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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
COMMISSION FILE NO. 000-20997
STERILE RECOVERIES, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
Florida 59-3252632
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(State of Incorporation) (IRS Employer Identification No.)
28100 U.S. HIGHWAY19 NORTH, SUITE 201, CLEARWATER, FLORIDA 33761
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(Address of principal executive offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (727) 726-4421
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
COMMON STOCK, PAR VALUE $.001 - 5,676,794
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
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Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value of the voting stock held by non-affiliates
of the Registrant, based upon the closing sale price of the Common Stock on
March 4, 1999, as reported on the Nasdaq National Market, was approximately
$20,917,640. Shares of Common Stock held by each officer and director and by
each person who owns 5% or more of the outstanding Common Stock have been
excluded because these persons might be considered to be affiliates. This
determination of affiliate status is not necessarily conclusive for other
purposes.
The Registrant had outstanding 5,676,794 shares of Common Stock as of
March 4, 1999.
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DOCUMENTS INCORPORATED BY REFERENCE
The Registrant's Proxy Statement for the 1999 Annual Meeting of
Shareholders to be held on May 19, 1999 is incorporated by reference in Part
III of this report to the extent stated herein.
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STERILE RECOVERIES, INC.
FORM 10-K
YEAR ENDED DECEMBER 31, 1998
SECTION PAGE
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PART I
Item 1: Business 1
Item 2: Properties 7
Item 3: Legal Proceedings 8
Item 4: Submission of Matters to a Vote of Security Holders 8
PART II
Item 5: Market for the Registrant's Common Equity and Related
Shareholder Matters 9
Item 6: Selected Financial Data 10
Item 7: Management's Discussion and Analysis of Financial
Condition and Results of Operations 12
Item 7A: Quantitative and Qualitative Disclosures About Market Risk 18
Item 8: Financial Statements and Supplementary Data 20
Item 9: Changes In and Disagreements With Accountants On
Accounting and Financial Disclosure 40
PART III
Item 10: Directors and Executive Officers of the Registrant 40
Item 11: Executive Compensation 40
Item 12: Security Ownership of Certain Beneficial Owners
and Management 40
Item 13: Certain Relationships and Related Transactions 40
PART IV
Item 14: Exhibits, Financial Statement Schedules, and Reports
on Form 8-K 41
SIGNATURES 45
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PART I
ITEM 1. BUSINESS
Sterile Recoveries, Inc. ("SRI" or the "Company") provides hospitals
and surgery centers with a comprehensive surgical procedure-based daily
delivery service. The foundations of this service are SRI's reusable surgical
products, including gowns, towels, drapes and basins, and its daily delivery
and retrieval of these products for each customer. The Company complements its
reusable products with cost-effective disposable accessory packs to provide a
comprehensive offering for surgical procedures. SRI believes its superior
quality reusable products and its service solutions, including direct delivery
to its customers' departments, differentiate SRI from its competitors.
In 1998, the Company introduced its new service, Surgical Express(TM),
which uses its daily delivery and retrieval service as a foundation to provide
customers an expanded program of products and services. Surgical Express is an
outsourced Surgical Case Cart Management Program, which the Company expects
will reduce hospital and surgery center processing costs and their investment
in surgical products. The Company expects the expansion of this direct
manufacturer to surgical suite program will include management of reusable and
disposable products, including instrumentation.
At nine regional facilities, SRI collects, sorts, cleans, inspects,
packages, sterilizes, and delivers its reusable products on a just-in-time
basis. SRI offers an integrated "closed-loop" reprocessing service which uses
two of the most technologically advanced reusable textiles: (i) a GORE(R)*
Surgical Barrier Fabric for gowns and drapes that is breathable yet liquidproof
and provides a viral/bacterial barrier and (ii) an advanced microfiber
polyester surgical fabric for gowns and drapes which is liquid and bacterial
resistant.
The Company currently serves a growing customer base of over 370
hospitals and surgery centers located in 23 states, including Duke University
Medical Center (Durham), Henry Ford Hospital (Detroit), Johns Hopkins Medical
Center (Baltimore), St. Luke's Episcopal Hospital (Houston), Jackson Memorial
Hospital (Miami), IHC Hospitals, Inc. (Salt Lake City), and Hospital of the
Good Samaritan (Los Angeles). None of the foregoing customers individually
accounts for a material portion of the Company's revenues. The Company
maintains agreements to supply two group purchasing organizations. Through an
existing Purchase Agreement of Standard Textile Co., Inc. with VHA, Inc., the
Company offers its reusable products service to VHA members. The Company's
agreement with Hospital Services Corporation of America designates the Company
as an approved vendor of reusable surgical products to HSCA's hospital and
surgery center members.
The Company believes that Surgical Express is a superior and
competitively priced alternative to a full disposable program, other
procedure-based surgical supply programs, and operating an in-house reusable
program for surgical products. The Company's delivery service offers savings to
hospitals by reducing or eliminating the following costly steps associated with
the disposable or in-house alternatives: (i) disposing of biohazardous wastes,
(ii) carrying an inventory of disposable surgical products, and (iii) in-house
processing of reusable surgical products. In addition to these cost savings,
the Company's liquidproof and liquid resistant gowns offer surgeons and
surgical staff enhanced protection against transmission of blood-borne
pathogens, including the HIV and hepatitis viruses. Also, the Company's
reusable gowns are made with a breathable surgical fabric, which is designed
for superior comfort during long procedures.
The Company's Surgical Express Program offers its customers disposable
accessory packs containing smaller surgical items which are not reusable, such
as needles, syringes, and tubing. The Company believes the flexibility it
offers its customers by combining reusable surgical gowns, towels, drapes, and
basins with disposable products has improved the Company's competitive position
in the marketplace.
SRI purchased a portion of the assets of its business from Amsco
Sterile Recoveries, Inc. ("Amsco Sterile"), an indirect wholly-owned subsidiary
of Amsco International, Inc., on July 31, 1994 (the "Acquisition").
* GORE(R) Surgical Barrier Fabric is a registered trademark of W.L.
Gore & Associates, Inc.
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THE MARKET
The United States health care system includes approximately 7,400
acute care hospitals, over 2,750 freestanding surgery centers, and a variety of
other health care facilities. According to industry sources, approximately 31
million surgical procedures were performed at hospitals and surgery centers in
1998. The Company believes that between $100-$150 of surgical products service
revenues, including $40-$50 from reusable products, can be realized from a
typical surgical procedure.
In the 1980's, hospitals began using custom procedure trays because of
their convenience, a trend which continued to grow until recently. A custom
procedure tray typically contains, in disposable form, most of the sterile
products used in a particular surgical or other medical procedure. According to
industry sources, total sales of custom procedure trays in the United States
were an estimated $1.5 billion in 1995. However, the Company believes that
custom procedure trays have several shortcomings relative to reusable products,
including costs associated with excessive product content, storage, handling,
and waste disposal, and the working capital requirements required to carry
product inventory.
Most hospitals which converted to custom procedure trays eliminated
the in-house personnel and equipment necessary to process reusable surgical
products. Furthermore, hospitals using in-house facilities are increasingly
unwilling to support those personnel and capital requirements. With the growth
of managed care, many hospitals and surgery centers are seeking significant
cost reduction solutions. The Company believes that a service which provides
daily delivery of substantially better quality surgical products without any
capital investment by the hospital, thereby reducing employee and space needs,
should become an attractive managed care option for hospitals.
The following developments have created a market opportunity for SRI's
Surgical Express Program:
Continued Pressure on Hospitals to Contain Cost and Raise
Productivity. With the growth of managed care, economic constraints continue to
require hospitals to become more efficient by limiting capital investments and
reducing staff and costs. Hospitals are continually seeking to decrease their
cost of operations including supplies and waste disposal. SRI offers a service
which eliminates the need for in-house inventory or processing facilities or
the process costs associated with stocking and discarding disposable products.
Concern Regarding the Transmission of Infectious Diseases. The health
care industry confronts daily the risk of transmission of infectious diseases
through cross-infections. These concerns have increased the desirability of
surgical barrier fabrics that protect surgeons and surgical staff from patient
liquids. SRI's liquidproof gown prevents liquid and viral strike-through in
critical areas during surgical procedures involving higher risk. The Company's
standard gown is specially designed to resist liquid and bacterial
strike-through in most other surgical procedures.
Concern Regarding the Handling and Disposal of Biohazardous Waste. The
disposal of large volumes of infectious and hazardous waste generated by the
health care industry continues to attract increased public awareness. The
increased burdens on hospitals generating biohazardous waste due to
restrictions on incineration and access to dump sites give a competitive
advantage to reprocessing systems, such as SRI's, which replace disposable
surgical products with reusable surgical products. The SRI reprocessing system
substantially reduces biohazardous waste and its impact on the environment.
Increased Outsourcing of Hospital Functions That Do Not Involve
Patient Care. Hospitals with significant staff, capital and space dedicated to
in-house processing of reusable surgical products are increasingly outsourcing
this function to more efficient outside providers. This trend is consistent
with the overall industry focus on efficiency and improved patient care.
Surgical Express allows hospitals to outsource to SRI the ownership and
reprocessing of surgical products, and inventory management of complementary
disposable products as well.
STRATEGY
The Company's objective is to continue its growth and become a leading
provider of reusable surgical products and related delivery and retrieval
services to hospitals and surgery centers. The Company's principal strategies
for achieving this objective are as follows:
Leverage Infrastructure With Increased Penetration in Existing
Markets. The Company believes its existing facilities currently operate at
approximately 65% of their aggregate annual revenue capacity, allowing it to
add a substantial amount of sales without the need for significant additional
capital expenditures for equipment or new facilities. To obtain increased
operating leverage and expand profit margins, the Company intends to grow its
customer base within its existing markets and focus on expanding its
relationships with existing customers by servicing additional surgical
procedures and by expanding its Surgical Express Program.
Accelerate the Sales Process. The Company believes that its service
solutions address many of the requirements of hospitals to reduce total costs
of operations required by the ongoing effort of hospitals to reduce costs and
improve efficiencies.
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More importantly, SRI's Surgical Express Program shows the total value of its
services in reducing product expenditures, supply chain process costs,
biohazardous waste, and instrument costs when its programs are fully
implemented.
Expand National and Regional Agreements. To date, the Company's
service agreements are primarily with individual hospitals. Management
continues to believe that there is a trend toward group purchasing among
hospitals, and has also seen parallel development of independent delivery
networks. These small regional buying groups believe they can negotiate and
control their product supply relatively better than large group purchasing
organizations. SRI maintains agreements to supply national group purchasing
organizations VHA, Inc. and Health Services Corporation of America (see
"Business--Group Purchasing Agreements"). To address these consolidations,
management intends to offer its Surgical Express Program to individual
hospitals and to national and regional hospital groups.
Add Facilities in Selected Markets. SRI currently services customers
in 23 states through nine regional facilities. SRI serves several large
metropolitan areas through highway transport and satellite depots supported by
a regional facility. To expand geographically, the Company expects to build
additional facilities when needed in markets previously served by highway
transport, including Stockton, California and Chattanooga, Tennessee in 1999.
From each new facility, SRI will be able to serve new metropolitan areas which
were previously too far from an existing regional facility. The Company
believes this strategy of incremental geographic expansion will allow the
Company to operate these new facilities profitably by beginning operations with
an existing customer base.
Decentralize Operations to Facilities. The Company operates each of
its facilities on a stand alone basis, with a vice president/general manager
responsible for one or more facilities accountable to senior management for
sales, service, operations and profitability within the facility's market area.
The Company believes individual vice presidents/general managers with
operational experience in local markets are best suited to respond to local
business opportunities with overall direction and support from the Company's
corporate staff. The Company's incentive compensation plan provides
compensation awards for the vice presidents/general managers and certain key
production, customer service and sales employees based on individual and
facility performance, as well as overall Company performance. Each vice
president/general manager also participates in the Company's stock option plan.
Utilize Operational Knowledge. The Company's management gained
substantial knowledge in operating Amsco Sterile's facilities. Amsco Sterile
invested approximately $100 million during the period from 1991 to 1994,
allowing management to implement innovative techniques and processes. As a
result, when the Company acquired these facilities, management had developed a
high degree of expertise in operations and was ready to capitalize upon Amsco
Sterile's development efforts. The Company continues to utilize this expertise
to provide superior products and services at a competitive cost.
DELIVERY, RETRIEVAL AND REPROCESSING SYSTEM
SRI's Surgical Express procedure-based service can deliver everything
required for a surgical procedure, including reusable packs, disposable
accessory packs, single sterile items, and instrumentation. Following a
procedure, the hospital discards the small amount of disposable products and
places the soiled reusable products into SRI's lockable carts.
SRI's closed-loop reprocessing service picks up soiled reusable
surgical products from its customers and sorts, cleans, inspects, packages,
sterilizes, and redelivers the products. In one trip, SRI's trucks deliver
clean carts of sterilized surgical products to the hospital or surgical center
and retrieve carts containing soiled products and return them to its facility
for reprocessing. The specially designed aluminum carts hold sterile products,
lock to maintain security and sterilization, conveniently roll for delivery
within the hospital and convert into hampers to hold soiled products after the
procedure. The customer avoids the need to maintain secondary stock locations
and the costs of either reprocessing reusable products or stocking and
discarding disposable products.
Upon return to SRI's facility, the contents of the soiled carts are
sorted in a decontamination area. Soiled fabric products are routed through an
automated washing and drying process that delivers clean, dry, and
decontaminated products to a pack room where they are carefully inspected for
damage, repaired if necessary, folded and assembled into packs. The packs are
steam sterilized, sorted, and combined with complementary disposable products
for delivery to the customer. SRI separately cleans, dries, and decontaminates
its carts, stainless steel basins, and other hard reusable products through
special automatic tunnel washers before redelivery. Processing through the
facility occurs in three to five days.
Because the Company's ability to manage its amortization expense
depends on maintaining its sewn goods' useful lives, SRI closely monitors its
reprocessing to ensure longevity. SRI uses a bar coding system to track its
reusable surgical products' status, history, and number of uses. SRI continues
to improve its operating processes, building on Amsco Sterile's substantial
investments of time and money to initially develop those operations.
The growth of SRI's business reflects its products' appeal, its
service quality, and general customer resistance to change when the SRI system
is in place. SRI also believes its direct relationship with hospital staff has
been important in attracting and
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retaining customers. Many of SRI's competitors use a distributor system which
introduces an intermediary between the competition and their customers which
SRI believes adds costs.
The Company's sales process for new customers is typically six to
twelve months in duration from initial contact to a purchase commitment. The
extended sales process is typically due to the complicated approval process
within hospitals for purchases from new suppliers, the long duration of
existing supply contracts, and implementation delays pending termination of a
hospital's previous supply relationships. Conversely, the Company's high
service level, quality products, and customer resistance to change favors its
retention of existing customers.
SRI bills its customers weekly for the previous week's deliveries
under service contracts or purchase orders. Consistent with industry custom,
these contracts generally are cancellable by either party with 90 days' notice,
and customers may unilaterally reduce their use of the Company's services under
such contracts without penalty. The Company does not have any order backlog
because its products are generally delivered daily in response to customer
orders.
PRODUCTS
SRI's principal reusable surgical products are its liquidproof and
liquid resistant surgical gowns, towels, drapes, and stainless steel basin
sets. SRI offers these products in a variety of packs configured to the
hospital's specific needs. Packs are comprised of various combinations of
gowns, absorbent towels, liquidproof backtable covers, mayo stand covers, and
stainless components.
The Company's liquidproof gown has GORE(R) Surgical Barrier Fabric in
critical areas to provide protection for procedures which present a higher risk
of liquid strike-through and provide more comfort. This protection is critical
to SRI's customers given current concerns of doctors, staff, and regulatory
authorities regarding transmission of blood-borne pathogens, including the HIV
and hepatitis viruses. The Company's liquid resistant gown is made of an
advanced microfiber polyester fabric designed to resist liquid and bacterial
strike-through in most surgical procedures. All of SRI's gowns and drapes offer
the wearer both comfort and breathability, combined with a high level of
protection from liquid penetration that SRI believes is superior to that
offered by disposable products.
SRI contracts with third-party vendors for the weaving of microfiber
fabric and the cutting and sewing of garments, wraps and drapes. The Company in
August 1998 signed a ten-year sales and manufacturing agreement with Standard
Textile Co., Inc., under which Standard Textile will manufacture the bulk of
SRI's reusable textile products with fabric provided by W.L. Gore and other
textile suppliers. The other components of the Company's products are currently
available at reasonable costs from a variety of suppliers. To complement its
reusable surgical products, the Company offers disposable accessory packs
containing smaller surgical products, such as needles, syringes, and tubing.
The Company develops these packs with its customers' cooperation to assure a
desirable and cost effective product mix. SRI purchases the products from major
manufacturers, assembles the products in packs, arranges for ethylene oxide
sterilization by a third party, and delivers them to customers on its carts
with its reusable products.
EMPLOYEES
As of December 31, 1998, SRI employed approximately 1,025 people,
consisting of approximately 39 persons in management, administration and
finance at its corporate office and approximately 986 people in various
positions at the Company's facilities. The Company's employees are not covered
by a collective bargaining agreement, and the Company considers its employee
relations to be good.
GROUP PURCHASING AGREEMENTS
The Company maintains separate agreements that will allow members of
VHA, Inc. and Health Services Corporation of America to choose SRI's reusable
surgical products service. The agreements do not involve purchase commitments,
but the Company expects that its relationships with these purchasing
organizations will facilitate its sales efforts with member hospitals and
surgery centers.
COMPETITION
SRI competes with sellers of both reusable and disposable gowns,
drapes, utensils, and other products for surgical procedures. The market is
dominated by disposables, especially custom procedure trays. SRI believes it is
the leading provider of high quality reusable surgical gowns and drapes, and
that with its Surgical Express Program, SRI can effectively compete with
suppliers of disposable custom procedure trays.
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Unlike SRI, many of SRI's competitors can offer full national coverage
and have much greater resources than the Company. The Company's principal
competitors are the Convertors division of Allegiance Corporation, which has a
substantial market share, and Maxxim Medical Inc..
The Company competes based primarily on price, service, quality,
process improvement, and its ability to save its customers waste disposal
costs. The changing healthcare environment in recent years has led to
increasingly intense competition among health care suppliers based on price,
service, and product performance. Hospitals are seeking cost reductions in
response to pressure from governments, insurance companies, and health
maintenance organizations. The Company believes its high degree of expertise in
operations significantly assists it in offering a superior product at a
competitive cost. In addition, hospitals are increasingly seeking buying
leverage by purchasing in integrated networks. SRI believes that competitive
pressure in these areas will continue.
REGULATION
Substantially all of the Company's products and services are subject
to extensive government regulation in the United States by federal, state and
local governmental agencies, including the Food and Drug Administration (the
"FDA"), the Department of Transportation ("DOT"), and the Occupational Safety
and Health Administration ("OSHA").
The Company's reusable products are subject to regulation as medical
devices by the FDA, which regulates the development, production, distribution,
and promotion of medical devices in the United States. Various states in which
the Company does business also regulate medical devices. Pursuant to the
Federal Food Drug and Cosmetics Act (the "FDA Act"), the Company's medical
devices are subject to general controls regarding FDA inspections of
facilities, "Current Good Manufacturing Practices ("CGMPs")," labeling,
maintenance of records, and filings with the FDA. To the extent required, the
Company has obtained FDA pre-market approval of its devices under Section
510(k) of regulations issued under the FDA Act, which provides for FDA approval
on an expedited basis for products shown to be substantially equivalent to
devices legally marketed before enactment of the FDA Act. Products must be
produced in registered establishments and be manufactured in accordance with
CGMPs, as defined under the FDA Act. The CGMP requirements have recently been
substantially revised and incorporated into what is now known as the "Quality
System Regulation" (21 CFR Part 820). Since they were first issued on June 1,
1997, the focus of most routine FDA inspections has been compliance with these
new regulations. In addition, the Company's medical devices must be
periodically listed with the FDA and its labeling and promotional activities
are subject to scrutiny by the FDA and, in certain instances, by the Federal
Trade Commission. The Medical Device Reporting ("MDR") regulation obligates the
Company to provide information to the FDA on injuries alleged to have been
associated with the use of a product or in connection with certain product
failures which could cause serious injury or death. If the Company fails to
comply with the applicable provisions of the FDA Act, the FDA can institute
proceedings to detain or seize products, enjoin future violations, impose
product labeling restrictions or enforce product recalls or withdrawals from
the market.
SRI and its hospital customers also must comply with regulations of
OSHA, including the blood-borne pathogen rule requiring that "universal
precautions" be observed to minimize exposure to blood and other bodily fluids.
To comply with these requirements, SRI's employees wear protective gear in
handling soiled linens in the facility's decontamination area. Properly used,
SRI's products allow its hospital customers to protect their employees in
compliance with these regulations. The Company must comply with local
regulations governing the discharge of water used in its operations. SRI uses
local licensed contractors to dispose of any biohazardous waste generated by
the hospital and received by SRI and therefore does not need to obtain permits
for biohazardous waste disposal. The Company must comply with DOT and OSHA
regulations governing the transportation of hazardous materials, which concern,
among other things, labeling, marketing, placarding, using proper containers,
and reporting discharges. The Company complies with these regulations by
putting soiled products in marked liquidproof bags and locked, marked transfer
carts. Sterilization of the Company's disposable accessory packs is provided
under contract by a third-party. The use of ethylene oxide by that third-party
in the sterilization of the Company's disposable accessory packs is subject to
regulation by OSHA and the Environmental Protection Agency.
In addition to the foregoing, other federal, state and local
regulatory authorities, including those enforcing laws which relate to the
environment, fire hazard control, and working conditions, have jurisdiction to
take actions which could have a material adverse effect on the Company. SRI
makes expenditures from time to time to comply with environmental regulations,
but does not expect any material capital expenditures for environmental
compliance in 1999 or 2000.
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CERTAIN CONSIDERATIONS
This report, other documents that are publicly disseminated by the
Company, and oral statements that are made on behalf of the Company
contain or might contain both statements of historical fact and
forward-looking statements. Examples of forward-looking statements
include: (i) projections of revenue, earnings, capital structure, and
other financial items, (ii) statements of the plans and objectives of
the Company and its management, (iii) statements of future economic
performance, and (iv) assumptions underlying statements regarding the
Company or its business. The cautionary statements set forth below
discuss important factors that could cause actual results to differ
materially from any forward-looking statements.
Sales Process and Market Acceptance of Products and Services. The
Company's future performance depends on its ability to increase revenues to new
and existing customers. The Company's sales process for new customers is
typically between six and twelve months in duration from initial contact to
purchase commitment. The extended sales process is typically due to the
complicated approval process within hospitals for purchases from new suppliers,
the long duration of existing supply contracts, and implementation delays
pending termination of a hospital's previous supply relationships. The long
sales process inhibits the ability of the Company to quickly increase revenues
from new and existing customers or enter new markets. SRI's future performance
will also depend on market acceptance of its combination of reusable surgical
products, disposable accessory packs, and direct delivery and retrieval
service. SRI's market is now dominated by disposable products, and the
Company's primary strategic emphasis on reusable surgical products and
reprocessing services requires its customers to change their customary
purchasing patterns. There is no assurance that a significant portion of the
market will shift from disposable products to the Company's reusable surgical
products and reprocessing services. The Company's inability to gain wider
market acceptance of its reusable products and reprocessing services would have
a material adverse effect on the Company's operating and expansion plans. See
"Business--The Market."
Need for Capital. The Company's business is capital intensive and will
require substantial capital expenditures for additional surgical products and
equipment during the next several years to achieve its operating and expansion
plans. To adequately service a new customer, SRI typically makes an investment
in new reusable surgical products and carts of approximately 50% of the
projected new annual revenue from the customer. SRI is currently spending
between $4.5 and $5.0 million for each of its new reprocessing facilities,
including two new facilities in Stockton, California and Chattanooga, Tennessee
that will open in the third quarter of 1999, and which will be financed under
lease financing arrangements. Additionally, the Company expects to spend
approximately $3.0 million in late 1999 for expansion and equipment in its
Cincinnati facility. The Company's inability to obtain adequate capital could
have a material adverse effect on the Company. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Liquidity and
Capital Resources" and "Note G of Notes to Consolidated Financial Statements."
Dependence on a Significant Customer and Market Consolidation. During
1998, Columbia/HCA Healthcare Corporation ("Columbia") hospitals, with which
the Company currently does business, accounted for approximately 12% of SRI's
sales, compared to 11% in 1997. Although each Columbia hospital currently makes
its purchasing decisions on an individual basis, and no single hospital
accounted for more than 3% of the Company's sales, the Company believes the
executive management of Columbia has the ability to influence the selection of
particular vendors. The loss of a substantial portion of the Columbia
hospitals' business could have a material adverse effect on the Company.
Additionally, hospitals are increasingly buying products and services in groups
to improve efficiency and lower costs. Although SRI is increasingly targeting
these groups for its sales efforts, a change of its customers' purchasing
patterns could have a material adverse effect on the Company.
Competition. The Company's business is highly competitive. Competitors
include a number of distributors and manufacturers, as well as the in-house
reprocessing operations of hospitals. Certain of the Company's existing and
potential competitors possess substantially greater resources than the Company,
and the Company's market is dominated by their disposable products. Some of the
Company's competitors, including the Convertors division of Allegiance
Corporation, serve as the sole supplier of a wide assortment of products to a
significant number of hospitals. The Company does not provide an array of
products as complete as those provided by some of its competitors, which in
some instances is a competitive disadvantage. There is no assurance that the
Company will be able to compete effectively with existing or potential
competitors. See "Business--Competition."
Dependence on Key Executives. The Company is largely dependent upon
the management expertise and experience of Richard T. Isel, Bertram T. Martin,
Jr., Wayne R. Peterson, and James T. Boosales, its principal officers. The loss
of the services of one or more of these key executives could have a material
adverse effect on the Company.
Increased Replacement and Amortization Costs. SRI acquired its
equipment and surgical products at a cost substantially below both their
original cost and current replacement cost, which has resulted in lower
depreciation, amortization, and shrinkage expense for those assets since the
Acquisition, as compared to the expenses incurred by Amsco Sterile. Since the
Acquisition, SRI has purchased equipment and surgical products at current
replacement cost, resulting in increased depreciation, amortization, and
shrinkage expense. SRI amortizes its reusable surgical products on a per use
basis. If the products' actual
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number of uses proves to be shorter than SRI's current estimates, SRI's annual
product amortization expense would increase, which would adversely affect its
profitability. The amount of shrinkage (loss and scrap of reusable surgical
products) experienced by the Company is influenced by a variety of factors
including the customers' surgical product rotation and operating room control
procedures, the Company's internal tracking of reusable surgical products
through bar coding and the Company's increased use of standardized surgical
packs. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Overview" and "Note B of Notes to Consolidated Financial
Statements."
Recent Acquisition and Implementation of Acquisition Strategy. The
Company acquired Repak Surgical Enterprises, Inc., a surgical products
reprocessing company located in the Cincinnati, Ohio area, on August 31, 1998.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations - Overview". The Company might make other acquisitions in the
future. Acquisitions involve risks to the Company, including (a) diversion of
management's attention to identifying and negotiating the acquisitions and
integrating the acquired businesses; (b) costs incurred in integrating the
acquired company's financial, operating, and other systems; (c) unforeseen
liabilities or operating difficulties of the acquired businesses; (d) the
adverse earnings impact of amortizing goodwill and other acquired intangible
assets; and (e) the potentially dilutive effect on per share earnings of any
new issuance of equity securities to the seller.
Government Regulation. Significant aspects of the Company's businesses
are subject to state and federal statutes and regulations governing, among
other things, medical waste-disposal and workplace health and safety. In
addition, most of the products furnished or sold by the Company are subject to
regulation as medical devices by the U.S. Food and Drug Administration, as well
as by other federal and state agencies. The Company's facilities are subject to
regular inspections by FDA officials. The FDA has the power to enjoin future
violations, seize adulterated or misbranded devices, require the manufacturer
to remove products from the market, and publicize relevant facts. Federal or
state governments might impose additional restrictions or adopt interpretations
of existing laws that could materially adversely affect the Company.
ITEM 2:PROPERTIES
SRI operates nine processing facilities of approximately 20,000 to
32,000 square feet each in Baltimore, Cincinnati, Dallas, Detroit, Houston, Los
Angeles, Raleigh, Salt Lake City, and Tampa. Each facility contains a uniform
set of computerized and fully automated heavy washers, dryers, and sterilizers
to achieve consistent cleaning and sterilization cycles for reusable surgical
products. The Company uses standard operating procedures at each facility, and
regularly implements at all facilities efficiencies which are developed and
tested at one location.
The Company's properties and the major markets which they serve are
summarized below. All the properties are leased, with the exception of the
Cincinnati and Houston processing facilities. SRI believes its existing
facilities adequately serve its current requirements.
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10
SQUARE FEET
FACILITY AND LOCATION (APPROX.) LEASE EXPIRATION(1) SELECTED MARKETS SERVED
- --------------------- ----------- ------------------ -----------------------
Processing facilities:
Baltimore, Maryland 32,000 July 31, 2002 Baltimore, Philadelphia, Richmond,
Washington, D.C., New Jersey
Cincinnati, Ohio 20,000 Owned Columbus, Akron, Cincinnati,
Louisville, Lexington
Dallas, Texas 31,000 March 31, 2002 Dallas, Oklahoma City, Tulsa,
Memphis
Detroit, Michigan 23,000 September 30, 2002 Chicago, Detroit, Milwaukee,
Toledo, Flint, Ann Arbor, Champaign
Houston, Texas 30,000 Owned Houston, San Antonio, Austin,
Alabama, Louisiana
Los Angeles, California 30,400 November 30, 2002 San Diego, Sacramento, Los
Angeles, San Francisco, Arizona
Raleigh, North Carolina 31,500 April 30, 2002 Atlanta, South Carolina, North Carolina
Salt Lake City, Utah 24,000 November 30, 2003 Utah, Idaho
Tampa, Florida 29,000 January 25, 2002 Tampa, Miami, Orlando,
Jacksonville, Gainesville, Ocala,
Ft. Myers
Depots:
Atlanta, Georgia 2,500 June 30, 2000 -
Chicago, Illinois 3,200 November 30, 2001 -
Miami, Florida 4,000 January 31, 2000 -
San Francisco, California 6,000 May 31, 1999 -
San Marcos, Texas 3,600 September 30, 2000 -
Warehouses:
Cincinnati, Ohio 18,500 April 30, 2001 -
Long Beach, California 3,300 July 31, 2000 -
Salt Lake City, Utah 5,500 Month to Month -
Ypsilanti, Michigan 15,500 June 30, 1999 -
Disposable products facility:
Orlando, Florida 18,500 February 28, 1999 -
Corporate office:
Clearwater, Florida 10,000 October 31, 2001 -
(1) Excludes renewal options in the leases which range from one to 10
years.
ITEM 3:LEGAL PROCEEDINGS
Neither the Company nor any of its property is subject to any
litigation or other legal proceeding expected to have a material effect on the
Company or its business.
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the
fourth quarter of 1998.
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PART II
ITEM 5: MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED
SHAREHOLDER MATTERS
The Company's Common Stock trades publicly on The Nasdaq National
Market tier of the Nasdaq Stock Market under the symbol "STRC." The table below
sets forth the high and low bid quotations for the Company's Common Stock from
July 18, 1996 (the date on which trading commenced on the Nasdaq National
Market) through December 31, 1997. These bid prices represent prices between
dealers without adjustment for retail mark-ups, mark-downs, or commissions and
may not necessarily represent actual transactions.
COMMON STOCK PRICE RANGE
1997
----
First Quarter $ 19.125 $ 15.125
Second Quarter $ 19.000 $ 16.625
Third Quarter $ 19.500 $ 14.375
Fourth Quarter $ 17.125 $ 13.875
1998
----
First Quarter $ 17.500 $ 14.375
Second Quarter $ 19.750 $ 17.000
Third Quarter $ 17.000 $ 8.750
Fourth Quarter $ 12.875 $ 7.875
The Company has never declared or paid cash dividends on its Common
Stock. The Company currently expects that its earnings will be retained for
development and expansion, and does not anticipate paying dividends on its
Common Stock in the foreseeable future. Financial covenants in the Company's
credit facility prohibit the payment of cash dividends. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources" and "Notes to Consolidated
Financial Statements." On March 9, 1999, there were approximately 66 holders of
record of the Common Stock.
On August 31, 1998, the Company acquired from Standard Textile Co.,
Inc. all the stock of Repak Surgical Enterprises, Inc. ("Repak") in exchange
for 566,667 shares of its convertible Series A Preferred Stock. The Series A
Preferred Stock is convertible by its holder at any time into the same number
of shares of the Company's Common Stock. Under certain conditions, including
the Company's Common Stock having an average closing trading price of $18.00
per share for a specified time period, the Preferred Stock is mandatorily
convertible into the Company's Common Stock. The Company's issuance of the
Series A Preferred Stock to Standard Textile Co., Inc. was exempt from
registration requirements under Section 4(2) of the Securities Act of 1933.
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ITEM 6: SELECTED FINANCIAL DATA
The following table contains certain selected financial data and is
qualified by the more detailed Consolidated Financial Statements and Notes
thereto included elsewhere in this report. The selected financial data for the
years ended December 31, 1998, December 31, 1997, December 31, 1996, December
31, 1995 and the five-months ended December 31, 1994, have been derived from
the Company's audited financial statements. The selected financial data
(statement of income data only) set forth below for the seven months ended July
31, 1994 have been derived from audited financial statements of Amsco Sterile
(the predecessor company). The Balance Sheet data as of July 31, 1994 has been
derived from the unaudited balance sheet of Amsco Sterile exclusive of notes
thereto, which include all adjustments that Amsco Sterile considers necessary
for a fair presentation of its results of operation and financial position for
the period presented. The following information should be read in conjunction
with the Consolidated Financial Statements and Notes thereto and "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
included elsewhere in this report.
Predecessor
Sterile Recoveries, Inc. Company(1)
----------------------------------------------------------- -----------
Five Seven
Years Ended Months Months
---------------------------------------------- Ended Ended
Dec. 31, Dec. 31, Dec. 31, Dec. 31, Dec. 31, July 31,
1998 1997 1996 1995 1994 1994
-------- -------- -------- -------- -------- --------
(In thousands, except per share data)
STATEMENT OF OPERATIONS DATA:
Revenues $ 52,318 $ 39,854 $ 32,168 $ 25,320 $ 9,285 $ 12,069
Cost of revenues 35,334 26,286 21,764 17,659 6,550 14,091
-------- -------- -------- -------- -------- --------
Gross profit (loss) 16,984 13,568 10,404 7,661 2,735 (2,022)
Distribution expenses 3,788 3,150 3,000 2,801 1,032 1,309
Selling and administrative expenses 7,065 5,924 4,734 3,975 2,162 7,375
-------- -------- -------- -------- -------- --------
Income (loss) from operations 6,131 4,494 2,670 885 (459) (10,706)
Interest expense (income), net 52 (142) 648 1,489 735 4,791
-------- -------- -------- -------- -------- --------
Income (loss) before income taxes 6,079 4,636 2,022 (604) (1,194) (15,497)
Income tax expense(2) 2,393 1,835 190 -- -- --
-------- -------- -------- -------- -------- --------
Net income (loss) $ 3,686 $ 2,801 1,832 $ (604) $ (1,194) $(15,497)
======== ======== ======== ======== ======== ========
Dividends on preferred stock 67
--------
Net income available for common shareholders $ 3,619
========
UNAUDITED PRO FORMA INFORMATION (2):
Historical net income (loss) $ 2,022 $ (604) $ (1,194)
Pro forma income tax expense 778 -- --
-------- -------- --------
Pro forma net income (loss) $ 1,244 $ (604) $ (1,194)
======== ======== ========
Historical (1998 and 1997 only) and pro forma
net income per common share, basic $ 0.64 $ 0.50 $ 0.29 $ (0.20) $ (0.40)
======== ======== ======== ======== ========
Historical (1998 and 1997 only) and pro forma
net income per common share, diluted $ 0.61 $ 0.48 $ 0.28 $ (0.20) $ (0.40)
======== ======== ======== ======== ========
Weighted average common shares outstanding,
basic 5,662 5,637 4,300 3,094 3,000
======== ======== ======== ======== ========
Weighted average common shares outstanding,
diluted 6,019 5,862 4,491 3,094 3,000
======== ======== ======== ======== ========
BALANCE SHEET DATA:
Reusable surgical products, net $ 14,705 $ 10,034 $ 6,915 $ 4,924 $ 4,867 $ 32,836
Total assets 43,620 27,546 25,006 13,493 13,388 67,651
Total indebtedness 3,698 -- 1,000 10,891 11,942 115,841
Shareholders' equity (deficit) 35,122 24,348 20,756 214 (182) (50,293)
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13
STERILE RECOVERIES, INC.
SELECTED FINANCIAL DATA - (CONTINUED)
(1) The table covers periods before and after the Company acquired its
business from Amsco Sterile on July 31, 1994. A comparison of the
Company's operating results for the periods after the Acquisition to
the operating results before the Acquisition is not meaningful. See
"Management's Discussion and Analysis of Financial Condition and
Results of Operations--Overview."
(2) As an S Corporation for federal income tax purposes, the Company had
not been subject to income tax until the date of its initial public
offering, at which time the Company became a C Corporation. On a pro
forma basis, assuming the Company had been subject to income tax for
all periods presented, the Company would not have recognized any
corporate income tax expense prior to 1996. See "Notes B and H of
Notes to Consolidated Financial Statements".
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14
ITEM 7: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction
with the Company's Financial Statements and the Notes thereto included
elsewhere in this report. This discussion and analysis contains trend analysis
and might contain forward-looking statements. These statements are based on
current expectations and actual results might differ materially. Among the
factors that could cause actual results to vary are those described in this
"Overview" section and in "Business - Certain Considerations."
OVERVIEW
The Company's revenues are derived from providing hospitals and
surgery centers with reusable gowns, towels, drapes, and basins for use in
surgical procedures through a daily comprehensive surgical procedure-based
delivery and retrieval system, and also from the sale of disposable surgical
products that supplement its reusable surgical product service. The Company's
revenue growth is primarily affected by the number of customers, the number and
type of surgical procedures it services for each customer, and the pricing by
type of surgical pack.
As of December 31, 1998, the Company believes its facilities operated
at approximately 65% of their estimated aggregate annual revenue capacity of
approximately $90 million at current prices. Estimated annual revenue capacity
is based on the Company's estimate of revenues that would be derived from the
full utilization of the facilities at current prices and without addition of
equipment. Variations in maximum revenue potential by facility result from
differences in product mix and pricing for each facility. The Company's ability
to use this excess revenue capacity will depend on its success in substantially
increasing its volume of business. A primary strategy of the Company is to
increase its operating leverage by expanding revenues within existing markets.
The Company amortizes its reusable surgical products on a per-use
basis, based on estimates of the products' useful lives. SRI's purchase of used
reusable surgical products in the Acquisition at approximately 17% of Amsco
Sterile's net book value has resulted in lower amortization expense since the
Acquisition. Since the Acquisition, the Company's purchases of new reusable
surgical products at current replacement cost have gradually increased its
amortization expense and the Company expects this trend to continue in the
future. However, the Company's current replacement cost is substantially less
than Amsco Sterile's original cost due to significantly improved sourcing of
fabrics. See "Business--Certain Considerations - Increasing Replacement and
Amortization Costs" and "Note B of Notes to Consolidated Financial Statements."
The Company completed its initial public offering (the "Offering") of
2,150,000 shares of its Common Stock (including shares sold in the
overallotment) in July and August 1996. The net proceeds of the Offering
received by the Company after payment of expenses were $17.9 million, of which
approximately $11 million was used to retire its acquisition debt and working
capital facility.
On August 31, 1998, the Company acquired all the shares of stock of
RePak, a wholly owned subsidiary of Standard Textile Co., Inc., in exchange for
566,667 shares of its convertible Series A Preferred Stock. From a facility in
the Cincinnati area, RePak provides the Ohio and Michigan markets with reusable
surgical product services similar to the Company's reprocessing service. In the
twelve months ended December 31, 1997, RePak had annual revenues of
approximately $8.3 million from its reusable surgical products reprocessing
service. The Company also purchased the RePak facility's real estate for $1.5
million cash from affiliates of Standard Textile. See "Note C of Notes to
Consolidated Financial Statements."
Before its initial public offering, the Company was an S Corporation
for state and federal income tax purposes and not subject to corporate income
taxes. Upon completion of its initial public offering, the Company's S
Corporation status terminated and the Company became subject to corporate
income taxes. See "Notes B and H of Notes to Consolidated Financial
Statements."
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15
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS - (CONTINUED)
RESULTS OF OPERATIONS
The following table sets forth for the periods indicated the
percentage of revenues represented by certain items reflected in the statements
of operations of the Company.
YEARS ENDED
DECEMBER 31,
-----------------------------
1998 1997 1996
----- ----- -----
Revenues 100.0% 100.0% 100.0%
Cost of revenues 67.5 66.0 67.7
----- ----- -----
Gross profit 32.5 34.0 32.3
Distribution expenses 7.2 7.8 9.3
Selling and administrative expenses 13.6 14.9 14.7
----- ----- -----
11.7 11.3 8.3
Income from operations
Interest expense (income), net 0.1 (0.3) 2.0
----- ----- -----
Income before income taxes 11.6 11.6 6.3
Income tax expense 4.6 4.6 0.6
----- ----- -----
Net income 7.0% 7.0% 5.7
===== ===== =====
Pro forma information:
Historical income before income taxes 6.3%
Pro forma income tax expense 2.4
-----
Pro forma net income 3.9%
=====
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16
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS - (CONTINUED)
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997
Revenues
Revenues increased $12.5 million, or 31.3%, to $52.3 million in 1998
from $39.9 million in 1997. The revenue increases were attributable in roughly
equal amounts to new customers and increased revenues from current customers in
addition to the RePak acquisition.
Gross Profit
Gross profit increased $3.4 million, or 25.2%, to $17.0 million in
1998 from $13.6 million in 1997. As a percentage of revenues, gross profit
decreased to 32.5% in 1998 from 34.0% in 1997. The decline in gross profit
percentage is largely attributable to higher amortization and shrinkage expense
of reusable surgical products.
Distribution Expenses
Distribution expenses increased $638,000 or 20.3%, to $3.8 million in
1998 from $3.2 million in 1997. As a percentage of revenues, distribution
expenses decreased to 7.2% in 1998 from 7.8% in 1997. The improvement in
distribution expenses as a percentage of revenues resulted primarily from
efficiencies derived from delivering more volume over existing routes and from
adding routes and equipment at a slower pace than revenue growth.
Selling and Administrative Expenses
Selling and administrative expenses increased $1.1 million, or 19.3%,
to $7.0 million in 1998 from $5.9 million in 1997. As a percentage of revenues,
selling and administrative expenses decreased to 13.6% in 1998 from 14.9% in
1997. Expenses increased in support of increased revenues and the acquisition
of RePak. Improvement in selling and administrative expenses as a percentage of
revenues resulted primarily from the Company's continuing ability to leverage
administrative costs over more revenues.
Interest Expense (Income), Net
Interest income changed from $142,000 in 1997 to interest expense of
$52,000 in 1998, primarily due to borrowings under the Company's revolving
credit facility.
Income Before Income Tax Expense
As a result of the foregoing, the Company's income before taxes
increased to $6.1 million in 1998, from $4.6 million in 1997. As a percentage
of revenues, income before taxes was 11.6% of revenues in both 1998 and 1997.
Income Tax Expense
Income tax expense increased $558,000 to $2.4 million in 1998 from
$1.8 million in 1997. The Company's effective tax rate is 39.4% for 1998 and
39.6% for 1997.
Net Income Per Share
The Company recorded a historical net income per share of $0.61 on a
diluted basis, and $0.64 on a basic per share basis for 1998, compared with
$0.48 for diluted and $0.50 for basic per share net income in 1997.
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17
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS - (CONTINUED)
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996
Revenues
Revenues increased $7.7 million, or 23.9%, to $39.9 million in 1997
from $32.2 million in 1996. The revenue increases for the period were
attributable to the activities of the Company's sales force, which was
increased by 45% during 1997. The revenue increases for the period were
achieved equally from new customers and increased revenues from current
customers.
Gross Profit
Gross profit increased $3.2 million, or 30.4%, to $13.6 million in
1997 from $10.4 million in 1996. As a percentage of revenues, gross profit
increased to 34.0% in 1997 from 32.3% in 1996. The improvement in gross profit
is largely attributable to increased revenues, labor efficiencies and the
economies of scale associated with spreading fixed costs over increased
revenues. These favorable factors were partially offset by higher amortization
expense of reusable surgical products as the Company supplements the products
purchased in the Acquisition with products purchased at current higher
replacement cost. Increased revenues from relatively lower margin disposable
surgical products also offset some of the efficiency gains.
Distribution Expenses
Distribution expenses increased $150,000 or 5.0%, to $3.2 million in
1997 from $3.0 million in 1996. As a percentage of revenues, distribution
expenses decreased to 7.8% in 1997 from 9.3% in 1996. The improvement in
distribution expenses as a percentage of revenues resulted primarily from
efficiencies derived from delivering more volume over existing routes, from
adding additional routes and equipment at a slower pace than revenue growth,
and from a renegotiated truck leasing contract.
Selling and Administrative Expenses
Selling and administrative expenses increased $1.2 million, or 25.1%,
to $5.9 million in 1997 from $4.7 million in 1996. As a percentage of revenues,
selling and administrative expenses increased to 14.9% in 1997 from 14.7% in
1996. This increase was largely attributable to the Company increasing its
sales force by 45% and hiring staff to manage anticipated revenue growth.
Interest Expense (Income), Net
Interest expense (income) changed from interest expense of $648,000 in
1996 to interest income of $142,000 in 1997, primarily due to the elimination
of the acquisition debt to Amsco Sterile repaid from the Offering proceeds, and
the interest and other income earned from investing excess cash.
Income Before Income Tax Expense
As a result of the foregoing, the Company's income before taxes
increased to $4.6 million in 1997, from $2.0 million in 1996. As a percentage
of revenues, income before taxes in 1997 was 11.6% of revenues compared to 6.3%
in 1996.
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18
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS - (CONTINUED)
Historical Income Tax Expense
Income tax expense increased $1.6 million in 1997 from $190,000 in
1996. The Company's effective tax rate increased to 39.6% in 1997 from 9.4% in
1996. During 1996, the Company changed from an S Corporation to a C Corporation
for Federal income tax purposes. The lower effective tax rate in 1996 reflects
the recording of a deferred tax asset and the benefit from the allocation of
the year's earnings between the C Corporation and the S Corporation.
See "Note J of Notes to Consolidated Financial Statements."
Pro Forma Income Tax Expense
Pro forma income tax expense for 1996 reflects the statutory rate of
38.5% as if the Company had been treated as a C Corporation for the entire
year.
Net Income Per Share
The Company recorded a historical net income per share of $0.48 on a
diluted basis, and $0.50 on a basic per share basis for 1997, compared with
$0.28 for diluted and $0.29 for basic pro forma per share net income in 1996.
LIQUIDITY AND CAPITAL RESOURCES
The Company's principal sources of capital have been cash flows from
operations, sales of its debt and equity securities, including the Offering,
operating leases for facilities and distribution vehicles, and borrowings under
its working capital loan and lease financing facilities.
The Company's positive cash flow from operating activities was $8.6
million in 1998, compared to $3.9 million in 1997. The increase in cash from
operating activities from 1997 to 1998 resulted primarily from increased net
income before amortization, shrinkage, and depreciation expense, and improved
accounts payable and inventory management.
The Company used approximately $4.0 million more net cash in investing
activities in 1998 than in 1997. To support sales growth, the Company made
capital expenditures in 1998 for equipment of $3.3 million and for reusable
surgical products of $7.8 million compared to $2.8 million for equipment and
$5.7 million for reusable surgical products in 1997. These expenditures were
funded from proceeds of the Offering, cash provided by operating activities,
and borrowings under the Company's working capital facility.
The Company continues to increase its expenditures for reusable
surgical products, primarily to support anticipated increases in business. The
Company's business is capital intensive and will require substantial capital
expenditures for additional surgical products and equipment during the next
several years to achieve its operating and expansion plans. To adequately
service a new customer, the Company estimates that it makes an investment in
new reusable surgical products and carts equal to approximately 50% of the
projected first year revenue from the customer. The Company estimates capital
expenditures for new carts and reusable surgical products will be approximately
$750,000 per month for the next 12 months, although the amount will fluctuate
with the growth of its business. The Company also expects to make additional
expenditures of approximately $1.3 million in 1999 for equipment upgrades and
maintenance to increase the aggregate capacity of its facilities. Additionally,
the Company spent approximately $1.2 million in 1998 and expects to spend an
additional $300,000 in 1999 for new technology software and related hardware.
-16-
19
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS - (CONTINUED)
The Company is adding two reprocessing facilities which will begin
production in the third quarter of 1999. The estimated cost of each facility is
expected to be between $4.5 to $5.0 million, which will be financed through the
lease financing agreement described below. In addition, the Company expects to
spend approximately $3.0 million in the fourth quarter of 1999 for building
expansion and equipment at its Cincinnati facility. See "Note G of Notes to
Consolidated Financial Statements."
The Company had approximately $3.7 million outstanding on December 31,
1998 under its $15.0 million revolving credit facility with First Union
National Bank. No borrowings were outstanding on December 31, 1997. Pursuant to
amendments effective February 24, 1999, the facility is secured by
substantially all of SRI's assets and its maturity date extended from August
1999 to December 2001. The facility's interest rate was previously 190 basis
points over LIBOR, declining to a 175 basis point margin as of October 15,
1998. As amended, the facility's interest rate varies between 100 and 150 basis
points over LIBOR (5.09% as of December 31, 1998), depending on the Company's
leverage. The amendments also increased required tangible net worth from
$20,745,000 through December 31, 1998 and $23,745,000 thereafter to $29.0
million plus 75% of quarterly positive net income earned after September 30,
1998. The facility restricts the Company's payment of dividends, acquisition
transactions, additional indebtedness, and encumbering of assets.
As of February 1, 1999, the Company secured a $10.0 million lease
financing agreement to provide financing for land, building, and equipment for
future reprocessing facilities. The lease financing margins are substantially
the same as under the Company's credit facility. Under the agreement, the
lessor purchases land, pays for the facility's construction and equipment
costs, and leases to the Company for three years the completed facility. The
Company guarantees all lease payments and a substantial residual value for the
facility when the lease term ends. The lease agreement includes a purchase
option for the Company at original cost of each leased facility. The Company
will account for these leases as operating leases. The Company anticipates that
it will occupy these facilities and begin making lease payments for them in the
third quarter of 1999.
As of December 31, 1998, the Company had cash of approximately
$172,000. The Company believes that this cash balance, its cash flow from
operating activities, and funds available under its credit facility will be
sufficient to fund its growth and anticipated capital requirements for the next
twelve months. In the longer term, the Company expects its capital requirements
will be substantial and will depend on its growth and opportunities. The
Company expects to fund additional capital expenditures from a combination of
internal cash flow, its credit facility, and other capital sources. See
"Business - Certain Considerations--Need for Capital."
Year 2000 Compliance
The Company has developed and is implementing a comprehensive program
to address year 2000 issues pertaining to both information technology and
non-information technology systems. The program consists of identification,
compliance, and post-implementation phases, and considers the effect of the
year 2000 on the Company's internal systems, customers, products and services,
as well as on its suppliers and other critical business partners.
The Company is currently implementing enterprise-wide software that is
year 2000 compliant which will replace the existing financial and operational
systems. In conjunction with the software project, the Company has and will
incur internal staff costs, consulting and other expenses for infrastructure
and facilities enhancements to prepare its computer systems and applications
for this implementation. The Company does not expect year 2000 related expense
to materially impact its financial position. As of December 31, 1998, the
Company had spent $1.2 million of the expected $1.5 million in total
expenditures related to the Company's software implementation project. The
Company expects completion of its internal year 2000 programs by the end of the
third quarter of 1999.
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20
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS - (CONTINUED)
In addition, the Company has initiated communications, which include
solicitation of written responses to questionnaires and follow-up meetings,
with critical suppliers and other business partners to determine the extent to
which any year 2000 issues affecting such third parties will affect the
Company. There can be no guarantee that such external parties will achieve year
2000 compliance on a timely basis, and failure by such significant external
parties to achieve compliance could have a material adverse affect on the
Company.
The Company has not yet obtained information sufficient to quantify
the potential effects of possible internal and external year 2000
non-compliance, to determine the likely worst case scenarios or to develop
contingency plans to deal with such scenarios. However, as the Company
completes its year 2000 project during the third quarter of 1999, the
appropriate contingency plans will be developed, and implementation will begin
if deemed necessary by the Company. There can be no assurances that the
Company's internal and external contingency plans, once developed, will
substantially reduce the risk of year 2000 non-compliance. A significant
interruption in the Company's business due to a year 2000 non-compliance issue
could have a material adverse effect on the Company's financial position,
operations and liquidity.
ITEM 7A: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company does not have any material market risk sensitive financial
instruments.
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21
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
Sterile Recoveries, Inc.
We have audited the accompanying consolidated balance sheets of
Sterile Recoveries, Inc. as of December 31, 1998 and 1997, and the related
consolidated statements of earnings, shareholders' equity and cash flows for
each of the three years in the period ended December 31, 1998. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Sterile Recoveries, Inc., as of December 31, 1998 and 1997, and the results of
its consolidated operations and cash flows for each of the three years in the
period ended December 31, 1998, in conformity with generally accepted
accounting principles.
GRANT THORNTON LLP
Tampa, Florida
February 26, 1999
-19-
22
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
STERILE RECOVERIES, INC.
CONSOLIDATED STATEMENTS OF EARNINGS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
YEARS ENDED
DECEMBER 31,
========-----------------------------====
1998 1997 1996
======== ========= ========
Revenues $ 52,318 $ 39,854 $ 32,168
Cost of revenues 35,334 26,286 21,764
-------- --------- --------
Gross profit 16,984 13,568 10,404
Distribution expenses 3,788 3,150 3,000
Selling and administrative expenses 7,065 5.924 4,734
-------- --------- --------
Income from operations 6,131 4.494 2,670
Interest expense (income), net 52 (142) 648
-------- --------- --------
Income before income taxes 6,079 4,636 2,022
Income tax expense 2,393 1,835 190
-------- --------- --------
Net income $ 3,686 $ 2,801 $ 1,832
======== ========= ========
Dividends on preferred stock 67 -- --
-------- --------- --------
Net income available for common
shareholders $ 3,619 $ 2,801 $ 1,832
======== ========= ========
Historical net income per common
share - basic $ 0.64 $ 0.50 $ 0.43
======== ========= ========
Historical net income per common
share - diluted $ 0.61 $ 0.48 $ 0.41
======== ========= ========
Unaudited pro forma information
Historical income before income taxes $ 2,022
Pro forma income tax expense 778
Pro forma net income $ 1,244
========
Pro forma net income per common share - basic $ 0.29
========
Pro forma net income per common share - diluted 0.28
========
The accompanying notes are an integral part of these financial statements.
-20-
23
STERILE RECOVERIES, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
DECEMBER 31,
--------------------------
1998 1997
-------- --------
ASSETS
Cash $ 172 $ 380
Accounts receivable, net 7,580 6,016
Inventories 2,324 1,979
Prepaid expenses and other assets 1,670 1,203
Reusable surgical products 14,705 10,034
Property, plant and equipment, net 12,042 7,253
Goodwill, net 5,127 521
Deferred tax asset -- 160
-------- --------
Total assets $ 43,620 $ 27,546
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Notes payable to bank $ 3,698 $ --
Accounts payable 2,898 1,603
Employee related accrued expenses 974 926
Other accrued expenses 786 669
Deferred tax liability 142 --
-------- --------
Total liabilities 8,498 3,198
Commitments and contingencies -- --
Shareholders' equity
Preferred stock--authorized 5,000,000 shares of $.001
par value; 566,667 and 0 shares issued and outstanding,
respectively 1 --
Common stock--authorized 30,000,000 shares of $.001
par value; issued and outstanding 5,664,794 and
5,659,894 shares, respectively 6 6
Additional paid-in capital 27,321 20,167
Retained earnings 7,794 4,175
-------- --------
Total shareholders' equity 35,122 24,348
-------- --------
Total liabilities and shareholders' equity $ 43,620 $ 27,546
======== ========
The accompanying notes are an integral part of these
financial statements.
-21-
24
STERILE RECOVERIES, INC.
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(In thousands, except share data)
Common Stock Preferred Stock Additional Retained
----------------------- -------------------- Paid-In Earnings
Shares Amount Shares Amount Capital (Deficit) Total
--------- -------- ------- ------- ---------- -------- --------
BALANCE AT DECEMBER 31, 1995 3,225,807 $ 3 -- $ -- $ 2,009 $(1,798) $ 214
Issuance of common stock for cash 51,282 -- -- -- 300 -- 300
Acquisition of Surgipro 90,000 1 -- -- 526 -- 527
Initial Public Offering, net 2,150,000 2 -- -- 17,926 -- 17,928
Corp Shareholder Distribution -- -- -- -- (52) -- (52)
Recapitalization of Company for change
from S Corporation to C Corporation -- -- -- -- (1,340) 1,340 --
Exercise of stock options 4,100 -- -- -- 7 -- 7
Net income -- -- -- -- -- 1,832 1,832
--------- -------- ------- ------- -------- ------- --------
BALANCE AT DECEMBER 31, 1996 5,521,189 6 -- -- 19,376 1,374 20,756
Conversion of note payable 128,205 -- -- -- 750 -- 750
Exercise of stock options 10,500 -- -- -- 41 -- 41
Net income -- -- -- -- -- 2,801 2,801
--------- -------- ------- ------- -------- ------- --------
BALANCE AT DECEMBER 31, 1997 5,659,894 6 -- -- 20,167 4,175 24,348
Exercise of stock options 4,900 -- -- -- 15 -- 15
Acquisition of RePak Surgical Enterprises, Inc. -- -- 566,667 1 7,139 -- 7,140
Dividend on preferred stock -- -- -- -- -- (67) (67)
Net income -- -- -- -- -- 3,686 3,686
--------- -------- ------- ------- -------- ------- --------
BALANCE AT DECEMBER 31, 1998 5,664,794 $ 6 566,667 $ 1 $ 27,321 $ 7,794 $ 35,122
========= ======== ======= ======= ======== ======= ========
The accompanying notes are an integral part of this financial statement.
-22-
25
STERILE RECOVERIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOW
(IN THOUSANDS)
YEARS ENDED DECEMBER 31,
-----------------------------------
1998 1997 1996
------- ------- -------
Increase (decrease) in cash
Cash flows from operating activities
Net income $ 3,686 $ 2,801 $ 1,832
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 1,067 689 512
Amortization of reusable surgical products 2,910 2,015 1,293
Provision for reusable surgical products shrinkage 1,523 606 422
Deferred income taxes 409 57 (217)
Change in assets and liabilities (net of business combinations)
Accounts receivable (878) (763) (1,800)
Inventories (326) (739) (728)
Prepaid expenses and other assets (404) (673) (94)
Accounts payable 852 243 71
Other accrued expenses (219) (295) 439
------- ------- -------
Net cash provided by operating activities 8,620 3,941 1,730
------- ------- -------
Cash flows from investing activities
Purchases of property, plant, and equipment (3,303) (2,811) (1,261)
Purchases of reusable surgical products (7,810) (5,740) (3,705)
Payment for acquisition of business, net of cash acquired (1,428) -- 6
------- ------- -------
Net cash used in investing activities (12,541) (8,551) (4,960)
------- ------- -------
Cash flows from financing activities
Proceeds from convertible demand notes -- -- 1,000
Net change in notes payable to bank 3,698 -- (1,810)
Payments on acquisition debt -- -- (9,081)
Payments on related party debt -- (250) (167)
Net proceeds from issuance of common stock 15 41 18,235
------- ------- -------
Net cash provided by (used in) financing activities 3,713 (209) 8,177
------- ------- -------
Increase (decrease) in cash (208) (4,819) 4,947
Cash and cash equivalents at beginning of period 380 5,199 252
------- ------- -------
Cash and cash equivalents at end of period $ 172 $ 380 $ 5,199
======= ======= =======
Supplemental cash flow information
Cash paid for interest $ 69 $ 67 $ 697
======= ======= =======
Cash paid for income taxes $ 2,202 $ 1,870 $ 96
======= ======= =======
Conversion of Convertible Demand Note into
128,205 shares of common stock $ -- $ 750 $ --
======= ======= =======
Supplemental schedule of non-cash investing activities
Acquisition of businesses
Fair value of assets acquired $ 9,330 $ -- $ 986
Cash received (paid) (1,428) -- 6
Common stock issued -- -- (526)
Preferred stock issued (7,140) -- --
------- ------- -------
Liabilities incurred or assumed $ 762 $ -- $ 466
======= ======= =======
The accompanying notes are an integral part of these financial statements.
-23-
26
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A--DESCRIPTION OF ORGANIZATION AND BUSINESS
Sterile Recoveries, Inc. ("SRI" or the "Company") was incorporated in
June 1994 in Florida to acquire all of the assets of its predecessor, AMSCO
Sterile Recoveries, Inc. on July 31, 1994. The Company's corporate office is
located in Clearwater, Florida. On August 31, 1998, in a transaction accounted
for under the purchase method, the Company acquired Repak Surgical Enterprises,
Inc. ("Repak"), a wholly-owned subsidiary of Standard Textile Co., Inc.
("Standard Textile"), which provides reusable surgical product services similar
to the Company's reprocessing services. The financial statements include the
accounts of the Company and RePak and eliminate all significant intercompany
balances and transactions.
SRI provides hospitals and surgery centers in 23 states with a
comprehensive surgical procedure-based delivery and retrieval service for
reusable gowns, towels, drapes and basins, and additionally, provides
disposable products necessary for surgery. At nine regional facilities, SRI
collects, sorts, cleans, inspects, packages, sterilizes, and delivers its
reusable products on a just-in-time basis. On February 26, 1996, the Company
acquired Surgipro, Inc. ("Surgipro"), which became its disposable products
division, to expand its revenues from disposable accessory packs containing
small surgical items such as needles and sutures. Disposable products allow the
Company to offer its new service, Surgical Express(TM), which uses its daily
delivery and retrieval service as a foundation to provide customers an expanded
program of products and services. Surgical Express is an outsourced Surgical
Case Cart Management Program, which the Company expects will reduce hospital
and surgery center processing costs and their investment in surgical products.
NOTE B--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Financial statement presentation
The Company operates on a 52-53 week fiscal year ending the Sunday
nearest December 31. The financial statements reflect the Company's year-end as
December 31 for presentation purposes.
Use of estimates in financial statements
In preparing financial statements in conformity with generally
accepted accounting principles, management makes estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosures of
contingent assets and liabilities at the date of the financial statements, as
well as the reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates.
Cash equivalents
The Company considers all highly liquid investments with an original
maturity of three months or less to be cash equivalents. The Company has no
cash equivalents for any of the periods presented.
-24-
27
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Collectibility of accounts receivable
The Company grants credit to customers who meet pre-established credit
requirements. The Company does not require collateral when trade credit is
granted to customers. Credit losses have been less than $35,000 for each period
presented herein. The allowance for doubtful accounts at December 31, 1998 and
1997 is $50,000 and $39,000, respectively.
Inventories
Inventories consisting principally of consumables, supplies, and
disposable surgical products are stated at the lower of cost or market, with
cost being determined on the first-in, first-out method.
Reusable surgical products
Reusable surgical products are stated at historical cost, net of
amortization. The products are amortized on a basis similar to the units of
production method. Estimated useful lives are based on the estimated total
number of available uses for each product. The expected total available usage
for its products using the three principal fabrics (accounting for 85% of its
products) are 75, 100, and 125 uses based on several factors including studies
performed by management. Based on current reusable product turnover, the
expected total available usage equates to a time period of approximately three
to seven years. The estimates, however, are subject to revision if actual
experience differs from the estimated available uses. Accumulated amortization
at December 31, 1998 and 1997 approximates $6,250,000 and $4,130,000,
respectively.
The Company has experienced minor amounts of shrinkage, with actual
shrinkage currently approximately 1.5% of revenues. As of December 31, 1998 and
1997, the Company has established a reserve for shrinkage of approximately
$450,000 and $195,000 respectively, to account for the estimated amount of
product at customer locations which will not be returned to the Company. The
Company will continue to evaluate, at least quarterly, the actual shrinkage
experience and will review the shrinkage provision if deemed necessary.
Property, plant and equipment
Property, plant and equipment are stated at cost less accumulated
depreciation and amortization. Depreciation is provided using the straight-line
method over the estimated useful lives of the assets, or the term of the
related leases for leasehold improvements, if less than the useful lives.
Accelerated methods are used for tax purposes.
Goodwill
Goodwill from the acquisition of Surgipro and RePak is stated at cost
less accumulated amortization using the straight-line method over 20 years for
Surgipro and over 30 years for RePak.
Impairment of long-lived and intangible assets
On a quarterly basis, the Company evaluates the projected undiscounted
cash flows of each business unit to determine, when indicators of impairment
are present, whether or not there has been permanent impairment of its
long-lived assets, and accrues expenses for the amount, if any, determined to
be permanently impaired. No impairment exists for all years presented.
-25-
28
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Revenues
Revenues are recognized as the agreed upon services are delivered,
generally daily. The Company's revenues are principally generated from service
agreements with varying terms of one to three years, which are cancellable by
either party, generally with a 90-day notice. All reusable surgical products
provided to a customer under these agreements are used by the customer, but
remain the Company's property.
Income taxes
When it completed its initial public offering in July 1996, the
Company terminated its S Corporation status and became subject to corporate
income taxes. Accordingly, income taxes are presented on a historical basis for
1998 and 1997. Pro forma taxes are presented for 1996 using an effective rate
of 38.5%.
Fair value of financial instruments
The carrying amounts of cash, receivables, payables, accrued expenses
and notes payable approximate fair value because of the short-term nature of
these items.
Earnings per common share
The Company follows Statement of Financial Accounting Standards No.
128 (SFAS No. 128), "Earnings Per Share", which became effective for financial
statements issued after December 15, 1997. SFAS No. 128 eliminates primary and
fully dilutive net income per common share and replaces them with basic and
diluted net income per common share.
Accounting for Stock-Based Compensation
The Company follows the disclosure provisions of SFAS No. 123,
"Accounting for Stock-Based Compensation," as it relates to employment awards.
It applies APB Opinion No. 25, "Accounting for Stock Issued to Employees," and
related interpretations in accounting for its plans and does not recognize
compensation expense for its stock-based compensation plans other than for
restricted stock.
New Accounting Pronouncements Adopted in the Current Year
SFAS No. 130, "Reporting Comprehensive Income," is effective for
fiscal years beginning after December 15, 1997. This Statement establishes
standards for reporting and displaying comprehensive income and its components
in a full set of general-purpose financial statements. The new rule requires
that the Company (a) classify items of other comprehensive income by their
nature in a financial statement and (b) display the accumulated balance of
other comprehensive income separately from retained earnings and additional
paid-in capital in the equity section of the balance sheet. The Company's
adoption of SFAS No. 130 in 1998 did not affect the Company's financial
statement presentation.
SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information," is effective for fiscal years beginning after December 15, 1997.
This Statement supersedes SFAS No. 14, "Financial Reporting for Segments of a
Business Enterprise," and amends SFAS No. 94, "Consolidation of All
Majority-Owned Subsidiaries." This Statement requires annual financial
statements to disclose information about products and services, geographic
areas and major customers based on a management approach, along with interim
reports. The management approach requires disclosing financial and descriptive
information about an enterprises's reportable operating segments based on
reporting information the way management organizes the segments for making
business decisions and assessing performance. It also eliminates the
requirement to disclose additional information about subsidiaries that were not
consolidated. The Company's adoption of SFAS No. 131 in 1998 affects only the
Company's disclosure information and not its results of operations.
-26-
29
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The Company has adopted Statement of Position 98-1, (SOP 98-1),
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use." This SOP segments an internal use software project into stages
and accounts for the project's costs based on the stage in which the costs are
incurred. Specified costs for each application development stage are
capitalized if the preliminary project stage is complete, management authorized
the project, and completion of the project is probable. Capitalizable costs of
internal-use software projects consist of (1) external direct costs of
materials and services used to develop or purchase internal-use software, (2)
payroll and payroll-related costs for time spent directly on the project by
employees directly associated with the internal-use software project, and (3)
interest costs incurred during the development of internal use software. The
Company's adoption of this pronouncement did not materially impact its
financial statements. The Company's policy was to capitalize internal-use
software costs, accordingly, the Company capitalized approximately $1.2 million
in 1998, which is included in property, plant and equipment. The Company
expects to spend an additional $300,000 in 1999 for its internal-use software
project. On its completion of this project, the Company will amortize these
costs over five years.
NOTE C--BUSINESS COMBINATIONS
On August 31, 1998, the Company acquired the stock of RePak from
Standard Textile. Standard Textile received in the transaction 566,667 shares
of the Company's Series A Preferred Stock, which is convertible by its holder
at any time into the same number of shares of the Company's Common Stock. Under
certain conditions, including the Company's Common Stock having an average
closing trading price of $18.00 per share for a specified time period, the
Series A Preferred Stock is mandatorily convertible into the Company's Common
Stock. The Series A Preferred Stock accrues a 2% dividend, payable quarterly,
until the earlier of September 2004 or the date that it is converted into
Common Stock. The Series A Preferred Stock was valued at $7,140,000 by an
independent business valuation firm at the time the transaction closed. The
Company also purchased the RePak facility's real estate for $1.5 million cash
from Standard Textile's affiliates.
The Company has accounted for the acquisition as a purchase and
includes RePak's operating results in the Company's operating results since
September 1, 1998. Of the approximately $8.6 million total costs it incurred to
complete the acquisition, the Company allocated approximately $4.7 million to
tangible assets, assumed approximately $760,000 in liabilities, and allocated
approximately $4.7 million to goodwill. Goodwill will be amortized over thirty
years based upon various factors, including historical and projected operating
results.
The following unaudited pro forma financial information assumes the
purchase had occurred at the beginning of the respective periods after the
effect of certain pro forma adjustments including, among others, adjustments to
reflect amortization of goodwill. The pro forma information is presented for
informational purposes only and may not be indicative of actual results had the
purchase occurred at the beginning of the respective periods.
YEARS ENDED
-----------
DECEMBER 31, DECEMBER 31,
1998 1997
---- ----
(UNAUDITED)
(IN THOUSANDS)
Revenues $ 58,262 $ 48,145
Net income $ 4,017 $ 3,151
Net income available for common shareholders $ 3,813 $ 2,947
Net income per common share - basic $ 0.67 $ 0.52
Net income per common share - diluted $ 0.63 $ 0.49
-27-
30
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
NOTE D--PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consist of the following:
DECEMBER 31,
USEFUL LIVES ------------
IN YEARS 1998 1997
-------- ---- ----
Land -- $ 429,460 $ 17,426
Buildings 40 1,457,772 357,694
Leasehold improvements & signs 2-18 1,852,780 1,530,812
Machinery and equipment 3-12 8,486,522 6,042,063
Office furniture, equipment & computers 3-10 2,537,910 1,044,154
------------ -----------
14,764,444 8,992,149
Less: Accumulated depreciation and
amortization 2,722,608 1,739,644
------------ -----------
$ 12,041,836 $ 7,252,505
============ ===========
During 1998, 1997 and 1996, depreciation expense totaled approximately
$984,000, $660,000 and $488,000, respectively.
NOTE E-LINE OF CREDIT
The Company had approximately $3.7 million outstanding on December 31,
1998 under its $15.0 million revolving credit facility with First Union
National Bank. No borrowings were outstanding on December 31, 1997. Pursuant to
amendments effective February 24, 1999, the facility is secured by
substantially all of SRI's assets and its maturity date extended from August
1999 to December 2001. The facility's interest rate was previously 190 basis
points over LIBOR, declining to a 175 basis point margin as of October 15,
1998. As amended, the facility's interest rate varies between 100 and 150 basis
points over LIBOR (5.09% as of December 31, 1998), depending on the Company's
leverage. The amendments also increased required tangible net worth from
$20,745,000 through December 31, 1998 and $23,745,000 thereafter to $29.0
million plus 75% of quarterly positive net income earned after September 30,
1998. The facility restricts the Company's payment of dividends, acquisition
transactions, additional indebtedness, and encumbering of assets.
-28-
31
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
NOTE F-NOTES PAYABLE
In March 1996, the Company borrowed $1,000,000 from a director
pursuant to an 8.5% Convertible Demand Promissory Note, of which $750,000 was
convertible to Common Stock at $5.85 per share. The holder converted the
convertible portion of this note on February 24, 1997 into 128,205 shares of
common stock. The Company concurrently repaid the remaining $250,000 balance of
the note. The Company incurred interest expense related to the demand note of
$13,000 and $71,000, respectively, for the years ended December 31, 1997 and
1996.
Total interest expense and related fees for 1998, 1997 and 1996 was
approximately $100,000, $67,000 and $829,000, respectively.
NOTE G--COMMITMENTS AND CONTINGENCIES
Operating Leases
The Company leases offices, facilities, office equipment, and
distribution vehicles under non-cancelable operating leases with terms ranging
from one year to nine years. The office and processing facility leases contain
various renewal options and escalating payments. At present, the Company
intends to exercise certain aspects of these renewal options when the initial
term expires. The vehicle leases contain contingent rentals based on mileage.
Future minimum lease payments as of December 31, 1998 under leases in
excess of one year are as follows:
YEAR ENDING
-----------
1999 $ 1,819,000
2000 1,752,000
2001 1,539,000
2002 868,000
2003 232,000
Thereafter 50,000
-----------
Total $ 6,260,000
===========
Rental expense for the years ended December 31, 1998, 1997 and 1996
totaled $1,701,000, $1,571,000, and $1,960,000 (including contingent rentals of
approximately $237,000, $211,000, and $228,000), respectively.
As of February 1, 1999, the Company secured a $10.0 million lease
financing agreement to provide financing for land, building, and equipment for
future reprocessing facilities. The lease financing margins are substantially
the same as under the Company's revolving line of credit. Under the agreement,
the lessor purchases land, pays for the facility's construction and equipment
costs, and leases to the Company for three years the completed facility. The
Company guarantees all lease payments and a substantial residual value for the
facility when the lease term ends. Each lease agreement includes a purchase
option for the Company at original costs on the leased facility. The Company
will account for these leases as operating leases. Construction of two
facilities that will be financed under this agreement started in the first
quarter of 1999 at a cost of $4.5 to $5.0 million for each facility. The
Company anticipates that it will occupy these facilities and begin making lease
payments for them in the third quarter of 1999.
-29-
32
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Purchase Agreement with Standard Textile
In conjunction with the RePak acquisition, the Company signed a
procurement agreement with Standard Textile under which the Company agreed to
purchase 80% of its reusable surgical products from Standard Textile. The
Company's management believes that Standard Textile's prices are and will be
comparable to prices available from other vendors. A significant percentage of
the Company's business is dependent on its ability to obtain a key component of
its liquid-proof surgical products from one principal vendor. Standard's
President and Chief Executive Officer became a director of the Company on
August 31, 1998.
Legal Proceedings
Neither the Company nor any of its property is subject to any
litigation or other legal proceedings expected to have a material effect on the
Company or its business.
Management Incentive Plan
The Company has a Management Incentive Plan, the incentives of which
are based on various performance factors and are adjusted to reflect the
Company's overall performance as determined by the Board of Directors. Payment
of the cash incentives is made at the end of the second month after the end of
the incentive year. The participant must still be an employee of the Company at
that time. Approximately $212,000, $295,000 and $375,000 of estimated
incentives were recognized during the years ended December 31, 1998, 1997 and
1996, respectively.
Management Employment Agreements
The Company has approved employment agreements with four executives in
which each person would receive severance pay equal to two years of base salary
in the event that the executive or employee is terminated following a change in
control of the Company.
Year 2000
The Year 2000 issue relates to limitations in computer systems and
applications that may prevent proper recognition of the Year 2000. The
potential effect of the Year 2000 issue on the Company and its business
partners will not be fully determinable until the Year 2000 and thereafter. If
Year 2000 modifications are not properly completed either by the Company or
entities with which the Company conducts business, the Company's revenues and
financial condition could be adversely impacted.
NOTE H--INCOME TAX
HISTORICAL INCOME TAXES
In accordance with the provisions of the Internal Revenue Code, upon
the completion of its initial public offering and conversion to a C Corporation
in 1996, a portion of the income earned after the conversion was allocated to
the S Corporation. As a result of this allocation, the effective rate for
calculating income taxes was lower than the statutory rates. In addition,
accounting rules require the establishment of deferred taxes for all existing
temporary differences in the basis of the Company's assets and liabilities for
income and financial reporting purposes at the date of conversion to a C
Corporation. The Company recorded deferred tax assets of approximately $200,000
at the date of conversion.
-30-
33
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The provision for income taxes for the years ended December 31 is as
follows:
1998 1997 1996
----------- ----------- ---------
Income taxes currently payable $ 1,984,000 $ 1,778,000 $ 407,000
Deferred income tax expense (benefit) 409,000 57,000 (217,000)
----------- ----------- ---------
Income tax expense $ 2,393,000 $ 1,835,000 $ 190,000
=========== =========== =========
Reconciliation of the federal statutory income tax rate of 34.0% to
the effective income tax rate for the years ended December 31 is as follows:
1998 1997 1996
---- ---- ----
Federal statutory income tax rate 34.0% 34.0% 34.0%
State income taxes, net of federal 4 .6 4.5 4.5
Net earnings allocated to the S Corporation period -- -- (21.3)
Deferred tax asset previously not recognized -- -- (10.7)
Other, net .8 1.1 2.9
---- ---- ----
39.4% 39.69 9.4%
==== ===== ====
Deferred tax asset and liability components resulting from the
differences between accounting for financial statement purposes and purposes
pursuant to SFAS No. 109 are as follows as of December 31:
1998 1997
--------- ---------
Deferred tax assets:
Inventory $ 367,000 $ 93,000
Health insurance reserve 60,000 55,000
Vacation pay accrual 88,000 58,000
Other 57,000 33,000
--------- ---------
572,000 239,000
Deferred tax liabilities:
Depreciation (463,000) (79,000)
Software development costs (251,000) --
--------- ---------
Net deferred income tax asset (liability) $(142,000) $ 160,000
========= =========
During 1998, the Company acquired RePak which included a deferred tax
asset of approximately $107,000.
PRO FORMA INCOME TAXES
In conjunction with the completion of its initial public offering in
1996, the Company terminated its S Corporation status. For pro forma income tax
purposes, the S Corporation's cumulative net operating losses as of December
31, 1995 of approximately $1.6 million will not be used to reduce pro forma
income tax expense in 1996. For 1996, the Company chose to recognize income tax
expense using an effective rate of 38.5% of historical income before income
taxes.
-31-
34
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Reconciliation of the income tax expense (benefit) calculated using
the federal statutory income tax rate of 34% to the income tax expense recorded
is as follows:
YEAR ENDED
DECEMBER 31,
------------
1996
---------
Federal income taxes at statutory rate $ 687,000
State income taxes, net of federal benefit 91,000
---------
Income tax expense $ 778,000
=========
NOTE I--SHAREHOLDERS' EQUITY
Common Stock
Subject to preferences which might be applicable to the Company's
outstanding Preferred Stock, the holders of the Common Stock are entitled to
receive dividends when, as, and if declared from time to time by the Board of
Directors out of funds legally available. In the event of liquidation,
dissolution, or winding-up of the Company, holders of the Common Stock are
entitled to share ratably in all assets remaining after payment of liabilities
subject to prior distribution rights of any Preferred Stock then outstanding.
The Common Stock has no preemptive or conversion rights and is not subject to
call or assessment by the Company. There are no redemption or sinking fund
provisions applicable to the Common Stock.
On July 24, 1996, the Company completed its initial public offering of
2,000,000 shares of its Common Stock priced at $9.50 per share. The net
proceeds of this offering, after deducting commissions of approximately
$1,330,000 and approximately $1,100,000 in expenses, were approximately
$16,570,000. In addition, the underwriters on August 9, 1996 exercised their
overallotment option to purchase 150,000 additional shares of the Company's
Common Stock. Proceeds to the Company of the underwriters' purchase of shares
pursuant to their exercise of the overallotment option were $1,325,250 after
commissions. The Company used approximately $11,000,000 of the proceeds to
retire debt.
Preferred Stock
The Company is authorized to issue 5,000,000 shares of Preferred
Stock, $.001 par value per share. The Board of Directors has the authority,
without any further vote or action by the Company's shareholders, to issue
Preferred Stock in one or more series and to fix the number of shares,
designations, relative rights (including voting rights), preferences, and
limitations of those series to the full extent now or hereafter permitted by
Florida law.
On August 31, 1998, the Company acquired from Standard Textile all the
stock of Repak. Standard Textile received in this transaction 566,667 shares of
the Company's Series A Preferred Stock, which is convertible by its holder at
any time into the same number of shares of the Company's Common Stock. Under
certain conditions, including the Company's Common Stock having an average
closing trading price of $18.00 per share for a specified time period, the
Series A Preferred Stock is mandatorily convertible into the Company's Common
Stock. The Series A Preferred Stock accrues a 2% dividend, payable quarterly,
until the earlier of September 2004 or the date that it is converted into
Common Stock.
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35
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
NOTE J--STOCK OPTIONS
The Company maintains three stock option plans, the 1995 Stock Option
Plan, the 1996 Non-Employee Director Plan, and the 1998 Stock Option Plan.
The 1995 Stock Option Plan
The 1995 Stock Option Plan provides employees with incentive or
non-qualified options to purchase up to 700,000 shares of Common Stock. On
December 21, 1995, the Company granted non-qualified stock options covering a
total of 94,000 shares of Common Stock to various employees at an exercise
price of $5.85 per share. The exercise price represented the estimated fair
value of the Company's Common Stock at the time of the grant, as approved by
the Board of Directors based upon various factors including an independent
third-party firm's valuation. None of the options vested until completion of
the Company's initial public offering, and are then vested ratably over the
four-year period following the completed offering. Since the offering, the
Company has granted 575,500 options under this Plan. The options vest ratably
over five years from the date of the grant. All outstanding options vest upon a
change in control of the company. Options granted under the Employee Plan
expire no later than ten years after the date granted or sooner in the event of
death, disability, retirement or termination of employment. Included in these
options are options to purchase 140,000 shares issued to an employee who is
also a director and an officer of the Company.
The 1998 Stock Option Plan
The 1998 Stock Option Plan provides employees with incentive or
non-qualified options to purchase up to 300,000 shares of Common Stock. As of
December 31, 1998, no options had been granted under this plan. The terms of
the options granted under the 1998 plan may not exceed ten (10) years beyond
the grant date or sooner in the event of death, disability, retirement or
termination of employment.
The Non-Employee Plan
The Non-Employee Plan provides for the grant of non-qualified stock
options to purchase up to 100,000 shares of Common Stock to members of the
Board of Directors who are not employees of the Company. At the completion of
its initial public offering, each non-employee director was granted options to
purchase 4,000 shares of Common Stock for each full remaining year of the
director's term. Thereafter, on the date on which a new non-employee director
is first elected or appointed, he will automatically be granted options to
purchase 4,000 shares of Common Stock for each year of his initial term, and
will be granted options to purchase 4,000 shares of Common Stock for each year
of any subsequent term to which he is elected. All options become exercisable
ratably over the director's term and have an exercise price equal to the fair
market value of the Common Stock on the date of grant. As of December 31, 1998,
options to purchase 40,000 shares have been granted under this Plan.
Other Stock Options
In October 1995, in conjunction with a financial consulting
arrangement with an individual who has become a director and an officer of the
Company, the Company granted the individual a non-qualified stock option for
66,000 shares of its Common Stock at an exercise price of $4.43 a share which
were exercisable as follows: (1) 22,000 shares upon the completion of an
interim financing (completed in March 1996); and (2) 44,000 at the completion
of an initial public offering. The exercise price was determined by the Board
of Directors to approximate the estimated fair value of the Company's Common
Stock at the date of grant based on various factors, including the Company's
history of operating losses.
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36
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
On May 2, 1996, the Company issued to a recently appointed director an
option to purchase 7,500 shares of the Company's Common Stock for $8.00 per
share, which vested one-third on completion of the Company's initial public
offering, one-third at the 1997 annual meeting of shareholders, and one-third
at the 1998 annual meeting of shareholders.
On November 21, 1997, the Company issued to an officer and director an
option to purchase 20,000 shares of the Company's Common Stock for $15.06 per
share, which vests ratably over five years.
If the Company had elected to recognize compensation expense based
upon the fair value at the grant date for awards under these plans consistent
with the methodology prescribed by SFAS 123, the Company's net income and
earnings per share would be reduced to the pro forma amounts indicated below:
1998 1997 1996
------- ------- -------
Net income As reported $ 3,686 $ 2,801 $ 1,244
Pro forma $ 2,991 $ 2,390 $ 1,069
Basic net income per share As reported $ 0.64 $ 0.50 $ 0.29
Pro forma $ 0.52 $ 0.43 $ 0.25
Diluted net income per share As reported $ 0.61 $ 0.48 $ 0.28
Pro forma $ 0.50 $ 0.41 $ 0.24
The fair value of each option grant is estimated on the date of grant using the
Binomial options-pricing model with the following weighted-average assumptions
used for grants in 1998, 1997 and 1996, respectively, no dividend yield for all
years, expected volatility of 53, 48 and 32 percent; risk-free interest rates
of 6.0, 6.5 and 5.6 percent, and expected lives of 4.0, 4.1 and 3.8 years. The
weighted average fair value of options granted during the years ended December
31, 1998, 1997 and 1996 are $7.89, $7.09 and $3.56, respectively.
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37
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
A summary of the status of the Company's fixed stock option plan as of December
31, 1998, 1997 and 1996, and changes during the years ending on those dates is
presented below:
WEIGHTED
AVERAGE
EXERCISE
SHARES PRICE
------ --------
Outstanding as of December 31, 1995 172,500 $ 4.96
Granted 258,000 $ 9.64
Exercised (4,100) $ 1.71
Forfeited (2,400) $ 5.85
-------
Outstanding as of December 31, 1996 424,000 $ 7.83
Granted 252,500 $ 16.45
Exercised (10,500) $ 3.94
Forfeited (34,800) $ 10.96
-------
Outstanding as of December 31, 1997 631,200 $ 11.17
Granted 132,500 $ 17.26
Exercised (4,900) $ 2.98
Forfeited (55,800) $ 13.26
-------
Outstanding as of December 31, 1998 703,000 $ 12.21
=======
The following table summarizes information concerning currently
outstanding and exercisable stock options:
WEIGHTED AVERAGE
REMAINING
RANGE OF NUMBER CONTRACTUAL LIFE WEIGHTED AVERAGE
EXERCISE PRICES OUTSTANDING (YEARS) EXERCISE PRICE
- --------------- ----------- ---------------- ----------------
$ 4.43 - 5.85 140,000 6.6 $ 5.18
$ 5.86 - 9.50 212,000 7.2 $ 9.45
$ 9.51 - 17.50 251,500 8.4 $ 16.16
$ 17.51 - 19.00 99,500 9.3 $ 18.00
EXERCISABLE SHARES
- ------------------
$ 4.43 - 5.85 112,800 $ 5.02
$ 5.86 - 9.50 98,500 $ 9.39
$ 9.51 - 17.50 52,100 $ 16.10
---------
263,400 $ 8.85
At December 31, 1997 and 1996, exercisable options totaled 156,400 and
95,700 at weighted average exercise prices of $6.46 and $4.47, respectively.
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38
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
NOTE K--WEIGHTED AVERAGE COMMON SHARES
Historical and pro forma net income per common share is computed by
dividing historical and pro forma net income by the basic and diluted weighted
average number of shares of common stock outstanding. For 1996 pro forma net
income includes a pro forma provision for income taxes assuming the Company had
been subject to income taxes during the period it was an S Corporation for
income tax purposes. For diluted weighted average shares outstanding, the
Company used the treasury stock method to calculate the Common Stock
equivalents that the stock options would represent.
The following table sets forth the computation of historical basic and
diluted earnings per share:
1998 1997 1996
----------- ----------- -----------
BASIC
Numerator:
Net income $ 3,686,000 $ 2,801,000 $ 1,832,000
Less effect of dividends of preferred stock (67,000) -- --
----------- ----------- -----------
Net income available to common
shareholder $ 3,619,000 $ 2,801,000 $ 1,832,000
=========== =========== ===========
Denominator:
Weighted average shares outstanding 5,662,000 5,637,007 4,300,000
=========== =========== ===========
Net income per common share - basic $ 0.64 $ 0.50 $ 0.43
=========== =========== ===========
DILUTED
Numerator:
Net income $ 3,686,000 $ 2,801,000 $ 1,832,000
=========== =========== ===========
Denominator:
Weighted average shares outstanding 5,662,000 5,637,000 4,300,000
Effect of dilutive securities:
Employee stock options 172,000 212,000 141,000
Convertible preferred stock 185,000 -- --
Convertible notes -- 13,000 50,000
----------- ----------- -----------
6,019,000 5,862,000 4,491,000
=========== =========== ===========
Net income per common share - diluted $ 0.61 $ 0.48 $ 0.41
=========== =========== ===========
Options to purchase 371,000 and 186,500 shares of common stock were
not included for all or a portion of the 1998 and 1997 computation of diluted
net income per common share, respectively, as the options' exercise price were
greater than the average market price of the common shares and therefore the
effect would be anti-dilutive.
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39
STERILE RECOVERIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
NOTE L-RELATED PARTY TRANSACTIONS
SRI paid $24,000, $76,000 and $56,000 in 1998, 1997 and 1996 to a
company to design and supply the components for water reclamation systems for
six SRI facilities. The company providing these services to SRI is owned by a
director and shareholder of SRI.
During 1998, 1997 and 1996, the Company paid approximately $76,000,
$20,000, and $207,000, respectively, to the Company's corporate law firm. One
member of the firm when the services were rendered is a shareholder of the
Company.
During 1998, the Company paid approximately $127,000 to a company for
the purchase of reusable surgical products. This company is owned and managed
by a director and shareholder of SRI.
-37-
40
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
ON FINANCIAL SCHEDULE
Board of Directors
Sterile Recoveries, Inc.
In connection with our audit of the financial statements of Sterile
Recoveries, Inc., referred to in our report dated February 26, 1999, which is
included in this annual report on SEC Form 10-K for the year ended December 31,
1998, we have also audited Schedule II for the years ended December 31, 1996,
1997 and 1998. In our opinion, this schedule presents fairly, in all material
respects, the information required to be set forth therein.
GRANT THORNTON LLP
Tampa, Florida
February 26, 1999
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41
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
STERILE RECOVERIES, INC.
Column A Column B Column C Column D Column E
- -------------------------------- ---------- ---------- ----------- ---------
BALANCE AT CHARGED TO BALANCE
BEGINNING COSTS AND DEDUCTIONS AT END
DESCRIPTION OF PERIO EXPENSES (DESCRIBE) OF PERIOD
- -------------------------------- ---------- ---------- ----------- ---------
Allowance for doubtful accounts:
Year ended December 31, 1996: $ 21,000 $ 34,000 $ (20,000)(1) $ 35,000
Year ended December 31, 1997: $ 35,000 $ 36,000 $ (32,000)(1) $ 39,000
Year ended December 31, 1998: $ 39,000 $ 11,607 $ (607)(1) $ 50,000
Reserve for inventory shrinkage:
Year ended December 31, 1996: $ 100,000 $ 422,000 $ (387,000)(1) $ 135,000
Year ended December 31, 1997: $ 135,000 $ 606,000 $ (546,000)(2) $ 195,000
Year ended December 31, 1998: $ 195,000 $ 1,523,000 $(1,268,000)(2) $ 450,000
- ---------------------
(1) Write-offs of uncollectible accounts
(2) Write-offs of reusable products
-39-
42
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item concerning the Company's
executive officers and directors is incorporated by reference to the
information set forth under the captions "Proposal No. 1: Election of
Directors" and "Other Information" in the Company's Proxy Statement for the
1999 Annual Meeting of Shareholders.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item is incorporated by reference to
the information set forth under the caption "Executive Officer Compensation" in
the Company's Proxy Statement for the 1999 Annual Meeting of Shareholders.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT
The information required by this Item is incorporated by reference to
the information set forth under the caption "Other Information" in the
Company's Proxy Statement for the 1999 Annual Meeting of Shareholders.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item is incorporated by reference to
the information set forth under the caption "Certain Relationships" in the
Company's Proxy Statement for the 1999 Annual Meeting of Shareholders.
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43
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
The Company did not file a report on Form 8-K during the last quarter
of 1998.
EXHIBITS
The following exhibits are filed as part of this report:
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44
EXHIBITS INDEX
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
- ------- -------------------
2.1(1) Asset Purchase Agreement dated July 31, 1994, between the Company and Amsco Sterile
Recoveries, Inc.
2.2(1) Agreement and Plan of Merger dated as of February 26, 1996, between Surgipro, Inc. and
the Company.
2.3(1) Articles of Merger dated as of February 26, 1996, between Surgipro, Inc. and the
Company.
2.4(6) Acquisition Agreement dated as of August 31, 1998, among the
Company, Standard Textile Co., Inc., and Repak Surgical
Enterprises, Inc.
3.1(1) Restated Articles of Incorporation of the Company.
3.2(1) Bylaws of the Company.
3.3(6) First Amendment to Restated Articles of Incorporation dated as of August 31, 1998, of the
Company (for Series A Preferred Stock).
4.1(1) Specimen certificate for Common Stock of the Company.
4.2 Trust Indenture dated as of February 1, 1999, between First Union National Bank and the
Industrial Development Board of Hamilton County, Tennessee.
10.1(1) 1995 Stock Option Plan, as amended, of the Company.
10.2(1) Form of Stock Option Agreement between the Company and participants under the 1995
Stock Option Plan.
10.3(1) Form of Indemnity Agreement between the Company and each of its executive officers.
10.4(1) Form of Registration Rights Agreement executed in connection with the private placement
of Common Stock.
10.5(3) Employment Agreement between the Company and each of Messrs. Isel, Peterson,
Boosales and Martin:
(a) Isel
(b) Peterson
(c) Boosales
(d) Martin
10.6(1) Lease Agreement dated August 16, 1991, between Coastal 2920
Corporation and Amsco Sterile Recoveries, Inc., as amended
and assigned to the Company.
10.7(1) Lease dated August 28, 1992, among Winchester Homes, Inc. and Weyerhaeuser Real
Estate Company and Amsco Sterile Recoveries, Inc., as assigned to the Company.
-42-
45
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
- ------- --------------------
10.8(1) Texas Industrial Net Lease dated March 19, 1992, between the Trustees of the Estate of
James Campbell, Deceased, and Amsco Sterile Recoveries, Inc., as assigned to the
Company.
10.9(1) Lease dated March 30, 1992, between Walter D'Aloisio and Amsco Sterile Recoveries,
Inc., as assigned to the Company.
10.10(1) Standard Industrial Lease -- Multi-Tenant (American Industrial Real Estate Association)
dated February 24, 1992, between Borstein Enterprises and Amsco Sterile Recoveries,
Inc., as assigned to the Company.
10.11(1) Carolina Central Industrial Center Lease dated April 22,
1992, between Industrial Development Associates and Amsco
Sterile Recoveries, Inc., as assigned to the Company.
10.12(1) Lease Agreement dated September 2, 1993, between Price Pioneer Company, Ltd., and
Amsco Sterile Recoveries, Inc., as assigned to the Company.
10.13(1) Service Center Lease dated December 4, 1991, between QP One Corporation and Amsco
Sterile Recoveries, Inc., as assigned to the Company.
10.14(1) Lease Agreement dated January 31, 1996, between Florida
Conference Association of Seventh-Day Adventists and
Surgipro, Inc., as assigned to the Company.
10.15(1) Stock Option Agreement dated as of October 18, 1996, between Bertram T. Martin, Jr.
and the Company.
10.16(3) Stock Option Agreement dated as of May 2, 1996, between James M. Emanuel and the
Company.
10.17(1) 1996 Non-Employee Director Stock Option Plan of the Company.
10.18(3) Retention Agreements between the Company and each of Messrs. Isel, Peterson, Boosales
and Martin:
(a) Isel
(b) Peterson
(c) Boosales
(d) Martin
10.19(4) Amendments No. 2 and 3 to the 1995 Stock Option Plan of the Company.
10.20(5) Stock Option Agreement dated November 21, 1997, between Bertram T. Martin, Jr. and
the Company.
10.21(5) Corporate Service Agreement dated October 21, 1997, between Standard Textile Co., Inc.
and the Company.
10.22(5) Corporate Service Agreement dated October 31, 1997, between Health Services
Corporation of America and the Company.
10.23(5) 1998 Stock Option Plan of the Company.
-43-
46
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
- ------- -------------------
10.24(6) Registration Rights Agreement dated August 31, 1998, between the Company and
Standard Textile Co., Inc.
10.25(7) Procurement Agreement dated August 31, 1998, between the Company and Standard
Textile Co., Inc.
10.26 Promissory Note dated as of February 24, 1999, executed by the Company in favor of
First Union National Bank.
10.27 Credit Agreement dated as of February 24, 1999, between the Company and First Union
National Bank (Revolving Line of Credit).
10.28 Security Agreement dated as of February 1, 1999, between the Company and First Union
National Bank (Revolving Line of Credit).
10.29 Participation Agreement dated as of February 1, 1999, among
the Company, First Union National Bank, and First Security
Bank, National Association (lease facility).
10.30 Credit Agreement dated as of February 1, 1999, between First
Security Bank, National Association and First Union National
Bank (lease facility).
10.31 Lease Agreement dated as of February 1, 1999, between the Company and First Security
Bank, National Association.
23.1 Consent of Grant Thornton LLP.
27 Financial Data Schedules (for SEC use only).
- --------------------------
(1) Incorporated by reference to the Registration Statement on Form S-1
filed by the Registrant on May 15, 1996.
(2) Incorporated by reference to Amendment No. 2 to the Registration
Statement on Form S-1 filed by the Registrant on July 15, 1996.
(3) Incorporated by reference to Amendment No. 3 to the Registration
Statement on Form S-1 filed by the Registrant on July 18, 1996.
(4) Incorporated by reference to the Annual Report on Form 10-K for the
1996 year filed by the Registrant on March 24, 1997.
(5) Incorporated by reference to the Annual Report on Form 10-K for the
1997 year filed by the Registrant on March 30, 1998.
(6) Incorporated by reference to the Current Report on Form 8-K dated
August 31, 1998, and filed by the Registrant on September 8, 1998.
(7) Incorporated by reference to the Quarterly Report on Form 10-Q for
the 1998 third quarter filed by the Registrant on November 13, 1998.
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47
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(d) OF THE SECURITIES
AND EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS REPORT TO BE
SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED.
STERILE RECOVERIES, INC.
BY: /s/ RICHARD T. ISEL
Richard T. Isel
Chairman of the Board
Dated: March 23, 1999
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES AND EXCHANGE ACT OF
1934, THIS REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF
THE REGISTRANT AND IN THE CAPACITIES AND ON THE DATES INDICATED.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ Richard T. Isel Chairman, Chief Executive Officer March 23, 1999
- -------------------------------------------- and Director
Richard T. Isel
/s/ Bertram T. Martin, Jr. President, Chief Operating Officer March 23, 1999
- -------------------------------------------- and Director
Bertram T. Martin
/s/ Wayne R. Peterson Executive Vice President and March 23, 1999
- -------------------------------------------- Director
Wayne R. Peterson
/s/ James T. Boosales Executive Vice President, March 23, 1999
- -------------------------------------------- Chief Financial Officer and
James T. Boosales Director
/s/ James M. Emanuel Director March 23, 1999
- --------------------------------------------
James M. Emanuel
/s/ Lee R. Kemberling Director March 23, 1999
- --------------------------------------------
Lee R. Kemberling
/s/ Gary L. Heiman Director March 23, 1999
- --------------------------------------------
Gary L. Heiman
-45-