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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(X) QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 2002
-----------------
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______________ to _______________
Commission File No. 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
(Address of principal executive offices)
63105
(Zip Code)
(314) 727-3485
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
X YES NO
---------- ----------
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Common Stock, $.01 par value 14,444,300
---------------------------- --------------------
(class) (February 7, 2003)
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D & K HEALTHCARE RESOURCES, INC. AND SUBSIDIARIES
Index
Page No.
--------
Part I. Financial Information
---------------------
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of
December 31, 2002 and June 30, 2002 3
Condensed Consolidated Statements of Operations for the
Three Months and Six Months Ended December 31, 2002
and December 31, 2001 4
Condensed Consolidated Statements of Cash Flows for the
Six Months Ended December 31, 2002 and
December 31, 2001 5
Notes to Condensed Consolidated Financial Statements 6 - 12
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 13 - 16
Item 3. Quantitative and Qualitative Disclosures About Market Risk 17
Item 4. Controls and Procedures 17
Part II. Other Information
-----------------
Item 4. Submission of Matters to a Vote of Security Holders 18
Item 6. Exhibits and Reports on Form 8-K 18
Page 3 of 22
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
D & K HEALTHCARE RESOURCES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
ASSETS DECEMBER 31, JUNE 30,
------ 2002 2002
------------ ----------
(Unaudited)
Cash $ 9,558 $ 11,754
Receivables, net of allowance for doubtful accounts 26,533 31,217
Inventories 452,326 364,244
Other current assets 8,146 6,699
--------- ---------
Total current assets 496,563 413,914
--------- ---------
Net property and equipment 11,683 11,104
Other assets 6,815 5,024
Goodwill, net of accumulated amortization 44,105 51,131
Other intangible assets, net of accumulated amortization 1,891 1,965
--------- ---------
Total assets $ 561,057 $ 483,138
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
Current maturities of long-term debt $ 1,870 $ 2,270
Accounts payable 216,578 215,777
Accrued expenses 12,526 13,231
--------- ---------
Total current liabilities 230,974 231,278
--------- ---------
Long-term liabilities 3,718 2,757
Revolving line of credit 158,589 80,445
Long-term debt, excluding current maturities 714 1,012
Deferred income taxes - 249
--------- ---------
Total liabilities 393,995 315,741
--------- ---------
Stockholders' equity:
Common stock 151 151
Paid-in capital 124,705 124,089
Accumulated other comprehensive loss (1,300) (887)
Retained earnings 50,442 49,590
Deferred compensation (513) -
Less treasury stock (6,423) (5,546)
--------- ---------
Total stockholders' equity 167,062 167,397
--------- ---------
Total liabilities and stockholders' equity $ 561,057 $ 483,138
========= =========
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
Page 4 of 22
D & K HEALTHCARE RESOURCES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
THREE MONTHS ENDED SIX MONTHS ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31,
2002 2001 2002 2001
------------ ------------ ------------ ------------
Net sales $ 530,843 $ 591,698 $ 1,064,809 $ 1,120,789
Cost of sales 509,621 567,203 1,022,534 1,074,436
----------- ----------- ----------- -----------
Gross profit 21,222 24,495 42,275 46,353
Operating expenses 13,506 13,987 27,050 27,769
----------- ----------- ----------- -----------
Income from operations 7,716 10,508 15,225 18,584
Other income (expense):
Interest expense, net (2,899) (2,516) (5,412) (4,392)
Other, net 17 (140) (37) (208)
----------- ----------- ----------- -----------
(2,882) (2,656) (5,449) (4,600)
----------- ----------- ----------- -----------
Income before income tax provision and
minority interest 4,834 7,852 9,776 13,984
Income tax provision (1,958) (3,028) (3,910) (5,370)
Minority interest (201) (182) (329) (385)
----------- ----------- ----------- -----------
Income before cumulative effect
of accounting change 2,675 4,642 5,537 8,229
Cumulative effect of accounting change, net - - (4,249) -
----------- ----------- ----------- -----------
Net Income $ 2,675 $ 4,642 $ 1,288 $ 8,229
=========== =========== =========== ===========
Earnings per share - basic
Net income before cumulative
effect of accounting change $ 0.18 $ 0.33 $ 0.38 $ 0.58
Cumulative effect of accounting change - - (0.29) -
----------- ----------- ----------- -----------
Net income $ 0.18 $ 0.33 $ 0.09 $ 0.58
Earnings per share - Diluted
Net income before cumulative
effect of accounting change $ 0.18 $ 0.31 $ 0.37 $ 0.56
Cumulative effect of accounting change - - (0.29) -
----------- ----------- ----------- -----------
Net income $ 0.18 $ 0.31 $ 0.08 $ 0.56
Basic Common Shares outstanding 14,470 14,258 14,512 14,100
Diluted common shares outstanding 14,583 14,730 14,717 14,580
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
Page 5 of 22
D & K HEALTHCARE RESOURCES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
SIX MONTHS ENDED
DECEMBER 31, DECEMBER 31,
2002 2001
------------ ------------
Cash flows from operating activities:
Net income $ 1,288 $ 8,229
Adjustments to reconcile net income to net cash flows from operating
activities:
Amortization of debt issuance costs 587 423
Depreciation and amortization 1,269 2,173
Gain from sale of assets - (173)
Deferred income taxes (1,897) (236)
Cumulative effect of change in accounting principle, net 4,249 -
Changes in operating assets and liabilities, net
of acquisitions:
Decrease in receivables, net 4,684 11,663
Increase in inventories (88,082) (188,821)
Increase in other current assets (2,000) (431)
Increase in accounts payable 801 77,523
Increase in accrued expenses 2,070 930
Other, net 474 (1,994)
----------- -----------
Cash flows from operating activities (76,557) (90,714)
Cash flows from investing activities:
Cash from acquired company, net of cash paid - 329
Purchases of property and equipment (1,772) (1,825)
----------- -----------
Cash flows from investing activities (1,772) (1,496)
Cash flows from financing activities:
Borrowings under revolving line of credit 395,655 412,331
Repayments under revolving line of credit (317,511) (397,206)
Proceeds from secondary stock offering - 76,888
Principal payments on long-term debt (698) (126)
Proceeds from exercise of stock options - 899
Purchase of treasury stock (877) -
Payment of dividends (436) (356)
----------- -----------
Cash flows from financing activities 76,133 92,430
(Decrease) increase in cash (2,196) 220
Cash, beginning of period 11,754 7,516
----------- -----------
Cash, end of period $ 9,558 $ 7,736
=========== ===========
Supplemental Disclosure of Cash Flow Information:
Cash paid during the period for:
Interest $ 4,527 $ 4,357
Income taxes 2,708 4,086
Non-cash transactions:
Issuance of equity for PBI acquisition $ - $ 4,477
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
Page 6 of 22
D & K HEALTHCARE RESOURCES, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Note 1. D&K Healthcare Resources, Inc. (the "Company") is a full-service,
regional wholesale drug distributor, supplying customers from
facilities in Missouri, Florida, Kentucky, Minnesota, and South Dakota.
The Company distributes a broad range of pharmaceuticals and related
products to its customers in more than 24 states primarily in the
Midwest, Upper Midwest, and South. The Company focuses primarily on a
target market sector, which includes independent retail, institutional,
franchise, chain store and alternate site pharmacies. The Company also
develops and markets sophisticated pharmacy systems software through
two wholly owned subsidiaries, Tykon, Inc. and VC Services, Inc. (dba
Viking Computer Services, Inc.). In addition, the Company owns a 70%
equity interest in Pharmaceutical Buyers, Inc. ("PBI"), a leading
alternate site group purchasing organization (see Note 6).
The accompanying unaudited condensed consolidated financial statements
have been prepared in accordance with the instructions to Form 10-Q and
include all of the information and disclosures required by accounting
principles generally accepted in the United States of America for
interim reporting, which are less than those required for annual
reporting. In the opinion of management, all adjustments (consisting
only of normal recurring accruals) considered necessary for a fair
representation have been included. The results of operations for the
three-month and six-month periods ended December 31, 2002, are not
necessarily indicative of the results to be expected for the full
fiscal year.
These condensed consolidated financial statements should be read in
conjunction with the audited consolidated financial statements and
related notes contained in the Company's 2002 Annual Report to
Stockholders.
Note 2. The Company adopted Statement of Financial Accounting Standard ("SFAS")
No. 142, "Goodwill and Other Intangible Assets" effective July 1, 2002.
Under the new statement, impairment should be tested at least annually
at the reporting unit level using a two-step impairment test. The
reporting unit is the same as or one level below the operating segment
level as described in SFAS Statement 131, "Disclosures about Segments
of an Enterprise and Related Information" (see Note 8). Under step 1 of
this approach, the fair value of the reporting unit as a whole is
compared to the book value of the reporting unit (including goodwill)
and, if a deficiency exists, impairment would need to be calculated. In
step 2, the impairment is measured as the difference between the
implied fair value of goodwill and its carrying amount. The implied
fair value of goodwill is the difference between the fair value of the
reporting unit as a whole less the fair value of the reporting unit's
individual assets and liabilities, including any unrecognized
intangible assets. Under this standard, goodwill and intangibles with
indefinite lives are no longer amortized. A discounted cash flow model
was used to determine the fair value of the
Page 7 of 22
Company's businesses for the purpose of testing goodwill for
impairment. The discount rate used was based on a risk-adjusted
weighted average cost of capital.
The effects of adopting the new standard on net income and earnings per
share for the three-month and six-month periods ended December 31, 2002
and 2001 are:
For the three-month period ended December 31:
(in thousands, except per share amounts)
Net Income Basic EPS Diluted EPS
----------------------------------------------------------
2002 2001 2002 2001 2002 2001
----------------------------------------------------------
Net income $2,675 $4,642 $0.18 $0.33 $0.18 $0.31
Add: goodwill amortization -- 395 -- 0.03 -- 0.03
----------------------------------------------------------
Income before cumulative
effect of accounting change
and goodwill amortization $2,675 $5,037 $0.18 $0.36 $0.18 $0.34
For the six-month period ended December 31:
(in thousands, except per share amounts)
Net Income Basic EPS Diluted EPS
----------------------------------------------------------
2002 2001 2002 2001 2002 2001
----------------------------------------------------------
Net income $1,288 $8,229 $0.09 $0.58 $0.08 $0.56
Add: cumulative effect of
accounting change, net 4,249 -- 0.29 -- 0.29 --
----------------------------------------------------------
Income, before cumulative
effect of accounting change 5,537 8,229 0.38 0.58 0.37 0.56
Add: goodwill amortization -- 790 -- 0.06 -- 0.06
----------------------------------------------------------
Income before cumulative
effect of accounting change
and goodwill amortization $5,537 $9,019 $0.38 $0.64 $0.37 $0.62
Net income for the three-month period ended December 31, 2001 would
have been $395,000, or $0.03 per share higher, if goodwill amortization
had been discontinued effective July 1, 2001. Net income for the
six-month period ended December 31, 2001 would have been $790,000, or
$0.06 per share higher, if goodwill amortization had been discontinued
effective July 1, 2001. Net income for the full fiscal year ended June
30, 2002 would have been $1,580,000, or $0.11 per diluted share, higher
if goodwill amortization had been discontinued effective July 1, 2001.
As a result of this adoption and assessment, the Company recognized an
impairment loss of approximately $7.0 million ($4.2 million net of tax)
during the first quarter of fiscal 2003. This was 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., which is included
in the Company's wholesale drug distribution segment.
Page 8 of 22
Changes to goodwill and intangible assets during the six-month period
ended December 31, 2002, including the effects of adopting the new
accounting standard are: (in thousands)
Intangible
Goodwill Assets
------------------------------
Balance at June 30, 2002, net of
accumulated amortization $51,131 $1,965
Write-off of goodwill recognized in
cumulative effect adjustment (7,026) --
Amortization expense -- (74)
------------------------------
Balance at December 31, 2002, net of
accumulated amortization $44,105 $1,891
Intangible assets totaled $1,891,000, net of accumulated amortization
of $226,000, at December 31, 2002. Of this amount, $214,000 represents
intangible assets with indefinite useful lives, consisting primarily of
trade names that are not being amortized under SFAS No. 142. The
remaining intangibles relate to customer or supplier relationships and
licenses. Amortization expense for intangible assets is expected to
approximate $150,000 each year between 2003 and 2018.
Goodwill related to the wholesale drug distribution segment, net of
amortization, was $32.3 and $39.3 million as of December 31, 2002 and
June 30, 2002, respectively. Goodwill related to the Company's other
segments, which are combined for reporting purposes, amounted to $11.8
million as of December 31, 2002 and June 30, 2002. Other intangible
assets related to the wholesale drug distribution segment, net of
amortization, were $0.2 as of December 31, 2002 and June 30, 2002,
respectively. Other intangible assets related to the Company's other
segments amounted to $1.7 million as of December 31, 2002 and June 30,
2002, respectively.
Note 3. On March 13, 2002, the Company declared a two-for-one stock split in
the form of a stock dividend that was distributed on April 11, 2002 to
shareholders of record on March 29, 2002. All share and per share
amounts included in the condensed consolidated financial statements
have been adjusted to retroactively reflect this stock split.
Page 9 of 22
Note 4. SFAS No. 128, "Earnings Per Share", requires dual presentation of basic
and diluted earnings per share and requires a reconciliation of the
numerators and denominators of the basic and diluted earnings per share
calculations. The reconciliation of the numerator and denominator of
the basic and diluted earnings per share computations are as follows
(in thousands, except for per share amounts):
Three-Months ended December 31, 2002 Three-Months ended December 31, 2001
------------------------------------------- ----------------------------------------------
Income Shares Per Share Income Shares Per Share
(Numerator) (Denominator) (1) Amount (Numerator) (Denominator) (1) Amount
------------------------------------------- ----------------------------------------------
BASIC EARNINGS PER SHARE:
Net income available to common
stockholders $ 2,675 14,470 $0.18 $ 4,642 14,258 $0.33
EFFECT OF DILUTED SECURITIES:
Options and warrants - 113 - 472
Convertible PBI securities (52) - (75) -
------------------------------ -------------------------------
DILUTED EARNINGS PER SHARE:
Net income available to common
stockholders plus assumed
conversions $ 2,623 14,583 $0.18 $4,567 14,730 $0.31
=============================== ===============================
Six-Months ended December 31, 2002 Six-Months ended December 31, 2001
-------------------------------------------- ---------------------------------------------
Income Shares Per Share Income Shares Per Share
(Numerator) (Denominator) (1) Amount (Numerator) (Denominator) (1) Amount
-------------------------------------------- ---------------------------------------------
BASIC EARNINGS PER SHARE:
Net income available to common
shareholders before cumulative
effect of accounting change $ 5,537 14,512 $0.38 $ 8,229 14,100 $0.78
CUMULATIVE EFFECT OF ACCOUNTING
CHANGE, NET (4,249) - (0.29) $0 -
------------------------------------------ ------------------------------
1,288 14,512 0.09
EFFECT OF DILUTED SECURITIES:
Options and warrants - 205 - 458
Convertible PBI securities (82) - (90) 22
------------------------------ ------------------------------
DILUTED EARNINGS PER SHARE:
Net income available to common
stockholders plus assumed
conversions $ 1,206 14,717 $0.08 $8,139 14,580 $0.56
=============================== ==============================
(1) Outstanding shares computed on a weighted average basis
Note 5. The Company's comprehensive income consists of net earnings and net
change in value of cash flow hedge instruments as follows: (in
thousands)
For the Three Months Ended For the Six Months Ended
December 31, December 31,
2002 2001 2002 2001
------------------------------- ------------------------------
Net income $ 2,675 $ 4,642 $ 1,288 $ 8,229
Change in value of cash flow hedge, net of tax 9 219 (413) (361)
------------------------------- ------------------------------
Total comprehensive income $ 2,684 $ 4,861 $ 875 $ 7,868
=============================== ==============================
Page 10 of 22
Note 6. On July 5, 2001, the Company completed a secondary offering of
approximately 4.8 million shares of common stock. In connection with
the secondary stock offering, the Company increased its ownership in
PBI to 68% and an additional 2% was acquired in a subsequent
transaction in August 2001. Prior to the completion of the offering,
PBI was accounted for under the equity method. Since the completion of
the offering, PBI has been consolidated. For the period prior to
consolidation, certain other shareholders of PBI had the option to
exchange their combined 20% ownership interests in PBI for a fixed
number of shares of the Company's common stock or, at the Company's
option cash, under the terms of the purchase agreement. The impact of
the PBI convertible securities is included in the reconciliation of the
basic and diluted earnings per share computation in Note 4 above.
Note 7. In the normal course of business, the Company is a party to financial
instruments with off-balance-sheet risk, such as standby letters of
credit and other guarantees, which are not reflected in the
accompanying balance sheets. At December 31, 2002, the Company was
party to a standby letter of credit of $750,000 and was the guarantor
of certain customer obligations totaling approximately $500,000.
Management does not expect any material losses to result from these
off-balance-sheet items.
Note 8. Pursuant to Statement of Financial Accounting Standards No. 131,
"Disclosures about Segments of an Enterprise and Related Information,"
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. The Company's
interest in PBI is a second segment. Two wholly owned software
subsidiaries, Tykon, Inc. and Viking Computer Services, 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 additional segments are combined as Other in the table below.
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.
The Company operates principally in the United States. Intersegment
sales have been recorded at amounts approximating original cost.
Page 11 of 22
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
(In thousands) DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31,
2002 2001 2002 2001
------------ ------------ ------------- -------------
Sales to unaffiliated customers -
Wholesale drug distribution $ 528,076 $ 589,231 $ 1,059,733 $ 1,115,869
Other 2,767 2,467 5,076 4,920
------------ ------------ ------------- -------------
Total $ 530,843 $ 591,698 $ 1,064,809 $ 1,120,789
Intersegment sales -
Wholesale drug distribution $ - $ - $ - $ -
Other - 284 - 603
Intersegment eliminations - (284) - (603)
------------ ------------ ------------- -------------
Total $ - $ - $ - $ -
Net Sales -
Wholesale drug distribution $ 528,076 $ 589,231 $ 1,059,733 $ 1,115,869
Other 2,767 2,751 5,076 5,523
Intersegment eliminations - (284) - (603)
------------ ------------ ------------- -------------
Total $ 530,843 $ 591,698 $ 1,064,809 $ 1,120,789
Gross Profit -
Wholesale drug distribution $ 18,592 $ 22,140 $ 37,486 $ 41,631
Other 2,630 2,355 4,789 4,722
------------ ------------ ------------- -------------
Total $ 21,222 $ 24,495 $ 42,275 $ 46,353
Pre-tax income
Wholesale drug distribution $ 3,566 $ 6,638 $ 7,632 $ 11,634
Other 1,268 1,214 2,144 2,350
------------ ------------ ------------- -------------
Total $ 4,834 $ 7,852 $ 9,776 $ 13,984
Except as otherwise disclosed, there has been no material change in
total assets from the amount disclosed in the last annual report. There
are no differences from the last annual report in the basis of
segmentation or in the basis of measurement of segment profit or loss.
Note 9. In June 2001, the Financial Accounting Standards Board (FASB) issued
SFAS No. 143, "Asset Retirement Obligations." The new standard required
entities to record the fair value of a liability for an asset
retirement obligation in the period in which it is incurred. When the
liability is initially recorded, the entity capitalizes a cost by
increasing the carrying amount of the related long-lived asset. Over
time, the liability is accreted to its present value each period, and
the capitalized cost is depreciated over the useful life of the related
asset. Upon settlement of the liability, an entity either settles the
obligation for its recorded amount or incurs a gain or loss upon
settlement. The standard is effective for fiscal years beginning after
June 15, 2002. Adoption of SFAS No. 143 did not impact 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
Page 12 of 22
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. The adoption of this standard did not have a material impact on
our consolidated financial statements.
In April 2002, 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. The adoption of this standard did not have
a material impact on our consolidated financial statements.
In June 2002, 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.
In October 2002, the FASB issued SFAS No.147, "Acquisitions of Certain
Financial Institutions." This statement applies to all acquisitions of
financial institutions except those between two or more mutual
enterprises. This statement supersedes certain specialized accounting
guidance included in previous statements and interpretations on the
determination of goodwill in such transactions. We do not believe the
adoption of this standard will have a material impact on our
consolidated financial statements.
In December 2002, the FASB issued SFAS No.148, "Accounting for
Stock-Based Compensation -- Transition and Disclosure." This statement
amends SFAS No. 123, "Accounting for Stock-Based Compensation", to
provide alternative methods of transition for a voluntary change to the
fair value based method of accounting for stock-based employee
compensation. In addition, this statement amends the disclosure
requirements of SFAS No. 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting
for stock-based employee compensation and the effect of the method used
on reported results. We are required to adopt this standard for fiscal
years beginning after December 15, 2002. The Company currently does not
plan to change to the fair value method of accounting for stock-based
employee compensation, but will comply with the disclosure requirements
of this standard.
Page 13 of 22
D & K HEALTHCARE RESOURCES, INC. AND SUBSIDIARIES
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
The discussion below is concerned with material changes in financial
condition and results of operations in the condensed consolidated
balance sheets as of December 31, 2002 and June 30, 2002, and in the
condensed consolidated statements of operations for the three-month and
six-month periods ended December 31, 2002 and December 31, 2001,
respectively. We recommend that this discussion be read in conjunction
with the audited consolidated financial statements and accompanying
notes included in our 2002 Annual Report to Stockholders.
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 competitive nature of the wholesale
pharmaceutical distribution 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.
Results of Operations:
Net Sales. Net sales decreased $60.9 million, or 10.3%, for the quarter
ended December 31, 2002, compared to the corresponding period of the
prior year. Sales growth in the independent and regional pharmacies was
offset by a reduction in the national pharmacy chains. Independent and
regional pharmacy sales increased $19 million over the second quarter
of fiscal 2002 due to increased sales to existing customers. Sales to
national pharmacy chains decreased $88 million primarily due to fewer
attractively priced purchasing opportunities made available to us
during the quarter.
Page 14 of 22
Net sales decreased $56.0 million, or 5.0% for the six months ended
December 31, 2002, compared to the corresponding period of the prior
year. Sales growth in the independent and regional pharmacies was more
than offset by a decrease in the national pharmacy chains. National
pharmacy chain sales decreased $107 million during the first six months
of fiscal 2003 due primarily to fewer attractively priced purchasing
opportunities, particularly from our largest supplier in fiscal 2002.
Sales to independent and regional pharmacies increased $43 million due
to increased sales to existing customers and new accounts.
Gross Profit. Gross profit decreased 13.4% to $21.2 million for the
quarter ended December 31, 2002, compared to the corresponding period
of the prior year. This decrease was primarily due to lower national
pharmacy chain sales driven by fewer attractively priced purchasing
opportunities. As a percentage of net sales, gross margin declined from
4.14% to 4.00% for the quarter ended December 31, 2002, compared to the
corresponding period of the prior year. The decrease in gross margin
percentage was primarily due to lower margins on national pharmacy
chain sales.
Gross profit decreased 8.8% to $42.3 million for the six months ended
December 31, 2002, compared to the corresponding period of the prior
year. As a percentage of net sales, gross margin decreased from 4.14%
to 3.97% for the six months ended December 31, 2002, compared to the
corresponding period of the prior year. The decrease in gross margin
percentage was primarily due to lower margins on national pharmacy
chain sales.
Operating Expenses. Operating expenses decreased $0.5 million, or 3.4%,
to $13.5 million for the quarter ended December 31, 2002, compared to
the corresponding period of the prior year. For the six months ended
December 31, 2002, operating expenses were $27.1 million, which was
$0.7 million, or 2.6%, lower than the corresponding period of last
year. The decrease in operating expenses for both the quarter and
six-month period ended December 31, 2002, was the net result of several
offsetting factors. With the adoption of SFAS 142, pre-tax goodwill
amortization of approximately $0.5 million for the quarter, and $1.0
million for the six-month period, were eliminated. That savings
combined with lower incentive based compensation was partially offset
by higher property and casualty insurance premiums driven by general
insurance market trends, and depreciation on the new Enterprise
Resource Planning system which began in the fourth quarter of fiscal
2002. The ratio of operating expenses to net sales for the quarter was
2.54% compared to 2.36% for the same quarter last year. The ratio of
operating expenses to net sales for the six-month period was 2.54%
compared to 2.48% for the same period last year. The slightly higher
ratios for the periods relate to the lower sales levels.
Interest Expense, Net. Net interest expense increased $0.4 million or
15.2% for the quarter ended December 31, 2002, compared to the
corresponding period of the prior year. As a percentage of net sales,
net interest expense increased from 0.43% to 0.55% of net sales for the
quarter ended December 31, 2002, compared to the corresponding
Page 15 of 22
period of the prior year. The increase in net interest expense is
primarily driven by higher average borrowings related to the higher
average investment in inventories during the quarter compared to the
same quarter of last year. Our weighted average interest rate declined
approximately 90 basis points in the second quarter of fiscal 2003
compared to the same quarter of fiscal 2002, and the weighted average
borrowings increased to approximately $255 million from $194 million.
Net interest expense increased $1.0 million or 23.2% for the six months
ended December 31, 2002, compared to the corresponding period of the
prior year. As a percentage of net sales, net interest expense
increased from 0.39% to 0.51% of net sales for the six-month period
ended December 31, 2002, compared to the corresponding period of the
prior year. The increase in net interest expense is primarily driven by
higher average borrowings related to the higher average investment in
inventories during this period compared to the same period of last
year. Our weighted average interest rate declined approximately 102
basis points in the first half of fiscal 2003 compared to the same
period of fiscal 2002, and the weighted average borrowings increased to
approximately $228 million from $165 million.
Provision for Income Taxes. Our effective tax rate in the second
quarter was 40.5%, which brings the year-to-date rate to 40.0%, which
is the rate currently expected to be applicable for the full fiscal
year ending June 30, 2003. This compares to 38.5% for both the quarter
and six-month periods last fiscal year. This modestly higher rate is
due to the lower level of earnings relative to our permanent tax
differences, compared to last year.
Financial Condition:
Liquidity and Capital Resources. Our working capital requirements are
generally met through a combination of internally generated funds,
borrowings under our revolving line of credit and our accounts
receivable securitization facility, and trade credit from our
suppliers. We utilize the following measures as key indicators of our
liquidity and working capital management:
December 31, June 30,
2002 2002
---- ----
Working capital (000's) $ 265,589 $ 182,636
Current ratio 2.15 to 1 1.79 to 1
Cash outflows from operating activities totaled $76.6 million for the
six-month period ended December 31, 2002 compared to outflows of $90.7
million for the same period of the prior year. These results were
driven by working capital increases during the respective quarters. Our
first and second fiscal quarters generally produce operating
Page 16 of 22
cash outflows as we establish inventory positions ahead of normal
year-end price increases from the pharmaceutical manufacturers.
We invested $1,772,000 in capital assets in the six-month period ended
December 31, 2002, as compared to $1,825,000 in the corresponding
period in the prior year. We believe that continuing investment in
capital assets is necessary to achieve our goal of improving
operational efficiency, thereby enhancing our productivity and
profitability.
Cash inflows from financing activities totaled $76.1 million for the
six-month period ended December 31, 2002 as compared to cash inflows of
$92.4 million for the corresponding period in the prior year. The
current year cash inflows related to borrowings under our revolving
credit facility to finance our inventory positions. In December 2002,
we arranged an additional seasonal overline credit agreement that
increased the revolving credit facility to $230 million. The increase
in the revolving credit facility will be utilized during the third
quarter to finance inventory purchases and repaid through the sale of
inventory. This agreement expires March 31, 2003. At December 31, 2002,
$106 million of the possible $200 million of the securitization
facility was utilized and approximately $159 million of the possible
$230 million of the revolving credit facility was utilized. Management
believes that, together with internally generated funds, our available
capital resources will be sufficient to meet foreseeable capital
requirements.
To allow for continued growth and greater flexibility, we are in
negotiations to replace our existing borrowing facilities with a single
secured credit facility that would be at least $500 million. The
completion of this transaction, which would be subject to terms and
conditions typical of such arrangements, is expected to occur prior to
June 30, 2003.
Recent Trends:
During the first half of fiscal 2003, our internal revenue and margin
objectives for the national pharmacy chain business were not achieved.
The sales shortfall is principally the result of fewer attractively
priced purchasing opportunities, particularly from our largest supplier
in fiscal 2002. Our sales in the national pharmacy 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, our growth in sales to the independent and regional
pharmacy trade class has trended below internal expectations during the
quarter. Sales to this trade class grew approximately 7%,
year-over-year, in the second quarter of fiscal 2003 and 8% for the six
months ended December 31, 2002. We believe our sales performance in
this trade class reflects the continuing effects of the general
economic slowdown, growing healthcare funding constraints on insurance
providers and governmental bodies, the increased influence of generic
drugs, fewer drug approvals, and the competitive nature of the
industry. Accordingly, the outlook is for continued moderation in sales
growth in this trade class.
Page 17 of 22
Item 3. 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 $0.5 million in annual interest
expense. The reductions in interest rates have had a positive impact on
our short-term interest expense. We continually monitor this risk and
review the potential benefits of entering into hedging transactions,
such as interest rate collar agreements, to mitigate the exposure to
interest rate fluctuations.
Item 4. Controls and Procedures
a) Evaluation of disclosure controls and procedures. Based on their
evaluations as of a date within 90 days of the filing date of this
report, our principal executive officer and our principal
financial officer, with the participation of our full management
team, have concluded that our disclosure controls and procedures
(as defined in Rules 13a-14(c) and 15d-14(c) under the Securities
Exchange Act) are effective to ensure that information required to
be disclosed by us in reports that we file or submit under the
Securities Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the rules and forms
of the SEC.
b) Changes in internal controls. There were no significant changes in
our internal controls or in other factors that could significantly
affect these internal controls subsequent to the date of their
most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Page 18 of 22
D & K HEALTHCARE RESOURCES, INC. AND SUBSIDIARIES
Part II. Other Information
Item 4. Submission of Matters to a Vote of Security Holders
(a) Registrant's 2002 Annual Meeting of Stockholders was held on
November 13, 2002.
(b) Proxies were solicited by Registrant's management pursuant to
Regulation 14A under the Securities Exchange Act of 1934; there
was no solicitation in opposition to management's nominees as
listed in the proxy statement; and all director nominees were
elected to the class indicated in the proxy statement pursuant to
the vote of the Registrant's stockholders.
(c) Matters voted upon at the Annual Meeting were as follows:
a. Election of Harvey C. Jewett IV, Louis B. Susman, and
Martin D. Wilson as class I directors for a term expiring
in 2005. The results of the stockholder voting were as
follows: Mr. Jewett, 12,061,435 for, and 749,401 withheld;
Mr. Susman, 12,499,272 for, and 311,564 withheld; and Mr.
Wilson, 12,031,642 for, and 779,194 withheld.
b. Appointment of KPMG LLP as independent auditors for fiscal
2003. The result of the stockholder voting was as follows:
12,514,655 for, 288,383 against, and 7,798 withheld.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
See Exhibit Index on page 22.
(b) Reports on Form 8-K
a. On November 13, 2002, the registrant filed a Current
Report on Form 8-K under Item 9 to furnish copies of the
certifications required by Securities and Exchange
Commission under Section 906 of the Sarbanes-Oxley Act of
2002, which accompanied the Quarterly Report on Form 10-Q
for the quarter ended September 30, 2002 filed by the
registrant on November 13, 2002.
Page 19 of 22
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
D & K HEALTHCARE RESOURCES, INC.
Date: February 12, 2003 By: /s/ J. Hord Armstrong, III
----------------- --------------------------
J. Hord Armstrong, III
Chairman of the Board and
Chief Executive Officer
By: /s/ Thomas S. Hilton
--------------------
Thomas S. Hilton
Senior Vice President
Chief Financial Officer
(Principal Financial & Accounting
Officer)
Page 20 of 22
CERTIFICATIONS
I, J. Hord Armstrong, III, certify that:
1. I have reviewed this quarterly report on Form 10-Q of D&K
Healthcare Resources, Inc.;
2. Based on my knowledge, this quarterly 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 quarterly
report;
3. Based on my knowledge, the financial statements, and other
financial information included in this quarterly report, fairly
present in all material respects the financial condition, results
of operations and cash flows of D&K Healthcare Resources, Inc. as
of, and for, the periods presented in this quarterly report;
4. D&K Healthcare Resources, Inc.'s other certifying officer and I
are responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules 13a-14
and 15d-14) for D&K Healthcare Resources, Inc. and we have:
a) designed such disclosure controls and procedures to ensure
that material information relating to D&K Healthcare
Resources, Inc., including its consolidated subsidiaries, is
made known to us by others within those entities, particularly
during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of D&K Healthcare Resources,
Inc.'s disclosure controls and procedures as of a date within
90 days prior to the filing date of this quarterly report (the
"Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. D&K Healthcare Resources, Inc.'s other certifying officer and I
have disclosed, based on our most recent evaluation, to D&K
Healthcare Resources, Inc.'s auditors and the audit committee of
D&K Healthcare Resources, Inc.'s board of directors (or persons
performing the equivalent function):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect D&K Healthcare
Resources, Inc.'s ability to record, process, summarize and
report financial data and have identified for D&K Healthcare
Resources, Inc.'s auditors any material weaknesses in internal
controls; and
b) any fraud, whether or not material, that involves management
or other employees who have a significant role in D&K
Healthcare Resources, Inc.'s internal controls; and
6. D&K Healthcare Resources, Inc.'s other certifying officer and I
have indicated in this quarterly report whether or not there were
significant changes in internal controls or in other factors that
could significantly affect internal controls subsequent to the
date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material
weaknesses.
Date: February 12, 2003 /s/ J. Hord Armstrong, III
----------------------------------
Title: Chairman of the Board and
Chief Executive Officer
(Principal Executive Officer)
Page 21 of 22
I, Thomas S. Hilton, certify that:
1. I have reviewed this quarterly report on Form 10-Q of D&K
Healthcare Resources, Inc.;
2. Based on my knowledge, this quarterly 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 quarterly
report;
3. Based on my knowledge, the financial statements, and other
financial information included in this quarterly report, fairly
present in all material respects the financial condition, results
of operations and cash flows of D&K Healthcare Resources, Inc. as
of, and for, the periods presented in this quarterly report;
4. D&K Healthcare Resources, Inc.'s other certifying officer and I
are responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules 13a-14
and 15d-14) for D&K Healthcare Resources, Inc. and we have:
a) designed such disclosure controls and procedures to ensure
that material information relating to D&K Healthcare
Resources, Inc., including its consolidated subsidiaries, is
made known to us by others within those entities, particularly
during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of D&K Healthcare Resources,
Inc.'s disclosure controls and procedures as of a date within
90 days prior to the filing date of this quarterly report (the
"Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. D&K Healthcare Resources, Inc.'s other certifying officer and I
have disclosed, based on our most recent evaluation, to D&K
Healthcare Resources, Inc.'s auditors and the audit committee of
D&K Healthcare Resources, Inc.'s board of directors (or persons
performing the equivalent function):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect D&K Healthcare
Resources, Inc.'s ability to record, process, summarize and
report financial data and have identified for D&K Healthcare
Resources, Inc.'s auditors any material weaknesses in internal
controls; and
b) any fraud, whether or not material, that involves management
or other employees who have a significant role in D&K
Healthcare Resources, Inc.'s internal controls; and
6. D&K Healthcare Resources, Inc.'s other certifying officer and I
have indicated in this quarterly report whether or not there were
significant changes in internal controls or in other factors that
could significantly affect internal controls subsequent to the
date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material
weaknesses.
Date: February 12, 2003 /s/ Thomas S. Hilton
-------------------------------
Title: Senior Vice President and
Chief Financial Officer
(Principal Financial Officer)
Page 22 of 22
EXHIBIT INDEX
Exhibit No. Description
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.,
filed as an exhibit to registrants 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.
* Incorporated by reference.