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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
--------------------------------
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended September 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
Commission File No. 0-12991
-------
LANGER, INC.
------------
(Exact name of Registrant as specified in its charter)
DELAWARE 11-2239561
- ---------------------------------- ------------------------------
(State or other jurisdiction (I.R.S. employer iden-
of incorporation or tification number)
organization)
450 COMMACK ROAD, DEER PARK, NEW YORK 11729-4510
-------------------------------------------------
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (631) 667-1200
--------------
* * * * * * * * * * *
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES X NO ______
-----------
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act)
YES_______ NO X
------------
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Common Stock, Par Value $.02 - 4,381,631 shares as November 6, 2004.
INDEX
LANGER, INC. AND SUBSIDIARIES
PART I. FINANCIAL INFORMATION PAGE
Item 1. Financial Statements
Consolidated Balance Sheets - 3
As of September 30, 2004, and December 31, 2003
Consolidated Statements of Operations - 4
Three-month and nine-month periods ended September 30, 2004
and 2003
Consolidated Statement of Stockholders' Equity - 5
Nine-month period ended September 30, 2004
Consolidated Statements of Cash Flows 6
Nine-month period ended September 30, 2004 and 2003
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition 20
and Results of Operations
Item 3. Quantitative and Qualitative Disclosures about Market Risk 23
Item 4. Controls and Procedures 24
PART II OTHER INFORMATION
Item 6. Exhibits 25
SIGNATURES 26
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
LANGER, INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 2004 DECEMBER 31, 2003
-------------------------- -----------------------
ASSETS (Unaudited)
Current assets:
Cash and cash equivalents $ 3,529,303 $ 5,533,946
Accounts receivable, net of allowances for doubtful
accounts and returns and allowances aggregating $265,273
and $292,725, respectively 7,119,536 3,628,052
Inventories 5,729,175 2,496,583
Prepaid expenses and other 2,032,240 495,386
-------------------------- -----------------------
Total current assets 18,410,254 12,153,967
Property and equipment, net 6,979,983 2,496,071
Identifiable intangible assets, net 9,502,124 3,960,105
Goodwill 8,903,498 4,536,198
Other assets 3,025,951 876,856
-------------------------- -----------------------
Total assets $ 46,821,810 $ 24,023,197
========================== =======================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current maturities of long-term debt $ - $ 800,000
Secured promissory note payable 7,500,000 -
Obligation under purchase agreement 2,500,000 -
Accounts payable 1,692,639 1,133,149
Other current liabilities 3,980,832 2,114,270
Unearned revenue 686,731 672,597
-------------------------- -----------------------
Total current liabilities 16,360,202 4,720,016
Non-current liabilities:
Long-term debt:
Convertible notes 14,589,000 14,589,000
Promissory note payable 3,000,000 -
Senior subordinated notes payable 4,764,100 -
Obligations under capital leases, excluding current
installments 2,700,000 -
Unearned revenue 129,006 166,757
Accrued pension expense 171,893 171,893
Other liabilities 709,425 600,338
-------------------------- -----------------------
Total liabilities 42,423,626 20,248,004
-------------------------- -----------------------
Stockholders' Equity:
Preferred stock, no par value; authorized 250,000 shares;
no shares issued - -
Common stock, $.02 par value; authorized 50,000,000
shares; issued 4,447,951 and 4,447,451, respectively 88,959 88,949
Additional paid-in capital 13,939,619 13,202,129
Accumulated deficit (9,256,869) (9,159,140)
Accumulated other comprehensive loss (258,068) (241,288)
-------------------------- -----------------------
4,513,641 3,890,650
Treasury stock at cost, 67,100 shares (115,457) (115,457)
-------------------------- -----------------------
Total stockholders' equity 4,398,184 3,775,193
-------------------------- -----------------------
Total liabilities and stockholders' equity $ 46,821,810 $ 24,023,197
========================== =======================
See the accompanying notes to the unaudited consolidated financial statements.
3
LANGER, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
2004 2003 2004 2003
--------------- --------------- ---------------- -----------------
Net sales $ 6,285,384 $6,332,684 $ 18,596,823 $ 18,282,606
Cost of sales 4,007,133 4,113,520 11,957,703 11,981,180
--------------- --------------- ---------------- -----------------
Gross profit 2,278,251 2,219,164 6,639,120 6,301,426
Selling expenses 790,038 783,423 2,384,172 2,333,850
General and administrative expenses 1,259,016 1,206,363 3,777,039 3,564,550
--------------- --------------- ---------------- -----------------
Operating income 229,197 229,378 477,909 403,026
--------------- --------------- ---------------- -----------------
Other income (expense):
Interest income 47,347 33,462 135,715 111,235
Interest expense (196,689) (205,725) (602,860) (628,606)
Other 2,013 30,454 4,507 58,684
--------------- --------------- ---------------- -----------------
Other expenses, net (147,329) (141,809) (462,638) (458,687)
--------------- --------------- ---------------- -----------------
Income (loss) before provision for income taxes 81,868 87,569 15,271 (55,661)
Provision for income taxes 38,000 38,100 113,000 126,650
--------------- --------------- ---------------- -----------------
Net income (loss) $ 43,868 $ 49,469 $ (97,729) $ (182,311)
=============== =============== ================ =================
Weighted average number of common shares used
in computation of net income (loss) per share:
Basic 4,380,851 4,377,255 4,380,707 4,372,525
=============== =============== ================ =================
Diluted 4,748,812 4,625,874 4,380,707 4,372,525
=============== =============== ================ =================
Net income (loss) per common share:
Basic $ .01 $ .01 $ (.02) $ (.04)
=============== =============== ================ =================
Diluted $ .01 $ .01 $ (.02) $ (.04)
=============== =============== ================ =================
See the accompanying notes to the unaudited consolidated financial statements.
4
LANGER, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004
(UNAUDITED)
Accumulated Other
Comprehensive Loss
Common Stock ------------------
------------ Additional Foreign Minimum Total
Treasury Paid-in Accumulated Currency Pension Stockholders'
Shares Amount Stock Capital Deficit Translation Liability Equity
--------------------------------------------------------------------------------------------------------
Balance at January 1, 2004 4,447,451 $88,949 $(115,457) $13,202,129 $(9,159,140) $ 211,821 $ (453,109) $ 3,775,193
Net loss for the nine
months ended September 30,
2004 (97,729) (97,729)
Foreign currency adjustment (16,780) (16,780)
Issuance of warrants 735,900 735,900
Exercise of Stock Options 500 10 1,590 1,600
--------------------------------------------------------------------------------------------------------
Balance at September 30,
2004 4,447,951 $88,959 $(115,457) $13,939,619 $(9,256,869) $ 195,041 $(453,109) $ 4,398,184
========================================================================================================
See the accompanying notes to the unaudited consolidated financial statements.
5
LANGER, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
FOR NINE MONTHS ENDED SEPTEMBER 30,
2004 2003
-------------------- ------------------
Cash Flows From Operating Activities:
Net loss $ (97,729) $ (182,311)
Adjustments to reconcile net loss to net cash (used in) provided by
operating activities:
Depreciation and amortization 685,988 575,929
Provision for doubtful accounts receivable 48,000 63,565
Deferred income taxes 113,000 100,216
Changes in operating assets and liabilities:
Accounts receivable (131,049) (344,217)
Inventories (598,644) (9,095)
Prepaid expenses and other assets (389,184) 182,510
Accounts payable and other current liabilities (431,089) (74,298)
Unearned revenue and other liabilities 157,367 (197,188)
-------------------- ------------------
Net cash (used in) provided by operating activities (643,340) 115,111
-------------------- ------------------
Cash Flows From Investing Activities:
Purchase of business, net of cash acquired (4,861,643) (1,747,913)
Deferred performance-based consideration (465,988) --
Purchase of property and equipment (730,967) (1,127,145)
-------------------- ------------------
Net cash used in investing activities (6,058,598) (2,875,058)
-------------------- ------------------
Cash Flows From Financing Activities:
Issuance of senior subordinated notes payable 5,500,000 --
Proceeds from the exercise of stock options 1,600 --
Payment of promissory notes (800,000) (1,000,000)
-------------------- ------------------
Net cash provided by (used in) financing activities 4,701,600 (1,000,000)
-------------------- ------------------
Effect of exchange rate changes on cash (4,305) 18,160
-------------------- ------------------
Net decrease in cash and cash equivalents (2,004,643) (3,741,787)
Cash and cash equivalents at beginning of period 5,533,946 9,411,710
-------------------- ------------------
Cash and cash equivalents at end of period $ 3,529,303 $ 5,669,923
==================== ==================
Supplemental Disclosures of Cash Flow Information Cash paid during
the period for:
Interest $ 312,398 $ 337,384
==================== ==================
Income taxes
$ -- $ --
==================== ==================
Issuance of promissory notes in purchase of business $ 10,500,000 $ --
==================== ==================
Obligation under purchase agreement $ 2,500,000 $ --
==================== ==================
Warrants issued in connection with senior subordinated notes payable $ 735,900 $ --
==================== ==================
See the accompanying notes to the unaudited consolidated financial statements.
6
LANGER, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND OTHER MATTERS
(A) BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America ("GAAP") for interim financial information and
with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes
required by GAAP for complete financial statements. In the opinion of
management, all adjustments (consisting of normal recurring accruals)
considered necessary for a fair presentation have been included. These
unaudited consolidated financial statements should be read in conjunction
with the consolidated financial statements, including the related notes,
included in the Company's annual report on Form 10-K for the fiscal year
ended December 31, 2003.
Operating results for the three and nine months ended September 30, 2004
are not necessarily indicative of the results that may be expected for the
year ending December 31, 2004.
(B) PROVISION FOR INCOME TAXES
For the three and nine months ended September 30, 2004, there was no
current provision for income taxes on domestic and foreign operations. The
provisions for income taxes on foreign operations for the three and nine
month periods ended September 30, 2003 were $2,850 and $26,650,
respectively.
Prior to the adoption of Statement of Financial Accounting Standards
("SFAS") No. 142, the Company would not have needed a valuation allowance
for the portion of the net operating losses equal to the amount of
tax-deductible goodwill and trade names amortization expected to occur
during the carry forward period of the net operating losses based on the
timing of the reversal of these taxable temporary differences. As a result
of the adoption of SFAS 142, the reversal will not occur during the carry
forward period of the net operating losses. Therefore, the Company recorded
a deferred income tax expense of approximately $38,000 and $113,000,
respectively, during the three and nine months ended September 30, 2004 and
$35,250 and $100,000, respectively during the three and nine month periods
ended September 30, 2003, which would not have been required prior to the
adoption of SFAS 142.
(C) RECLASSIFICATIONS
Certain amounts have been reclassified in the prior period consolidated
financial statements to present them on a basis consistent with the current
period.
(D) SEASONALITY
A substantial portion of the Company's revenue is derived from the sale of
custom orthotics. North American custom orthotic revenue has historically
been significantly higher in the warmer months of the year, while custom
orthotic revenue of the Company's United Kingdom subsidiary has
historically not evidenced any seasonality.
7
(E) STOCK OPTIONS
At September 30, 2004, the Company has two stock-based employee
compensation plans. The Company accounts for those plans under the
recognition and measurement principles of APB Opinion No. 25, Accounting
for Stock Issued to Employees, and related Interpretations. No stock-based
employee compensation cost is reflected in net income (loss), as all
options granted under those plans had an exercise price equal to market
value of the underlying common stock on the date of grant. The following
table illustrates the effect on net income (loss) and earnings (loss) per
share if the company had applied the fair value recognition provisions of
FASB Statement No. 123, Accounting for Stock-Based Compensation, to
stock-based employee compensation.
Three months ended Nine months ended
September 30, September 30,
-------------- -------------- --------------- --------------
2004 2003 2004 2003
-------------- -------------- --------------- --------------
Net income (loss) - as reported $ 43,868 $ 49,469 $(97,729) $ (182,311)
Deduct: Total stock-based employee
compensation expense determined
under fair value basis method for
all rewards, net of tax (39,246) (31,478) (299,344) (112,838)
-------------- -------------- ------------- --------------
Pro forma net income (loss) $ 4,622 $ 17,991 $(397,073) $ (295,149)
============== ============== ============= ==============
Earnings (loss) per share:
Basic-as reported $ .01 $ .01 $ (.02) $ (.04)
============== ============== ============= ==============
Basic-pro forma $ .00 $ .00 $ (.09) $ (.07)
============== ============== ============= ==============
Diluted-as reported $ .01 $ .01 $ (.02) $ (.04)
============== ============== ============= ==============
Diluted-pro forma $ .00 $ .00 $ (.09) $ (.07)
============== ============== ============= ==============
(F) RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In early December 2003, the FASB issued SFAS No. 132, as revised,
Employers' Disclosures about Pensions and Other Postretirement Benefits,
("Revised SFAS 132"), which requires additional disclosures about
assets, obligation, cash flows, and net periodic benefit cost of defined
benefit pension plans and other defined benefit postretirement plans.
The Company adopted the required revised disclosure provisions of
Revised SFAS 132 as of December 31, 2003, except for the disclosure of
estimated future benefit payments, which the Company is required to and
will disclose as of December 31, 2004. The adoption of SFAS No. 132 did
not have a material impact on the Company's consolidated financial
statements
NOTE 2 - ACQUISITIONS
A) BI-OP LABORATORIES, INC.
Effective January 1, 2003, the Company, through a wholly-owned subsidiary,
acquired all of the issued and outstanding stock of Bi-Op Laboratories, Inc.
("Bi-Op") pursuant to the terms of a Stock Purchase Agreement dated as of
January 13, 2003 (the "Stock Purchase Agreement").
8
In connection with the acquisition, the Company paid consideration in Canadian
dollars, determined through arms-length negotiation of the parties. When
converted to U.S. dollars the total purchase price approximated $2.2 million, of
which approximately $1.8 million (including $0.5 million for transaction costs)
was paid in cash and approximately $0.4 million was paid by issuing 107,611
shares of the Company's common stock (the "Shares"). The purchase price was
funded by using a portion of the proceeds remaining from the sale of the
Company's 4% convertible subordinated notes due August 31, 2006. The Shares were
valued based upon the average of the market price of the Company's common stock
two days before, two days after, and on the date the acquisition was announced.
In connection with the Stock Purchase Agreement, the Company entered into an
employment agreement with Raynald Henry, Bi-Op's former principal owner, having
a term of three years and providing for an annual base salary of $75,000 CDN and
benefits, including certain severance payments. The allocation of the purchase
price among the assets and liabilities was based upon the Company's valuation of
the fair value of assets and liabilities of Bi-Op.
The following table sets forth the components of the purchase price:
Cash consideration $ 1,368,756
Common stock issued 369,106
Transaction costs 495,383
--------------------
Total purchase price $ 2,233,245
====================
The following table provides the allocation of the purchase price:
Assets: Cash and cash equivalents $ 194,531
Accounts receivables 212,593
Inventories 109,572
Prepaid expenses and other 232,394
Property and equipment 437,148
Goodwill 820,056
Identified intangible assets (non-competition agreement of $400,000
and repeat customer base of $500,000) 900,000
Other assets 41,802
-----------------
2,948,096
-----------------
Liabilities: Accounts payable 117,809
Accrued liabilities 140,217
Deferred income tax 270,000
Long term debt and other liabilities 186,825
-----------------
714,851
-----------------
Total purchase price $ 2,233,245
=================
The value allocated to goodwill in the purchase of Bi-Op is not deductible for
tax purposes.
B) BENEFOOT, INC. AND BENEFOOT PROFESSIONAL PRODUCTS, INC.
On May 6, 2002 the Company, through a wholly-owned subsidiary, acquired
substantially all of the assets and liabilities of each of Benefoot, Inc. and
Benefoot Professional Products, Inc. (collectively, "Benefoot"), pursuant to the
terms of an asset purchase agreement (the "Asset Purchase Agreement"). The
assets acquired include machinery and equipment, other fixed assets, inventory,
receivables, contract rights, and intangible assets.
In connection with the acquisition, the Company paid consideration of $6.1
million, of which $3.8 million was paid in cash, $1.8 million was paid through
the issuance of 4% promissory notes (the "Promissory Notes") and $0.5 million
was paid by issuing 61,805 shares of common stock (the "Shares"), together with
certain registration rights. The Shares were valued based upon the average of
the market price of the Company's common stock two days before, two days after
and on the date the acquisition was announced. $1.0 million of the Promissory
Notes were repaid on
9
May 6, 2003 and the balance of $0.8 million, plus interest was repaid on May 6,
2004. The Company also assumed certain liabilities of Benefoot, including
approximately $0.3 million of long-term indebtedness. The Company also agreed to
pay Benefoot up to an additional $1 million ("Performance-based Consideration")
upon achievement of certain performance targets on or prior to May 6, 2004
measured at various intervals. During the nine months ended September 30, 2004,
the Company recorded $163,952 of such Performance-based Consideration as
additional goodwill. As of May 6, 2004, the final measurement date for such
performance targets, the Company had paid or accrued a total of $767,190 with
respect to such Performance-based Consideration. The Company funded the entire
cash portion of the purchase price with proceeds from the prior sale of the
Company's 4% convertible subordinated notes due August 31, 2006.
In connection with the Asset Purchase Agreement, the Company entered into an
employment agreement with each of two shareholders of Benefoot, each having a
term of two years and providing for an annual base salary of $150,000 and
benefits, including certain severance arrangements. One of these shareholders
subsequently terminated his employment agreement with the Company and the second
contract expired in the second quarter of 2004. The Company also entered into an
agreement (which was amended in 2003 and 2004), with Sheldon Langer as a medical
consultant. The allocation of the purchase price among the assets acquired and
liabilities assumed is based on the Company's valuation of the fair value of the
assets and liabilities of Benefoot.
The following table sets forth the components of the purchase price:
Cash consideration $ 3,800,351
Benefoot long-term debt paid at closing 307,211
-----------------------
Total cash paid at closing $ 4,107,562
Promissory note issued 1,800,000
Common stock issued 529,512
Transaction costs 680,228
Performance-based consideration 767,190
-------------------
Total purchase price $ 7,884,492
===================
The following table provides the allocation of the purchase price:
Assets: Cash and cash equivalents $ 225,953
Accounts receivables 806,370
Inventories 660,559
Prepaid expenses and other 76,973
Property and equipment 155,110
Goodwill 3,880,094
Identified intangible assets (trade names of $1,600,000,
non-competition agreements of $230,000, and license agreements
and related technology of $1,600,000) 3,430,000
Other assets 6,163
-------------------
9,241,222
-------------------
Liabilities: Accounts payable 647,873
Accrued liabilities 389,400
Unearned revenue 210,355
Long term debt and other liabilities 109,102
-------------------
1,356,730
-------------------
Total purchase price $ 7,884,492
===================
10
In accordance with the provisions of SFAS No. 142, the Company will not amortize
goodwill and intangible assets with indefinite lives (trade names with an
estimated fair value of $1,600,000). The value allocated to goodwill in the
purchase of Benefoot is deductible for tax purposes.
(C) ACQUISITION OF SILIPOS
On September 30, 2004, the Company acquired all of the outstanding stock of
Silipos, Inc. from SSL International plc ("SSL" or "Seller"). Silipos is a
manufacturer of gel-based products for the orthopedic, prosthetic and skincare
markets, and operates out of a 40,000 square-foot manufacturing facility in
Niagara Falls, NY, and a sales and marketing office in New York City.
The purchase price paid was $15.5 million, plus transaction costs, and was
comprised of $5.0 million of cash paid at closing, the $7.5 Million Note and the
$3 Million Note. (See Note 4, "Long Term Debt", for a complete description of
said notes). The purchase price is subject to reduction based upon adjustments
to tangible net worth, as defined, at September 30, 2004.
Silipos is a party to a supply agreement with Poly-Gel, LLC ("Poly-Gel") under
which the owners of Poly-Gel have the option to require Silipos to purchase
Poly-Gel at a purchase price equal to 1.5 times Poly-Gel's revenue for the
twelve month period ending immediately prior to the exercise of the option ("Put
Option"). The Put Option expires in February 2005. If (i) Poly-Gel exercises the
Put Option, or if we otherwise acquire Poly-Gel, (ii) the purchase price does
not exceed $4,500,000 and (iii) the liabilities and damages incurred by the
Seller and us do not exceed $2,000,000, we are obligated, pursuant to the terms
of the Silipos purchase agreement, to pay the Seller an aggregate amount of
$4,500,000 less the purchase price paid for Poly-Gel. If Poly-Gel does not
exercise the Put Option and we do not otherwise acquire Poly-Gel, we may be
obligated to pay the Seller between $1,000,000 and $1,500,000, depending on
whether Poly-Gel asserts claims as well as the resolution, timing and amount, if
any, of liabilities incurred relating to Poly-Gel. The Company has included the
full obligation of $2,500,000 in the purchase price of Silipos and as a current
liability in the Company's balance sheet as of September 30, 2004.
Allocation of Silipos' purchase price among the assets acquired and liabilities
assumed is based on the Company's preliminary evaluation of the fair value of
the assets and liabilities of Silipos. The Company may adjust these estimates
based upon analysis of third party appraisals and the determination of fair
value when finalized.
The following table sets forth the components of the estimated purchase price:
Total Cash Consideration $ 5,000,000
Promissory Notes issued 10,500,000
Obligation under purchase agreement 2,500,000
Prepaid transactions costs 241,757
Accrued transaction costs 579,497
------------------
Total purchase price $ 18,821,254
==================
11
The following table provides the preliminary allocation of the purchase price
based upon the fair value of the assets acquired and liabilities assumed at
September 30, 2004:
Assets:
Cash and cash equivalents $ 380,294
Accounts receivables 3,365,847
Inventories 2,638,228
Other current assets 1,095,989
Property and equipment 4,059,300
Goodwill 4,203,348
Identifiable intangible assets 5,732,000
Deferred income taxes 2,293,847
----------------
23,768,853
Liabilities:
Accounts payable 846,631
Accrued liabilities 1,400,968
Capital lease obligation 2,700,000
----------------
4,947,599
----------------
Total purchase price $ 18,821,254
================
In June 2001, the Financial Accounting Standards Board issued statement of
Financial Accounting Standards No. 141, Business Combinations, and No. 142,
Goodwill and Other Intangible Assets, effective for the fiscal years beginning
after December 15, 2001. Under these rules, goodwill and intangible assets
deemed to have indefinite lives are not amortized but are subject to an annual
impairment test in accordance with SFAS No 142. Other intangible assets will
continue to be amortized over their useful lives.
In accordance with the provisions of SFAS No. 142, the Company will not amortize
goodwill and intangible assets with indefinite lives (trade names with an
estimated fair value of $2,688,000) recorded in this acquisition. The Company
expects to perform annual impairment tests of goodwill and indefinite lived
intangible assets related to the acquisition. Goodwill created by the
acquisition of Silipos is not deductible for tax purposes.
12
Summary unaudited pro forma condensed results of operations for the three
and nine month periods ended September 30, 2004 and 2003, assuming the
Silipos acquisition had occurred at the beginning of the earliest period
presented, are as follows:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, 2004 SEPTEMBER 30, 2004
Net sales $ 11,874,220 $ 33,078,317
Net income (loss) $ 264,975 $ (323,832)
Net income (loss) per share $ .06 $ (.07)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, 2003 SEPTEMBER 30, 2003
Net sales $ 13,783,485 $ 35,331,692
Net income (loss) $ 977,403 $ (16,888,490)
Net income (loss) per share $ .16 $ (3.86)
Included in the net loss for the nine months ended September 30, 2003 are a
cumulative effect of a change in accounting principles which reduced net
income by $14,132,353 and a loss on impairment of goodwill of $3,489,631,
which are non-recurring items. If these items had not been recorded, net
income and net income per share on a diluted basis would have been
increased by $17,621,984 and $4.01, respectively.
These pro forma results are not necessarily indicative of what would have
occurred if the acquisition has been in effect for the period presented,
and they may not be indicative of results expected in the future.
(D) IDENTIFIABLE INTANGIBLE ASSETS
Identifiable intangible assets at December 31, 2003 consisted of:
AMORTIZATION ORIGINAL ACCUMULATED
ASSETS PERIOD COST AMORTIZATION NET CARRYING VALUE
---------------------------------- ---------------- ------------- ------------------ ---------------------
Trade Names indefinite $1,600,000 $ - $ 1,600,000
Non-competition agreements 7/8 Years 630,000 104,339 525,661
License agreements and
related technology 11 Years 1,600,000 240,556 1,359,444
Repeat customer base 20 Years 500,000 25,000 475,000
------------- ------------------ ---------------------
$4,330,000 $ 369,895 $ 3,960,105
============= ================== =====================
Identifiable intangible assets at September 30, 2004 consisted of:
AMORTIZATION ACCUMULATED NET CARRYING
ASSETS PERIOD ORIGINAL COST AMORTIZATION VALUE
--------------------------------------- ---------------- --------------- ----------------- ----------------
Trade Names indefinite $1,600,000 $ - $ 1,600,000
Non-competition agreements 7/8 Years 630,000 166,478 463,522
License agreements and
related technology 11 Years 1,600,000 349,648 1,250,352
Repeat customer base 20 Years 500,000 43,750 456,250
Trade Names - Silipos indefinite 2,688,000 - 2,688,000
Repeat customer base - Silipos 7 Years 1,680,000 - 1,680,000
License agreements and
related technology - Silipos 9.5 Years 1,364,000 - 1,364,000
--------------- ----------------- ----------------
$10,062,000 $ 559,876 $ 9,502,124
=============== ================= ================
Aggregate amortization expense relating to the above identifiable
intangible assets for each of the quarters and nine month periods ended
September 30, 2004 and 2003 was $63,327 and $189,981, respectively. As of
September 30, 2004, the estimated future amortization expense is
approximately $362,000 for the year ended December 31, 2004, and future
amortization expense is approximately $688,000 per annum for 2005 - 2008,
and $677,000 for 2009.
13
(E) GOODWILL
Changes in goodwill for the nine months ended September 30, 2004, and for
the year ended December 31, 2003, are as follows:
CUSTOM DISTRIBUTED
ORTHOTICS PRODUCTS SUBTOTAL SILIPOS TOTAL
-------------- ------------- -------------- -------------- ---------------
Balance, January 1, 2003 $1,191,986 $ 1,994,400 $3,186,386 $ - $3,186,386
Purchase price adjustments related to
achievement of milestones and
acquisition costs 198,175 331,581 529,756 529,756
Acquisition - Bi-Op 820,056 - 820,056 820,056
-------------- ------------- -------------- -------------- ---------------
Balance, December 31, 2003 2,210,217 2,325,981 4,536,198 - 4,536,198
Purchase price adjustments related to
achievement of milestones and
acquisition costs 61,332 102,620 163,952 163,952
Acquisition of Silipos - - 4,203,348 4,203,348
-------------- ------------- -------------- -------------- ---------------
Balance September 30, 2004 $2,271,549 $ 2,428,601 $4,700,150 $4,203,348 $ 8,903,498
============== ============= ============== ============== ===============
Beginning in the quarter commencing October 1, 2004 the Company will report
its financial results in two segments, orthopedics and skincare. Custom
orthotics and distributed products (the two segments reported for periods
prior to October 1, 2004) will be reported in the orthopedics segment.
The goodwill generated by the Silipos acquisition has not yet been allocated
between business segments.
NOTE 3 - INVENTORIES
Inventories consist of:
September 30, 2004 December 31, 2003
------------------------ ------------------------
(Unaudited)
Raw materials $ 3,000,510 $ 1,087,916
Work-in-process 572,153 174,164
Finished goods 2,156,512 1,234,503
------------------------ ------------------------
$ 5,729,175 $ 2,496,583
======================== ========================
NOTE 4- LONG-TERM DEBT
On October 31, 2001, the Company completed the sale of $14,589,000 principal
amount of its 4% convertible subordinated notes due August 31, 2006 (the
"Notes"), in a private placement. Langer Partners LLC, whose sole manager
and voting member is Warren B. Kanders, our recently appointed Chairman of
the Board of Directors, holds $2,000,000 principal amount of these Notes.
The Notes are convertible into shares of the Company's common stock at a
conversion price of $6.00 per share (equal to the market value of the
Company's stock on October 31, 2001), subject to anti-dilution protections
in the event that, among other things, the Company issues common stock or
equity securities convertible into or exchangeable for common stock at a
price below the conversion price of the Notes, and are subordinated to
existing or future senior indebtedness of the Company. Among other
provisions, the Company may, at its option, call, prepay, redeem,
repurchase, convert or otherwise acquire (collectively, "Call") the Notes,
in whole or in part, (1) after August 31, 2003 or (2) at any time if the
closing price of the Company's common stock equals or exceeds $9.00 per
share for at least ten consecutive trading days. If the Company elects to
Call any of the Notes, the holders of the Notes may elect to convert the
Notes into the Company's common stock. Interest is payable semi-annually on
the last day of June and December. Interest expense on these Notes for each
of the nine and three month periods ended September 30, 2004 and 2003 was
$437,670 and $145,890, respectively.
14
The Company received net proceeds of $13,668,067 from the offering of the
Notes. The cost of raising these proceeds was $920,933, which is being
amortized over the life of the Notes. The amortization of these costs for
each of the nine and three month periods ended September 30, 2004 and 2003
was $145,329 and $48,443, respectively.
The Company issued $1,800,000 in Promissory Notes in connection with the
acquisition of Benefoot. $1,000,000 of the notes were repaid on May 6, 2003
and the balance was repaid on May 6, 2004. Related interest expense for the
nine and three month period ended September 30, 2004 was $11,111 and $0,
respectively. Interest expense with respect to the Promissory Notes for
the nine and three month periods ended September 30, 2003 was $29,932 and
$11,932, respectively.
On September 30, 2004 the Company completed the acquisition of all of the
outstanding stock of Silipos (see Footnote 2(c), "Acquisition of Silipos").
In connection with the acquisition of Silipos, the Company issued:
(i) $5,500,000 principal amount of 7% senior subordinated notes due
September 30, 2007 to ten accredited investors.
(ii) $7,500,000 principal amount of 5.5% secured promissory note due March
31, 2006 (the "$7.5 Million Note") to the Seller.
(iii) $3,000,000 principal amount of 5.5% promissory note due December 31,
2009 (the "$3.0 Million Note") to the Seller.
The $5,500,000 principal amount of 7% senior subordinated notes due
September 30, 2007 were issued to fund the cash portion of the purchase
price for Silipos. Langer Partners LLC, whose sole manager and voting member
is Warren B. Kanders, our recently appointed Chairman of the Board of
Directors, holds $750,000 principal amount of these 7% senior subordinated
notes due September 30, 2007. As part of such issuance, the Company also
issued warrants to purchase 110,000 shares of our common stock at an
exercise price of $0.02 per share, subject to adjustments under certain
circumstances, which are exercisable until September 30, 2009, commencing
the earlier of (i) six months after the refinancing or prepayment of such
notes, or (ii) September 30, 2005. The fair value of the warrants at
September 30, 2004 was determined to be $735,900, using the Black-Scholes
model and the following assumptions: risk free rate of 2.89%, dividend of
0%, volatility of 83%, and an expected life of three years. Such amount will
be amortized over the term of the 7% senior subordinated notes due September
30, 2007, and recorded as an additional expense. Additionally, to the extent
that the Company is required to make an additional payment under the $7.5
Million Note, such additional payment would be recorded as an additional
interest expense.
The $7.5 Million Note is secured by the pledge of the stock of Silipos and,
if not repaid in full on or before March 31, 2005, the Company is obligated
to make an additional payment of $500,000 (which would be recorded as
additional interest expense) or the principal amount will be increased by
$1 million. Both the $7.5 Million Note and the $3.0 Million Note provide
for semi-annual payments of interest at the rate of 5.5% per annum with the
first payments due February 1, 2005. Additionally, the interest rate on the
$7.5 Million Note increases from 5.5% to 7.5% on April 1, 2005, and if not
repaid on or before March 31, 2006, the interest rate will increase to 12%
per annum, escalating 3% per annum for each additional 90 days thereafter
up to the maximum rate permitted by law. Financial covenants under the $7.5
Million Note require that Silipos maintain a tangible net worth of at least
$4.5 million and prohibits the Company from incurring any additional
indebtedness except to borrow up to $3.5 million for working capital, any
amounts required to pay for the purchase of Poly-Gel pursuant to the Put
Option, and equipment or capital leases up to a maximum of $500,000.
The $3.0 Million Note provides for a default interest rate of 11% per annum
escalating by 3% per annum every 90 days thereafter up to the maximum rate
permitted by law. A financial default under the $7.5 Million Note
constitutes a default under the $3.0 Million Note. The $3.0 Million Note
will be reduced by half of any additional payments actually made pursuant
to the $7.5 Million Note.
15
Pursuant to the acquisition of Silipos, the Company is obligated under a
capital lease covering the land and building at their facility in Niagara
Falls, N.Y. that expires in 2018. This lease also contains two five-year
renewal options. As of September 30, 2004, the Company's obligation under
capital leases, excluding current installments is $2,700,000.
Capital lease payments due in the fourth quarter of 2004 and annual future
minimum capital lease payments are as follows:
CAPITAL LEASES
Quarter ended December 31, 2004 $ 97,629
Year ending December 31:
2005 401,016
2006 411,504
2007 422,052
2008 432,516
2009 443,016
Later years through 2018 4,607,224
-----------
Total minimum lease payments 6,814,957
Less amount representing interest 4,114,957
-----------
Present value of net minimum
capital lease payments 2,700,000
Less current installments of obligations under capital leases
Obligations under capital leases, -----------
excluding current installments $ 2,700,000
===========
16
NOTE 5 - SEGMENT INFORMATION
In the periods covered by these financial statements, the Company operated
in two segments (custom orthotics and distributed products) principally in
the design, development, manufacture and sale of foot and gait-related
products. Intersegment net sales are recorded at cost.
Segment information for the three and nine month periods ended September 30,
2004 and 2003 is summarized as follows:
THREE MONTHS ENDED SEPTEMBER 30, 2004 CUSTOM ORTHOTICS DISTRIBUTED PRODUCTS TOTAL
----------------------------------------------- ------------------------ -------------------------- -----------------
Net sales $ 4,852,286 $ 1,433,098 $ 6,285,384
Gross profit 1,715,381 562,870 2,278,251
Operating income (loss) (109,726) 338,923 229,197
THREE MONTHS ENDED SEPTEMBER 30, 2003 CUSTOM ORTHOTICS DISTRIBUTED PRODUCTS TOTAL
----------------------------------------------- ------------------------ -------------------------- -----------------
Net sales $ 4,924,434 $ 1,408,250 $ 6,332,684
Gross profit 1,777,956 441,208 2,219,164
Operating income (loss) (45,263) 274,641 229,378
NINE MONTHS ENDED SEPTEMBER 30, 2004 CUSTOM ORTHOTICS DISTRIBUTED PRODUCTS TOTAL
------------------------------------------------ ------------------------ -------------------------- -----------------
Net sales $ 14,272,922 $ 4,323,901 $ 18,596,823
Gross profit 4,944,485 1,694,635 6,639,120
Operating income (loss) (485,157) 963,066 477,909
NINE MONTHS ENDED SEPTEMBER 30, 2003 CUSTOM ORTHOTICS DISTRIBUTED PRODUCTS TOTAL
------------------------------------------------ ------------------------ -------------------------- -----------------
Net sales $ 14,075,019 $ 4,207,587 $ 18,282,606
Gross profit 5,134,980 1,166,446 6,301,426
Operating income (loss) (248,084) 651,110 403,026
Geographical segment information is summarized as follows:
THREE MONTHS ENDED SEPTEMBER 30, 2004 NORTH AMERICA UNITED KINGDOM TOTAL
------------------------------------------------ ------------------------- --------------------------- -------------------
Net sales to external customers $ 5,632,532 $ 652,852 $ 6,285,384
Intersegment net sales 37,044 - 37,044
Gross profit 2,050,564 227,687 2,278,251
Operating income 168,228 60,969 229,197
THREE MONTHS ENDED SEPTEMBER 30, 2003 NORTH AMERICA UNITED KINGDOM TOTAL
------------------------------------------------ -------------------------- --------------------------- ------------------
Net sales to external customers $ 5,739,657 $ 593,027 $ 6,332,684
Intersegment net sales 56,012 - 56,012
Gross profit 1,994,984 224,180 2,219,164
Operating income 144,677 84,701 229,378
17
NINE MONTHS ENDED SEPTEMBER 30, 2004 NORTH AMERICA UNITED KINGDOM TOTAL
------------------------------------------------ -------------------------- --------------------------- ------------------
Net sales to external customers $ 16,531,334 $ 2,065,489 $18,596,823
Intersegment net sales 244,140 - 244,140
Gross profit 5,900,811 738,309 6,639,120
Operating income 196,276 281,633 477,909
NINE MONTHS ENDED SEPTEMBER 30, 2003 NORTH AMERICA UNITED KINGDOM TOTAL
------------------------------------------------ -------------------------- -------------------------- -------------------
Net sales to external customers $ 16,382,112 $ 1,900,494 $18,282,606
Intersegment net sales 213,064 - 213,064
Gross profit 5,554,212 747,214 6,301,426
Operating income 69,850 333,176 403,026
As a result of the Silipos acquisition, beginning in the fourth quarter of
2004, the Company will report custom orthotics and distributed products as a
single segment called orthopedics and will report a second segment called
skincare
NOTE 6 - COMPREHENSIVE INCOME (LOSS)
The Company's comprehensive income (loss) was as follows:
--------------------------------------------------------------------------------
Three months ended September 30, Nine months ended September 30,
2004 2003 2004 2003
------------------ ----------------- --------------- ----------------
Net income (loss) $ 43,868 $ 49,469 $ (97,729) $ (182,311)
Other comprehensive income (loss) net of tax:
Change in equity resulting from
translation of financial statements
into U.S. dollars 69,319 22,035 (16,780) 159,559
------------------ ----------------- --------------- ----------------
Comprehensive income (loss) $ 113,187 $ 71,504 $(114,509) $ (22,752)
================== ================= =============== ================
18
NOTE 7 - INCOME (LOSS) PER SHARE
The following table provides a reconciliation between basic and diluted
earnings per share:
Three months ended September 30,
----------------------------------------------------------------------------------------------
2004 2003
---------------------------------------------- --------------------------------------------
Income Per Per
Basic EPS (loss) Shares Share Income (loss) Shares Share
----------------------------- ------------- ----------- ------------- ------------ ---------- --------------
Income attributable to $ 43,868 4,380,851 $ .01 $ 49,469 4,377,255 $ .01
common stockholders
Effect of Dilutive
Securities
-----------------------------
Stock options and warrants - 367,961 - -- 248,619 --
------------- ----------- ------------- ------------ ---------- --------------
Diluted EPS
-----------------------------
Income attributable to
common stockholders plus
assumed exercise of stock
options and warrants $ 43,868 4,748,812 $ .01 $ 49,469 4,625,874 $ .01
============= =========== ============= ============ ========== ==============
Nine months ended September 30,
----------------------------------------------------------------------------------------------
2004 2003
--------------------------------------------- ---------------------------------------------
Basic EPS Income(loss) Shares Per Income(loss) Shares Per
Share Share
----------------------------- ------------- ----------- ------------ ------------ ----------- --------------
Loss attributable to common $ (97,729) 4,380,707 $ (.02) $ (182,311) 4,372,525 $ (.04)
stockholders
Effect of Dilutive
Securities
-----------------------------
Stock options and warrants - - -- -- --
------------- ----------- ------------ ------------ ----------- --------------
Diluted EPS
-----------------------------
Loss attributable to common
stockholders plus assumed
exercise of stock options
and warrants $ (97,729) 4,380,707 $ (.02) $ (182,311) 4,372,525 $ (.04)
============= =========== ============ ============ =========== ==============
Basic earnings per common share ("EPS") are computed based on the weighted
average number of common shares outstanding during each period. Diluted
earnings per common share are computed based on the weighted average number
of common shares, after giving effect to dilutive common stock equivalents
outstanding during each period. The diluted income (loss) per share
computations for the nine months ended September 30, 2004 and 2003 exclude
stock options and warrants totaling approximately 357,428 and 251,805,
respectively. These shares are excluded due to their anti-dilutive effect as
a result of the Company's loss during each of the periods. The impact of the
convertible notes on the calculation of the fully-diluted earnings per share
was anti-dilutive and is therefore not included in the computation for the
three month and nine month periods ended September 30, 2004 and 2003. Had
the impact of the convertible notes been included in the calculation of
diluted earnings per share, net income would have increased by approximately
$194,000 in each of the three month periods ended September 30, 2004 and
2003 and approximately $582,000 in each of the nine month periods then
ended. Additionally, the diluted weighted average shares would have
increased by 2,431,500 for each of the three and nine month periods ended
September 30, 2004 and 2003, to reflect the conversion of the convertible
notes.
NOTE 8 - RELATED PARTY TRANSACTIONS
The Company has engaged a company which is owned by the brother-in-law of a
senior executive of the Company to provide certain technology related
products and services. Costs incurred for products and services provided by
this company were approximately $2,000 and $27,000 in the quarters ended
September 30, 2004 and 2003, respectively and $16,000 and $80,000 in the
nine month periods ended September 30, 2004 and 2003, respectively. Langer
also engaged a company owned by the father-in-law of a senior executive of
the Company to provide certain promotional and marketing goods and services.
Costs incurred with respect to such goods and services for the quarters
ended September 30, 2004 and 2003 were $5,500 and $20,000, respectively and
$36,000 and $55,000 for the nine month periods ended September 30, 2004 and
2003, respectively. In April 2002, a senior executive of the Company
borrowed $21,000 from the Company ("Executive Note"). The Executive Note
accrued interest at a rate of 4% per annum and was repaid in April 2004.
On November 12, 2004, we entered into a consulting agreement (the
"Consulting Agreement") with Kanders & Company, Inc., the sole stockholder
of which is Warren B. Kanders, who on November 12, 2004, became our Chairman
of the Board of Directors, and who is the sole manager and voting member of
Langer Partners LLC ("Langer Partners"), one of our principal stockholders.
The Consulting Agreement provides that Kanders & Company, Inc., will act as
our non-exclusive consultant providing general investment banking and
financial advisory services for a term of three years, an annual fee of
$200,000, options to purchase 240,000 shares of our common stock at a price
of $7.50 per share vesting in three equal annual installments beginning on
November 12, 2005, indemnification protection and a $200,000 payment if the
Consulting Agreement is not renewed beyond the three year term. Langer
Partners holds $2,000,000 principal amount of the Notes as well as $750,000
principal amount of our 7% senior subordinated notes due September 30, 2007
and related warrants to purchase 15,000 shares of our common stock at a
price of $0.02 per share. In connection with our acquisition of Silipos, we
granted 100,000 shares of restricted stock to Kanders & Company, Inc.,
vesting on the third anniversary of the grant date, and 40,000 shares of
restricted stock to W. Gray Hudkins, our recently appointed Chief Operating
Officer, vesting in three equal annual tranches commencing on the first
anniversary of the grant date, all of which accelerates upon a change of
control of the Company.
19
NOTE 9 - PENSION
PENSION BENEFITS
------------------------------------------
NINE MONTHS ENDED SEPTEMBER 30: 2004 2003
---------------------------------------------------------- -------------------- ------------------
Interest cost $ 25,538 $ 27,298
Expected return on plan assets (28,876) (25,988)
Amortization of transition (assets) or obligations 5,843 5,843
Recognized actuarial (gain) loss 14,425 17,345
-------------------- ------------------
Net periodic benefit cost $ 16,930 $ 24,498
==================== ==================
PENSION BENEFITS
------------------------------------------
THREE MONTHS ENDED SEPTEMBER 30: 2004 2003
---------------------------------------------------------- -------------------- ------------------
Interest cost $ 8,463 $ 9,090
Expected return on plan assets (9,710) (8,650)
Amortization of transition (assets) or obligations 1,947 1,947
Recognized actuarial (gain) loss 4,809 5,782
-------------------- ------------------
Net periodic benefit cost $ 5,509 $ 8,169
==================== ==================
EMPLOYER CONTRIBUTIONS
The Company previously disclosed in its financial statements for the year
ended December 31, 2003, that it expected to contribute $72,000 to its
pension plan in 2004. The contribution of $72,000 was made during the
quarter ended September 30, 2004.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The Company disclosed its critical accounting policies and estimates in its
Annual Report on Form 10-K for the year ended December 31, 2003. There have
been no changes to those critical accounting policies and estimates during
the nine months ended September 30, 2004.
As a result of the Silipos acquisition, beginning in the fourth quarter 2004
we will report custom orthotics and distributed products as a single segment
called orthopedics, and will report a new, second reportable segment
called skincare. Accordingly, the information appearing below, which relates
to prior periods, does not reflect the basis for presentation of financial
results that will be used for subsequent periods.
In accordance with the provisions of SFAS No. 142, the Company no longer
amortizes goodwill and identifiable assets with indefinite lives. Instead,
these assets are reviewed for impairment on an annual basis by an
independent appraiser.
RESULTS OF OPERATIONS
Net loss for the nine months ended September 30, 2004 was ($97,729) as
compared to a loss of ($182,311) for nine months ended September 30, 2003.
The principal reason for the decrease in the loss was an improvement in
gross profit attributable to an increase in net sales offset by an increase
in general and administrative expenses.
Net income for the three months ended September 30, 2004 was $43,868 as
compared to $49,469 for the three months ended September 30, 2003 and
reflects a slight reduction in net sales and slightly higher general and
administrative expenses offset by efficiencies, due to cost containment
initiatives reflected in cost of sales.
Net sales for the nine months ended September 30, 2004 were $18,596,823 or
2% above net sales of $18,282,606 for the nine months ended September 30,
2003. Net sales for the three months ended September 30, 2004 were
$6,285,384 as compared to $6,332,684 for the three months ended September
30, 2003, a decrease of 1%.
Net sales of custom orthotics for the nine months ended September 30, 2004
were $14,272,922 as compared to $14,075,019 for the nine months ended
September 30, 2003, an increase of $197,903 or 1.4%. Net sales of custom
orthotics for the three months ended September 30, 2004 were $4,852,286 as
compared to $4,924,434 for the three months ended September 30, 2003, a
decrease of $72,148 or 1.5%.
20
Net sales of distributed products for the nine months ended September 30,
2004 were $4,323,901 as compared to $4,207,587 for the nine months ended
September 30, 2003, an increase of $116,314 or 2.8%. Net sales of
distributed products for the three months ended September 30, 2004 were
$1,433,098 as compared to $1,408,250 for the three months ended September
30, 2003, an increase of $24,848 or 1.8%.
Cost of sales decreased $23,477 to $11,957,703 for the nine months ended
September 30, 2004, as compared to $11,981,180 for the nine months ended
September 30, 2003. This decrease was primarily due to the Company's focus
on cost containment partially offset by price increases for certain
materials. Cost of sales decreased by $106,387 for the three months ended
September 30, 2004 as compared to the three months ended September 30, 2003
due to a decrease in sales and continued cost containment measures and
partially offset by increases in certain products costs.
Gross profit as a percentage of net sales for the nine months ended
September 30, 2004 was 35.7%, as compared to 34.5% for the nine months ended
September 30, 2003. Gross profit as a percentage of net sales for the three
months ended September 30, 2004 was 36.3% as compared to 35.0% for the three
months ended September 30, 2003. Gross profit as a percentage of net sales
increased due principally due to lower labor costs and lower manufacturing
overhead.
Selling expenses for the nine months ended September 30, 2004 were
$2,384,172 or 12.8% of net sales as compared to $2,333,850 or 12.8% of net
sales for the nine months ended September 30, 2003. Selling expenses for the
three months ended September 30, 2004 were $790,038 or 12.6% of net sales as
compared to $783,423 or 12.4% of net sales for the three months ended
September 30, 2003.
General and administrative expenses for the nine months ended September 30,
2004 were $3,777,039 or 20.3% of net sales as compared to $3,564,550 or
19.5% of net sales for the nine months ended September 30, 2003. General and
administrative expenses for the three months ended September 30, 2004 were
$1,259,016 or 20.0% as compared to $1,206,363 or 19.0% of net sales for the
three months ended September 30, 2003. General and administrative costs
increased in dollars as a result of increased costs incurred as we continue
to strengthen our infrastructure.
Other income (expense), net, was $(462,638) for the nine months ended
September 30, 2004, as compared to $(458,687) for the nine months ended
September 30, 2003. Other income (expense), net, was $(147,329) for the
three months ended September 30, 2004, as compared to $(141,809) for the
three months ended September 30, 2003. The reason for the increase in other
expense is that the 2003 periods reflect non-recurring income (there were no
such items in the 2004 period) that was partially offset in the 2004 periods
by increases in financing charges (interest income), and a decrease in
interest expense due to the repayment of the Benefoot Notes.
Prior to the adoption of SFAS No. 142, the Company would not have needed a
valuation allowance for the portion of the net operating losses equal to the
amount of tax-deductible goodwill and trade names amortization expected to
occur during the carryforward period of the net operating losses based on
the timing of the reversal of these taxable temporary differences. As a
result of the adoption of SFA 142, the reversal will not occur during the
carryforward period of the net operating losses. Therefore, the Company
recorded a deferred income tax expense of approximately $38,000 and $113,000
during the three and nine-month periods ended September 30, 2004, as
compared to $35,250 and $100,000 in the three and nine-month periods ended
September 30, 2003 which would not have been required prior to the adoption
of SFAS 142. Additionally, the Company recorded provisions for income taxes
on its foreign operation of $2,850 and $26,650 for the three and nine-month
periods ending September 30, 2003, respectively. No such amounts were
recorded in the 2004 periods.
LIQUIDITY AND CAPITAL RESOURCES
Working capital as of September 30, 2004 was $2,050,052, as compared to
$7,433,951 as of December 31, 2003. Cash balances at September 30, 2004 were
$3,529,303, a decrease of $2,004,643 from the $5,533,946 at December 31,
2003.
The reduction in cash at September 30, 2004 as compared to December 31, 2003
is primarily attributable to use of cash to repay $800,000 of Promissory
Notes in connection with the Benefoot acquisition, to pay contingent
consideration of $466,000 in connection with the Benefoot acquisition and to
purchase and implement an enterprise wide computer software system totaling
$528,000 and purchase of inventory. Such amounts were partially offset by
the unused proceeds (as of September 30, 2004) from the 7% senior
subordinated notes and the cash acquired in the Silipos transaction. The
reduction in working capital is attributable to the classification of the
$7.5 Million Note and the $2.5 Million obligation under the Silipos purchase
agreement as current liabilities.
In connection with the acquisition of Benefoot (which closed on May 6,
2002), the Company issued $1,800,000 of 4% Promissory Notes. $1,000,000 of
the Promissory Notes were paid on May 6, 2003 and the balance of $800,000
was paid on May 6, 2004. Interest expense with the respect to the Benefoot
notes for the nine months ended September 30, 2004 and 2003 was $11,111 and
$37,932, respectively.
On September 30, 2004, the Company purchased from SSL International, PLC
(the "Seller") all of the outstanding stock of Silipos, Inc. ("Silipos") for
$15,500,000 plus transaction costs. The Company paid $5,000,000 in cash and
issued two promissory notes to the Seller: a $7.5 Million 5.5% secured
promissory note due on or before March 31, 2006 and a $3 Million 5.5%
promissory note due on or before December 31, 2009. The cash portion of the
purchase price was paid
21
from the proceeds of the issuance of $5,500,000 of 7% senior subordinated
notes due September 30, 2007. If the $7.5 Million Note is not repaid in full
on or before March 31, 2005, we are obligated to make an additional payment
of $500,000 (which would be recorded as additional interest expense) or the
principal amount will be increased by $1 million. Both the $7.5 Million Note
and the $3.0 Million Note provide for semi-annual payments of interest at
the rate of 5.5% per annum with the first payments due February 1, 2005.
Additionally, the interest rate on the $7.5 Million Note increases from 5.5%
to 7.5% on April 1, 2005, and if not repaid on or before March 31, 2006, the
interest rate will increase to 12% per annum, escalating 3% per annum for
each additional 90 days thereafter up to the maximum rate permitted by law.
The $3.0 Million Note provides for a default rate of 11% per annum
escalating by 3% per annum every 90 days thereafter up to the maximum rate
permitted by law. A financial default under the $7.5 Million Note
constitutes a default under the $3.0 Million Note. The $3.0 Million Note
will be reduced by half of any additional payments actually made pursuant to
the $7.5 Million Note. Silipos is a party to a supply agreement with
Poly-Gel, LLC ("Poly-Gel") under which the owners of Poly-Gel have the
option to require Silipos to purchase Poly-Gel at a purchase price of 1.5
times Poly-Gel's revenue for a twelve month period ending immediately prior
to the exercise of the option ("Put Option"). If (i) Poly-Gel exercises the
Put Option, or if we otherwise acquire Poly-Gel, (ii) the purchase price
does not exceed $4,500,000 and (iii) the liabilities and damages incurred by
the Seller and us do not exceed $2,000,000, we are obligated, pursuant to
the terms of the Silipos purchase agreement, to pay the Seller an aggregate
amount of $4,500,000 less the purchase price paid for Poly-Gel. If Poly-Gel
does not exercise the Put Option and we do not otherwise acquire Poly-Gel,
we may be obligated to pay the Seller between $1,000,000 and $1,500,000,
depending on whether Poly-Gel asserts claims as well as the resolution,
timing and amount, if any, of liabilities incurred relating to Poly-Gel. The
Company has included the full obligation in the purchase price of Silipos in
the Company's balance sheet as of September 30, 2004. Upon completion of the
Silipos acquisition, the Company had approximately $35.8 million of
outstanding indebtedness which matures on various dates in 2006, 2007 and
2009, as well as payments on the capital lease are due monthly through 2018.
Such amount excludes any obligations under the Put Option. The Company is
exploring alternatives to raise equity funds for working capital and to
restructure or reduce its long-term debt. The Company expects to incur
significant expenses in connection with any such public or private offering
of debt or equity. To the extent that the Company is unable to raise funds,
its liquidity will be significantly reduced, and the Company may be required
to restructure its indebtedness, which will have a materially adverse effect
on its ability to follow through with its corporate strategy. No assurance
can be given that the Company will be able to successfully raise additional
capital on acceptable terms.
Contractual Obligations Payment due By Period
(in thousands) ---------------------
Quarter ended After 5
Total December 31, 2004 1 Year 2-3 Years 4-5 Years Years
-------------- ------------------------ ----------- ----------- ------------ ----------
Operating Lease Obligations $ 1,399 $ 170 $ 531 $ 598 $ 100 $ --
Capital Lease Obligations 6,814 97 401 833 876 4,607
Secured Promissory Note 7,500 -- 7,500 -- -- --
Convertible Debentures 14,589 -- -- 14,589 -- --
Senior Subordinated 7% Notes 5,500 -- -- 5,500 -- --
Promissory Note 3,000 -- -- -- 3,000 --
Obligation Under Purchase Agreement 2,500 -- 2,500 -- -- --
-------------- ------------------------ ----------- ----------- ------------ ----------
Total $41,302 $ 267 $10,932 $21,520 $ 3,976 $ 4,607
============== ======================== =========== =========== ============ ==========
The above table reflects obligations due in the fourth quarter of 2004 and
each column thereafter reflects the relevant full year periods beyond
December 31, 2004.
The above table assumes that the $7.5 Million Note due March 31, 2006 will
be repaid in full before March 31, 2005, thereby avoiding the additional
payments described above. The Company cannot assure that such repayment will
be made on or before March 31, 2005.
The above table excludes any obligations pursuant to the terms and
conditions of a certain supply agreement, dated August 20, 1999, by and
between Silipos and Poly-Gel. Pursuant to the terms of such supply
agreement, Poly-Gel has the option to cause Silipos to purchase the assets
or shares of Poly-Gel (the "Put Option") at a purchase price of 1.5 times
Poly-Gel's revenues in the twelve month period ending immediately prior to
the exercise of the Put Option. The Put Option expires in February 2005.
Pursuant to the terms of the Silipos purchase agreement, we agreed to make
up to an aggregate of $2,500,000 of additional payments to the Seller
depending upon the purchase price of the Put Option, and the amount of
liabilities actually incurred by the Seller and the Company, if any, arising
out of certain alleged claims that may be asserted by Poly-Gel. If Poly-Gel
does not exercise the Put Option, our obligation to make additional
payments to the Seller will be reduced by $1,000,000. The full amount of
$2,500,000 is included as a current liability on the balance sheet as of
September 30, 2004 and in the above table.
22
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In December 2003, the FASB issued SFAS No. 132, as revised, Employers'
Disclosures about Pensions and Other Postretirement Benefits, ("Revised SFAS
132"), which requires additional disclosures about assets, obligation, cash
flows, and net periodic benefit cost of defined benefit pension plans and
other defined benefit postretirement plans. The Company adopted the required
revised disclosure provisions of Revised SFAS 132 as of December 31, 2003,
except for the disclosure of estimated future benefit payments, which the
Company is required to and will disclose as of December 31, 2004. The
adoption of SFAS No. 132 did not have a material impact on the Company's
consolidated financial statements.
CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS
Information contained or incorporated by reference in the quarterly report
on Form 10-Q, in other SEC filings by the Company, in press releases, and in
presentations by the Company or its management, contains "forward-looking
statements" within the meaning of the Private Securities Litigation Reform
Act of 1995 which can be identified by the use of forward-looking
terminology such as "believes," "expects," "plans," "intends," "estimates,"
"projects," "could," "may," "will," "should," or "anticipates" or the
negative thereof, other variations thereon or comparable terminology, or by
discussions of strategy. No assurance can be given that future results
covered by the forward-looking statements will be achieved. Such
forward-looking statements include, but are not limited to, those relating
to the Company's financial and operating prospects, future opportunities,
the Company's acquisition strategy and ability to integrate acquired
companies and assets, outlook of customers, and reception of new products,
technologies, and pricing. In addition, such forward looking statements
involve known and unknown risks, uncertainties, and other factors including
those described from time to time in the Company's Registration Statement on
Form S-3, most recent Form 10-K and 10-Q's and other Company filings with
the Securities and Exchange Commission which may cause the actual results,
performance or achievements of the Company to be materially different from
any future results expressed or implied by such forward-looking statements.
Also, the Company's business could be materially adversely affected and the
trading price of the Company's common stock could decline if any such risks
and uncertainties develop into actual events. The Company undertakes no
obligation to publicly update or revise forward-looking statements to
reflect events or circumstances after the date of this Form 10-Q or to
reflect the occurrence of unanticipated events.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
In general, business enterprises can be exposed to market risks, including
fluctuation in commodity and raw materials prices, foreign currency exchange
rates, and interest rates that can adversely affect the cost and results of
operating, investing, and financing. In seeking to minimize the risks and/or
costs associated with such activities, the Company manages exposure to
changes in commodities and raw material prices, interest rates and foreign
currency exchange rates through its regular operating and financing
activities. The Company does not utilize financial instruments for trading
or other speculative purposes, nor does the Company utilize leveraged
financial instruments or other derivatives. The following discussion about
our market rate risk involves forward-looking statements. Actual results
could differ materially from those projected in the forward-looking
statements.
The Company's exposure to market rate risk for changes in interest rates
relates primarily to the Company's short-term monetary investments. There is
a market rate risk for changes in interest rates earned on short-term money
market instruments. There is inherent rollover risk in the short-term money
market instruments as they mature and are renewed at current market rates.
The extent of this risk is not quantifiable or predictable because of the
variability of future interest rates and business financing requirements.
However, there is no risk of loss of principal in the short-term money
market instruments, only a risk related to a potential reduction in future
interest income. Derivative instruments are not presently used to adjust the
Company's interest rate risk profile.
The majority of the Company's business is denominated in United States
dollars. There are costs associated with the Company's operations in foreign
countries, primarily the United Kingdom and Canada, that require payments in
the local currency and payments received from customers for goods sold in
these countries are typically in the
23
local currency. The Company partially manages its foreign currency risk
related to those payments by maintaining operating accounts in these foreign
countries and by having customers pay the Company in those same currencies.
ITEM 4. CONTROLS AND PROCEDURES
The Company's management carried out an evaluation, under the supervision
and with the participation of the Company's Chief Executive Officer and
Chief Financial Officer, its principal executive officer and principal
financial officer, respectively, of the design and operation of the
Company's disclosure controls and procedures (as such term is defined in
Rules 13a-15 (e) and 15d - 15(e) under the Securities Exchange Act of 1934
(the "Exchange Act") as of September 30, 2004, pursuant to Exchange Act Rule
13a-15. Based upon that evaluation, the Company's Chief Executive Officer
and Chief Financial Officer, concluded that the Company's disclosure
controls and procedures as of September 30, 2004 are effective for
gathering, analyzing and disclosing the information the Company is required
to disclose in the reports it files under the Exchange Act, within the time
periods specified in the Securities and Exchange Commission's rules and
forms. The Company's Chief Executive Officer and Chief Financial Officer,
also concluded that the Company's disclosure controls and procedures as of
September 30, 2004 are effective in timely alerting them to material
information relating to the Company (including its consolidated
subsidiaries) required to be included in the Company's periodic filings
under the Exchange Act. No changes in the Company's internal control over
financial reporting occurred during the quarter ended September 30, 2004
that have materially affected, or are reasonably likely to materially
affect, the Company's internal control over financial reporting.
24
ITEM 6. EXHIBITS :
10.1 Supply Agreement dated August 20, 1999, between Silipos,
Inc., a Delaware corporation (which became a wholly owned
subsidiary of the registrant on September 30, 2004), and
Poly-Gel, LLC a New Jersey limited liability company.
31.1 Certification of Principal Executive Officer Pursuant to Rule
13a-14(a) (17 CFR 240.13a-14(a)).
31.2 Certification of Principal Financial Officer Pursuant to Rule
13a-14(a) (17 CFR 240.13a-14(a)).
32.1 Certification of Principal Executive Officer Pursuant to Rule
13a-14(b) (17 CFR 240.13a-14(b)) and Section 1350 of Chapter
63 of Title 18 of the United States Code (18 U.S.C. 1350).
32.2 Certification of Principal Financial Officer Pursuant to Rule
13a-14(b) (17 CFR 240.13a-14(b)) and Section 1350 of Chapter
63 of Title 18 of the United States Code (18 U.S.C. 1350).
25
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.
LANGER, INC.
Date: November 12, 2004 By: /s/
------------------------
Andrew H. Meyers
President and
Chief Executive Officer
(Principal Executive Officer)
By: /s/
------------------------
Joseph P. Ciavarella
Vice President and
Chief Financial Officer
(Principal Financial and Accounting Officer)
26