduit remains an asset of the Seller ($31.7
million as of June 30, 2002).
NOTE 8. DERIVATIVE INSTRUMENTS:
In June, 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," which was
amended by SFAS No. 138, "Accounting for Derivative Instruments and Hedging
Activities - Deferral of the Effective Date of FASB Statement No. 133", which
was required to be adopted in years beginning after June 15, 2000. Accordingly,
the Company adopted the provisions of this standard on July 1, 2000, resulting
in an increase in stockholders' equity of approximately $69,000. At June 30,
2001, the Company had recorded short-term liabilities of approximately $90,000
and long-term liabilities of approximately $640,000 relating to derivative
instruments. At June 30, 2002, the Company had recorded long-term liabilities of
approximately $1,461,000 related to the interest rate swap.
28
Through an interest rate swap agreement, the Company effectively fixed the
interest rate on $20 million of our revolving line of credit at a nominal rate
of 6.19%. This interest rate derivative instrument has been designated as a cash
flow hedge. Such instruments are those that effectively convert variable
interest payments on debt instruments into fixed payments. For qualifying
hedges, SFAS No. 133 and No. 138 allow derivative gains and losses to offset
related results on hedged items in the consolidated statements of operations.
The Company formally documents, designates and assesses the effectiveness of
transactions that receive hedge accounting. Changes in the fair value of
interest rate agreements designated as hedging instruments of the variability of
cash flows associated with floating-rate debt obligations are reported in
accumulated other comprehensive loss. During fiscal 2002 and 2001, approximately
$531,000 (net of $347,000 of tax) and $356,000 (net of $227,000 of tax), was
recorded as other comprehensive loss, respectively. No gain or loss representing
the ineffectiveness of the cash flow hedge was recognized in other expense, as
this derivative instrument represents a perfect hedge.
NOTE 9. COMMITMENTS AND CONTINGENCIES:
The Company leases office and warehouse space and other equipment through
noncancelable operating leases. Rental expense under operating leases was $2.9
million, $2.3 million, and $1.9 million in 2002, 2001, and 2000, respectively.
Minimum rental payments under these leases with initial or remaining terms of
one year or more at June 30, 2002, are $11.9 million and payments during the
succeeding five years are: 2003, $3.6 million; 2004, $2.6 million; 2005, $2.2
million; 2006, $2.1 million; 2007, $1.2 million; and thereafter $0.2 million.
In the normal course of business, the Company is a party to financial
instruments with off-balance-sheet risk, such as bank letters of credit and
other guarantees, which are not reflected in the accompanying balance sheets.
Such financial instruments are to be valued based on the amount of exposure
under the instrument and the likelihood of performance being required. In the
Company's past experience, virtually no claims have been made against these
financial instruments. Management does not expect any material losses to result
from these off-balance-sheet instruments and, therefore, is of the opinion that
the fair value of these instruments is zero.
There are various pending claims and lawsuits arising out of the normal course
of the Company's business. In the opinion of management, the ultimate outcome of
these claims and lawsuits will not have a material adverse effect on the
financial position or results of operations of the Company.
NOTE 10. STOCK OPTIONS:
In 1992, the Company adopted a Long-Term Incentive Plan that authorized the
Stock Option and Compensation Committee of the Board of Directors (the
Committee) to grant key employees and officers of the Company incentive or
non-qualified stock options, stock appreciation rights, performance shares,
restricted shares and performance units. Options to purchase up to 400,000
shares of common stock were authorized under the Long-Term Incentive Plan. The
Committee determines the price (which may not be less than fair market value on
the date of grant) and terms at which awards may be granted, along with the
duration of the restriction periods and performance targets. In 1999, the
Company's shareholders approved an Amended and Restated Long-Term Incentive Plan
(Long-Term Incentive Plan) that increased the number of shares available for
grant to 1,700,000 shares. Stock options granted under the Long-Term Incentive
Plan are not exercisable earlier than six months from the date of grant (except
in the case of death or disability of the employee holding the same), nor later
than ten years from the date of grant.
In February 1993, the Board of Directors of the Company adopted the D&K
Wholesale Drug, Inc. 1993 Stock Option Plan (the 1993 Plan) to grant key
employees of the Company non-qualified stock options to purchase up to 700,000
shares of the Company's common stock. The 1993 Plan is administered by the
Company's Board of Directors, which determines the price and terms at which
awards may be granted. Stock options granted under the 1993 Plan are immediately
exercisable from the date of grant and expire not later than ten years from the
date of grant. The exercise price of all options granted pursuant to the 1993
Plan was equal to the fair market value of stock on the respective dates of
grant.
In November 2001, the Board of Directors adopted, and the Company's shareholders
approved, the 2001 Long Term Incentive Plan (the 2001 Plan). Under the 2001
Plan, the Committee may grant to directors, officers and key employees of the
Company up to an aggregate of 1,000,000 incentive or non-qualified stock
options, stock appreciation rights, performance shares, restricted shares and
performance units. The Committee determines the price of stock options
29
which may not be less than the fair market value on the date of grant. Stock
options granted under the 2001 Plan vest over a three year period from the date
of grant, and may be exercised no later than five years from the date of grant.
The following tables summarize information about options at June 30, 2002:
Options Outstanding Options Exercisable
------------------------------------------------------------- -----------------------------------------
Range of Exercise Number Weighted Average Weighted Average Number Exercisable Weighted Average
Price Outstanding Remaining Contractual Life Exercise Price Exercise Price
- -----------------------------------------------------------------------------------------------------------------------------
$1.6875 to $1.8750 6,250 3.88 years $ 1.88 6,250 $ 1.88
$2.8125 to $3.3125 43,332 4.96 years $ 3.02 43,332 $ 3.02
$5.6250 to $8.3550 543,534 8.33 years $ 6.62 464,191 $ 6.59
$10.000 to $10.6875 51,000 8.62 years $10.61 51,000 $10.61
$20.6550 to $30.8550 448,000 7.46 years $24.48 310,000 $21.64
----------------- -------------------
1,092,116 7.83 years $13.96 874,773 $11.95
================= ===================
Changes in options outstanding under the Company's stock option plans are as
follows:
Weighted Average
Number of Shares Exercise Price
---------------- --------------
OUTSTANDING AT JUNE 30, 1999 992,396 $ 5.66
Granted 2000 330,000 10.12
Exercised 2000 (160,400) 2.36
Canceled 2000 (643,600) 10.20
------------------------------------------------
OUTSTANDING AT JUNE 30, 2000 518,396 3.88
Granted 2001 1,017,000 6.81
Exercised 2001 (430,000) 5.46
Canceled 2001 (52,000) 10.55
------------------------------------------------
OUTSTANDING AT JUNE 30, 2001 1,053,396 5.69
Granted 2002 477,000 24.09
Exercised 2002 (424,946) 4.75
Canceled 2002 (13,334) 6.50
------------------------------------------------
OUTSTANDING AT JUNE 30, 2002 1,092,116 $ 13.96
=========
Stock options exercisable at June 30, 2002, June 30, 2001, and June 30, 2000
were 874,773, 857,396, and 498,396, respectively, with a weighted average
exercise price of $11.95, $5.18, and $3.71, respectively. Shares available to be
granted at June 30, 2002, June 30, 2001, and June 30, 2000 were 841,000,
212,138, and 564,938, respectively.
In accordance with the provisions of Statement of Financial Accounting Standards
No. 123, "Accounting for Stock-Based Compensation" (SFAS 123), the Company has
elected to account for its stock-based compensation plans under Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees."
Accordingly, no compensation expense has been recognized in the consolidated
financial statements for the stock option plans. If the Company had elected to
recognize compensation expense based upon the fair value of the options granted
at the grant date as prescribed by SFAS 123, pro forma net income and earnings
per share would have been as follows (in thousands, except per share data):
2002 2001 2000
---- ---- ----
Net income - as reported $ 21,059 $ 9,144 $ 8,199
Net income - pro forma $ 19,000 $ 7,496 $ 7,579
Earnings per share:
Basic - as reported $ 1.48 $ 1.08 $ 0.96
Basic - pro forma $ 1.33 $ 0.88 $ 0.90
Diluted - as reported $ 1.42 $ 1.01 $ 0.92
Diluted - pro forma $ 1.29 $ 0.83 $ 0.85
The fair value of each option grant was estimated on the date of the grant using
the Black-Scholes option-pricing model using the following weighted-average
assumptions:
30
2002 2001 2000
---- ---- ----
Risk free interest rates 4.19% 4.81% 6.30%
Expected life of options 5.0 years 5.0 years 5.0 years
Volatility of stock price 43% 46% 42%
Expected dividend yield 0.002% 0.01% N/A
Fair value of options granted $10.50 $2.99 $5.18
NOTE 11. INCOME TAXES:
The components of the income tax provision were as follows (in thousands):
2002 2001 2000
---- ---- ----
Current tax provision $ 15,909 $ 7,540 $ 4,893
Deferred tax provision (1,796) (1,653) 307
-------- -------- --------
Income tax provision $ 14,113 $ 5,887 $ 5,200
======== ======== ========
The actual income tax provision differs from the expected income tax provision,
computed by applying the U.S. statutory Federal tax rates of 35.0%, 34.3%, and
34.1% in 2002, 2001 and 2000, respectively, to income before income tax
provision, as follows (in thousands):
2002 2001 2000
---- ---- ----
Expected income tax provision $12,569 $ 5,156 $ 4,570
Amortization of intangible assets not deductible for
income tax purposes 120 210 203
Equity in net income of PBI not taxable for income
tax purposes -- (242) (248)
State income taxes, net of Federal benefit 1,276 531 569
Other, net 148 232 106
------- ------- -------
$14,113 $ 5,887 $ 5,200
======= ======= =======
At June 30, 2002 and June 30, 2001, the tax effects of temporary differences
that give rise to significant portions of the Company's deferred tax assets and
liabilities are as follows (in thousands):
2002 2001
---- ----
Deferred tax assets:
Allowance for doubtful accounts $ 473 $ 739
Accrued expenses 1,450 986
Capital lease obligations 112 112
Inventories 1,048 830
Net operating loss carryforwards 555 555
Items related to DHI acquisition -- 927
Costs related to derivative instruments 584 --
Other 617 168
------- -------
Total deferred tax assets $ 4,839 $ 4,317
------- -------
Deferred tax liabilities:
Property and equipment $ (256) $ (470)
Inventories (1,831) (3,709)
Intangibles (1,018) (1,014)
Accounts receivable (156) (156)
Other (930) (816)
------- -------
Total deferred tax liabilities $(4,191) $(6,165)
------- -------
Net deferred tax assets / (liabilities) $ 648 $(1,848)
======= =======
The use of pre-acquisition operating losses is subject to limitations imposed by
the Internal Revenue Code or individual states and if not utilized by the
Company, the net operating loss carryforwards will expire beginning in 2007. The
Company believes that the net deferred tax assets are fully recoverable.
31
NOTE 12. EMPLOYEE BENEFIT PLANS
The Company has a defined contribution 401(k) plan covering substantially all of
its employees. Plan participants may contribute up to 20% of their annual
compensation, subject to certain limitations. The Company contribution is
discretionary and was equivalent to 50% of employees' contributions up to a
maximum contribution based on 6% of eligible compensation. Expenses related to
the plan were $260,000 in 2002, $234,000 in 2001, and $176,000 in 2000. Jewett
Drug Company (Jewett) has a defined contribution 401(k)/profit sharing plan
covering substantially all of its employees. Jewett made a discretionary
contribution of $100,000 to this plan in 2002 and 2001. Jewett also participates
in the Central States Pension, a multi-employer pension plan, on behalf of its
union employees in accordance with the union agreement. The expenses relating to
this plan during 2002 and 2001 were approximately $21,000 and 23,000,
respectively.
The Company also has an executive retirement benefit plan, implemented in 1998,
that provides supplemental pre-retirement life insurance plus supplemental
retirement income to key executives. The life insurance benefit is calculated at
three times the participant's annual salary. The retirement income benefit is
provided through discretionary contributions to each participant's account,
which vest 20% annually and are fully vested upon attaining age 65. Upon
retirement, the accumulated account balance is paid to the participant over 15
years in quarterly benefit payments. The Company's expense related to the plan
was $75,000 in 2002, $241,000 in 2001, and $213,000 in 2000. In July 2002, this
plan was terminated with participants receiving their vested retirement income
benefit balance in the plan. There was no income statement impact as a result of
this termination. The life insurance benefit will continue for each participant.
NOTE 13. EARNINGS PER SHARE:
SFAS No. 128, "Earnings Per Share", requires dual presentation of basic and
diluted earnings per share and requires reconciliation of the numerators and
denominators of the basic and diluted earnings per share calculation. The
reconciliation of the numerator and denominator of the basic and diluted
earnings per common share computations are as follows (in thousands, except for
shares and per share amounts):
2002
------------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ------
BASIC EARNINGS PER SHARE:
Net income available to common shareholders $ 21,059 14,246,751 $ 1.48
EFFECT OF DILUTED SECURITIES:
Options and warrants -- 419,852
Convertible securities (169) 11,178
------------------------
DILUTED EARNINGS PER SHARE:
Net income available to common shareholders
plus assumed conversions $ 20,890 14,677,781 $ 1.42
------------------------
2001
-----------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ------
BASIC EARNINGS PER SHARE:
Net income available to common shareholders $ 9,144 8,478,198 $ 1.08
EFFECT OF DILUTED SECURITIES:
Options and warrants -- 253,316
Convertible securities 95 400,000
---------------------
DILUTED EARNINGS PER SHARE:
Net income available to common shareholders
plus assumed conversions $ 9,239 9,131,514 $ 1.01
---------------------
32
2000
-----------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ------
BASIC EARNINGS PER SHARE:
Net income available to common shareholders $ 8,199 8,481,902 $ 0.97
EFFECT OF DILUTED SECURITIES:
Options and warrants -- 217,850
Convertible securities 152 400,000
---------------------
DILUTED EARNINGS PER SHARE:
Net income available to common shareholders
plus assumed conversions $ 8,351 9,099,752 $ 0.92
---------------------
NOTE 14. EFFECT OF NEW ACCOUNTING STANDARDS:
The Financial Accounting Standards Board has issued SFAS No. 141, "Business
Combinations." SFAS No. 141 requires that all business combinations initiated
after June 30, 2001 be accounted for under the purchase method and addresses the
initial recognition and measurement of goodwill and other intangible assets
acquired in a business combination. SFAS 141 is effective for all business
combinations completed after June 30, 2001. See Note 2 of our consolidated
financial statements.
The Financial Accounting Standards Board has issued SFAS No. 142, "Goodwill and
Other Intangible Assets." Under the new standard, we will no longer be required
or permitted to amortize goodwill or other intangible assets with indefinite
lives reflected on the balance sheet. We will, however, be required to evaluate
these items reflected on the balance sheet to determine whether they are
impaired under the guidelines of the standard. Other intangible assets with
definite lives will continue to be amortized over their estimated useful lives.
We adopted SFAS No. 142 as of July 1, 2002. The impact of this adoption is
explained in Note 16 of our consolidated financial statements.
The Financial Accounting Standards Board has issued SFAS No. 143, "Asset
Retirement Obligations" in June 2001. SFAS 143 provides guidance on accounting
and reporting for obligations associated with the retirement of tangible
long-lived assets and associated retirement costs. We adopted this statement in
fiscal 2002, and it did not affect our consolidated financial position.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-lived Assets", which supersedes SFAS 121, "Accounting for
Long-lived Assets and for Long-lived Assets to be Disposed Of", and Accounting
Principles Board Opinion No. 30, "Reporting the Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions". SFAS 144
establishes a single accounting model, based on the framework established in
SFAS 121, for long-lived assets to be disposed of by sale. We are in the process
of evaluating the adoption of this standard, but do not believe it will have a
material impact on our consolidated financial statements.
The FASB issued SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64,
Amendment of FASB Statement No. 13, and Technical Corrections." This statement
updates, clarifies and simplifies existing accounting pronouncements related to
accounting for gains and losses from the extinguishments of debt and accounting
for certain lease modifications. We are in the process of evaluating the
adoption of this standard, but do not believe it will have a material impact on
our consolidated financial statements.
The FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or
Disposal Activities." This statement addresses the accounting for costs
associated with disposal activities covered by SFAS No. 144 or with exit
activities previously covered by EITF 94-3. This statement will be applied
prospectively to any exit or disposal activities that we initiate after December
31, 2002.
33
NOTE 15. BUSINESS SEGMENTS:
SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information", establishes standards for the way public companies report
information about operating segments that is consistent with that made available
to management of the Company in allocating resources and assessing performance.
After application of the aggregation criteria, the Company has three
identifiable business segments, only one of which, Wholesale drug distribution,
meets the quantitative thresholds for separate disclosure prescribed in SFAS No.
131. This segment is described in Note 1. The Company's ownership of PBI (see
Note 4) is a second segment. Two wholly-owned software subsidiaries; Viking
Computer Services, Inc. and Tykon, Inc. constitute the third segment. Viking
markets a pharmacy management software system and Tykon developed and markets a
proprietary PC-based order entry/order confirmation system to the drug
distribution industry. These two segments are combined as Other in the table
that follows.
Though the Wholesale drug distribution segment operates from several different
facilities, the nature of its products and services, the types of customers and
the methods used to distribute its products are similar and thus they have been
aggregated for presentation purposes. During fiscal 2002, approximately 92% of
net sales were branded pharmaceuticals, 6% were generic pharmaceuticals, and 2%
were various health and beauty products. The Company operates principally in the
United States. Intersegment sales have been recorded at amounts approximating
market. Interest and corporate expenses are allocated to wholly-owned
subsidiaries only. Assets have been identified with the segment to which they
relate.
FOR THE YEARS ENDED
-------------------------------------------------------
(IN THOUSANDS) JUNE 30, 2002 JUNE 30, 2001 JUNE 30, 2000
------------- ------------- -------------
Sales to unaffiliated customers --
Wholesale drug distribution $ 2,444,290 $ 1,643,594 $ 1,455,421
Other 9,458 2,399 2,626
----------- ----------- -----------
Total $ 2,453,748 $ 1,645,993 $ 1,458,047
Intersegment sales --
Wholesale drug distribution $ -- $ -- $ --
Other 1,197 891 329
Intersegment eliminations (1,197) (891) (329)
----------- ----------- -----------
Total $ -- $ -- $ --
Gross profit --
Wholesale drug distribution $ 92,578 $ 66,070 $ 53,923
Other 10,253 2,754 2,499
----------- ----------- -----------
Total $ 102,831 $ 68,824 $ 56,422
Depreciation and amortization --
Wholesale drug distribution $ 4,107 $ 3,177 $ 2,884
Other 346 527 510
Less: PBI amortization (1) -- (276) (276)
----------- ----------- -----------
Total $ 4,453 $ 3,428 $ 3,118
Interest expense -
Wholesale drug distribution $ 9,955 $ 13,148 $ 10,517
Other 431 163 126
----------- ----------- -----------
Total $ 10,386 $ 13,311 $ 10,643
Earnings before income tax provision -
Wholesale drug distribution $ 31,271 $ 14,150 $ 12,692
Other 4,639 881 707
----------- ----------- -----------
Total $ 35,910 $ 15,031 $ 13,399
34
FOR THE YEARS ENDED
---------------------------------------------
(IN THOUSANDS) JUNE 30, 2002 JUNE 30, 2001 JUNE 30, 2000
------------- ------------- -------------
Purchases of property and equipment -
Wholesale drug distribution $ 988 $ 555 $ 1,913
Other 63 46 111
Other unallocated Corporate amounts 2,394 2,849 1,246
--------- --------- ---------
Total $ 3,445 $ 3,450 $ 3,270
Identifiable assets -
Wholesale drug distribution $ 464,494 $ 316,211 $ 422,508
Other 6,111 7,050 10,141
Other unallocated Corporate amounts (2) 12,533 6,943 3,391
Elimination of receivables from Corporate -- -- (141,621)
--------- --------- ---------
Total $ 483,138 $ 330,204 $ 294,419
(1) Amortization of PBI goodwill is netted against Equity in net income of PBI
in the accompanying Consolidated Statements of Operations in 2001 and 2000.
(2) Amounts represent assets at Corporate Headquarters consisting primarily of
deferred tax assets, property and equipment and deferred debt costs.
NOTE 16. SUBSEQUENT EVENT:
The Company adopted SFAS No. 142, "Goodwill and Other Intangible Assets"
effective July 1, 2002. As a result of this adoption, the Company will recognize
an impairment loss of approximately $7.0 million ($4.2 million net of tax)
during the first quarter of fiscal 2003. This will be recognized as the
cumulative effect of a change in accounting principle. This impairment results
from an appraisal valuation and relates to goodwill originally established for
the acquisition of Jewett Drug Co. The earnings per share impact of goodwill
amortization during fiscal 2002 was $0.08 per share.
NOTE 17. QUARTERLY RESULTS (UNAUDITED)
Quarterly results are determined in accordance with annual accounting policies.
They include certain items based upon estimates for the entire year. Summarized
quarterly results for the last two years were as follows:
(in thousands, except per share data) 2002 QUARTER 2002
-------------------------------------------------- ------------
FIRST SECOND THIRD FOURTH YEAR
Net sales $ 529,091 $ 591,698 $ 695,241 $ 637,718 $2,453,748
Gross profit 21,858 24,495 30,347 26,131 102,831
Net income 3,586 4,642 7,302 5,529 21,059
Basic earnings per share $ 0.26 $ 0.33 $ 0.51 $ 0.38 $ 1.48
Diluted earnings per share 0.25 0.31 0.49 0.37 1.42
(in thousands, except per share data) 2001 QUARTER 2001
-------------------------------------------------- ------------
FIRST SECOND THIRD FOURTH YEAR
Net sales $ 350,902 $ 355,275 $ 490,469 $ 449,347 $1,645,993
Gross profit 14,601 15,415 20,573 18,235 68,824
Net income 1,542 1,777 3,200 2,625 9,144
Basic earnings per share $ 0.18 $ 0.21 $ 0.38 $ 0.31 $ 1.08
Diluted earnings per share 0.18 0.20 0.35 0.28 1.01
35
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
Effective June 11, 2002, the Board of Directors of the Registrant, upon
recommendation of its audit committee, dismissed Arthur Andersen LLP
("Andersen") as the Registrant's independent public accountants and engaged KPMG
LLP ("KPMG") to serve as the principal accountant to audit the Registrant's
financial statements for the fiscal year ending June 30, 2002. Andersen audited
the Registrant's financial statements for fiscal years 1999, 2000 and 2001, and
served as the Registrant's principal accountant since 1989.
In connection with its audit for fiscal years 2000 and 2001, and during the
subsequent interim period preceding the engagement of KPMG, there were no
disagreements with Andersen on any matter of accounting principles or practices,
financial statement disclosure or auditing scope or procedure. Andersen's report
on the financial statements for fiscal years 2000 and 2001 did not contain an
adverse opinion or a disclaimer of opinion and was not qualified or modified as
to uncertainty, audit scope or accounting principles. During the last two fiscal
years, and during the subsequent interim period preceding the engagement of
KPMG, Andersen did not advise, and has not indicated to the Registrant that it
had reason to advise, the Registrant of any reportable event, as defined in Item
304(a) of Regulation S-K of the Exchange Act. The Registrant requested that
Andersen furnish it with a letter addressed to the Securities and Exchange
Commission stating whether or not it agrees with the statements made in the Form
8-K filed on June 11, 2002. A copy of the letter from Andersen dated June 11,
2002, stating its agreement with the foregoing disclosures is filed as Exhibit
16.1 to the Form 8-K filed on June 11, 2002.
During the last two fiscal years, and during the subsequent interim period
preceding the engagement of KPMG, the Registrant had not consulted KPMG
regarding the application of accounting principles to a specified transaction,
either contemplated or proposed, or the type of audit opinion that might be
rendered on the Registrant's financial statements or any other matter that would
be required to be reported.
36
PART III
Item 10. Directors and Executive Officers of the Registrant
The information set forth under the captions "Election of Directors" in
the registrant's Proxy Statement for its 2002 Annual Meeting of Stockholders
(the "2002 Proxy Statement") is incorporated herein by this reference. The
Company will file the 2002 Proxy Statement with the Commission pursuant to
Regulation 14A within 120 days after the close of the fiscal year. Information
regarding executive officers is set forth in Part I of this report.
Item 11. Executive Compensation
The information set forth under the captions "Directors' Fees"
and "Compensation of Executive Officers" in the registrant's 2002 Proxy
Statement to be filed with the SEC pursuant to Regulation 14A of the Exchange
Act is incorporated herein by this reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The information set forth under the captions "Voting
Securities and Principal Holders Thereof" and "Security Ownership By Management"
in the registrant's 2002 Proxy Statement to be filed with the SEC pursuant to
Regulation 14A of the Exchange Act is incorporated herein by this reference.
Item 13. Certain Relationships and Related Transactions
The information set forth under the caption "Certain
Transactions" in the registrant's 2002 Proxy Statement to be filed with the SEC
pursuant to Regulation 14A of the Exchange Act is incorporated herein by this
reference.
Item 14. Controls and Procedures
The registrant does not need to comply with the requirements of this
item until their first quarter filing for fiscal 2003, which will be their first
report for a period ending on or after August 29, 2002.
Item 15. Exhibits, Financial Statements, Schedules and Reports on
Form 8-K
(a)(1) Financial statements: See Item 8 above.
(2) The following financial statement schedule and
auditors' report thereon are included in Part IV of this report:
Page
----
Schedule II - Valuation and Qualifying Accounts 41
Schedules other than those listed above have been omitted because they
are either not required or not applicable, or because the information is
presented in the consolidated financial statements or the notes thereto.
(3) Exhibits.
See Exhibit Index.
(b) Reports on Form 8-K
On June 11, 2002, the registrant filed a Current Report
on Form 8-K under Item 4 that announced the change in
auditors for the fiscal year ending June 30, 2002.
37
On June 27, 2002, the registrant filed a Current Report
on Form 8-K under Item 4 that announced the change in
auditors for its 401-k Profit Sharing Plan and Trust
for the year ending December 31, 2001.
(c) See Item 15(a)(3) above.
(d) See Item 15(a)(2) above.
38
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
D & K HEALTHCARE RESOURCES, INC.
(Registrant)
By /s/ J. Hord Armstrong, III
--------------------------
J. Hord Armstrong, III,
Chairman of the Board,
Chief Executive Officer and Treasurer
Date: September 24, 2002
Pursuant to the requirements of the Securities Exchange Act of
1934, this report has been signed below by the following persons on behalf of
the registrant and in the capacities and on the dates indicated.
Signature Title Date
- --------- ----- ----
/s/ J. Hord Armstrong, III Chairman, Chief Executive Officer, September 24, 2002
- ------------------------------- Treasurer and Director
J. Hord Armstrong, III
/s/ Martin D. Wilson President, Chief Operating Officer September 24, 2002
- ------------------------------- and Director
Martin D. Wilson
/s/ Thomas S. Hilton Senior Vice President, Chief Financial September 24, 2002
- ------------------------------- Officer (Principal financial and
Thomas S. Hilton accounting officer)
/s/ Richard F. Ford Director September 24, 2002
- -------------------------------
Richard F. Ford
/s/ Bryan H. Lawrence Director September 24, 2002
- -------------------------------
Bryan H. Lawrence
/s/ Robert E. Korenblat Director September 24, 2002
- -------------------------------
Robert E. Korenblat
/s/ Thomas F. Patton Director September 24, 2002
- -------------------------------
Thomas F. Patton
/s/ Louis B. Susman Director September 24, 2002
- -------------------------------
Louis B. Susman
/s/ Harvey C. Jewett, IV Director September 24, 2002
- -------------------------------
Harvey C. Jewett, IV
39
CERTIFICATIONS
I, J. Hord Armstrong, III, certify that:
1. I have reviewed this annual report on Form 10-K of D&K Healthcare
Resources, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which
such statements were made, not misleading with respect to the period
covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this annual report.
Date: September 24, 2002
/s/ J. Hord Armstrong, III
--------------------------
J. Hord Armstrong, III
Chairman & Chief Executive Officer
I, Thomas S. Hilton, certify that:
1. I have reviewed this annual report on Form 10-K of D&K Healthcare
Resources, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which
such statements were made, not misleading with respect to the period
covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this annual report.
Date: September 24, 2002
/s/ Thomas S. Hilton
--------------------
Thomas S. Hilton
Senior Vice President & Chief Financial Officer
40
D & K HEALTHCARE RESOURCES, INC. AND SUBSIDIARIES
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS FOR FISCAL 2000,
FISCAL 2001, AND FISCAL 2002
Additions
----------------------------------
Balance at
Beginning of Charged to Costs Balance at End
Description Period and Expenses Acquisitions Deductions of Period
----------- ------ ------------ ------------ ---------- ---------
Valuation Allowances for
Doubtful Receivables:
Fiscal Year 2000 $ 1,142,000 $ 269,000 $ -- $ -- $ 1,411,000
=========== =========== ========= =========== ===========
Fiscal Year 2001 $ 1,411,000 $ 436,000 $ 670,000 $ (320,000) $ 2,197,000
=========== =========== ========= =========== ===========
Fiscal Year 2002 $ 2,197,000 $ 525,000 $ -- $(1,348,000) $ 1,374,000
=========== =========== ========= =========== ===========
41
EXHIBIT INDEX
Exhibit No. Description
2.1* Stock Purchase and Redemption Agreement, dated as of November
30, 1995, by and among Pharmaceutical Buyers, Inc., J. David
McCay, The J. David McCay Living Trust, Robert E. Korenblat
and the registrant filed as an exhibit to the registrant's
Annual Report on Form 10-K for the year ended March 28, 1997.
2.2* Stock Purchase Agreement dated June 1, 1999 by and between the
registrant and Harvey C. Jewett, IV, filed as an exhibit to
Form 8-K dated June 14, 1999.
3.1* Restated Certificate of Incorporation, filed as an exhibit to
registrant's Registration Statement on Form S-1 (Reg. No.
33-48730).
3.2* Certificate of Amendment to the Restated Certificate of
Incorporation of D&K Wholesale Drug, Inc filed as an exhibit
to the registrant's Annual Report on Form 10-K for the year
ended June 30, 1998.
3.3* Certificate of Designations for Series B Junior Participating
Preferred Stock of D&K Healthcare Resources, Inc. filed as an
exhibit to the registrant's Quarterly Report on Form 10-Q for
the quarter ended March 31, 2001.
3.4* By-laws of the registrant, as currently in effect, filed as an
exhibit to registrant's Registration Statement on Form S-1
(Reg. No. 33-48730).
3.5* Certificate of Amendment of Certificate of Incorporation of
D&K Healthcare Resources, Inc., dated March 13, 2002, filed as
an exhibit to the registrant's Quarterly Report on Form 10-Q
for the quarter ended March 31, 2002
4.1* Form of certificate for Common Stock, filed as an exhibit to
registrant's Registration Statement on Form S-1 (Reg. No.
33-48730).
4.2* Form of Rights Agreement dated as of November 12, 1998 between
registrant and Harris Trust and Savings Bank as Rights Agent,
which includes as Exhibit B the form of Right Certificate,
filed as an exhibit to Form 8-K dated November 17, 1998.
10.1* D & K Healthcare Resources, Inc., Amended and Restated 1992
Long Term Incentive Plan, filed as Annex A to the registrant's
1999 Proxy Statement.
10.2* D & K Wholesale Drug, Inc. 401(k) Profit Sharing Plan and
Trust, dated January 1, 1995, filed as an exhibit to the
registrant's Annual Report on Form 10-K for the year ended
March 29, 1996.
10.2a* Amendment Number 1 to D & K Wholesale Drug, Inc. 401(k) Profit
Sharing Plan and Trust, dated December 20, 1996, filed as an
exhibit to the registrant's Annual Report on Form 10-K for the
year ended June 30, 2000.
10.2b* Amendment Number 2 to D & K Wholesale Drug, Inc. 401(k) Profit
Sharing Plan and Trust, dated September 17, 1997, filed as an
exhibit to the registrant's Annual Report on Form 10-K for the
year ended June 30, 2000.
10.2c* Resolution to D & K Wholesale Drug, Inc. 401(k) Profit Sharing
Plan and Trust, dated March 27, 2000, filed as an exhibit to
the registrant's Annual Report on Form 10-K for the year ended
June 30, 2000.
42
EXHIBIT INDEX
Exhibit No. Description
10.3* Amended and Restated Lease Agreement, dated as of January 16,
1996, by and between Morhaert Development, L.L.C. and the
registrant, filed as an exhibit to the registrant's Annual
Report on Form 10-K for the year ended March 29, 1996.
10.4* Purchase and Sale Agreement dated as of August 7, 1998 between
registrant, certain of its subsidiaries and D&K Receivables
Corporation, filed as an exhibit to the registrant's Annual
Report on Form 10-K for the year ended June 30, 1998.
10.5* Fifth Amended and Restated Loan and Security Agreement dated
September 30, 2000, by and among Fleet Capital Corporation,
the registrant, Jaron Inc., and Jewett Drug Co., filed as an
exhibit to the registrant's Quarterly Report on Form 10-Q for
the quarter ended September 30, 2000.
10.5a* First Amendment to Fifth Amended and Restated Loan and
Security Agreement, dated as of March 7, 2001, by and among
Fleet Capital Corporation, the registrant, Jaron, Inc, and
Jewett Drug Co., filed as an exhibit to the registrant's
Quarterly Report on Form 10-Q for the quarter ended March 31,
2001.
10.5b* Third Amendment to Fifth Amended and Restated Loan and
Security Agreement, dated as of June 12,2001, by and among
Fleet Capital Corporation, the registrant, Jaron, Inc., and
Jewett Drug Co, filed as an exhibit to the registrant's
Current Report on Form 8-K dated June 14, 2001.
10.5c** Ninth Amendment to Fifth Amended and Restated Loan and
Security Agreement, dated July 9, 2002, by and among Fleet
Capital Corporation, the registrant, Jaron, Inc., and Jewett
Drug Co, Diversified Healthcare, LLC, and Medical and Vaccine
Products, Inc.
10.6* Amended and Restated Receivables Purchase Agreement, dated
June 8, 2001, by and among D&K Receivables Corporation, the
registrant, Blue Keel Funding, LLC, Market Street Funding
Corporation, PNC Bank, N.A. and Fleet National Bank, filed as
an exhibit to the registrant's Current Report on Form 8-K
dated June 14, 2001.
10.6a** Third Amendment to the Amended and Restated Receivables
Purchase Agreement, dated August 9, 2002, by and among D&K
Receivables Corporation, the registrant, Blue Keel Funding,
LLC, Market Street Funding Corporation, Fifth Third Bank,
Indiana, PNC Bank, N.A. , Fifth Third Bank, and Fleet National
Bank.
10.7* Prime Vendor Agreement dated as of August 25, 1999, between
Tennessee Pharmacy Purchasing Alliance and the registrant,
filed as an exhibit to the registrant's Annual Report on Form
10-K for the year ended June 30, 1999.
10.7a* First Amendment to Prime Vendor Agreement dated effective as
of April 1, 2001 between The Pharmacy Cooperative formerly
known as Tennessee Pharmacy Purchasing Alliance and the
registrant filed as an exhibit to the registrant's
Registration Statement, Amendment No. 2 to Form S-3 dated June
27, 2001.
10.8* Lease Agreement, dated as of May 18, 1999, by and between BSRT
Lexington Trust and the registrant, filed as an exhibit to the
registrant's Annual Report on Form 10-K for the year ended
June 30, 1999.
10.9* Lease Agreement, dated as of January 1, 1997, by and between
Jewett Family Investments, LLC and Jewett Drug Co, filed as an
exhibit to the registrant's Annual Report on Form 10-K for the
year ended June 30, 1999.
43
EXHIBIT INDEX
Exhibit No. Description
10.10* First Amendment to Lease, dated as of June 1, 1999, by and
between Jewett Family Investments, LLC and Jewett Drug Co,
filed as an exhibit to the registrant's Annual Report on Form
10-K for the year ended June 30, 1999.
10.11* Lease Agreement dated as of July 1, 1997 by and between Jewett
Family Investments, LLC and the registrant, filed as an
exhibit to the registrant's Annual Report on Form 10-K for the
year ended June 30, 1999.
10.12* First Amendment to Lease, dated as of June 1, 1999, by and
between Jewett Family Investments, LLC and Jewett Drug Co,
filed as an exhibit to the registrant's Annual Report on Form
10-K for the year ended June 30, 1999.
10.13* Employment agreement for J. Hord Armstrong, III dated
September 15, 2000, filed as an exhibit to the registrant's
Annual Report on Form 10-K for the year ended June 30, 2000.
10.14* Employment agreement for Martin D. Wilson dated August 28,
2000, filed as an exhibit to the registrant's Annual Report on
Form 10-K for the year ended June 30, 2000.
10.15* Employment agreement for Thomas S. Hilton dated August 31,
2000, filed as an exhibit to the registrant's Annual Report on
Form 10-K for the year ended June 30, 2000.
10.16* D&K Healthcare Resources, Inc. Executive Retirement Benefit
Plan, dated January 1, 1998. filed as an exhibit to the
registrant's Annual Report on Form 10-K for the year ended
June 30, 2000.
10.17* D & K Healthcare Resources, Inc. 2001 Long Term Incentive
Plan, dated November, 2001, filed as an exhibit to the
registrant's 2001 Proxy Statement.
10.18** Lease Agreement dated as of October 10, 2001 by and between
Forsyth Centre Associates, L.L.C., and the registrant.
10.18a** Amendment to Lease Agreement dated February 26, 2002 by and
between Forsyth Centre Associates, L.L.C., and the registrant.
10.19* Lease Agreement, dated February 7, 2001, by and between
Industrial Property Fund III, L.P. and the registrant, filed
as an exhibit to the registrant's Quarterly Report on Form
10-Q for the quarter ended September 30, 2001.
13** Registrant's 2002 Annual Report to Stockholders.
21** Subsidiaries of the registrant.
23.1** Consent of KPMG LLP.
23.2** Consent of Arthur Andersen LLP
* Incorporated by reference.
** Filed herewith.
*** Incorporated by reference. Confidential portion omitted and filed
separately with the Commission.
44