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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 2000
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ________ to ________.
Commission file number 333-56135
RIVER HOLDING CORP.
(Exact name of registrant as specified in its charter)
Delaware 95-4674065
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
599 Lexington Avenue, 18/th/ floor 10022
New York, New York (Zip Code)
(Address of Principal Executive Offices)
(212) 758-2555
(Registrant's telephone number, including area code)
Securities Registered Pursuant to Section 12(b) of the Act: None
Securities Registered Pursuant to Section 12(g) of the Act: None
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 [_] No [X]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K ((S)229.405 of this chapter) 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.
[_] Not Applicable.
As of September 14, 2001, the number of shares of Common Stock, $.01 par
value, outstanding (the only class of common stock of the registrant
outstanding) was 10,391,435. The registrant's Common Stock is not traded in a
public market.
Aggregate market value of the registrant's voting and nonvoting Common
Stock: Not Applicable.
Documents Incorporated by Reference: None
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RIVER HOLDING CORP. AND SUBSIDIARIES
Fiscal Year Ended December 31, 2000
TABLE OF CONTENTS
Page
----
PART I......................................................................................................................... 1
Item 1. Business.................................................................................................. 1
Item 2. Properties................................................................................................ 8
Item 3. Legal Proceedings......................................................................................... 8
Item 4. Submissions of Matters to a Vote of Security Holders...................................................... 8
PART II........................................................................................................................ 9
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters..................................... 9
Item 6. Selected Financial Data................................................................................... 9
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operation...................... 11
Item 7A. Quantitative and Qualitative Disclosure About Market Risk................................................ 23
Item 8. Financial Statements...................................................................................... 24
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure...................... 24
PART III....................................................................................................................... 25
Item 10. Directors and Executive Officers of the Registrant......................................................... 25
Item 11. Executive Compensation..................................................................................... 27
Item 12. Security Ownership of Certain Beneficial Owners and Management............................................. 29
Item 13. Certain Relationships and Related Transactions............................................................. 31
PART IV........................................................................................................................ 32
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K............................................ 32
SIGNATURES..................................................................................................................... S-1
PART I
Item 1. Business.
This Annual Report on Form 10-K contains "forward-looking statements"
within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. These statements
include without limitation the words "believes," "anticipates," "estimates,"
"intends," "expects," and words of similar import. All statements other than
statements of historical fact included under "Item 1. Business," "Item 2.
Properties," "Item 3. Legal Proceedings" and "Item 7. Management's Discussion
and Analysis of Financial Condition and Results of Operations" include forward-
looking information and may reflect certain judgements by management. Such
forward-looking statements involve known and unknown risks, uncertainties and
other factors that may cause the actual results, performance or achievements of
Hudson Respiratory Care IncRiver Holding Corp. or the respiratory care and
anesthesia products industries to be materially different from any future
results, performance or achievements expressed or implied by such forward-
looking statements. These potential risks, uncertainties and other factors
include, but are not limited to, those identified in the "Risk Factors" section
of this Form 10-K located at the end of "Item 7. Management's Discussion and
Analysis of Financial Condition and Results of Operations." The Company
disclaims any obligation to update any such factors or to publicly announce the
results of any revisions to any of the forward-looking statements contained
herein to reflect future events or developments.
General
River Holding Corp. ("Holding") conducts all of its operations through its
majority-owned subsidiary, Hudson Respiratory Care Inc. ("Hudson RCI" or the
"Company"). The Company is a leading manufacturer and marketer of disposable
medical products utilized in the respiratory care and anesthesia segments of the
domestic and international health care markets. The Company offers one of the
broadest respiratory care and anesthesia product lines in the industry,
including such products as oxygen masks, humidification systems, nebulizers,
cannulae and tubing. In the United States, the Company markets its products to a
variety of health care providers, including hospitals and alternate site service
providers such as outpatient surgery centers, long-term care facilities,
physician offices and home health care agencies. Internationally, the Company
sells its products to distributors that market to hospitals and other health
care providers. The Company's products are sold to over 3,000 distributors and
alternate site service providers throughout the United States and in more than
75 countries worldwide. The Company has supplied the disposable respiratory care
market for over 50 years and enjoys strong brand name recognition and leading
market positions.
The Company manufactures and markets over 2,500 respiratory care and
anesthesia products. The Company believes that its broad product offering
represents a competitive advantage over suppliers with more limited product
offerings, as health care providers seek to reduce medical supply costs and
concentrate purchases among fewer vendors. The Company also benefits
competitively from its extensive relationships with leading group purchasing
organizations (GPOs), as large purchasing organizations play an increasingly
important role in hospitals' purchasing decisions.
The Company maintains three manufacturing facilities and three distribution
facilities in the United States, assembly operations in Mexico and Malaysia and
sales and marketing offices in the United States, Sweden, the United Kingdom,
France and Germany. The Company has reduced its manufacturing and assembly costs
through cost reduction programs, process improvements, equipment automation and
upgrades and increased utilization of its Ensenada, Mexico and Kuala Lumpur,
Malaysia facilities for labor-intensive operations.
Hudson Oxygen Therapy Sales Company ("Hudson Oxygen"), Hudson RCI's
predecessor, was founded in 1945. In 1988, Hudson Oxygen formed Industrias
Hudson, a subsidiary that oversees the Company's assembly operation in Mexico.
In 1989, Hudson Oxygen merged with Respiratory Care Inc. to form Hudson RCI. In
April 1998, the Company consummated a recapitalization, pursuant to which it
became a majority-owned subsidiary of River Holding Corp. ("Holding"). In the
past three years, the Company has completed a number of strategic acquisitions
in order to expand its product line and geographic penetration, most
significantly with the July 1999 acquisition of Hudson RCI AB (formerly Louis
Gibeck AB), a Swedish company that manufactures and markets medical devices.
Hudson RCI's principal executive offices are located at 27711 Diaz Road, P.O.
Box 9020, Temecula, California 92589, and its telephone number
1
is (909) 676-5611 Holding was incorporated in Delaware in January, 1998.
Holding's principal executive offices are located at 599 Lexington Avenue, 18th
floor, New York, New York 10022, and its telephone number is (212) 758-2555.
Industry Overview
The worldwide market for disposable respiratory care and anesthesia
products consists of the domestic hospital market, the alternate site market and
the international market. Respiratory care and anesthesia principally involve
the delivery of oxygen and anesthesia from a gas source, such as a mechanical
ventilator or respirator, to the patient's pulmonary system. The gas is
typically delivered to the patient through specialized tubing connecting to a
cannula, mask or endotracheal tube. In addition, it is often necessary to
humidify or medicate the gas. The market for respiratory care and anesthesia
products, including disposable products, is expected to be positively impacted
by demographic trends, both domestically and internationally. In the United
States, changes in demographics, including an aging population, increased
incidence and awareness of respiratory illnesses and heightened focus on cost-
efficient treatment, have had a positive impact on the domestic respiratory care
and anesthesia markets. There has been an increasing incidence of respiratory
illnesses (such as asthma and emphysema), due in part to an increasingly
susceptible aging population, environmental pollution, smoking-related illnesses
and communicable diseases with significant respiratory impact, such as
tuberculosis, HIV and influenza. The Company believes that the international
respiratory care and anesthesia markets will experience many of the trends
currently affecting domestic markets. In addition, many international markets
have high incidences of communicable respiratory diseases and are becoming
increasingly aware of the value of single-use, disposable products.
The market for respiratory care and anesthesia products is also affected by
trends involving the health care market generally. In particular, the overall
trend towards cost containment has increased the desirability of disposable
products relative to reusable products, and has influenced pricing, distribution
channels, purchasing decisions and health care delivery methods.
Efforts to contain rising health care costs have increased the preference
for disposable medical products that improve the productivity of health care
professionals and reduce overall provider costs. Health care organizations are
evaluating modes of treatment that are less labor and/or technology intensive as
a means of decreasing the cost of care, which can often result in increased
disposable usage. In particular, increased utilization of disposable products
can decrease labor and other costs associated with sterilizing reusable
products. In addition, the risks of transmission of infectious diseases such as
HIV, hepatitis and tuberculosis, and related concerns about the occupational
safety of health care professionals, have also contributed to an increased
preference for disposable single-use medical products.
Cost containment has caused consolidation throughout the health care
product supply channel, which has favored manufacturers with large product
offerings and competitive pricing. In an effort to contain costs, service
providers have consolidated to form GPOs, which take advantage of group buying
power to obtain lower supply prices. This, in turn, has led to consolidation
among distributors, who seek to provide "one-stop shopping" for these large
buying groups. Distributors have also sought to concentrate purchases among
fewer vendors in an effort to reduce supply costs. Since selection as a GPO
provider and strong relationships with distributors are critical to many health
care manufacturers, they have responded to these trends by providing a broad
range of integrated products, combined with reliable delivery and strong after-
sales support.
Cost containment has also caused a migration of the decision making
function with respect to supply acquisition from the clinician to the
administrator. As clinicians lose influence and purchasing agents, materials
managers and upper level management become more involved in the purchasing
decision, a greater emphasis is placed on price relative to product features and
clinical benefits.
As a result of cost containment, health care is increasingly provided
outside of traditional hospital settings through alternate health care sites,
such as outpatient surgery centers, long-term care facilities, physician offices
and patients' homes. Growth of the alternate site market is also attributable to
advances in technology that have facilitated the delivery of care outside of the
hospital, an increased number of illnesses and diseases considered to be
treatable outside of the hospital and increased acceptance by the medical
community of, and patient preference for, non-hospital treatment.
2
Products
The Company manufactures and markets products for use in respiratory care
and anesthesia. The products for each market are similar and often overlap, as
do the distribution channels.
The Company groups its products into nine categories: (i) oxygen delivery;
(ii) aerosol therapy; (iii) active and passive humidification; (iv) ventilatory
support; (v) adaptors, connectors and filters; (vi) resuscitation; (vii) airway
management; (viii) electronic monitoring; and (ix) durable equipment.
Category/Products Description
- ------------------------------------------- -------------------------------------------
Oxygen Delivery: Oxygen Masks, Oxygen Used to deliver therapeutic, supplemental
Cannulae, Oxygen Tubing oxygen to a patient. Oxygen masks cover the
nose and mouth. Nasal cannulae fit inside
the nostrils. Both masks and cannulae are
connected to an oxygen source via small
diameter tubing through which oxygen flows.
Aerosol Therapy: AQUAPAK(R) Large Used to create and deliver aerosolized
Volume, Prefilled Nebulizers; particles of liquid water, sodium chloride or
Non-Prefilled Large Volume Nebulizer; medication to the patient's airways to dilute
UPDRAFT(R), UPDRAFT II(R), AVA-NEB(R) and mobilize secretions and/or dilate
and MICRO MIST(R) Small Volume, constricted breathing passages. The peak
Medication Nebulizers; Aerosol Tubing; flow meter is used to monitor the patient's
AQUATHERM(R) and THERMAGARD(R) respiratory status before and after an
Nebulizer Heaters; AQUAPAK Prefilled aerosolized medication treatment.
Ultrasonic Cups; ADDIPAK(R) Prefilled
Unit Dose Solutions; POCKETPEAK(R)
Peak Flow Meter
Active and Passive Humidification: Heated humidification systems actively heat
CONCHATHERM(R) Heated Humidifiers, and humidify oxygen/air mixtures or
AQUA+(R) Hygroscopic Condenser anesthetic gases provided by a mechanical
Humidifiers, AQUAPAK Prefilled ventilator or anesthesia gas machine.
Humidifiers, Non-Prefilled, Reusable Hygroscopic condenser humidifiers passively
Humidifier, Non-Prefilled Disposable conserve the heat and humidity in the
Humidifier, HUMID-HEAT(R) patient's exhaled breath for use during
Heat-Moisture Exchangers inspiration. Prefilled and non-prefilled
humidifiers are used to add water vapor to
oxygen being provided to a patient via a mask
or cannula.
Ventilatory Support: Conventional Used to convey an oxygen/air mixture and/or
Ventilator Circuits, Heated-Wire anesthetic gas from a mechanical ventilator
Ventilator Circuits, Anesthesia or anesthesia gas machine to a patient during
Breathing Circuits, Air Cushion the temporary or long-term support of
Anesthesia Masks, Infant CPAP Systems ventilation. The infant CPAP system provides
non-invasive respiratory support to premature
infants with under-developed, immature lungs.
Adaptors, Connectors and Filters: A The adaptors and connectors are frequently
wide variety of adaptors and used in respiratory care and anesthesia to
connectors; Main Flow Bacterial/Viral add accessories, modify configurations,
Filters; Pulmonary Function Filter and/or customize other related products to
3
Category/Products Description
- ------------------------------------------- -------------------------------------------
meet specific needs. Filters are used to
protect patients, caregivers, and medical
equipment from cross-contamination with
bacteria and viruses.
Resuscitation: LIFESAVER(R) Reusable Used during cardiopulmonary resuscitation
and Disposable Resuscitation Bags, ("CPR") to adequately support and/or maintain
Isolation Valves and Kits, LIFESAVER the patient's ventilatory function.
Tubes and Kits
Airway Management: SOFTECH(R) Cuffed Assist in securing and maintaining an open
and Uncuffed Endotracheal Tubes; airway and unobstructed breathing passage.
CATH-GUIDE(R), Color-Coded and They also can assure that the patient's
DUAL-CHANNEL Oral Pharyngeal Airways; ventilation can be maintained and that
BITEGARD(TM) Oral Bite Block; CATH-GUIDE respiratory secretions can be adequately
Closed Suction Catheters; VOLDYNE(R) removed from the lungs.
and TRI-FLO(R) Incentive Breathing
Exercisers; SHERIDAN(R) Endotracheal
Tubes
Electronic Monitoring: Replacement The oxygen sensors, monitors and analyzers
oxygen sensors, Oxygen Monitors and are used to analyze and monitor the amount of
Analyzers, VENTILARM II(R) oxygen being administered to a patient. The
Low-Pressure Alarms low-pressure alarm is used to detect a
patient disconnect or a leak in the breathing
circuit during mechanical ventilation.
Durable Equipment: Oxygen Regulators; Used to regulate oxygen flow from cylinders,
Cylinder Carts, Trucks and Stands; stabilize or transport oxygen or other gas
Portable Oxygen Units cylinders, and provide a portable oxygen
supply for emergency use.
Sales, Marketing and Distribution
The Company has sales offices in Temecula, Sweden, Germany, France and the
United Kingdom. While a majority of the Company's domestic hospital sales are
made to distributors, the Company's marketing efforts are focused on the health
care service provider. In the alternate site market, the Company both sells and
markets directly to the service provider. Internationally, the Company sells its
products to distributors that market to hospitals and other health care
providers. See Note 121 to "Item 8. Financial Statements" for information with
respect to international sales. The Company's sales personnel currently call on
approximately 2,800 health care providers, 50 hospital distributors and 1,500
alternate site customers. Due to consolidation and cost pressures among the
Company's customer base, the Company's target call point at the health care
provider has been moving away from the clinician to include a purchasing manager
or corporate executive. As of December 31, 2000, the Company had a sales backlog
of approximately $3.9 million.
In the current market environment, GPO relationships are an essential part
of access to the Company's target markets and the Company has entered into
preferred supplier arrangements with 14 national GPOs. The Company is typically
positioned as either a sole supplier of respiratory care disposables to the GPO,
or as one of two suppliers. While these arrangements set forth pricing and terms
for various levels of purchasing, they do not obligate either party to purchase
or sell a specific amount of product. In addition, GPO affiliated hospitals
often purchase products from other suppliers notwithstanding the existence of
sole or dual source GPO arrangements. Further, these arrangements are
4
terminable at any time, but in practice usually run for two to three years. The
Company enjoys longer terms with two of its major GPOs, Novation LLC (which
represents the 1998 consolidation of VHA, Inc. and University HealthSystem
Consortium) and HCA. The Company's most significant GPO relationships are with
AmeriNet Inc., HealthTrust Corporation, Health Services Corporation of America,
MHA, and Novation LLC. In 2000, the Company entered into a new, exclusive
relationship with Consorta, the merger of the former DOC and SSM Catholic
hospital organizations.
Health care providers have responded to pressures to reduce their costs by
merging with other members of their industry. The acquisition of a customer of
the Company often results in the renegotiation of contracts, the granting of
price concessions or in the loss of the customer. Alternatively, to the extent a
customer of the Company grows through acquisition activity, the Company may
benefit from increased sales to the larger entity.
The Company markets its products primarily through consultative dialogue
with health care providers, targeted print advertising, trade shows, selective
promotional arrangements with distributors and the Company's heater lease
program. To support sales of the entire line of humidification and ventilation
products, the Company leases heaters to domestic customers without charge. The
revenues from the sale of products used in connection with the operation of the
heaters covers the amortization of the heater cost under the leases. The Company
has heaters with a net book value of approximately $2.2 million as of December
31, 2000 placed at service provider locations under this program.
The Company utilizes a network of over 3,000 hospital distributors, as well
as additional alternate site distributors, to reach its markets. A number of
these distributors carry competing product lines, but many are moving to select
single supply sources for particular product groups. The Company has been
selected as the FOCUS preferred vendor of respiratory disposables for Owens &
Minor Inc. Such status gives preference to the shipping of the Company's
products versus competing product lines. Owens & Minor Inc. is the Company's
largest distributor, accounting for approximately $32.2 million or approximately
20.2% of total fiscal 2000 net sales. The Company provides a price list to its
distributors which details base acquisition prices. Distributors receive orders
from the service providers and charge the contract pricing (which is determined
by their GPO affiliation or individual contract price) plus a service margin. As
is customary within the industry, the Company rebates the difference between
base acquisition price and the specific contract price to the distributor. The
Company offers select large health care providers a reward for purchasing a
broader selection of the Company's product lines. The program allows a rebate in
the form of merchandise credit for purchasing minimum volumes from a selected
group of products. The Company's international distributors outside of the EU,
Middle East and Africa place their orders directly with dedicated international
customer service representatives. Customer orders are shipped from one of two
warehouse locations. Sales strategies and marketing plans are tailored to each
market with involvement of the distributor. Region and territory sales managers
are responsible for the launch of products into their regions, including related
support and training. The Company utilizes a network of approximately 100
international distributors, typically on an exclusive basis within each market.
Manufacturing and Assembly
The Company operates three manufacturing facilities and three distribution
facilities in the United States and assembly facilities in Ensenada, Mexico and
Kuala Lumpur, Malaysia. While the Company believes that it is operating at a
high utilization rate, existing facilities could support increased capacity with
additional machinery and workers.
The Company's manufacturing facility in Temecula, California houses 77
injection molding machines, 67 of which are automated. During the past five
years, 31 out of the 76 machines have been replaced with more efficient models,
which has increased capacity. Tubing is produced on 11 extrusion lines: 6
corrugated, 4 oxygen or "spaghetti," and 1 repellitizer/regrinder. The Temecula
facility uses 12-14 million pounds of over 30 different kinds of resin annually;
the most prominent are PVC, polyethylene and polypropylene. Sterile prefilled
humidification and nebulization products are manufactured using 9 blow/fill/seal
machines in the Company's facility in Arlington Heights, Illinois.
The Company's Argyle, New York facility houses 4 extrusion lines , 4 blow
molding machines and 8 assembly lines designed to produce the SHERIDAN(R) brand
of endotracheal tubes. This product line was acquired in October, 2000 from Tyco
Healthcare Group LP ("Tyco"). The Company leases approximately fifty percent of
the Argyle facility
5
from Tyco under a three year lease ending in October, 2003. The Company expects
to either renew the lease or relocate the production lines to another Company
facility.
The Company's facility located in Ensenada, Mexico is primarily used for
the assembly of certain products molded and/or extruded at the Temecula
facility. The facility is a maquiladora, and therefore there are minimal tariffs
associated with the transport of products and components across the United
States-Mexico border. The Company's facility located in Kuala Lumpur, Malaysia
assembles virtually all of the HME and filter products marketed by the Company.
The components assembled by the Malaysian operation are generally molded by
outside vendors in Malaysia.
The Company occasionally outsources production of certain products while it
establishes its ability to penetrate a target market. Having achieved an
acceptable level of penetration, the Company internalizes the manufacturing
function in order to increase margins and improve quality control.
The Company monitors the quality of its products at the Temecula, Arlington
Heights, Argyle, Ensenada and Kuala Lumpur facilities by statistical sampling
and visual and dimensional inspection. The Company also inspects incoming raw
materials for inconsistencies, rating its vendors on quality and delivery time.
The Company is routinely audited by the FDA and has received no significant
regulatory actions. The Company is in substantial compliance with the GMP/QSR
regulations of the FDA and the United States and Mexico operations have
qualified for an "advanced notification" program allowing the Company to be
informed of FDA inspections in advance. The Company utilizes outside facilities
for sterilization of products produced in Temecula, Argyle, Arlington Heights,
Kuala Lumpur and Ensenada. Certain Arlington Heights products are manufactured
in a sterile environment and are certified sterile as a result of the production
process. The Ensenada, Kuala Lumpur, Argyle and Arlington Heights facilities are
certified as ISO 9002 compliant and the Temecula facility is certified as ISO
9001 compliant.
Suppliers and Raw Materials
The Company's primary raw materials are various resins, which are formed
into the Company's products. The top 10 purchased products in 2000 were Tubing
Grade PVC, Clear PVC, LDPE-EVA, Polypropylene, Aluminum Cylinder, Pre-Cut
Elastic, Non-Tubing Grade PVC, Cannula Blanks, Acrylic Resin and Hose-End Grade
PVC. The Company believes that it is able to purchase materials at a cost no
higher than its competitors. The Company does not have long-term supply
contracts for any of its purchased raw materials. The Company believes that
sufficient availability exists for its raw materials, as they consist of mainly
readily available plastic resins.
Research and Development
The Company's research and development department consists of 18 people,
including 11 engineers. The Company's research and development efforts are split
between developing new products and process improvements to its manufacturing
operations. The Company develops new products to expand its product line in
anticipation of changes in demand. The Company has invested heavily in the
anesthesia product line, as the Company continues to penetrate this market. The
Company makes several new product introductions every year. Significant products
introduced in the last five years include the line of heat-moisture exchangers,
POCKETPEAK peak flow meter, SOFTECH endotracheal tubes, MICRO MIST small volume
nebulizer and CONCHA IV heated humidification system. The Company constantly
works to reduce costs through continuous process improvements. The Company
incurred research and development expenses of approximately $1.0.7 million, $2.0
million and $2.4 million in fiscal 1998, 1999 and 2000, respectively.
Competition
The medical supply industry is characterized by intense competition. The
Company's primary competitor in the respiratory care sector is Allegiance
Healthcare and its primary competitors in the anesthesia sector include Tyco,
Smiths Industries Medical Systems, Inc. ("SIMS"), and Vital Signs, Inc. Many of
the products manufactured by the Company are available from several sources, and
many of the Company's customers tend to have relationships with several
manufacturers. The Company competes on the basis of brand name, product quality,
breadth of product line, service and price.
6
Patents and Trademarks
The Company has historically relied primarily on its technological and
engineering abilities and on its design and production capabilities to gain
competitive business advantages, rather than on patents or other intellectual
property rights. However, the Company does file patent applications on concepts
and processes developed by the Company's personnel. The Company has 24 patents
in the U.S. Many of the U.S. patents have corresponding patents issued in
Canada, Europe and various other countries. The Company's success will depend in
part on its ability to maintain its patents, add to them where appropriate, and
develop new products and applications without infringing the patent and other
proprietary rights of third parties and without breaching or otherwise losing
rights in technology licenses obtained by the Company for other products. There
can be no assurance that any patent owned by the Company will not be
circumvented or challenged, that the rights granted thereunder will provide
competitive advantages to the Company or that any of the Company's pending or
future patent applications will be issued with claims of the scope sought by the
Company, if at all. If challenged, there can be no assurance that the Company's
patents (or patents under which it licenses technology) will be held valid or
enforceable. In addition, there can be no assurance that the Company's products
or proprietary rights do not infringe the rights of third parties. If such
infringement were established, the Company could be required to pay damages,
enter into royalty or licensing agreements on onerous terms and/or be enjoined
from making, using or selling the infringing product. Any of the foregoing could
have a material adverse effect upon the Company's business, financial condition
or results of operations.
Government Regulation and Environmental Matters
The Company and its customers and suppliers are subject to extensive
Federal and state regulation in the United States, as well as regulation by
foreign governments, and the Company cannot predict the extent to which future
legislative and regulatory developments concerning its practices and products
for the health care industry may affect the Company. Most of the Company's
products are subject to government regulation in the United States and other
countries. In the United States, the FD&C Act and other statutes and regulations
govern or influence the testing, manufacture, safety, labeling, storage, record
keeping, marketing, advertising and promotion of such products. Failure to
comply with applicable requirements can result in fines, recall or seizure of
products, total or partial suspension of production, withdrawal of existing
product approvals or clearances, refusal to approve or clear new applications or
notices and criminal prosecution. Under the FD&C Act and similar foreign laws,
the Company, as a marketer, distributor and manufacturer of health care
products, is required to obtain the clearance or approval of Federal and foreign
governmental agencies, including the FDA, prior to marketing, distributing and
manufacturing certain of those products. The Company may also need to obtain FDA
clearance before modifying marketed products or making new promotional claims.
Delays in receipt of or failure to receive required approvals or clearances, the
loss of previously received approvals or clearances, or failures to comply with
existing or future regulatory requirements in the United States or in foreign
countries could have a material adverse effect on the Company's business.
Foreign sales are subject to similar requirements.
The Company is required to comply with the FDA's GMP/QSR Regulations, which
set forth requirements for, among other things, the Company's manufacturing
process, design control and associated record keeping, including testing and
sterility. Further, the Company's plants and operations are subject to review
and inspection by local, state, Federal and foreign governmental entities. The
distribution of the Company's products may also be subject to state regulation.
The impact of FDA regulation on the Company has increased in recent years as the
Company has increased its manufacturing operations. The Company's suppliers,
including the sterilizer facilities, are also subject to similar governmental
requirements. There can be no assurance that changes to current regulations or
additional regulations imposed by the FDA will not have an adverse impact on the
Company's business and financial condition in the future. The FDA also has the
authority to issue special controls for devices manufactured by the Company,
which it has not done to date. In the event that such special controls were
issued, the Company's products would be required to conform, which could result
in significant additional expenditures for the Company.
The Company is also subject to numerous federal, state and local laws and
regulations relating to such matters as safe working conditions, manufacturing
practices, fire hazard control and the handling and disposal of hazardous or
7
infectious materials or substances and emissions of air pollutants. The Company
owns and leases properties which are subject to environmental laws and
regulations. There can be no assurance that the Company will not be required to
incur significant costs to comply with such laws and regulations in the future
or that such laws or regulations will not have a material adverse effect upon
the Company's business, financial condition or results of operations. In
addition, the Company cannot predict the extent to which future legislative and
regulatory developments concerning its practices and products for the health
care industry may affect the Company.
Employees
As of September 14, 2001, the Company employed approximately 2,700
employees, substantially all of whom were full-time employees. None of the
Company's employees are represented by unions and the Company considers its
employee relations to be good.
Item 2. Properties.
The Company owns approximately 30 acres of land in Temecula, California
on which its headquarters, one of three principal manufacturing centers and
three other buildings totaling approximately 245,000 square feet are located.
Plastic and vinyl components and corrugated tubing are manufactured in Temecula
and assembled into finished goods at a 77,000 square foot facility in Ensenada,
Mexico. The Company owns the Ensenada facility and the underlying land is held
in a 30-year trust that expires in 2019. The Company leases an 86,000 square
foot manufacturing facility in Arlington Heights, Illinois under a lease that
expires in 2005 with an option to extend an additional 5 years. Prefilled
sterile solutions and electronics are manufactured in Arlington Heights. The
Company leases a 73,000 square foot distribution warehouse in Elk Grove,
Illinois under a lease that expires in May, 2010, and a 25,375 square foot
distribution facility in Atlanta, Georgia under a lease that expires in February
2006. The company leases a 99,100 square foot distribution facility in Temecula,
California under a lease that expires in September 2005. The Company leases
sales and marketing offices in Stockholm, Sweden; Ashby de la Zouch, U.K.; Lyon,
France; and Lohmar, Germany under leases that expire in September 30, 2002,
April 25, 2006 and April, 2002, respectively. The Company leases a 33,260 square
foot facility in Kuala Lumpur, Malaysia, under a lease that expires in July,
2001. This facility primarily assembles finished products for theHME and filter
product lines. The Company also leases approximately fifty percent of an 80,218
square foot facility in Argyle, New York under a lease that expires in October,
2003. This facility manufacturers the SHERIDAN(R) line of endotracheal tubes.
The Company believes that its current facilities are adequate for its
present level of operations.
Item 3. Legal Proceedings.
The Company is party to lawsuits and other proceedings, including suits
relating to product liability and patent infringement. While the results of
such lawsuits and other proceedings cannot be predicted with certainty,
management does not expect that the ultimate liabilities, if any, will have a
material adverse effect on the financial position or results of operations of
the Company.
Item 4. Submissions of Matters to a Vote of Security Holders.
None.
8
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.
There is no established public trading market for the Company's Common
Stock. As of September 14, 2001, Holding has 18 record holders of its Common
Stock.
Holding has not paid cash dividends to its shareholders in the past three
years, and does not intend to pay cash dividends in the foreseeable future. See
"Item 7. Management's Discussion and Analysis of Financial Condition and Results
Operations--Liquidity and Capital Resources" for a discussion of restrictions on
Holding's ability to pay cash dividends.
Item 6. Selected Financial Data.
The selected fiscal year end historical financial data has been derived
from the audited financial statements of the Company and Holding. The
information contained in this table should be read in conjunction with the
Company's and Holding's audited consolidated financial statements and notes
thereto included elsewhere in this Report.
River Holding Corp. (a) Hudson Respiratory Care
------------------------------- -----------------------------------------------------
Fiscal Years
-----------------------------------------------------------------------------
Inception
to 12/25/98 1999 2000 1996 1997 1998 1999(b) 2000
--------- -------- -------- ------- ------- -------- --------- --------
Operating Data: (dollars in thousands)
Net sales................... $76,232 $128,803 $159,278 $93,842 $99,509 $100,498 $128,803 $159,278
Cost of sales............... 44,662 77,678 87,183 52,189 54,575 56,802 75,418 84,923
--------- -------- -------- ------- ------- -------- --------- --------
Gross profit................ 31,570 51,125 72,095 41,653 44,934 43,696 53,385 74,355
Operating expenses:
Selling expenses............ 8,032 13,122 18,262 8,961 9,643 10,350 13,122 18,262
Distribution expenses....... 2,471 4,647 10,109 3,114 3,170 3,336 4,647 10,109
General and administrative
expenses................... 7,129 14,732 24,022 11,162 11,332 10,125 13,269 24,023
Research and development
expenses................... 726 2,031 2,387 1,184 1,072 976 2,031 2,387
Amortization of goodwill.... 3,785 5,080 8,400 115 124 159 1,463 3,320
Provision for equity
participation plan......... -- -- -- 8,249 6,954 63,939 -- --
Provision for retention
payments................... -- -- -- -- -- 4,754(c) -- --
--------- -------- -------- ------- ------- -------- --------- --------
Operating income (loss)..... 9,427 11,513 8,915 8,868 12,639 (49,943) 18,853 16,254
Other (income) and
expenses:
Interest expense............ 11,100 17,263 22,249 2,177 1,834 11,327 17,263 21,089
Other (income) expense...... (99) 1,332 -- (463) (638) 406 1,232 1,159
--------- -------- -------- ------- ------- -------- --------- --------
Total other expense......... 11,001 18,595 22,249 1,714 1,196 11,733 18,495 22,248
--------- -------- -------- ------- ------- -------- --------- --------
Income (loss) before
provision (benefit) for
income taxes............... (1,574) (7,082) (13,334) 7,154 11,443 (61,676) 358 (5,994)
Provision (benefit) for
income taxes............... (614) (1,508) 3,203 73 150 8,405 1,586 3,203
--------- -------- -------- ------- ------- -------- --------- --------
Income (loss) before
extraordinary item......... (960) (5,574) (16,537) 7,081 11,293 (70,081) (1,228) (9,197)
Extraordinary item (loss
on extinguishment of
debt)...................... -- -- -- -- -- 104(d) -- --
--------- -------- -------- ------- ------- -------- --------- --------
Net income (loss)........... $ (960) $ (5,574) $(16,537) $ 7,081 $11,293 $(70,185) $ (1,228) $ (9,197)
========= ======== ======== ======= ======= ======== ========= ========
Continued on following page
9
River Holding Corp. (a) Hudson Respiratory Care
-------------------------------------- ------------------------------------------------------
Fiscal Years
---------------------------------------------------------------------------------
Inception
to 12/25/98 1999 2000 1996 1997 1998 1999(b) 2000
---------- ---------- ----------- -------- -------- --------- --------- --------
Other Financial Data: (dollars in thousands)
Net cash provided by (used in)
operating activities............ $ 3,854 $ 7,097 11,624 $ 16,133 $ 19,269 $ (83,024) $ 7,097 $ 10,502
Net cash used in
investing activities............ $(254,472) $ (75,818) (26,9412) $(11,354) $ (3,673) $ (6,444) $ (75,818) $(26,941)
Net cash provided by (used in)
financing activities............ $ 251,125 $ 71,529 16,220 $ (3,668) $(16,398) $ 89,624 $ 71,529 $ 17,341
Adjusted EBITDA (e).............. $ 17,934 $ 29,993 29,172 $ 23,194 $ 25,440 $ 24,851 $ 29,993 $ 29,172
Adjusted EBITDA margin (f)...... 23.5% 23.3% 18.3% 24.7% 25.6% 24.7% 23.3% 18.3%
Operating margin before
EPP and Retention Payments (g).. 12.4% 8.9% 5.6% 18.2% 19.7% 18.7% 14.6% 10.2%
Depreciation and
amortization (h)................ $ 8,507 $ 15,655 $ 20,051 $ 6,133 $ 5,847 $ 6,101 $ 8,315 $ 12,918
Capital expenditures............. $ 3,120 $ 10,973 $ 11,329 $ 6,395 $ 4,659 $ 3,111 $ 10,973 $ 11,329
Ratio of Adjusted EBITDA
to cash interest expense........ 2.1 x 1.7 x 1.7 x 10.7 x 13.9 x 2.3 x 2.1 x 1.7 x
Ratio of total debt to
Adjusted EBITDA................. 8.9 x 7.1 x 7.6 x 1.2 x 0.8 x 6.4 x 7.1 x 7.6 x
Ratio of earnings to
fixed charges (i)............... -- -- -- 3.8 x 6.0 x -- 1.0 x --
Deficiency of earnings to
cover fixed charges............. $ (1,574) $ (7,082) $ (13,334) -- -- $ (61,676) -- $ (5,994)
Ratio of earnings to fixed
charges and preferred stock
dividends (j)................... -- -- -- 3.8 x 6.0 x -- -- --
Deficiency of earnings to cover
fixed charges and preferred
stock dividends................. $ (5,761) $ (13,597) $ (21,067) -- -- $ (65,863) $ (6,160) $(13,727)
Balance Sheet Data:
Working capital.................. $ 29,865 $ 36,204 $ 29,792 $ 24,188 $ 6,430 $ 29,533 $ 35,971 $ 29,559
Working capital as
adjusted (j).................... 32,355 39,960 38,948 26,768 29,960 32,026 39,727 38,715
Total assets..................... 262,709 344,961 361,036 76,910 77,554 165,321 251,819 275,234
Total debt....................... 159,000 211,694 221,914 28,146 20,250 159,000 211,694 221,914
Shareholders' equity
(deficit)....................... 59,653 78,393 62,927 19,872 22,515 (37,735) (14,649) (22,775)
_______________________
(a) Holding was formed to effect the recapitalization. Accordingly, operating
data for 1998 presented for Holding is for the period from April 7, 1998 to
December 25, 1998. Holding accounted for the acquisition of the Company
using the purchase method of accounting, which was not pushed down to the
accounts of the Company. Accordingly, the carrying amounts of certain assets
and liabilities of Holding differ substantially when compared to those of
the Company. All financial covenants are calculated using the Company's
accounts, and, accordingly, no comparative amounts for Holding are
presented.
(b) Includes results of operations for (i) Hudson RCI AB, since it was acquired
in July 1999, (ii) Medimex, since certain of its assets were acquired in
October 1999 and (iii) Tyco, since certain of its assets were acquired in
November 1999.
(c) Reflects retention payments made to substantially every employee of the
Company in connection with the Recapitalization. These payments were
intended to ensure the continued employment of all employees after the
Recapitalization and no future payments are anticipated.
(d) Reflects the write-off of deferred financing fees related to the payoff of
outstanding debt under the Company's previous credit agreement.
(e) Adjusted EBITDA represents income before depreciation and amortization,
interest expense, income tax expense, charges related to the Equity
Participation Plan, which was terminated upon consummation of the
Recapitalization, and recognition of the portion of purchase price
allocation related to acquired inventories. The Company has excluded
payments under the Equity Participation Plan to present comparable figures
for all historical periods presented. Adjusted EBITDA is not a measure of
performance under generally accepted accounting principles, and should not
be considered as a substitute for net income, cash flows from operating
activities and other income or cash flow statement data prepared in
accordance with generally accepted accounting principles, or as a measure of
profitability or liquidity. The Company has included information concerning
Adjusted EBITDA as one measure of
10
an issuer's historical ability to service debt. In addition, certain
covenants in the Indenture are based upon a calculation analogous to
Adjusted EBITDA. Adjusted EBITDA should not be considered as an alternative
to, or more meaningful than, income from operations or cash flow as an
indication of the Hudson RCI's operating performance. For purposes of
compliance with the Indenture, the Company's Consolidated Net Income and
EBITDA will not be reduced by retention payments, payments made pursuant to
the Equity Participation Plan or by the amount of any contingent payments
made by the Company to former participants in the Equity Participation
Plan. See Item 13 "Certain Relationships and Related Transactions."
(f) Represents ratio of Adjusted EBITDA to net sales.
(g) Represents ratio of operating income before EPP and retention payments to
net sales.
(h) Includes amortization of deferred financing fees of $0.1 million in 1995
and $0.1 million in 1996, which should be excluded from depreciation and
amortization in calculating Adjusted EBITDA since such fees are reflected
below the operating income line.
(i) For the purpose of determining the ratio of earnings to fixed charges,
earnings consist of earnings before income taxes and fixed charges. Fixed
charges consist of interest on indebtedness, the amortization of debt issue
costs and that portion of operating rental expense representative of the
interest factor.
(j) For the purpose of determining the ratio of earnings to fixed charges and
preferred stock dividends, earnings consist of earnings before income taxes
and fixed charges. Fixed charges consist of interest on indebtedness, the
amortization of debt issue costs and that portion of operating rental
expense representative of the interest factor. Preferred stock dividends,
consisting of amounts to be paid-in-kind, are also included in the pro
forma fixed charge amounts. Preferred stock dividends have been "grossed
up" to a pre-income tax basis to provide comparability to other components
of the ratio.
(k) Working capital as adjusted represents current assets, excluding cash, less
current liabilities, excluding the current portion of long-term debt.
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
Because Holding is a holding company with no operations, the following
discussion relates primarily to the Company. The following discussion of the
Company's consolidated historical results of operations and financial condition
should be read in conjunction with the consolidated financial statements of the
Company and the notes thereto included elsewhere in this Form 10-K. The
following discussion and analysis includes periods before completion of the
Recapitalization.
Holding's acquisition of a majority of the Company's stock was
accounted for as a purchase and as a result, additional expenses relating to
amortization of goodwill and additional depreciation related to the allocation
of purchase price at fair value to depreciable assets have an impact on
Holding's results with no corresponding impact on the Company's results. See
note 2 to "Item 8. Financial Statements" for information with respect to the
acquisition.
General
The Company's results of operations may fluctuate significantly from
quarter to quarter as a result of a number of factors, including, among others,
the buying patterns of the Company's distributors, GPOs and other purchasers of
the Company's products, forecasts regarding the severity of the annual cold and
flu season, announcements of new product introductions by the Company or its
competitors, changes in the Company's pricing of its products and the prices
offered by the Company's competitors, rate of overhead absorption due to
variability in production levels and variability in the number of shipping days
in a given quarter.
Recent Developments
Beginning in April 2000, the Ccompany experienced disruption to its
operations resulting from difficulties in the implementation of a new management
information system. Consequently, the Company's financial results for the year
ended December 31, 2000 reflect increased freight, distribution and general and
administrative expenses related to the system implementation. The Company also
experienced liquidity pressures beginning in the fourth quarter of 2000 due to
such expense increases, delays in collection of due receivables and unplanned
increases in inventory related to
11
difficulties in implementation and a lack of familiarity with the new system.
Management has implemented a number of initiatives in 2001 designed to improve
the Company's proficiency with the new management information system, decrease
the Company's operating expenses, improve receivables collections and reduce
inventory levels. Despite the disruption related to the system implementation,
management believes it has generally maintained strong customer service levels
and relationships.
Results of Operations
The following tables set forth, for the periods indicated, certain
income and expense items expressed in dollars and as a percentage of the
Company's net sales.
Fiscal Year
----------------------------------------------
1998 1999 2000
-------- -------- --------
(dollars in thousands)
Net sales....................................................... $100,498 $128,803 $159,278
Cost of sales................................................... 56,802 75,418 84,923
-------- -------- --------
Gross profit................................................. 43,696 53,385 74,355
Selling expenses................................................ 10,350 13,122 18,262
Distribution expenses........................................... 3,336 4,647 10,109
General and administrative expenses............................. 10,125 13,269 24,023
Amortization of goodwill........................................ 159 1,463 3,320
Research and development expenses............................... 976 2,031 2,387
Provision for equity participation plan......................... 63,939 -- --
Provision for retention payments................................ 4,754 -- --
-------- -------- --------
Total operating expenses........................................ 93,639 34,532 58,101
-------- -------- --------
Operating income (loss)......................................... (49,943) 18,853 16,254
Add back: Provision for equity participation plan............... 63,939 -- --
Add back: Provision for retention payments...................... 4,754 -- --
-------- -------- --------
Operating income before provision for equity participation
plan and provision for retention payments.................... $ 18,750 $ 18,853 $ 16,254
======== ======== ========
Fiscal Year
----------------------------------------------
1998 1999 2000
-------- -------- --------
Net sales....................................................... 100.0% 100.0% 100.0%
Cost of sales................................................... 56.5 58.5 53.3
-------- -------- --------
Gross profit................................................. 43.5 41.4 46.7
-------- -------- --------
Selling expenses................................................ 10.3 10.2 11.5
Distribution expenses........................................... 3.3 3.6 6.3
General and administrative expenses............................. 10.2 10.3 15.1
Amortization of goodwill........................................ -- 1.1 2.1
Research and development expenses............................... 1.0 1.6 1.5
Provision for equity participation plan......................... 63.6 -- --
Provision for retention payments................................ 4.7 -- --
-------- -------- --------
Total operating expenses........................................ 93.2 26.8 36.5
-------- -------- --------
Operating income (loss)......................................... (49.7) 14.6 10.2
Add back: Provision for equity participation plan............... 63.6 -- --
Add back: Provision for retention payments...................... 4.7 -- --
======== ======== ========
Operating income before provision for equity participation
plan and provision for retention payments.................... 18.7% 14.6% 10.2%
======== ======== ========
12
Year Ended December 31, 2000 Compared to Year Ended December 31, 1999
Net sales, reported net of rebates, were $159.3 million in 2000, an
increase of $30.5 million or 23.7% over 1999. Of the $30.5 million increase,
$9.2 million related to the Tyco incentive breathing exerciser product line
acquisition made in November 1999, and $3.2 million was the result of the
acquisition of the Tyco SHERIDAN(R) endotracheal tube product line in October of
2000. In addition, the Louis Gibeck AB (now Hudson RCI AB) acquisition,
completed in July 1999, accounted for an additional $5.4 million of sales in
2000. For the base Hudson RCI business, alternate site sales increased $1.5
million or 7.1% as a result of the continued focus on this important and growing
marketplace. Domestic hospital sales increased by $9.7 million or 13.0% as the
result of new GPO relationships as well as increased purchases from existing GPO
relationships. Sales to Europe declined by $2.2 million or 18.0%, driven
primarily by backorders and sales losses created during the implementation of a
new ERP computer system. Sales to Latin America increased by $0.4 million, while
sales to the Pacific rim increased by $2.6 million. OEM sales increased by $0.8
million or 18.6%, the result of new relationships with several customers.
The Company's gross profit for 2000 was $74.4 million, an increase of
$21.0 million or 39.3% from 1999. As a percentage of net sales, the Company's
gross profit for 2000 was 46.7% as compared to 41.4% for 1999. This increase was
primarily due to increased sales of higher profit margin products such as the
acquired Louis Gibeck AB and Tyco incentive breathing exerciser product lines.
This was somewhat offset by increased freight costs required to service customer
needs during a period of shipping difficulties caused by problems associated
with the new system installation.
Selling expenses were $18.3 million for 2000, a $5.1 million or 39.2%
increase over 1999. This increase was primarily driven by the inclusion of full
year results in 2000 of Hudson RCI AB as well as establishment of sales offices
in France and the United Kingdom during 2000. As a percentage of net sales,
selling expenses were 10.2% and 11.5% in 1999 and 2000, respectively.
Distribution expenses were $10.1 million in 2000, which represents a
$5.5 million or 118% increase over 1999. This increase was caused by
implementation of a second shift at all domestic distribution centers, increased
overtime and the addition of a new distribution warehouse in Temecula. These
increased costs were driven by shipping issues caused by the new system
implementation as well as higher volumes of products shipped during 2000 as
compared to 1999. Additionally, freight for products shipped between
distribution facilities increased significantly in order to meet increased
demand as well as to better serve customers affected by shipping problems
associated with the new system implementation.
General and administrative expenses were $24.0 million for 2000, an
increase of $10.8 million or 81.0% over 1999. This increase resulted primarily
from increased staffing required to maintain acceptable customer service levels
and operate the business with the new computer system. Additionally, due to
increased aging of receivables resulting from lack of experience and visibility
within the new management information system, the company increased its reserves
for doubtful accounts. In addition, general & administrative expense increases
also resulted from the establishment of sales offices in France and the United
Kingdom as well as the full year effect of Hudson RCI AB.
Amortization of goodwill was $3.3 million in 2000, a $1.9 million or
127% increase over 1999. This increase was driven primarily by the Hudson RCI AB
and Tyco incentive breathing exerciser acquisitions in 1999, as well as the Tyco
SHERIDAN(R) endotracheal tube product line acquisition in 2000.
Research and development expenses were $2.4 million in 2000 as
compared to $2.0 million in 1999. This increase is solely due to the inclusion
of Hudson RCI AB results for a full year in 2000.
Interest expense was $21.1 million in 2000, a $3.8 million or 22.2%
increase over 1999. This increase was primarily due to increased borrowings to
fund the Hudson RCI AB, Tyco incentive breathing exerciser and Tyco
SHERIDAN/(R)/ acquisitions. In addition, borrowings were higher under the
working capital revolver due to increased
13
working capital requirements that resulted from growth in the Company as well as
from issues relating to the new computer system implementation.
Year Ended December 31, 1999 Compared to Year Ended December 25, 1998
Net sales, reported net of accrued rebates, were $128.8 million in 1999, an
increase of $28.3 million or 28.2% over 1998. Of the $28.3 million increase,
approximately $6.1 million related to the acquisition of Hudson RCI AB, $2.2
million related to the Tyco acquisition and $0.9 million related to the Medimex
acquisition. In addition, the full effect in 1999 of the Gibeck, Inc.
acquisition in September 1998 resulted in a sales increase of $7.6 million. For
the base Hudson RCI business, domestic hospital sales increased by $3.3 million
or 5.5%, due to increased demand at the hospital level, primarily the result of
increased sales through certain GPOs. Alternate site sales increased by $4.4
million or 26.5% as the Company continued to focus its efforts on this growing
market. International sales increased by $1.6 million or 9.1%, as growth in
sales continued in Japan and Europe. This growth was partially offset by
weakness in South America. Sales to customers in Southeast Asia have stabilized,
remaining virtually unchanged over 1998. Canadian sales increased by
approximately $0.3 million, due primarily to the efforts of a new distributor in
that country. Approximately 30% of the Company's 1999 total net sales were to
two distributors.
The Company's gross profit for 1999 was $53.4 million, an increase of $9.7
million or 22.2% from 1998. As a percentage of net sales, the Company's gross
profit was 41.4% for 1999 as compared to 43.5% for 1998. This decline was
primarily due to the recognition of inventory revalued as a result of the Hudson
RCI AB acquisition, increased shipping costs as a result of sales of acquired
Gibeck, Inc. products, and an unfavorable mix variance caused by increased sales
of products at lower gross margins. This trend is expected to continue in the
future if the preference for passive humidification products over higher margin
active humidification products continues. This trend was partially offset by
manufacturing cost reductions realized by the Company and higher gross margins
of sales at Hudson RCI AB.
Selling expenses were $13.1 million for 1999, an increase of $2.7 million
or 26.8% over 1998. This increase was due primarily to $1.2 million of costs
associated with Hudson RCI AB and $1.2 million as a result of the start-up of
the German sales operation. In addition, sales and marketing expenses at Hudson
RCI increased by approximately $0.3 million. As a percentage of net sales,
selling expenses decreased to 10.2% as compared to 10.3% in 1998.
Distribution expenses were $4.6 million for 1999, an increase of $1.3
million or 39.0% over 1998. As a percentage of sales, distribution expenses
increased to 3.6% as compared to 3.3% in 1998. The increase is primarily the
result of the increased cost of freight between the Company's distribution
facilities, the start up of a distribution facility in Atlanta and increased
headcount.
General and administrative expenses for 1999 were $13.3 million, an
increase of $3.1 million or 31.1% over 1998. Of this increase, $2.0 million
relates to expenses incurred at Hudson RCI AB and $0.2 million as a result of
the German operation. In addition, the company increased management bonuses and
incurred certain non-recurring consulting expenses. As a percentage of net
sales, general and administrative expenses were 11.4% in 1999 as compared to
10.2% in 1998.
Amortization of goodwill was $1.5 million in 1999, a $1.3 million or 820%
increase over 1998. This was solely driven by the Hudson RCI AB and Tyco
incentive breathing exerciser acquisitions.
Research and development expenses were $2.0 million in 1999, an increase of
$1.1 million or 108.2% over 1998. This increase was primarily due to the
addition of Hudson RCI AB research and development expenses of $0.7 million and
increases in the Hudson RCI engineering staff.
The provision for equity participation plan consists of accrued expenses
and payments made to executives under the Equity Participation Plan. The Equity
Participation Plan was terminated upon consummation of the Recapitalization. and
replaced with an executive stock purchase plan. See "Item 11. Executive
Compensation--Stock Subscription Plans." No payments under the Equity
Participation Plan were made in 1999 that were not provided for in 1998. In
1998, the provision for equity participation plan was $63.9 million, which
included approximately $1.3 million in employer taxes relating to the
distribution made under the Equity Participation Plan.
14
The provision for retention payments, including related employer payroll
taxes, was $4.8 million in 1998. These payments were made to substantially every
employee in the Company and were intended to ensure the continued employment of
all employees after the Recapitalization. No payments were made in 1999 and no
future retention payments are anticipated.
Interest expense was $17.3 million for 1999, an increase of $5.9 million
over 1998. The increase was due to higher debt levels during 1999 as a result of
the Hudson RCI AB and Tyco acquisitions.
Seasonality
The Company's results of operations exhibit some measure of seasonality.
Generally, the Company's sales and EBITDA are higher in the first and fourth
quarters and lower in the second and third quarters. This is due primarily to
the higher incidence of breathing ailments, such as colds and flu, during the
winter months, which results in increased hospitalization and respiratory care,
especially among higher-risk individuals, such as infants and the elderly.
Fourth quarter sales are generally the Company's highest, as distributors
increase inventory in anticipation of the cold and flu seasons. First quarter
results are generally affected by the length and severity of flu seasons.
Liquidity and Capital Resources
The Company's primary sources of liquidity are cash flow from operations
and borrowings under its working capital bank facility and, historically,
investments from its shareholders. Cash provided by (used in) operations before
EPP payments and retention bonuses totaled $(57.3) million, $7.1 million and
$11.6 million in 1998, 1999 and 2000, respectively. The increase from 1999 to
2000 is attributable to decreased working capital, primarily increased trade
payables. Subsequent to year end, trade payables have been reduced
significantly. The Company had operating working capital, excluding cash and
short-term debt, of $39.7 million and $38.7 million as of the end of fiscal 1999
and 2000, respectively. Inventories were $24.0 million and $44.6 million as of
the end of fiscal 1999 and 2000, respectively. In 2000, inventories increased to
unplanned levels due to problems related to the implementation of a the new
management information system as well as higher sales levels. The Company has
significantly reduced inventory levels in 2001, but over time, the Company
expects its level of inventories to increase as the Company's sales in the
international market increase. As of June 30, 2001, inventory levels were
approximately $33.8 million. Accounts receivable, net of allowances, were $30.4
million and $28.3 million at the end of fiscal 1999 and 2000, respectively. The
average number of days sales in accounts receivable outstanding was
approximately 67 days for 2000, compared to 80 days for 1999 and 86 days for
1998. The Company offers 30 day credit terms to its U.S. hospital distributors.
Alternate site and international customers typically receive 60 to 90 day terms
and, as a result, as the Company's alternate site and international sales have
increased, the amount and aging of its accounts receivable have increased. The
Company anticipates that the amount and aging of its accounts receivable will
continue to increase gradually over time as the alternate site and international
markets become a larger percentage of the Company's overall sales. The Company
established a European distribution center (EDC) in the fourth quarter of 2000.
While this will have the effect of increasing the Company's investment in
inventories, management believes that it will also result in improved service to
international customers as well as in lower international accounts receivable
than would otherwise be the case because customers will receive products, and
consequently pay for them, more quickly.
Net cash used in investing activities was $6.4 million, $75.8 million and
$26.9 million in 1998, 1999 and 2000, respectively. These funds were primarily
used to finance the acquisition of the custom anesthesia circuit product line in
1998, Hudson RCI AB and the Tyco incentive breathing exerciser product line in
1999 and the Tyco SHERIDAN(R) endotracheal tube product line in 2000 and for
capital expenditures. Capital expenditures, consisting primarily of new
manufacturing equipment purchases, computer systems purchases and expansion of
the Ensenada facility, totaled $3.1 million, $11.0 million and $11.3 million in
1998, 1999 and 2000, respectively. The increase in 1999 and 2000 relates to the
acquisition and implementation of a new computer system, expansion of the
Ensenada facility and purchases of additional manufacturing equipment. The
Company currently estimates that capital expenditures will be approximately $8.0
million in each of 2001 and 2002, consisting primarily of additional and
replacement manufacturing equipment and new heater placements.
15
Net cash provided by financing was $89.6 million in 1998, reflecting net
borrowings by the Company. Net cash provided by financing activities was $71.5
million in 1999, reflecting net borrowings and equity issuances by the Company,
which was used primarily to finance the Hudson RCI AB and Tyco acquisitions. Net
cash provided by financing activities in 2000 of $16.2 million, reflecting net
borrowings, was used primarily to finance the Tyco SHERIDAN(R) endotracheal tube
product line acquisition.
As of December 31, 2000, The Company had outstanding $221.9 million of
indebtedness, consisting of $115.0 million of Subordinated Notes, borrowings of
$82.5 million under the Company's Credit Facility, $10.3 million in notes
payable to affiliates and $14.1 million in outstanding borrowings under the bank
facility of Hudson RCI AB, its Swedish subsidiary.
The Credit Facility currently consists of a $40.0 million Term Loan
Facility (all of which was funded in connection with the Recapitalization) and a
$55.0 million Revolving Loan Facility of which up to $40.0 million (all of which
has been borrowed and is outstanding) may be used for permitted acquisitions and
up to $15 million (the "Working Capital Portion") may be used for general
corporate purposes (other than acquisitions). The Revolving Loan Facility has a
letter of credit sublimit of $7.5 million. As of January, 2001 the Company had
fully utilized the Working Capital Portion of the Revolving Loan Facility. The
Term Loan Facility matures on June 30, 2003 and, commencing June 30, 1999,
requires quarterly principal installments totaling $3.0 million in 1999, $5.5
million in 2000, $7.5 million in 2001, $9.5 million in 2002 and $14.5 million in
2003. The Revolving Loan Facility matures on June 30, 2003. The interest rate
under the Credit Facility is based, at the option of the Company, upon either a
Eurodollar rate or a base rate (as defined) plus a margin during the period and
for the applicable type of loan as follows:
Margin
---------------------------
Period and Loan Type Base Rate Eurodollar
-------------------- --------- ----------
Through June, 2002
Term and Working Capital 3.00% 4.00%
Acquisition 3.25% 4.25%
July, 2002 through March, 2003
Term and Working Capital 3.50% 4.50%
Acquisition 3.75% 4.75%
Thereafter
Term and Working Capital 4.00% 5.00%
Acquisition 4.25% 5.25%
For periods after June, 2002, the margins set forth above are subject to pricing
reductions depending on the Company's then existing leverage ratio.
Borrowings under the Credit Facility are required to be prepaid, subject to
certain exceptions, with (i) 75% (or 50% for years when the Company's ratio of
Debt to EBITDA (as defined) is less than 5:1) of Excess Cash Flow (as defined),
(ii) 50% of the net cash proceeds of an equity issuance by Holding or the
Company in connection with an initial public offering or 100% of the net cash
proceeds of an equity issuance by Holding or the Company other than in
connection with an initial public offering (subject in each case to certain
exceptions), (iii) 100% of the net cash proceeds of the sale or other
disposition of any properties or assets of Holding and its subsidiaries (subject
to certain exceptions), (iv) 100% of the net proceeds of certain issuances of
debt obligations of the Company and its subsidiaries and (v) 100% of the net
proceeds from insurance recoveries and condemnations. The Revolving Loan
Facility must be repaid upon payment in full of the Term Loan Facility.
The Credit Facility is guaranteed by Holding and certain of the Company's
subsidiaries. The Credit Facility is secured by a first priority lien in
substantially all of the properties and assets of the Company and the guarantors
now
16
owned or acquired later, including a pledge of all of the capital stock of the
Company owned by Holding and all of the shares held by the Company of its
existing and future subsidiaries; provided, that such pledge is limited to 65%
of the shares of any foreign subsidiary to the extent a pledge of a greater
percentage would result in adverse tax consequences to the Company.
The Credit Facility contains covenants restricting the ability of Holding,
the Company and the Company's subsidiaries to, among others, (i) incur
additional debt, (ii) declare dividends or redeem or repurchase capital stock,
(iii) prepay, redeem or purchase debt, (iv) incur liens, (v) make loans and
investments, (vi) make capital expenditures, (vii) engage in mergers,
acquisitions and asset sales, and (viii) engage in transactions with affiliates.
Hudson RCI is also required to comply with financial covenants with respect to
(a) limits on annual aggregate capital expenditures (as defined), (b) a fixed
charge coverage ratio, (c) a maximum leverage ratio, (d) a minimum EBITDA test
and (e) an interest coverage ratio. As of December 31, 2000, the Company was not
in compliance with certain of these restrictive covenants. The Company amended
the existing lending agreement curing all non-conformance.
The Credit Facility contains covenants restricting the ability of Holding,
the Company and the Company's subsidiaries to, among others, (i) incur
additional debt, (ii) declare dividends or redeem or repurchase capital stock,
(iii) prepay, redeem or purchase debt, (iv) incur liens, (v) make loans and
investments, (vi) make capital expenditures, (vii) engage in mergers,
acquisitions and asset sales, and (viii) engage in transactions with affiliates.
Hudson RCI is also required to comply with financial covenants with respect to
(a) limits on annual aggregate capital expenditures (as defined), (b) a fixed
charge coverage ratio, (c) a maximum leverage ratio, (d) a minimum EBITDA test
and (e) an interest coverage ratio. As of December 31, 2000, the Company was not
in compliance with certain of these restrictive covenants. The Company amended
the existing lending agreement curing all non-compliance.
The Subordinated Notes bear interest at the rate of 9-1/8%, payable
semiannually on each April 15 and October 15, and will require no principal
repayments until maturity. The Subordinated Notes are general unsecured
obligations of the Company. The Subordinated Notes contain covenants that place
limitations on, among other things, (i) the ability of the Company, any
subsidiary guarantors and other restricted subsidiaries to incur additional
debt, (ii) the making of certain restricted payments including investments,
(iii) the creation of certain liens, (iv) the issuance and sale of capital stock
of restricted subsidiaries, (v) asset sales, (vi) payment restrictions affecting
restricted subsidiaries, (vii) transactions with affiliates and (viii) the
ability of the Company and any subsidiary guarantor to incur layered debt, (ix)
the ability of Holding to engage in any business or activity other than those
relating to ownership of capital stock of the Company and (x) certain mergers,
consolidations and transfers of assets by or involving the Company.
As of December 31, 2000, the Company had $140.3 million outstanding
pursuant to unsecured promissory notes payable to affiliates of Freeman Spogli.
The notes bear interest at 12.0% per annum and 14.0% per annum and mature in
August 2006.
The Company, through its wholly-owned Swedish Subsidiary, Hudson RCI AB,
has incurred bank debt in Sweden (the "HRCI AB Facility") that totaled $14.1
million as of December 31, 2000. The HRCI AB Facility, which is denominated in
Swedish krona, bears interest at three-month STIBOR (the interest rate at or
about 11:00 a.m. Stockholm time, two banking days before a draw-down date or the
relevant interest period, quoted for deposits in krona) plus 0.75% to 1.75%
(4.884% to 5.884% at December 31, 2000), matures in December 2003, and is
guaranteed by Steamer Holding AB, Hudson RCI AB's parent, and is secured by the
common stock of Hudson RCI AB.
In connection with the Recapitalization, the Company issued to Holding
300,000 shares of its 11-1/2% Senior Exchangeable PIK Preferred Stock due 2010
with an aggregate liquidation preference of $30.0 million, which has terms and
provisions materially similar to those of the 11 1/2% Senior Exchangeable PIK
Preferred Stock due 2010 issued by Holding in connection with the
Recapitalization. At the election of the Company, dividends may be paid in kind
until April 15, 2003 and thereafter must be paid in cash.
As the result of a number of factors affecting the Company in fiscal 2000,
management has taken numerous actions during 2000 and 2001 including elimination
of a distribution warehouse, elimination of non-essential management personnel,
reduction in inventory levels, aggressive collection efforts of accounts
receivable and other cost reduction measures as management deemed necessary to
fund the operations of the Company, meet anticipated capital expenditures and
make required payments of principal and interest on its debt, including payments
due on the Subordinated Notes and obligations under the Credit Facility.
Management does not believe the restructuring charges referred to above will be
material to the Company. In addition, existing shareholders and key management
personnel will contribute approximately $11.6 million in the form of convertible
subordinated debt and equity in April and May of 2001 and will contribute an
additional $3.5 million in convertible subordinated debt and $3.0 million in
redeemable preferred stock of Holding (which Holding will invest in preferred
stock of the Company) in August of 2001in order to improve the Company's
liquidity position. Based on these actions, as well as anticipated improved
operating performance, management believes it will have sufficient sources of
liquidity to meet its obligations for a
17
period of at least 18 months.
Recent Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," as amended by
SFAS No. 137 and SFAS No. 138, effective for fiscal years beginning after June
15, 2000. SFAS No. 133 establishes accounting and reporting standards for
derivative instruments. The statement requires that every derivative instrument
be recorded in the balance sheet as either an asset or liability measured at its
fair value, and that changes in the derivative's fair value be recognized
currently in earnings unless specific hedge accounting criteria are met. The
impact of adoption was not be material to the financial statements.
During the second quarter of fiscal year 2000, Emerging Issues Task Force
(EITF) No. 00-10 "Accounting for Shipping and Handling Fees and Costs" was
issued. EITF No. 00-10 clarifies the accounting treatment and classification of
the Company's Holding's delivery revenues and expenses. The adoption of this
EITF only affects the classification of certain revenues and costs related to
delivery services and does not affect the CompanyHolding's net income (loss).
Delivery costs include direct and incremental costs incurred to warehouse and
move product to the Company's customers. Since the Company Holding records
freight costs associated with delivery of product to customers as a component of
cost of sales and warehousing costs as distribution expenses, management
believes they Holding already complies with this pronouncement.
During December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements." SAB
No. 101 summarizes certain of the SEC's views in applying generally accepted
accounting principles to revenue recognition in financial statements. Management
believes the CompanyHolding is in compliance with this pronouncement.
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 141, "Business Combinations"
("SFAS 141"). This Statement addresses financial accounting and reporting for
business combinations and supersedes APB Opinion No. 16, "Business
Combinations," and FASB Statement No. 38, "Accounting for Preacquisition
Contingencies of Purchased Enterprises." All business combinations in the scope
of this Statement are to be accounted for using one method, the purchase method.
The Company Holding will adopt SFAS 141 for all business combinations initiated
after June 30, 2001.
Also in June 2001, the FASB issued Statement of Financial Accounting
Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"). SFAS 142
addresses financial accounting and reporting for acquired goodwill and other
intangible assets and supersedes APB Opinion No. 17, "Intangible Assets." This
pronouncement addresses, among other things, how goodwill and other intangible
assets should be accounted for after they have been initially recognized in the
financial statements. Goodwill would no longer be amortized but would be
assessed at least annually for impairment using a fair value methodology. . The
Company Holding will adopt this statement for all goodwill and other intangible
assets acquired after June 30, 2001 and for all existing goodwill and other
intangible assets beginning January 1, 2002. Upon adoption of this standard on
January 1, 2002 the Company Holding will cease recording amortization of
goodwill which would increase income before taxes in 2002 by approximately $8.4
million (assuming current goodwill amounts). Other than ceasing the amortization
of goodwill, the Company Holding does not anticipate that the adoption of SFAS
142 will have a significant effect on our financial position or the results of
our operations as the CompanyHolding does not currently anticipate any
impairment charges for existing goodwill.
Also in June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." SFAS 143 addresses financial accounting and reporting
obligations associated with the retirement of tangible long-lived assets and the
associated asset retirement costs. It applies to legal obligations associated
with the retirement of long-lived assets that result from the acquisition,
construction, development and/or the normal operation of a long-lived asset,
except for certain obligations of lessees. SFAS 143 requires that the fair value
of a liability for an asset retirement obligation be recognized in the period in
which it is incurred if a reasonable estimate of fair value can be made. The
associated asset retirement costs are capitalized as part of the carrying amount
of the long-lived asset. SFAS 143 is effective for financial statements issued
for fiscal years beginning after June 15, 2002 (with earlier application being
encouraged). Holding does not expect the adoption of SFAS 143 to have a material
impact on Holding's financial condition and results of operations.
18
RISK FACTORS
Substantial Leverage; Shareholders' Deficit
As of December 31, 2000, the Company had $221.9 million of outstanding
indebtedness and a shareholders' deficit of approximately $22.8 million. This
level of indebtedness is substantially higher than the Company's historical debt
levels and may reduce the flexibility of the Company to respond to changing
business and economic conditions. In addition, subject to the restrictions in
the Credit Facility and the indenture governing the Subordinated Notes (the
"Indenture"), the Company may incur additional senior or other indebtedness from
time to time to finance acquisitions or capital expenditures or for other
general corporate purposes. See "--Liquidity and Capital Resources." The Credit
Facility and the Indenture restrict, but do not prohibit, the payment of
dividends by the Company to Holding to finance the payment of dividends on the
Holding Preferred Stock.
The Company's high degree of leverage may have significant consequences for
the Company, including: (i) the ability of the Company to obtain additional
financing for working capital, capital expenditures, acquisitions or other
purposes, if necessary, may be impaired; (ii) a substantial portion of the
Company's cash flow will beis dedicated to the payment of interest and principal
on its indebtedness and will may not be available to the Company for its
operations and future business opportunities; (iii) the covenants contained in
the indenture and the Credit Facility will limit the Company's ability to, among
other things, borrow additional funds, dispose of assets or make investments and
may affect the Company's flexibility in planning for, and reacting to, changes
in business conditions; (iv) indebtedness under the Credit Facility will be is
at variable rates of interest, which will causemakes the Company to be
vulnerable to increases in interest rates; and (v) the Company's high degree of
leverage may make it more vulnerable to a downturn in its business or the
economy generally or limit its ability to withstand competitive pressures. If
the Company is unable to generate sufficient cash flow from operations in the
future to service its indebtedness, it may will be required to refinance all or
a portion of its existing debt or to obtain additional financing. There can be
no assurance that any such actions could be effected on a timely basis or on
satisfactory terms or that these actions would enable the Company to continue to
satisfy its capital requirements. The Company's ability to meet its debt service
obligations and to reduce its total indebtedness will be dependent upon the
Company's future performance, which will be subject to general economic
conditions and to financial, business and other factors affecting the operations
of the Company, many of which are beyond its control. The terms of the Company's
indebtedness, including the Credit Facility and the Indenture, also may prohibit
the Company from taking such actions.
Medical Cost Containment
In recent years, widespread efforts have been made in both the public and
private sectors to control health care costs, including the prices of products
such as those sold by the Company, in the United States and abroad. Cost
containment measures have resulted in increased customer purchasing power,
particularly through the increased presence of GPOs in the marketplace and
increased consolidation of distributors. Health care organizations are
evaluating ways in which costs can be reduced by decreasing the frequency with
which a treatment, device or product is used. Cost containment has also caused a
shift in the decision-making function with respect to supply acquisition from
the clinician to the administrator, resulting in a greater emphasis being placed
on price, as opposed to features and clinical benefits. The Company has
encountered significant pricing pressure from customers and believes that it is
likely that efforts by governmental and private payers to contain costs through
managed care and other efforts and to reform health systems will continue and
that such efforts may have an adverse effect on the pricing and demand for the
Company's products. There can be no assurance that current or future reform
initiatives will not have a material adverse effect on the Company's business,
financial conditions or results of operations.
The Company's products are sold principally to a variety of health care
providers, including hospitals and alternate site providers, that receive
reimbursement for the products and services they provide from various public and
private third party payors, including Medicare, Medicaid and private insurance
programs. As a result, while the Company does not receive payments directly from
such third party payors, the demand for the Company's products in any specific
care setting is dependent in part on the reimbursement policies of the various
payors in that setting. In order to be reimbursed, the products generally must
be found to be reasonable and necessary for the treatment of medical conditions
and must otherwise fall within the payer's list of covered services. In light of
increased controls on Medicare
19
spending, there can be no assurance on the outcome of future coverage or payment
decisions for any of the Company's products by governmental or private payers.
If providers, suppliers and other users of the Company's products are unable to
obtain sufficient reimbursement, a material adverse impact on the Company's
business, financial condition or operations may result.
The Company expects that the trend toward cost containment that has
impacted the domestic market will also be experienced in international health
care markets, impacting the Company's growth in foreign countries, particularly
where health care is socialized.
Industry Consolidation; Customer Concentration
Cost containment has resulted in significant consolidation within the
health care industry. A substantial number of the Company's customers, including
group purchasing organizations, hospitals, national nursing home companies and
national home health care agencies, have been affected by this consolidation.
The acquisition of any of the Company's significant customers could result in
the loss of such customers by the Company, thereby negatively impacting its
business, financial condition and results of operations. For example, in 1996,
three GPOs that accounted for aggregate sales of approximately $11.0 million
combined and, as a result of a decision of the combined entity to enter into a
sole distributorship arrangement in 1997 with one of the Company's competitors,
the Company has experienced some decrease in sales and may experience additional
sales decreases in the future. In addition, the consolidation of health care
providers often results in the renegotiation of terms and in the granting of
price concessions. The Company's customer relationships, including exclusive or
preferential provider relationships, are terminable at will by either party
without advance notice or penalty. Because larger purchasers or groups of
purchasers tend to have more leverage in negotiating prices, this trend has
caused the Company to reduce prices and could have a material adverse effect on
the Company's business, financial condition or results of operations. As GPOs
and integrated health care systems increase in size, each relationship
represents a greater concentration of market share and the adverse consequences
of losing a particular relationship increases considerably. For fiscal 2000, the
Company's ten largest group purchasing arrangements accounted for approximately
34% of the Company's total net sales. Distributors have also consolidated in
response to cost containment. For fiscal 2000, approximately 30.8% of the
Company's net sales were to two distributors, Owens & Minor Inc. and McKesson,
which accounted for 20.2% and 10.6%, respectively, of the Company's net sales.
The loss of the Company's relationship with these distributors would have a
material adverse effect on the Company's business, financial condition and
results of operations.
Government Regulation
The Company and its customers and suppliers are subject to extensive
federal and state regulation in the United States, as well as regulation by
foreign governments. Most of the Company's products are subject to government
regulation in the United States and other countries. In the United States, the
Federal Food, Drug, and Cosmetic Act, as amended (the "FDC Act"), and other
statutes and regulations govern or influence the testing, manufacture, safety,
labeling, storage, record keeping, marketing, advertising and promotion of such
products. Failure to comply with applicable requirements can result in fines,
recall or seizure of products, total or partial suspension of production,
withdrawal of existing product approvals or clearances, refusal to approve or
clear new applications or notices and criminal prosecution. Under the FDC Act
and similar foreign laws, the Company, as a marketer, distributor and
manufacturer of health care products, is required to obtain the approval of
federal and foreign governmental agencies, including the Food and Drug
Administration ("FDA"), prior to marketing, distributing and manufacturing
certain of those products, which can be time consuming and expensive. The
Company may also need to obtain FDA clearance before modifying marketed products
or making new promotional claims. Delays in receipt of or failure to receive
required approvals or clearances, the loss of previously received approvals or
clearances, or failures to comply with existing or future regulatory
requirements in the United States or in foreign countries could have a material
adverse effect on the Company's business. Foreign sales are subject to similar
requirements.
The Company is required to comply with the FDA's "Quality System
Regulations for Medical Devices," implementing "Good Manufacturing Practices"
("GMP/QSR Regulations"), which set forth requirements for, among other things,
the Company's manufacturing process, design control and associated record
keeping, including testing and
20
sterility. Further, the Company's plants and operations are subject to review
and inspection by local, state, federal and foreign governmental entities. The
distribution of the Company's products may also be subject to state regulation.
The impact of FDA regulation on the Company has increased in recent years as the
Company has increased its manufacturing operations. The Company's suppliers,
including sterilizer facilities, are also subject to similar governmental
requirements. There can be no assurance that changes to current regulations or
additional regulations imposed by the FDA will not have an adverse impact on the
Company's business and financial condition in the future. If the FDA believes
that a company is not in compliance with applicable regulations, it can
institute proceedings to detain or seize products, issue a recall, impose
operating restrictions, enjoin future violations and assess civil and criminal
penalties against the company, its officers or its employees and can recommend
criminal prosecution to the Department of Justice. Other regulatory agencies may
have similar powers. In addition, product approvals could be withdrawn due to
the failure to comply with regulatory standards or the occurrence of unforeseen
problems following initial marketing. The FDA also has the authority to issue
special controls for devices manufactured by the Company, which it has not done
to date. In the event that such special controls were issued, the Company's
products would be required to conform, which could result in significant
additional expenditures for the Company.
The Company is subject to numerous federal, state and local laws and
regulations relating to such matters as safe working conditions, manufacturing
practices, fire hazard control and the handling and disposal of hazardous or
infectious materials or substances and emissions of air pollutants. The Company
owns and leases properties which are subject to environmental laws and
regulations. There can be no assurance that the Company will not be required to
incur significant costs to comply with such laws and regulations in the future
or that such laws or regulations will not have a material adverse effect upon
the Company's business, financial condition or results of operations. In
addition, the Company cannot predict the extent to which future legislative and
regulatory developments concerning its practices and products for the health
care industry may affect the Company.
Risks Related to International Sales; Foreign Operations
Sales made outside the United States represented approximately 19.7% of the
Company's 2000 net sales and the Company intends to increase international sales
as a percentage of total net sales. Foreign operations are subject to special
risks that can materially affect the sales, profits, cash flows and financial
position of the Company, including increased regulation, extended payment
periods, competition from firms with more local experience, currency exchange
rate fluctuations and import and export controls. The Company has sales
operations in Germany, Sweden, the United Kingdom, France and other countries
where sales are made in local currency. While the Company plans to hedge its
foreign currency exposures by attempting to purchase goods and services with the
proceeds from sales in local currencies where possible, and to purchase forward
contracts to hedge receivables denominated in foreign currency, there can be no
assurance that the Company's hedging strategies will allow the Company to
successfully mitigate its foreign exchange exposures. The Company's foreign
exchange exposure has historically not been significant, and was not considered
to be significant in fiscal 2000.
The Company also maintains a manufacturing and assembly facility in
Ensenada, Mexico and an assembly facility in Kuala Lumpur, Malaysia and, as a
result, is subject to operational risks such as changing labor trends and civil
unrest in those countries. In the event the Company were required to transfer
its foreign operations to the United States or were otherwise unable to benefit
from its lower cost foreign operations, its business, financial condition and
results of operations would be adversely affected.
Product Liability
The manufacturing and marketing of medical products entails an inherent
risk of product liability claims. Although the Company has not experienced any
significant losses due to product liability claims and currently maintains
umbrella liability insurance coverage, there can be no assurance that the amount
or scope of the coverage maintained by the Company will be adequate to protect
it in the event a significant product liability claim is successfully asserted
against the Company. In addition, the Company cannot predict the extent to which
future legislative and regulatory developments concerning its practices and
products for the health care industry may affect the Company.
21
Dependence on Key Personnel; Management of Expanding Operations
The Company's success will, to a large extent, depend upon the continued
services of its executive officers. The loss of services of any of these
executive officers could materially and adversely affect the Company.
The Company's plans to expand its business may place a significant strain
on the Company's operational and financial resources and systems. To manage its
expanding operations, the Company may be required to, among other things,
improve its operational, financial and management information systems. The
Company may also be required to attract, train and retain additional highly
qualified management, technical, sales and marketing and customer support
personnel. The process of locating such personnel with the combination of
skills and attributes required to implement the Company's strategy is often
lengthy. The inability to attract and retain additional qualified personnel
could materially and adversely affect the Company.
Competition
The medical supply industry is characterized by intense competition.
Certain of the Company's competitors have greater financial and other resources
than the Company and may succeed in utilizing these resources to obtain an
advantage over the Company. The general trend toward cost containment in the
health care industry has had the effect of increasing competition among
manufacturers, as health care providers and distributors consolidate and as GPOs
increase in size and importance. The Company competes on the basis of brand
name, product quality, breadth of product line, service and price.
Risks Generally Associated with Acquisitions
An element of the Company's business strategy is to pursue strategic
acquisitions that either expand or complement the Company's business.
Acquisitions involve a number of special risks, including the diversion of
management's attention to the assimilation of the operations and the
assimilation and retention of the personnel of the acquired companies, and
potential adverse effects on the Company's operating results. The Company may
require additional debt or equity financing for future acquisitions, which may
not be available on terms favorable to the Company, if at all. In addition, the
Credit Facility and the Indenture contain certain restrictions regarding
acquisitions. The Indenture restricts acquisitions to those companies in the
same line of business as the Company, and requires that all such acquired
companies be designated Restricted Subsidiaries (as defined therein). The
Credit Facility restricts all acquisitions with the exception of Permitted
Acquisitions (as defined therein), and limits, among other things, (i) the sum
that may be paid in connection with any single acquisition to $30.0 million,
(ii) the total amount outstanding of revolving credit indebtedness that can be
incurred for acquisition purposes to $45.0 million, and (iii) the line of
business of the acquired entity or assets. The inability of the Company to
successfully finance, complete and integrate strategic acquisitions in a timely
manner could have an adverse impact on the Company's ability to effect a portion
of its growth strategy.
Patents and Trademarks
The Company has historically relied primarily on its technological and
engineering abilities and on its design and production capabilities to gain
competitive business advantages, rather than on patents or other intellectual
property rights. However, the Company does file patent applications on concepts
and processes developed by the Company's personnel. The Company has 25 patents
in the U.S. Many of the U.S. patents have corresponding patents issued in
Canada, Europe and various Asian countries. The Company's success will depend
in part on its ability to maintain its patents, add to them where appropriate,
and to develop new products and applications without infringing the patent and
other proprietary rights of third parties and without breaching or otherwise
losing rights in technology licenses obtained by the Company for other products.
There can be no assurance that any patent owned by the Company will not be
circumvented or challenged, that the rights granted thereunder will provide
competitive advantages to the Company or that any of the Company's pending or
future patent applications will be issued with claims of the scope sought by the
Company, if at all. If challenged, there can be no assurance that the Company's
patents (or patents under which it licenses technology) will be held valid or
enforceable. In addition, there can be no assurance that the Company's products
or
22
proprietary rights do not infringe the rights of third parties. If such
infringement were established, the Company could be required to pay damages,
enter into royalty or licensing agreements on onerous terms and/or be enjoined
from making, using or selling the infringing product. Any of the foregoing could
have a material adverse effect upon the Company's business, financial condition
or results of operations.
S Corporation Status
The Company elected to be treated as an S corporation for federal and state
income tax purposes for its taxable years beginning on or after January 1, 1987.
Unlike a C corporation, an S corporation is generally not subject to income tax
at the corporate level; instead, the S corporation's income is taxed on the
personal income tax returns of its shareholders. The Company's status as an S
corporation terminated upon consummation of the Recapitalization. If S
corporation status were denied for any periods prior to such termination by
reason of a failure to satisfy the S corporation election or eligibility
requirements of the Internal Revenue Code of 1986, as amended, the Company would
be subject to tax on its income as if it were a C corporation for these periods.
Such an occurrence would have a material adverse effect on the Company's
results.
Energy Costs and Availability
Over the past year, there has been a shortfall of available electricity in
several areas of California. This shortage has resulted in increased energy
costs and temporary interruptions in electrical service in several geographic
areas of California, including the area in which the Company maintains its
headquarters and principal manufacturing center. During the past several
months, the cost of obtaining energy for the Company's California facilities has
increased and electrical service to those facilities has been temporarily
interrupted on several occasions. Furthermore, the Company participates in a
program with the utility that provides electricity to its California facilities
whereby the Company receives discounted service rates in exchange for its
consent to temporary interruptions in electrical service to the California
facilities during peak periods of electricity use. There is a likelihood that,
with the increased demand for electricity in California during the summer
months ahead, the cost of obtaining electricity for the Company's California
facilities will continue to increase and interruptions in electrical service
could result in decreased productivity at the Company's California facilities.
The Company has implemented installed at its California facility a generator
capable of operating the administrative offices, including all computer systems,
which are required to effectively conduct business at all locations in the
United States and Mexico.
Item 7A. Quantitative and Qualitative Disclosure About Market Risk.
Quantitative Disclosures. With the Hudson RCI AB acquisition, the Company
has greater foreign currency exposure with respect to its international
operations. In the past, the Company's only international exposure was its
manufacturing operation in Mexico. All sales were previously denominated in
U.S. dollars. Currently, the Company has operations in Germany, Sweden, Japan
and other countries where sales are made in local currency. The Company plans
to hedge its foreign currency exposures by attempting to purchase goods and
services with the proceeds from sales in local currencies where possible. The
Company may also purchase forward contracts to hedge receivables denominated in
foreign currency that are expected to be collected and converted into another
currency. However, there can be no assurance that the Company's hedging
strategies will allow the Company to successfully mitigate its foreign exchange
exposures.
The Company is exposed to certain market risks associated with interest
rate fluctuations on its debt. All debt arrangements are entered into for
purposes other than trading. The Company's exposure to interest rate risk
arises from financial instruments entered into in the normal course of business
that, in some cases, relate to the Company's acquisitions of related businesses.
Certain of the Company's financial instruments are fixed rate, short-term
investments instruments which are held to maturity. The Company's fixed rate
debt consists primarily of outstanding balances on the Subordinated Notes and
its variable rate debt relates to borrowings under the Credit Facility (see
"Item 7. Management's Discussion and Analysis of financial condition and Results
of Operations--Liquidity and Capital Resources"). With respect to the Company's
fixed rate debt, changes in interest rates generally affect the fair value of
such debt, but do not have an impact on earnings or cash flows. Because the
Company generally cannot prepay its fixed rate debt prior to
23
maturity, interest rate risk and changes in fair value should not have a
significant impact on this debt until the Company is required to refinance. With
respect to variable rate debt, changes in interest rates affect earnings and
cash flows, but do not impact fair value. The impact on the Company's interest
expense in the upcoming year of a one-point interest rate change on the
outstanding balance of the Company's variable rate debt would be approximately
$932,000.
The following table presents the future principal cash flows and weighted-
average interest rates expected on the Company's existing long-term debt
instruments. The fair value of the Company's fixed rate debt is estimated based
on quoted market prices.
Expected Maturity Date
(as of December 31, 2000)
Fiscal Fiscal Fiscal Fiscal Fiscal There- Fair
2001 2002 2003 2004 2005 after Total Value
-------- -------- -------- -------- -------- -------- -------- -------
(Dollars in thousands)
Fixed Rate Debt............ $ 2,000 $ -- $ -- $ -- $ -- $123,266 $125,266 $79,266
Average Interest Rate..... 14.0% -- -- -- 9.5%
Variable Rate Debt......... $10,686 $11,444 $13,444 $55,944 $5,130 $ -- $ 96,648 $96,648
Average Interest Rate..... 8.2% 8.2% 8.2% 8.2% 8.2% 8.2%
Qualitative Disclosures. The Company's primary exposure relates to (1)
interest rate risk on long-term and short-term borrowings, (2) the Company's
ability to pay or refinance long-term borrowings at maturity at market rates,
(3) the impact of interest rate movements on the Company's ability to meet
interest expense requirements and exceed financial covenants and (4) the impact
of interest rate movements on the Company's ability to obtain adequate financing
to fund future acquisitions. The Company manages interest rate risk on its
outstanding long-term and short-term debt through the use of fixed and variable
rate debt. While the Company can not predict or manage its ability to refinance
existing debt or the impact interest rate movements will have on its existing
debt, management evaluates the Company's financial position on an ongoing basis.
Item 8. Financial Statements.
See the Index included at "Item 14. Exhibits, Financial Statement Schedules
and Reports on Form 8-K."
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure.
None.
24
PART III
Item 10. Directors and Executive Officers of the Registrant.
The following individuals are the executive officers and directors of
Holding and Hudson RCI as of September 14, 2001:
Name Age Position
- ---- --- --------------------------------------
Charles A. French......... 58 President & Chief Executive Officer
Lougene Williams......... 56 Senior Vice President
Patrick G. Yount......... 41 Chief Financial Officer
Jay R. Ogram............. 46 Chief Information Officer
Brian W. Morgan.......... 61 Vice President, Human Resources
Ola G. Magnusson......... 52 Senior Vice President
Jeffery D. Brown......... 43 Vice president, Marketing and Sales
Richard W. Johansen...... 49 Director, Chairman of the Board
Helen Hudson Lovaas...... 62 Director
Jon D. Ralph............. 37 Director
Charles P. Rullman....... 52 Director
Ronald P. Spogli......... 53 Director
Sten Gibeck.............. 57 Director
Charles A. French became the President and Chief Executive Officer of the
Company and Holding in August, 2001. Prior to this, he was a private investor
focused on healthcare and technology companies since 1989. Previously, he had
held senior management positions at Spectramed, Inc., Caremark, Inc. and Bentley
Laboratories, Inc.
Lougene Williams is a Senior Vice President of the Company responsible for
its product development, quality assurance and manufacturing operations, having
served in this capacity since 1996, and assumed the same position with Holding
after consummation of the Recapitalization. Prior to 1996, he was the Company's
Vice President, Manufacturing, having held a similar position with Respiratory
Care Inc. From 1976 to 1987, he held manufacturing management positions of
increasing responsibility at various manufacturing plants of The Kendall
Company.
Patrick G. Yount became the Company's Chief Financial Officer in March,
2001. Prior to joining the company, he held the positions of Chief Financial
Officer and Chief Operating Officer of Good Source Solutions - a nationwide
distributor of specialty food items. Prior to joining Good Source Solutions in
1998, he held positions as a senior member of the Merchant Banking Group for
Banque Paribas where we was employed in their San Francisco office from 1995 to
1998.
Jay R. Ogram is the Company's Chief Information Officer, having been
appointed to this position in March, 2001. Mr. Ogram served as the Company's
Chief Financial Officer from 1996 to 2001. From 1984 until his assumption of
Chief Financial Officer responsibilities, Mr. Ogram held prior positions as
Accounting Manager and Vice President and Controller of the Company. Prior to
joining the Company, he had held executive positions in financial management
with a major health care company.
Brian W. Morgan is Vice President, Human Resources, having held this
position since 1989, and assumed the same position with Holding after
consummation of the Recapitalization. Mr. Morgan held similar positions in
human resources at Respiratory Care Inc. since 1978.
Jeffery D. Brown, Vice President of Marketing and Sales, assumed this
position in January, 2000. From 1997 to 2000 Mr. Brown served as the Company's
Director of Sales, from 1993 to 1997 as National Sales Manager
25
and from 1991 to 1993 as Regional Sales Manager . Mr. Brown has also held
positions of National Account Manager from 1982 to 1991 and Territorial Sales
Manager from 1980 to 1982.
Ola G. Magnusson is a Senior Vice President and serves as President of
Hudson RCI AB in Sweden. Mr. Magnusson joined the company in 1999 in connection
with the acquisition of Louis Gibeck AB where he was the President and Chief
Executive Officer since 1996. Prior to joining Louis Gibeck AB, Mr. Magnusson
held several different positions, primarily in marketing with Pharmacia, a
Swedish pharmaceutical company.
Richard W. Johansen is a director and Chairman of the Board of the Company
and Holding, assuming the position of Chairman in August, 2001. Prior to August
2001, Mr. Johansen had been President of the Company since 1993 and assumed the
additional responsibilities of Chief Executive Officer in 1997. He assumed the
same positions with Holding after consummation of the Recapitalization. From
1989 to 1993, he served as Vice President, Marketing and Sales for the Company
following the 1989 acquisition of Respiratory Care Inc. by Hudson RCI. He held
the same position with Respiratory Care Inc. as well as prior executive
positions in the area of business development with its parent company, The
Kendall Company.
Helen Hudson Lovaas is a director of the Company and became a director of
Holding after consummation of the Recapitalization. Mrs. Lovaas began her
career at the Company in 1961. She has been Chairman since 1987, when she
inherited ownership of the Company and served as Chief Executive Officer from
1987 until May 1997. Mrs. Lovaas had served previously as the Vice President of
Administration of Hudson Oxygen for 15 years.
Jon D. Ralph became a director of Hudson RCI and of Holding in connection
with the Recapitalization. Mr. Ralph joined Freeman Spogli in 1989 and became a
Principal in January 1998. Prior to joining Freeman Spogli, Mr. Ralph spent
three years at Morgan Stanley & Co. Incorporated where he served as an analyst
in the Investment Banking Division. Mr. Ralph is also a director of Century
Maintenance Supply, Inc. and The Pantry, Inc.
Charles P. Rullman became a director of Hudson RCI and of Holding in
connection with the Recapitalization. Mr. Rullman joined Freeman Spogli as a
Principal in 1995. From 1992 to 1995, Mr. Rullman was a General Partner of
Westar Capital, a private equity investment firm specializing in middle-market
transactions. Prior to joining Westar, Mr. Rullman spent twenty years at
Bankers Trust Company and its affiliate BT Securities Corporation where he was a
Managing Director and Partner. Mr. Rullman is also a director of The Pantry,
Inc.
Ronald P. Spogli became a director of Hudson RCI and of Holding in
connection with the Recapitalization. He is a founding Principal of Freeman
Spogli, which was founded in 1983. Mr. Spogli is also a director of AFC
Enterprises, Inc., Century Maintenance Supply, Inc. and Gaylan's Trading Co.
Inc.
Sten Gibeck became a director of Hudson RCI and of Holding in connection
with the July 1999 acquisition of Hudson RCI AB. Mr. Gibeck has been employed
by Hudson RCI AB since 1965, and since 1997 has served as its Vice President of
Research and Development. From 1971 through 1996, Mr. Gibeck served as the
President of Hudson RCI AB.
Directors of Hudson RCI and of Holding are elected annually and hold office
until the next annual meeting of stockholders and until their successors are
duly elected and qualified.
26
Item 11. Executive Compensation.
The following table sets forth the compensation earned by the Company's and
Holding's Chief Executive Officer and the Company's four most highly compensated
executive officers who earned salary and bonus in excess of $100,000 for
services rendered in all capacities to Holding, the Company and their
subsidiaries for the fiscal year ended December 31, 2000 (collectively, the
"Named Executive Officers"). As of December 31, 2000, Holding and the Company
had one other executive officer whose salary and bonus for fiscal year ended
December 31, 2000 was less than the salary and bonus of the Named Executive
Officers.
Summary Compensation Table
Annual Compensation (1)
--------------------------------------
Other Annual All Other
Fiscal Compensation Compensation
Year Salary Bonus (2) (3)
----------------------------------------------------------------
Richard W. Johansen.................... 2000 $290,438 $ -- $ -- $10,500
Chairman of the Board (4) 1999 294,945 143,039 177,334 9,600
1998 265,500 53,100 14,853,967 9,600
Lougene Williams....................... 2000 $186,592 $ -- $ -- $10,500
Senior Vice President 1999 190,862 64,798 73,020 9,600
1998 182,000 25,480 6,116,222 9,000
Jay R. Ogram........................... 2000 $153,674 $ -- $ -- $ 9,220
Chief Information Officer (5) 1999 148,314 43,159 -- 8,889
1998 142,000 17,040 6,116,222 8,520
Brian W. Morgan........................ 2000 $130,288 $ -- $ -- $ 7,817
Vice President, Human Resources 1999 132,433 38,538 52,157 7,946
1998 127,320 15,268 4,527,873 7,634
Jeffery D. Brown....................... 2000 $126,023 $ -- $ -- $ 7,561
Vice President, Marketing & Sales (6)
_____________________
(1) All compensation is paid by the Company.
(2) Reflects amounts earned by the Named Executive Officers during 1997 and
1998 and paid in 1998 and 1999 under the Equity Participation Plan. During
1999, no executive officer named above received perquisites and other
personal benefits, securities or property in an aggregate amount in excess
of the lesser of $50,000 or 10% of the total of such officer's salary and
bonus nor did any such officer receive any restricted stock award or stock
appreciation right.
(3) Represents payments by the Company under its defined contribution plan.
(4) Prior to 2001, Richard W. Johansen was the Company's and Holding's
President and Chief Executive Officer.
(5) Prior to 2001, Jay R. Ogram was the Company's and Holding's Chief
Financial Officer.
(6) Prior to 2000, the Named Executive was not an officer of the Company or
Holding.
Executive Employment Agreements
On April 7, 1998, the Company entered into employment agreements with each
of the Named Executive Officers, except Jeffery D. Brown. Each Named Executive
Officer receives a base salary in an amount and on substantially the same terms
and conditions as was being paid by the Company on that date and an annual cash
bonus in accordance with the Company's existing incentive programs. Pursuant to
the employment agreements, in the event that
27
employment is terminated by the Company other than for cause (as such term is
defined in the employment agreements), or if the Named Executive Officer resigns
pursuant to a "qualifying resignation" (as such term is defined in the
employment agreements), the Company will be required to pay such Named Executive
Officer's base salary for a period of between 12 and 24 months. The employment
agreements also provide for nondisclosure of confidential information, that the
Named Executive Officer shall not engage in any prohibited activity (as such
term is defined in the employment agreement) during the term of employment and
that the Named Executive Officer will refrain from interfering with the
Company's contractual relationships or soliciting the Company's employees for 12
months following the Named Executive Officer's termination.
Compensation of Directors
Directors of the Company and Holding receive no compensation as directors.
Directors are reimbursed for their reasonable expenses in attending meetings.
Management Bonus Plans
The Company offers two management bonus plans for its executives, one for
senior management and one for executive management. The plan for senior
management is based on a combination of the financial goals of the Company and
goals set for individual employees. The plan has minimum goals of 70%
attainment for operating income and 75% attainment of the individual plan. The
payout is weighted such that 70% on attainment of Company financial performance
and 30% attainment of individual performance goals. The plan for executive
management is based on the financial goals of the Company. The payout to an
individual is based on his or her bonus level and the percentage attainment of
the operating income goal for the Company. In order to participate, 70% of
operating income must be achieved.
Retirement Plans
The Company sponsors two programs that assist its employees in planning for
retirement. The Company offers a defined contribution pension plan that is
funded by the Company. Employees must be at least 21 years of age and have
completed two years of service to be eligible to participate in the pension
plan. The Company annually contributes an amount equal to 6% of a participating
employee's base earnings to a participant's account, prorated for any part of a
year that a participant was ineligible for a contribution. The funding also
includes a proportionate share of any increase or decrease in the fair market
value of the assets in the trust fund as of the immediately preceding last day
of the plan year. In addition, employees may contribute to a 401(k) plan that
has no matching contributions by the Company. Employees must have six months of
service to be eligible to participate in the 401(k) plan and may contribute up
to 10% of their annual compensation, or 6% if the employee is a highly
compensated participant.
Compensation Committee Interlocks and Insider Participation
The Board of Directors of the Company determines the compensation of the
executive officers. During fiscal 2000, Mr. Rullman determined the compensation
of the Company's Chief Executive Officer and Mr. Rullman and Mr. Johansen
participated in deliberations regarding the compensation of the Company's other
executive officers.
Stock Subscription Plans
In April 1998, Holding adopted an Employee Stock Subscription Plan and an
Executive Stock Subscription Plan (collectively, the "Stock Subscription Plans")
pursuant to which executives of the Company purchased 800,000 shares of common
stock of Holding valued at $10.00 per share. The Stock Subscription Plans
provide for a repurchase option in favor of Holding upon termination of
employment at stated repurchase prices. In addition, the Stock Subscription
Plans provide for restrictions on the transferability of shares prior to the
fifth anniversary of the Recapitalization or Hudson RCI's initial public
offering. The shares are also subject to a right of first refusal in favor of
Holding as well as obligations to sell at the request of Freeman Spogli and co-
sale rights if Freeman Spogli sells its shares to a third party. No additional
shares of Holding common stock were sold under the Stock Subscription Plans in
fiscal 2000.
28
Item 12. Security Ownership of Certain Beneficial Owners and Management.
River Holding Corp.
The following table sets forth certain information, as of September 14,
2001, with respect to the beneficial ownership of capital stock of Holding by
(i) each person who beneficially owns more than 5% of such shares, (ii) each of
the Named Executive Officers, (iii) each director of Hudson RCI and (iv) all
Named Executive Officers and directors of Holding as a group. The following
table should be read in conjunction with the security ownership table for Hudson
RCI.
Shares of Percent Shares of Percent
Name of Beneficial Owner Common of Preferred of
Stock Class Stock Class
------------- ------------- -------------- ------------
Freeman Spogli & Co. Incorporated(1)........................ 8,121,791 88.8% -- --
Ronald P. Spogli(1)
Charles P. Rullman(1)
Jon D. Ralph(1)
Richard W. Johansen(2)(4)................................... 300,000 3.3% -- --
Sten Gibeck(4).............................................. 200,000 2.2% -- --
Lougene Williams(4)......................................... 100,000 1.1% -- --
Jay R. Ogram(4)............................................. 100,000 1.1% -- --
Brian W. Morgan(4).......................................... 15,000 * -- --
Jeffery D. Brown(4)......................................... 25,000 * -- --
Helen Hudson Lovaas(4)...................................... -- -- -- --
All named Executive Officers and directors of
Holding as a group (10 individuals)........................ 8,861,791 96.9% -- --
- ------------------
* Less than 1%.
(1) 1,441,251 shares, 58,749 shares and 6,621,791 shares of common stock
are held of record by FS Equity Partners III, L.P. ("FSEP III"), FS Equity
Partners International, L.P. ("FSEP International") and FS Equity Partners
IV, L.P. ("FSEP IV"), respectively. As general partner of FS Capital
Partners, L.P. ("FS Capital"), which is general partner of FSEP III, FS
Holdings, Inc. ("FSHI") has the sole power to vote and dispose of the shares
owned by FSEP III. As general partner of FS&Co. International, L.P. ("FS&Co.
International"), which is the general partner of FSEP International, FS
International Holdings Limited ("FS International Holdings") has the sole
power to vote and dispose of the shares owned by FSEP International. As
general partner of FSEP IV, FS Capital Partners LLC ("FS Capital LLC") has
the sole power to vote and dispose of the shares owned by FSEP IV. Messrs.
Spogli and Rullman and Bradford M. Freeman, William M. Wardlaw, J. Frederick
Simmons and John M. Roth are the sole directors, officers and shareholders
of FSHI, FS International Holdings and Freeman Spogli & Co. Incorporated and
such individuals, in addition to Mr. Ralph and Todd W. Halloran and Mark J.
Doran, are the sole managing members of FS Capital LLC, and as such may be
deemed to be the beneficial owners of the shares of the common stock and
rights to acquire the common stock owned by FSEP III, FSEP International and
FSEP IV. The business address of Freeman Spogli & Co. Incorporated, FSEP
III, FSEP IV, FS Capital, FSHI, FS Capital LLC, and its sole directors,
officers, shareholders and managing members is 11100 Santa Monica Boulevard,
Suite 1900, Los Angeles, California 90025 and the business address of FSEP
International, FS&Co. International and FS International Holdings is c/o
Padget-Brown & Company, Ltd., West Winds Building, Third Floor, Grand
Cayman, Cayman Islands, British West Indies.
(2) Represents shares held of record by the Johansen Family Trust U/D/T dated
8/16/91 (the "Trust"), of which Mr. Johansen and his wife, Barbara L.
Johansen, are the trustees.
(3) Represents shares held of record by the Brown Family Trust dated 4/21/98
(the "Brown Trust"), of which Mr. Brown and his wife, Ellen Ann Brown, are
the trustees.
(4) The business address of these individuals is River Holding Corp., 599
Lexington Avenue, 18th Floor, New York, New York 10022.
29
Hudson RCI
The following table sets forth certain information, as of September 14,
2001, with respect to the beneficial ownership of capital stock of the Company
by (i) each person who beneficially owns more than 5% of such shares, (ii) each
of the Named Executive Officers, (iii) each director of Hudson RCI and (iv) all
Named Executive Officers and directors of Hudson RCI as a group.
Shares of Percent Shares of Percent
Name of Beneficial Owner Common of Preferred of
Stock Class Stock Class
------------- ------------- -------------- ------------
River Holding Corp.(1)............................ 9,154,293 84.6% 397,694 100%
Jon D. Ralph(1).................................
Charles P. Rullman(1)...........................
Ronald P. Spogli(1).............................
Helen Hudson Lovaas(2)............................ 1,500,000 13.9% -- --
Sten Gibeck(3).................................... -- -- -- --
Richard W. Johansen(3)............................ -- -- -- --
Lougene Williams(3)............................... -- -- -- --
Jay R. Ogram(3)................................... -- -- -- --
Brian W. Morgan(3)................................ -- -- -- --
All Named Executive Officers and directors
of the Company as a group (10 individuals)....... 10,654,293 98.4% 397,694 100.0%
____________
(1) As beneficial owner of 88.58% of the common stock of Holding, Freeman Spogli
will have the power to vote and dispose of the shares held by Holding.
1,441,251 shares, 58,749 shares and 6,621,791 shares of common stock of
Holding is held of record by FS Equity Partners III, L.P. ("FSEP III"), FS
Equity Partners International, L.P. ("FSEP International") and FS Equity
Partners IV, L.P. ("FSEP IV"), respectively. As general partner of FS
Capital Partners, L.P. ("FS Capital"), which is general partner of FSEP III,
FS Holdings, Inc. ("FSHI") has the sole power to vote and dispose of the
shares owned by FSEP III. As general partner of FS&Co. International, L.P.
("FS&Co. International"), which is the general partner of FSEP
International, FS International Holdings Limited ("FS International
Holdings") has the sole power to vote and dispose of the shares owned by
FSEP International. As general partner of FSEP IV, FS Capital Partners LLC
("FS Capital LLC") has the sole power to vote and dispose of the shares
owned by FSEP IV. Messrs. Spogli and Rullman and Bradford M. Freeman,
William M. Wardlaw, J. Frederick Simmons and John M. Roth are the sole
directors, officers and shareholders of FSHI, FS International Holdings and
Freeman Spogli & Co. Incorporated and such individuals, in addition to Mr.
Ralph and Todd W. Halloran and Mark J. Doran, are the sole managing members
of FS Capital LLC, and as such may be deemed to be the beneficial owners of
the shares of the common stock and rights to acquire the common stock owned
by FSEP III, FSEP International and FSEP IV. The business address of Freeman
Spogli & Co. Incorporated, FSEP III, FSEP IV, FS Capital, FSHI, FS Capital
LLC, and its sole directors, officers, shareholders and managing members is
11100 Santa Monica Boulevard, Suite 1900, Los Angeles, California 90025 and
the business address of FSEP International, FS&Co. International and FS
International Holdings is c/o Padget-Brown & Company, Ltd., West Winds
Building, Third Floor, Grand Cayman, Cayman Islands, British West Indies.
Holding has pledged all shares of the Company's capital stock held by it to
secure its guarantee of the Company's obligations under the New Credit
Facility.
(2) Represents 1,073,560 shares held of record by the Helen Lovaas Separate
Property Trust U/D/T dated 7/16/97 ("Trust No. 1") and 426,440 shares held
of record by the Helen Lovaas Trust No. 2 U/D/T dated as of January 10, 2000
("Trust No. 2"). As sole trustee of Trust No. 1, Mrs. Lovaas has the sole
power to vote and dispose of the shares owned by Trust No. 1. As co-trustee
of Trust No. 2, Mrs. Lovaas has shared power to vote and dispose of the
shares owned by Trust No. 2. The address of each of Trust No. 1 and Trust
No. 2 is c/o Hudson Respiratory Care Inc., 27711 Diaz Road, P.O. Box 9020,
Temecula, California 92589.
(3) The business address of these individuals is Hudson Respiratory Care Inc.,
27711 Diaz Road, P.O. Box 9020, Temecula, California 92589.
30
Item 13. Certain Relationships and Related Transactions.
Shareholders' Agreement
Helen Hudson Lovaas (the "Continuing Shareholder") and Holding have
entered into a Shareholders' Agreement, as amended (the "Shareholders'
Agreement"). Under the Shareholders' Agreement, Holding and the Continuing
Shareholder have the right to purchase their pro rata share of certain new
issuances of capital stock by Hudson RCI. In addition, the Shareholders'
Agreement provides that upon certain issuances of common stock of Holding to
employees of the Company, and contribution of the consideration received for
such issuance to Hudson RCI, an equivalent number of shares of Hudson RCI's
common stock will be issued to Holding. The Shareholders' Agreement provides for
restrictions on the transferability of the shares held by the Continuing
Shareholder for a period of two years following the consummation of the
Recapitalization, and provides for a right of first offer on the Continuing
Shareholder's common stock. In addition, the agreement provides that upon sales
by Holding of common stock of Hudson RCI or by Freeman Spogli of common stock of
Holding, the Continuing Shareholder is obligated to sell all its shares of
common stock at the request of Holding and the Continuing Shareholder has the
right to participate in such sale on a pro rata basis. If Hudson RCI engages in
an initial public offering with respect to its common stock, the Shareholders'
Agreement provides that Holding will exchange all of the common stock of Hudson
RCI it holds for newly issued common stock of Hudson RCI and the Mirror
Preferred Stock (as defined below) will be exchanged, at Holding's option, into
Company Preferred Stock or Company Exchange Debentures, which in turn will be
exchanged for Exchange Preferred Stock. Holding will then liquidate and
distribute Hudson RCI's common stock to its common holders. Hudson RCI will
grant unlimited piggyback registration rights (after an initial public offering)
to Freeman Spogli and the Continuing Shareholder and, commencing six (6) months
after the initial public offering, three (3) demand registrations to Freeman
Spogli, and one demand registration to the Continuing Shareholder. The
Shareholders' Agreement provides that the parties thereto will vote their shares
to elect Helen Hudson Lovaas to the Board of Directors.
Note Payable to Freeman Spogli
In July 1999 in connection with the Hudson RCI AB acquisition, the Company
borrowed $22.0 million pursuant to an unsecured promissory note payable to
Freeman Spogli. The note bears interest at 12.0% per annum, matures in August
2006, and requires semiannual interest payments, which can be deferred to
maturity date at the option of the Company. In fiscal 1999, approximately $14.5
million in principal was paid on the note. In fiscal 2000, an additional $2.0
million was borrowed, which is due on demand. As of December 31, 2000, $10.3
million remained outstanding on the note.
31
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.
(a) Documents filed as part of this Report:
Page
(1) Financial Statements
Financial Statements are filed as part of this Form 10-K............. F-1
(2) Financial Statement Schedules
Report of Independent Public Accountants............................. II-1
Schedule II -- Valuation and Qualifying Accounts.................... . II-2
All other schedules have been omitted because they are not
applicable, not required, or the information is included in the
consolidated financial statements or notes thereto.
(3) Exhibits
2.1(1) Agreement dated May 7, 1999 between Sten Gibeck, Hudson
RCI and Holding.
2.2(1) Agreement dated May 7, 1999 between Euroventures Nordica
I B.V., Hudson RCI and Holding.
2.3(1) Agreement dated May 7, 1999 between Forsakrings AB
Skandia and Livforsakrings AB Skandia, Hudson RCI and
Holding. 2.4(1) Agreement dated May 7, 1999 between Maud
Gibeck, Hudson RCI and Holding.
2.5(1) Stock Subscription Agreement dated August 4, 1999 between
Sten Gibeck, Holding, FSEP III, FSEP International and
FSEP IV.
2.6(2) Asset Purchase Agreement dated September 18, 2000 between
Hudson RCI and Tyco Healthcare Group L.P.
2.7(3) Amendment to Asset Purchase Agreement dated September 27,
2000 between Hudson RCI and Tyco Healthcare Group L.P.
2.8(4) Amendment No. 2 to Asset Purchase Agreement dated October
28, 2000 between Hudson RCI and Tyco healthcare Group
L.P.
3.1(5) Amended and Restated Articles of Incorporation of Hudson
RCI, as amended to date.
3.2(5) Bylaws of Hudson RCI.
4.1(5) Indenture dated as of April 7, 1998 among Hudson RCI,
Holding and United States Trust Company of New York, as
Trustee, with respect to the 9-1/8% Senior Subordinated
Notes due 2008 (including form of 9-1/8% Senior Note due
2008).
4.2(5) Exchange Indenture dated as of April 7, 1998 among Hudson
RCI, Holding and United States Trust Company of New York,
as Trustee, with respect to the 11-1/2% Subordinated
Exchange Debentures due 2010 (including form of 11- 1.2%
Senior Subordinated Exchange Debenture due 2010).
10.1(5) Credit Agreement dated as of April 7, 1998 among Hudson
RCI, Holding, the lenders party thereto, Salomon Brothers
Inc. as arranger, advisor and syndication agent, and
Bankers Trust Company ("Bankers Trust") as administrative
agent and collateral agent.
10.2(5) Security Agreement dated as of April 7, 1998 between
Hudson RCI and Bankers Trust.
10.3(5) Pledge Agreement dated as of April 7, 1998 between
Holding and Bankers Trust.
10.4(5) Deed of Trust, Security Agreement, Fixture Filing and
Assignment of Leases and Rents dated April 7, 1998
between Hudson RCI and Chicago Title Insurance Company
fbo Bankers Trust.
10.5(5) Holding Guarantee Agreement dated as of April 7, 1998
between Holding and Bankers Trust.
10.6(5) Indemnity, Subrogation and Contribution Agreement dated
as of April 7, 1998 among Hudson RCI, Holding and Bankers
Trust.
32
10.7(5) Shareholders Agreement dated April 7, 1998 among
Holding, The Helen Hudson Lovaas Separate Property Trust
U/D/T dated July 17, 1997 (the "Hudson Trust"), FS
Equity Partners III, L.P. ("FSEP III"), FS Equity
Partners International, L.P. ("FSEP International"), FS
Equity Partners IV, L.P. ("FSEP IV"), and Hudson RCI.
10.8(5) Stock Subscription Agreement dated April 7, 1998 between
Holding and River Acquisition Corp.
10.9(5) Employment Agreement dated April 7, 1998 between Hudson
RCI and Richard W. Johansen.
10.10(5) Employment Agreement dated April 7, 1998 between Hudson
RCI and Jay R. Ogram.
10.11(5) Employment Agreement dated April 7, 1998 between Hudson
RCI and Lougene Williams.
10.12(5) Employment Agreement dated April 7, 1998 between Hudson
RCI and Brian W. Morgan.
10.13(6) Form of Amendment No. 1 to Credit Agreement dated as of
July 30, 1998 among Hudson RCI, Holding, the lenders
party thereto, Salomon Brothers Inc. and Bankers Trust.
10.14(7) Amendment No. 1 to Shareholders Agreement dated April 8,
1998 among Holding, the Hudson Trust, FSEP III, FSEP IV
and Hudson RCI.
10.15(7) Form of Amendment No. 2 to Credit Agreement dated as of
March 12, 1999 among Hudson RCI, Holding, the lenders
party thereto, Salomon Brothers Inc. and Bankers Trust.
10.16(8) Amendment No. 3 to Credit Agreement dated as of June 17,
1999 among Hudson RCI, Holding, the lenders party
thereto, Salomon Brothers Inc. and Bankers Trust.
10.17(9) Amendment No. 4 to the Credit Agreement dated as of
August 11, 2000 among Hudson RCI, Holding, the lenders
party thereto, Salomon Brothers Inc. and Bankers Trust.
10.18(9) Consent and Waiver No. 2 to Credit Agreement dated as of
September 1, 2000 among Hudson RCI, Holding, the lenders
party thereto, Salomon Brothers Inc. and Bankers Trust.
12.1 Statement re Computation of Earnings to Fixed Charges
Ratio.
21.1 (9) Subsidiaries of Hudson RCI.
24.1 Power of Attorney (included on the signature pages
hereof).
--------------------
(1) Incorporated by reference to the exhibit designated by the
same number in the Form 8-K filed by the Company on August
6, 1999 (date of earliest event: July 22, 1999) (File No.
333-56097).
(2) Incorporated by reference to the exhibit designated by
number 2.1 in the Form 8-K filed by the Company on November
13, 2000 (date of earliest event: October 28, 2000) (File
No.: 333-56097).
(3) Incorporated by reference to the exhibit designated by
number 2.2 in the Form 8-K filed by the Company on November
13, 2000 (date of earliest event: October 28, 2000) (File
No.: 333-56097).
(4) Incorporated by reference to the exhibit designated by
number 2.3 in the Form 8-K filed by the Company on November
13, 2000 (date of earliest event: October 28, 2000) (File
No.: 333-56097).
(5) Incorporated by reference to the exhibit designated by the
same number in the Form S-4 filed by the Company on June 5,
1998 (File No. 333-56097).
(6) Incorporated by reference to the exhibit designated by the
same number in Amendment No. 1 to Form S-4 filed by the
Company on August 3, 1998 (File No. 333-56097).
(7) Incorporated by reference to the exhibit designated by the
same number in the Form 10-K filed by the Company for the
fiscal year ended December 25, 1998 (File No. 333-56097).
(8) Incorporated by reference to the exhibit designated by the
same number in the Form 10-K filed by the Company for the
fiscal year ended December 31, 1999 (File No.: 333-56097).
(9) Incorporated by reference to the exhibit designated by the
same number in the Form 10-K filed by the Company for the
fiscal year ended December 31, 2000 (File No.: 333-56097).
(b) Current Reports on Form 8-K.
None.
33
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
RIVER HOLDING CORP.
Date: September 14, 2001 By: /s/ Patrick G. Yount
----------------------------------
Patrick G. Yount
Chief Financial Officer and Secretary
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Patrick G. Yount his true and lawful attorney-in-
fact with full power of substitution and resubstitution, for him or her and in
his or her name, place and stead, in and any all capacities, to sign any and all
amendments to this Report on Form 10-K and to file same, with all exhibits
thereto, and other documents in connection therewith, with the Securities and
Exchange Commission, granting unto said attorney-in-fact and agents, and each of
them, full power and authority to do and perform each and every act and thing
requisite and necessary to be done in and about the premises, as fully to all
intents and purposes as he or she might or could do in person, hereby ratifying
and confirming all that said attorney-in-fact and agent, or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ Charles A. French Chief Executive Officer September 14, 2001
- ------------------------------ (Principal Executive Officer)
Charles A. French
/s/ Patrick G. Yount Chief Financial Officer and Secretary September 14, 2001
- ------------------------------ (Principal Financial Officer)
Patrick G. Yount
/s/ Richard W. Johansen Director, Chairman of the Board September 14, 2001
- ------------------------------
Richard W. Johansen
/s/ Helen Hudson Lovaas Director September 14, 2001
- ------------------------------
Helen Hudson Lovaas
/s/ Ronald P. Spogli Director September 14, 2001
- ------------------------------
Ronald P. Spogli
/s/ Charles P. Rullman Director September 14, 2001
- ------------------------------
Charles P. Rullman
/s/ Jon D. Ralph Director September 14, 2001
- ------------------------------
Jon D. Ralph
/s/ Sten Gibeck Director September 14, 2001
- ------------------------------
Sten Gibeck
S-1
Supplemental Information to be Furnished With Reports Filed Pursuant to
Section 15(d) of the Act by Registrants Which Have Not Registered Securities
Pursuant to Section 12 of the Act
No annual report or proxy material has been sent to security holders.
S-2
RIVER HOLDING CORP. AND SUBSIDIARIES
INDEX TO FINANCIAL STATEMENTS
CONSOLIDATED FINANCIAL STATEMENTS PAGE
- --------------------------------- ----
Report of Independent Public Accountants.......................................................................... F-2
Consolidated Balance Sheets as of December 31, 1999 and 2000...................................................... F-3
Consolidated Statements of Operations and Comprehensive Loss for the Period From April 7, 1998
(inception) to December 25, 1998 and for the years ended December 31, 1999 and 2000............................ F-4
Consolidated Statements of Stockholders' Equity for the Period From April 7, 1998 (inception) to
December 25, 1998 and for the years ended December 31, 1999 and 2000........................................... F-5
Consolidated Statements of Cash Flows for the Period From April 7, 1998 (inception) to December 25,
1998 and for the years ended December 31, 1999 and 2000........................................................ F-6
Notes to Consolidated Financial Statements........................................................................ F-8
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders of
River Holding Corp.:
We have audited the accompanying consolidated balance sheets of RIVER
HOLDING CORP., (a Delaware Corporation) and subsidiaries as of December 31, 1999
and 2000, and the related consolidated statements of operations and
comprehensive loss, stockholders' equity and cash flows for the period from
April 7, 1998 (inception) to December 25, 1998, and the years ended December 31,
1999 and 2000. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of River Holding Corp. and
subsidiaries as of December 31, 1999 and 2000, and the results of their
operations and their cash flows for the period from April 7, 1998 (inception) to
December 25, 1998 and the years ended December 31, 1999 and 2000 in conformity
with accounting principles generally accepted in the United States.
/s/ ARTHUR ANDERSEN LLP
Orange County, California
July 30, 2001
F-2
RIVER HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands)
ASSETS
December 31, December 31,
1999 2000
---------- ----------
CURRENT ASSETS:
Cash.............................................................................................. $ 2,917 $ 3,530
Accounts receivable, less allowance for doubtful accounts of $973 and 3,500 at
December 31 1999 and 2000, respectively.......................................................... 30,425 28,307
Inventories....................................................................................... 24,043 44,610
Other current assets.............................................................................. 4,945 2,165
---------- ----------
Total current assets.......................................................................... 62,330 78,612
PROPERTY, PLANT AND EQUIPMENT, net................................................................. 54,341 59,030
OTHER ASSETS:
Deferred tax asset................................................................................ 11,342 11,502
Deferred financing costs, net of accumulated amortization of $2,253 and 3,245 at
December 31, 1999 and 2000, respectively......................................................... 11,134 9,587
Other assets...................................................................................... 222 1,189
Goodwill, net of accumulated amortization of $8,197 and $13,277 at December 31,
1999 and 2000, respectively...................................................................... 205,592 201,116
---------- ----------
Total other assets............................................................................ 228,290 223,394
---------- ----------
Total assets............................................................................. $ 344,961 $ 361,036
========== ==========
LIABILITIES, MANDATORILY-REDEEMABLE PREFERRED STOCK
AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Notes payable to banks............................................................................ $ 6,673 $ 10,686
Accounts payable.................................................................................. 6,268 20,420
Accrued liabilities............................................................................... 11,700 12,707
Note payable to affiliate......................................................................... -- 2,000
Other current liabilities......................................................................... 1,485 3,007
---------- ----------
Total current liabilities..................................................................... 26,126 48,820
NOTE PAYABLE TO AFFILIATE.......................................................................... 7,508 8,266
NOTES PAYABLE TO BANKS, net of current portion..................................................... 82,513 85,962
SENIOR SUBORDINATED NOTES PAYABLE.................................................................. 115,000 115,000
---------- ----------
Total liabilities............................................................................. 231,147 258,048
---------- ----------
COMMITMENTS AND CONTINGENCIES (Note 8)
MANDATORILY-REDEEMABLE PREFERRED STOCK,
$.01 par value: 1800 shares authorized; 356 and 398 shares issued and outstanding at December
31, 1999 and 2000, respectively; liquidation preference 35,558 and 39,783, respectively.......... 34,558 39,043
Accrued preferred stock dividends, payable in kind................................................ 863 1,018
---------- ----------
35,421 40,061
---------- ----------
STOCKHOLDERS' EQUITY
Common stock, no par value: 15,000 shares authorized; 8,544 and 8,887 issued and outstanding at
December 31, 1999 and 2000, respectively......................................................... 91,748 97,748
Cumulative translation adjustment................................................................. (398) (687)
Accumulated deficit............................................................................... (12,957) (34,134)
---------- ----------
Total stockholders' equity.................................................................... 78,393 62,927
---------- ----------
Total liabilities, mandatorily-redeemable preferred stock and stockholders' equity....... $ 344,961 $ 361,036
========== ==========
The accompanying notes are an integral part of these consolidated financial
statements
F-3
RIVER HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
FOR THE PERIOD FROM APRIL 7, 1998 (INCEPTION) TO DECEMBER 25, 1998 AND FOR THE
YEARS ENDED DECEMBER 31, 1999 AND 2000
(In thousands)
1998 1999 2000
---------- ---------- ----------
NET SALES............................................................ $ 76,232 $ 128,803 $ 159,278
COST OF SALES........................................................ 44,662 77,678 87,183
---------- ---------- ----------
Gross profit........................................................ 31,570 51,125 72,095
---------- ---------- ----------
OPERATING EXPENSES:
Selling............................................................. 8,032 13,122 18,262
Distribution........................................................ 2,471 4,647 10,109
General and administrative.......................................... 7,129 14,732 24,022
Amortization of goodwill............................................ 3,785 5,080 8,400
Research and development............................................ 726 2,031 2,387
---------- ---------- ----------
22,143 39,612 63,180
---------- ---------- ----------
Income from operations............................................ 9,427 11,513 8,915
INTEREST EXPENSE AND OTHER........................................... 11,001 18,595 22,249
---------- ---------- ----------
Loss before (benefit) provision for income taxes..................... (1,574) (7,082) (13,334)
(BENEFIT) PROVISION FOR INCOME TAXES (Note 9)........................ (614) (1,508) 3,203
---------- ---------- ----------
Net loss............................................................. (960) (5,574) (16,537)
OTHER COMPREHENSIVE LOSS:
Foreign currency translation loss................................... -- (398) (289)
---------- ---------- ----------
Comprehensive loss................................................... $ (960) $ (5,972) $ (16,826)
========== ========== ==========
The accompanying notes are an integral part of these consolidated financial
statements
F-4
RIVER HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(In thousands)
Common Stock Cumulative
------------------------- Translation Accumulated
Shares Amount Adjustment Deficit Total
--------- ---------- ---------- ------------ -----------
BALANCE, April 7, 1998 -- $ -- $ -- $ -- $ --
Sale of common stock.............................. 6,313 63,125 -- -- 63,125
Pay-in-kind preferred stock dividends............. -- -- -- (2,512) (2,512)
Net loss.......................................... -- -- -- (960) (960)
--------- ----------- --------- ---------- ---------
BALANCE, December 25, 1998......................... 6,313 63,125 -- (3,472) 59,653
Sale of common stock.............................. 2,231 28,623 -- -- 28,623
Pay-in-kind preferred stock dividends............. -- -- -- (3,911) (3,911)
Foreign currency translation loss................. -- -- (398) -- (398)
Net loss.......................................... -- -- -- (5,574) (5,574)
--------- ----------- --------- ---------- ---------
BALANCE, December 31, 1999......................... 8,544 91,748 (398) (12,957) 78,393
Sale of common stock.............................. 343 6,000 -- -- 6,000
Pay-in-kind preferred stock dividends............. -- -- -- (4,640) (4,640)
Foreign currency translation loss................. -- -- (289) -- (289)
Net loss.......................................... -- -- -- (16,537) (16,537)
--------- ----------- --------- ---------- ---------
BALANCE, December 31, 2000......................... 8,887 $ 97,748 $ (687) $ (34,134) $ 62,927
========= =========== ========= ========== =========
The accompanying notes are an integral part of these consolidated financial
statements
F-5
RIVER HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE PERIOD FROM APRIL 7, 1998 (INCEPTION) TO DECEMBER 25, 1998 AND FOR
THE YEARS ENDED DECEMBER 31, 1999 AND 2000
(In thousands)
1998 1999 2000
---------- ---------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss........................................................................... $ (960) $ (5,574) $ (16,537)
Adjustments to reconcile net loss to net cash provided by operating activities-
Depreciation and amortization.................................................... 8,507 15,655 19,059
Amortization of deferred financing costs......................................... -- 1,374 992
(Loss) gain on disposal of equipment............................................. -- (5) 8
Change in deferred tax asset..................................................... -- (1,709) (160)
Changes in operating assets and liabilities:
Accounts receivable............................................................ (7,089) (2,701) 2,118
Inventories.................................................................... (1,215) (2,865) (12,351)
Other current assets........................................................... 316 (1,194) 2,780
Other assets................................................................... 526 13 (966)
Accounts payable............................................................... 3,243 (741) 14,152
Accrued liabilities............................................................ 526 4,277 1,007
Other current liabilities...................................................... -- 1,526 1,522
Other liabilities.............................................................. -- (959) --
---------- ---------- ---------
Net cash provided by operating activities.................................... 3,854 7,097 11,624
---------- ---------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of majority interest in Hudson Respiratory Care Inc.................... (248,000) -- --
Purchase of property, plant and equipment.......................................... (3,121) (10,973) (11,329)
Proceeds from sale of property, plant and equipment................................ -- 23 4
(Additions) retirements of intangible assets....................................... -- (354) 1,828
Additions of deferred financing costs.............................................. -- 154 555
Acquisition of certain assets of Gibeck, Inc....................................... (3,351) -- --
Acquisition of certain assets of Medimex........................................... -- (2,168) --
Acquisition of certain assets of Tyco.............................................. -- (23,750) (18,000)
Acquisition of Louis Gibeck AB stock, net of cash acquired of $8,208............... -- (38,750) --
---------- ---------- ---------
Net cash used in investing activities........................................ (254,472) (75,818) (26,942)
---------- ---------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of notes payable to bank................................................. (2,000) (17,355) (5,500)
Proceeds from bank borrowings...................................................... 46,000 59,376 12,962
Proceeds from senior subordinated notes payable.................................... 115,000 -- --
Proceeds from note payable to affiliate............................................ -- 22,000 2,758
Repayment of note payable to affiliate............................................. -- (14,492) --
Net proceeds from sales of common and mandatorily-redeemable preferred stock, net 92,125 22,000 6,000
of transaction costs..............................................................
---------- ---------- ---------
Net cash provided by financing activities.................................... 251,125 71,529 16,220
---------- ---------- ---------
Effect of exchange rate changes on cash............................................... -- (398) (289)
NET INCREASE IN CASH.................................................................. 507 2,410 613
CASH, beginning of period............................................................. -- 507 2,917
---------- ---------- ---------
CASH, end of period................................................................... $ 507 $ 2,917 $ 3,530
========== ========== =========
The accompanying notes are an integral part of these consolidated financial
statements
F-6
1998 1999 2000
---------- ---------- ---------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for-
Interest........................................................................ $ 8,742 $ 15,333 $ 17,726
========== ========== =========
Income taxes.................................................................... $ 1,699 $ 27 $ 898
========== ========== =========
DETAILS OF ACQUISITIONS (Note 3):
Acquisition price.................................................................. $ 3,351 $ 79,499 $ 18,000
Less:
Common stock issued for acquisition............................................. -- (6,623) --
Cash acquired................................................................... -- (8,208) --
---------- ---------- ---------
Net cash paid for acquisition................................................. $ 3,351 $ 64,668 $ 18,000
========== ========== =========
NON-CASH OPERATING ACTIVITIES:
Net loss in 1999 and 2000 includes approximately $2,825,000 and $1,199,000
of non-cash expense related to the recognition of the portion of the
purchase price allocation related to acquired inventories.
NON-CASH FINANCING ACTIVITIES:
The Company satisfies its preferred dividend requirements by the issuance
of additional shares of preferred stock. Such accrued dividend
requirements totaled $9,765,000 from the date of issuance of the preferred
stock through December 31, 2000; preferred stock with an approximate face
value of $1,801,000 was issued in 1998, $3,757,000 was issued in 1999,
$4,207,000 was issued in 2000.
The accompanying notes are an integral part of these consolidated financial
statements
F-7
RIVER HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2000
1. Company Background
River Holding Corp. ("Holding") is a Delaware corporation formed to
purchase and hold a majority interest in Hudson Respiratory Care Inc. ("Hudson"
or the "Company"), a California corporation founded in 1945. Hudson is a
manufacturer and marketer of disposable medical products utilized in the
respiratory care and anesthesia segments of the domestic and international
health care markets. Holding has no operations of its own, except the Company.
The Company's respiratory care and anesthesia product lines include such
products as oxygen masks, humidification systems, nebulizers, cannulae and
tubing. In the United States, the Company markets its products to a variety of
health care providers, including hospitals and alternate site service providers
such as outpatient surgery centers, long-term care facilities, physician offices
and home health care agencies. Internationally, the Company sells its products
to distributors that market to hospitals and other health care providers. The
Company's products are sold to distributors and alternate site service providers
throughout the United States and internationally. The Company's respiratory
product operations are conducted from its primary facility in Temecula,
California, facilities in Arlington Heights and Elk Grove, Illinois, and a
facility in Ensenada, Mexico. The Company's anesthesia product operations are
conducted from facilities located principally in Sweden and Malaysia, which were
acquired in July 1999 (see Note 3).
2. Recapitalization
In April 1998, the Company consummated a plan pursuant to which a
majority interest in the Company was sold in accordance with an agreement and
plan of merger (the "Recapitalization").
Key components of the Recapitalization included:
(1) Common and preferred equity investments in consideration for an 80.8%
ownership in the Company's common stock and preferred stock with an
initial liquidation preference of $30.0 million
(2) Issuance of 9-1/8% senior subordinated notes with a par value of $115.0
million, maturing in 2008 (see Note 6)
(3) Execution of a new term loan facility and revolving loan facility (see
Note 6)
(4) Repayment of existing indebtedness
(5) Payment of amounts due under the Equity Participation Plan
(6) Payment for common shares acquired from the existing shareholder; this
shareholder retained a 19.2% interest in the common shares outstanding
(7) Potential contingent payments based on 1998 performance, payable to the
continuing shareholder and former participants in the Equity Participation
Plan; however, as a result of the Company's 1998 performance, no
additional amounts were due
The Company has terminated the Equity Participation Plan and has
adopted an executive stock purchase plan. Additionally, Hudson's sole
shareholder prior to the Recapitalization, who owned the remaining 21.0% of
Industrias Hudson ("Industrias"), a subsidiary of the Company, transferred this
interest to the Company in consideration of one dollar. Because of the
commonality of ownership, the 21.0% minority interest has been included in the
financial statements for all periods presented.
F-8
On April 7, 1998, Holding acquired a majority interest in Hudson, as
described above. The investment in Hudson by Holding was accounted for as a
purchase and the purchase price was allocated as follows based on management's
estimate of relative fair value of the assets acquired and liabilities assumed
(amounts in thousands):
Assets Acquired:
Current assets and other.............. $ 33,044
Property, plant and equipment......... 47,821
Deferred tax asset.................... 9,020
Deferred financing costs.............. 12,917
Goodwill.............................. 152,442
----------
255,244
Less liabilities assumed:
Current liabilities................... 7,244
----------
Total purchase price paid................ $ 248,000
==========
The Recapitalization resulted in no change to the carrying amounts of
the Company's existing assets and liabilities. The Company recorded a deferred
tax asset due to the conversion from S to C corporation status and a tax
election to revalue the basis of assets and liabilities for tax purposes.
Goodwill related to the Hudson acquisition is being amortized over a
period of 25 years.
3. Acquisitions
Gibeck, Inc.
During 1998, the Company acquired certain assets of Gibeck Inc.
("Gibeck"), a subsidiary of Louis Gibeck AB, for a cash purchase price of $3.4
million. Gibeck engages primarily in the business of manufacturing, marketing,
and selling custom anesthesia circuits. The acquisition was accounted for as a
purchase and the purchase price was allocated as follows (amounts in thousands):
Goodwill.............................. $ 1,817
Inventory............................. 871
Machinery and equipment............... 663
----------
$ 3,351
==========
Hudson RCI AB
On July 22, 1999, the Company acquired substantially all of the
outstanding capital stock of Hudson RCI AB (formerly Louis Gibeck AB or "LGAB")
and subsidiaries, a Swedish company engaged primarily in the business of
manufacturing, marketing and selling respiratory and anesthesia equipment. The
purchase price was approximately $53.6 million, which included cash
consideration of approximately $45.5 million (including approximately $8.2
million of cash acquired), a non-cash contribution of shares of common stock of
River of $6.6 million and transaction expenses of approximately $1.5 million.
The acquisition was funded with (i) a $22.0 million common stock sale
to the Company's existing majority shareholder, (ii) a $22.0 million, 12.0% per
annum unsecured note payable to an affiliate of the Company's existing majority
shareholder due August 1, 2006 and (iii) a $5.9 million unsecured bank loan
bearing interest at the bank's reference rate plus 1/4% per annum due July 30,
2006.
F-9
The acquisition of Hudson RCI AB was accounted for as a purchase and
the purchase price was allocated based upon management's estimate of the assets
acquired and liabilities assumed as follows (amounts in thousands):
Cash.................................. $ 8,208
Accounts receivable................... 1,823
Inventories........................... 5,161
Fixed assets.......................... 1,206
Other assets.......................... 2,939
Current liabilities................... (4,856)
Non-current liabilities............... (4,123)
Goodwill.............................. 43,223
----------
$ 53,581
==========
Had this acquisition and the acquisition of certain assets of Gibeck,
Inc. occurred at the beginning of 1999, the unaudited pro forma net sales, net
loss before extraordinary item and net loss would be as follows (amounts in
thousands):
1999
----------
Net sales............................. $ 139,494
Net loss.............................. (6,295)
Goodwill related to the Hudson RCI AB acquisition is being amortized
over a period of 20 years.
Acquisition of Product Lines
On November 8, 1999, the Company acquired certain assets of Tyco
Healthcare Group LP ("Tyco"), including Tyco's incentive breathing exerciser and
pulmonary function monitor product lines, for a cash purchase price of
approximately $23.8 million.
On October 28, 2000, the Company acquired certain assets of Tyco,
including Tyco's Sheridan endotracheal tube for a cash purchase price of
approximately $18.0 million.
4. Summary of Significant Accounting Policies
Principles of Consolidation
The accompanying consolidated financial statements include the
accounts of Hudson and its wholly-owned subsidiaries. All significant
intercompany account balances and transactions have been eliminated in
consolidation. Hudson and its wholly-owned subsidiaries are collectively
referred to herein as the Company.
Minority Interest
Holding owns approximately 85% of Hudson, while an unrelated
shareholder owns the remaining 15%. Because the stockholders' deficit of Hudson,
attributable to the minority shareholder, exceeds their investment, the entire
minority interest is allocated to the majority interest.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
certain estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities as of the date
of the consolidated financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ from those
estimates.
Inventories
F-10
Inventories are stated at the lower of cost (first-in, first-out
(FIFO) method) or market. At December 31, 1999 and December 31, 2000,
inventories consisted of the following (amounts in thousands):
1999 2000
--------- ---------
Raw materials......................... $ 5,901 $ 8,134
Work-in-process....................... 5,682 6,591
Finished goods........................ 12,460 29,885
--------- ---------
$ 24,043 $ 44,610
========= =========
Raw materials principally consist of bulk resins. Work-in-process and
finished goods include raw materials, labor and overhead costs. Certain
finished goods are purchased for resale and are not manufactured.
Foreign Currency Translation
The Company uses the local currency as the functional currency of its
operating subsidiaries. Accordingly, all assets and liabilities outside the
United States are translated into U.S. dollars at the rate of exchange in effect
at the balance sheet date. Income and expense items are translated at the
weighted-average exchange rate prevailing during the period.
Beginning in the second quarter of 1998, the Company commenced using
the U.S. dollar as the functional currency of its Mexican operations since
Mexico was considered a highly inflationary economy. Management believes that
the effect of not using the U.S. dollar as the functional currency from January
1, 1997 was not material to the financial statements. Beginning in January 1999,
Mexico was no longer considered a highly inflationary economy and, accordingly,
the Company resumed using the Mexican Peso as the functional currency.
Revenue Recognition
The Company recognizes revenue when product is shipped. The Company
establishes reserves for sales returns and other allowances based on historical
experience. The Company's policy is to provide a reserve for estimated
uncollectable trade accounts receivable. The Company has reserved approximately
$3.5 million for such accounts as of December 31, 2000.
Income Taxes
The Company applies the asset and liability method in recording income
taxes, under which deferred income tax assets and liabilities are determined,
based on the differences between the financial reporting and tax bases of assets
and liabilities and are measured using currently enacted tax rates and laws.
Additionally, deferred tax assets are evaluated and a valuation allowance is
established if it is more likely than not that all or a portion of the deferred
tax asset will not be realized.
Fiscal Year-End
The Company reported its operations on a 52-53 week fiscal year ending
on the Friday closest to December 31 for the fiscal years ended December 25,
1998 and December 31, 1999. Beginning in 2000, the Company adopted calendar
year reporting, with the year ending on December 31, 2000.
New Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities,"
("SFAS 133") as amended by SFAS No. 137 and SFAS No. 138, effective for fiscal
years beginning after June 15, 2000. SFAS No. 133 establishes accounting and
reporting standards for derivative instruments. The statement requires that
every derivative instrument be recorded in the balance sheet as either an asset
or liability measured at its fair value, and that changes in the derivative's
fair value be recognized currently in earnings unless specific hedge accounting
criteria are met. The impact of adoption was not material to the financial
statements.
During the second quarter of fiscal year 2000, Emerging Issues Task
Force (EITF) No. 00-10 "Accounting for Shipping and Handling Fees and Costs" was
issued. EITF No. 00-10 clarifies the accounting treatment
F-11
and classification of the Company's delivery revenues and expenses. The adoption
of this EITF only affects the classification of certain revenues and costs
related to delivery services and does not affect the Company's net loss.
Delivery costs include direct and incremental costs incurred to warehouse and
move product to the Company's customers. Since the Company records freight costs
associated with delivery of product to customers as a component of cost of sales
and warehousing costs as distribution expenses management believes the Company
is in compliance with this pronouncement.
During December 1999, the Securities and Exchange Commission issued
Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial
Statements." SAB No. 101 summarizes certain of the SEC's views in applying
generally accepted accounting principles to revenue recognition in financial
statements. Management believes the Company is in compliance with this
pronouncement.
In June 2001, FASB issued Statement of Financial Accounting Standards
No. 141, "Business Combinations" ("SFAS 141"). This Statement addresses
financial accounting and reporting for business combinations and supersedes APB
Opinion No. 16, "Business Combinations," and FASB Statement No. 38, "Accounting
for Preacquisition Contingencies of Purchased Enterprises." All business
combinations in the scope of this Statement are to be accounted for using one
method, the purchase method. The Company will adopt SFAS 141 for all business
combinations initiated after June 30, 2001.
Also in June 2001, the FASB issued Statement of Financial Accounting
Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"). SFAS
142 addresses financial accounting and reporting for acquired goodwill and other
intangible assets and supersedes APB Opinion No. 17, "Intangible Assets." This
pronouncement addresses, among other things, how goodwill and other intangible
assets should be accounted for after they have been initially recognized in the
financial statements. Goodwill would no longer be amortized but would be
assessed at least annually for impairment using a fair value methodology. The
Company will adopt this statement for all goodwill and other intangible assets
acquired after June 30, 2001 and for all existing goodwill and other intangible
assets beginning January 1, 2002. Upon adoption of this standard on January 1,
2002, the Company will cease recording amortization of goodwill which would
increase income before taxes in 2002 by approximately $8.4 million (assuming
current goodwill amounts). Other than ceasing the amortization of goodwill, the
Company does not anticipate that the adoption of SFAS 142 will have a
significant effect on its financial position or the results of our operations as
the Company does not currently anticipate any impairment charges for existing
goodwill.
Also in June 2001, the FASB issued SFAS No. 143, "Accounting for
Retirement Obligations." SFAS 143 addresses financial accounting and reporting
obligations associated with the retirement of tangible long-lived assets and the
associated asset retirement costs. It applies to legal obligations associated
with the retirement of long-lived assets that result from the acquisition,
construction, development and/or the normal operation of a long-lived asset,
except for certain obligations of lesees. SFAS 143 requires that the fair
value of a liability for an asset retirement obligation be recognized in the
period in which it is incurred if a reasonable estimate of fair value can be
made. The associated retirement costs are capitalized as part of the carrying
amount of the long-lived asset. SFAS 143 is effective for financial statements
issued for fiscal years beginning after June 15, 2002 (with earlier application
being encouraged). Holding does not expect the adoption of SFAS 143 to have a
material impact on Holding's financial condition and results of operations.
5. Preferred Stock
In connection with the Recapitalization, the Company issued 300,000
shares of mandatorily-redeemable 11-1/2% senior exchangeable pay-in-kind ("PIK")
preferred stock due 2010. Net proceeds from the original issuance were $29.0
million. Dividends are payable semi-annually in arrears on April 15 and October
15 each year. Dividends will be payable in cash, except on dividend payment
dates occurring on or prior to April 15, 2003, for which the Company has the
option to issue additional shares of preferred stock (including fractional
shares) having an aggregate liquidation preference equal to the amount of such
dividends. The preferred stock will rank junior in right of payment to all
obligations of the Company and its subsidiaries.
The Company issued PIK preferred stock with a liquidation preference
of approximately $3,757,000 and $4,207,000 to satisfy the dividend requirements
in 1999 and 2000, respectively. As of December 31, 1999 and December 31, 2000
the Company accrued for PIK preferred stock dividends in the amount of $863,000
and $1,018,000, respectively.
6. Long-Term Debt Obligations
Summary of Amounts Outstanding
F-12
The Company's long-term debt obligations as of December 31, 1999 and
2000 consist of the following (amounts in thousands):
1999 2000
---------- ----------
Borrowing under revolving credit facility........... $ 36,600 $ 53,000
Term loan payable to domestic banks................. 35,000 29,500
Term and revolving loan payable to Swedish bank..... 17,586 14,148
Senior subordinated notes........................... 115,000 115,000
Notes payable to affiliate.......................... 7,508 10,266
---------- ----------
211,694 221,914
Less: current portion............................... (6,673) (12,686)
---------- ----------
Long term debt...................................... $ 205,021 $ 209,228
========== ==========
Credit Facility
In connection with the Recapitalization, the Company entered into a
new credit agreement (the Credit Facility) with a bank group, which provides for
borrowings of up to $100.0 million. This agreement consists of two separate
facilities as follows:
1.) Revolving credit--maximum borrowings of $60.0 million with a letter of
credit sub-limit of $7.5 million. This facility must be prepaid upon
payment in full of the Term Loan facility.
2.) Term loan--maximum borrowings of $40.0 million with quarterly
installments to be made through maturity.
Interest on the Credit Facility is based, at the option of the
Company, upon either a eurodollar rate (as defined) plus 2.25%, or a base rate
(as defined) plus 1.25% per annum. A commitment fee of 0.50% per annum is
charged on the unused portion of the Credit Facility.
The following summarizes interest rate data on the Credit Facility as
of December 31, 1999 and 2000:
1999 2000
------------ ------------
Revolving credit facility............ 8.5625% to 9.563%
10.0%
Term loan facility rate.............. 8.75% 9.250%
Total borrowings as of December 31, 2000 were $53.0 million and $29.5
million under the Revolving Credit Facility and Term Loan Facility,
respectively. The Credit Facility will mature on April 7, 2004.
The agreement provides the bank a first security interest in
substantially all of the properties and assets of the Company and a pledge of
65.0% of the stock of Industrias, a wholly-owned subsidiary of the Company. The
agreement also requires the Company to maintain certain financial ratios and
financial covenants, as defined in the agreement, the most restrictive of which
and among other restrictions, prohibit additional indebtedness and limit
dividend payments to the Company's stockholders. The Credit Facility is
guaranteed by Holding.
As of December 31, 2000, the Company had available credit under the
Revolving Loan Facility in the amount of $7.0 million ($5.0 million of which is
restricted for use on future acquisitions). No additional borrowing is available
under the Term Loan Facility.
The Company is required under restrictive covenants of the Credit
Facility Agreement to maintain certain financial ratios, and meet certain
operating cash flow tests for which the Company was not in compliance as of
December 31, 2000 (see Note 13).
Senior Subordinated Notes
F-13
Also related to the Recapitalization, the Company issued under an
Indenture $115.0 million of senior subordinated notes (the "Notes"). The Notes
are fully transferable and are general unsecured obligations of the Company,
subordinated in right of payment to all existing and future senior debt, as
defined, of the Company.
The Notes bear interest at a rate equal to 9-1/8% per annum from the
date of issuance of the Notes. Interest is payable semi-annually on April 15 and
October 15 of each year, commencing October 15, 1998. The Notes will mature on
April 15, 2008 and will be redeemable at the option of the Company, in whole or
in part, on or after April 15, 2003. The Notes are guaranteed by Industrias.
The fair value of the Company's senior subordinated notes at December
31, 2000 was approximately $69.0 million. The fair value is estimated based on
the quoted market prices for issues listed on exchanges and is not intended to,
and does not, represent the underlying fair value of the Company. Subsequent to
December 31, 2000, the Company was in default of certain financial reporting
requirements to the noteholders. Management believes that it has cured this
default.
Note Payable to Affiliate
In connection with the acquisition of Hudson RCI AB during 1999, the
Company borrowed $22.0 million under an unsecured 12% note payable to an
affiliate of the Company's existing majority stockholder. The note is due August
1, 2006. During 1999, the Company paid approximately $14.5 million in principal
on the note. During 2000, the Company borrowed an additional $2 million from
the existing majority shareholder under an unsecured 14% note payable due on
demand.
Bank Notes Payable
The Company has bank borrowings of $14.1 million outstanding at
December 31, 2000, which are denominated in Swedish Krona. The borrowings bear
interest at the 3-month STIBOR plus 0.75% to 1.75% (4.884% to 5.884% at December
31, 2000), are due December 21, 2003 and are secured by the common stock of
Hudson RCI AB.
Future Debt Principal Payments
As of December 31, 2000, future debt principal payments on the
aforementioned debt are as follows (amounts in thousands):
Fiscal Year Ending:
-------------------
2001.................................... $ 12,686
2002.................................... 11,444
2003.................................... 13,444
2004.................................... 55,944
2005.................................... 5,130
Thereafter.............................. 123,266
-----------
$ 221,914
===========
F-14
7. Detail of Selected Balance Sheet Accounts
Property, Plant and Equipment
The following is a summary as of December 31, 1999 and 2000 (amounts
in thousands):
1999 2000
------------ ------------
Land................................................... $ 4,007 $ 4,007
Buildings.............................................. 11,077 11,874
Leasehold improvements................................. 296 296
Machinery, equipment and purchased software............ 39,243 62,078
Furniture and fixtures................................. 1,427 1,921
------------ ------------
56,050 80,176
Less - Accumulated depreciation and amortization....... (13,409) (22,215)
------------ ------------
42,641 57,691
Equipment installation in progress..................... 8,416 269
ERP software installation in progress.................. 3,284 800
------------ ------------
Property, plant and equipment, net..................... $ 54,341 $ 59,030
============ ============
Depreciation of property, plant and equipment is provided using the
straight-line method over the following estimated useful lives:
Buildings.................................... 31.5 years
Leasehold improvements....................... Lessor of the useful
life or lease term
Machinery, equipment and purchased software.. 5 to 7 years
Furniture and fixtures....................... 3 to 7 years
Upon retirement or disposal of depreciable assets, the cost and
related accumulated depreciation are removed and the resulting gain or loss is
reflected in income from operations. Major renewals and betterments are
capitalized while maintenance costs and repairs are expensed in the year
incurred. ERP software installation costs are capitalized in accordance with
Statement of Position ("SOP") 98-1, "Accounting for the Costs of Computer
Software Developed or Obtained for Internal Use." The Company implemented the
new ERP system on April 1, 2000.
Total depreciation expense related to property, plant and
equipment and amortization expense related to intangible and other assets was
$8,507,000, $17,029,000 and $20,051,000 for the years ended December 25, 1998,
December 31, 1999 and 2000, respectively.
Accrued Liabilities and Accounts Payable
Accrued liabilities consisted of the following as of December 31,
1999 and 2000 (amounts in thousands):
1999 2000
-------------- --------------
Interest.................................................... $ 4,162 $ 3,605
Payroll and related......................................... 4,095 4,224
Vacation.................................................... 1,509 1,824
Pension..................................................... 1,353 1,767
Medical self-insurance...................................... 577 569
Other....................................................... 4 718
-------------- --------------
$ 11,700 $ 12,707
============== ==============
F-15
Accounts payable includes a book overdraft of approximately $0.9
million and $1.2 million at December 31, 1999 and 2000.
8. Commitments and Contingencies
The Company leases certain facilities, automobiles and office
equipment under non-cancelable leases, with the majority of the automobile
leases having a term of one year with annual renewal provisions. All of these
leases have been classified as operating leases. As of December 31, 2000, the
Company had future obligations under operating leases as follows (amounts in
thousands):
Fiscal Year Ending:
-------------------
2001............................... $ 2,534
2002............................... 2,290
2003............................... 2,099
2004............................... 1,914
2005............................... 1,378
Thereafter......................... 4,023
-----------
$ 14,238
===========
Rental expense was approximately $1,506,000, $2,052,000 and
$3,115,000 in fiscal 1998, 1999 and 2000, respectively.
The Company self-insures the majority of its medical benefit
programs. Reserves for losses totaling approximately $577,000 and $569,000 at
December 31, 2000, respectively, were established based upon estimated
obligations and are included in accrued liabilities in the accompanying balance
sheets. The Company maintains excess coverage on an aggregate claim basis.
The Company is party to lawsuits and other proceedings, including
suits relating to product liability and patent infringement. While the results
of such lawsuits and other proceedings cannot be predicted with certainty,
management does not expect that the ultimate liabilities, if any, will have a
material adverse effect on the financial position or results of operations of
the Company.
9. Income Taxes
Holding is a C corporation and the Company became a C corporation
upon occurence of the Recapitalization discussed in Note 1. Holding's effective
income tax rate approximates the combined federal and statutory rate of 39%.
During 1999, the Company revised its estimate of the combined effective tax rate
to approximately 40%.
The tax provision (benefit) for 1998, 1999 and 2000 consists of
the following (amounts in thousands):
1998 1999 2000
-------- -------- --------
Income taxes at a combined statutory rate of approximately 39% in
1998 and 40% in 1999 and 2000............................... $ (614) $ (2,833) $ (5,334)
Domestic losses not benefited..................................... -- -- 5,334
Foreign taxes.................................................... -- -- 3,203
Foreign losses not benefited..................................... -- 1,443 --
Other............................................................ -- (118) --
------ -------- --------
$ (614) $ (1,508) $ 3,203
====== ======== ========
F-16
The provision (benefit) for income taxes consists of the following (amounts in
thousands):
United States Foreign Total
------------- -------- ---------
2000
Current....................................................................... $ -- $ 3,203 $ 3,203
Deferred...................................................................... -- -- --
------------- -------- ---------
-- $ 3,203 $ 3,203
============= ======== =========
1999
Current....................................................................... $ -- $ 340 $ 340
Deferred...................................................................... (1,370) (478) (1,848)
------------- -------- ---------
$ (1,370) $ (138) $ (1,508)
============= ======== =========
1998
Current....................................................................... $ -- $ -- $ --
Deferred...................................................................... (614) -- (614)
------------- -------- ---------
$ (614) $ -- $ (614)
============= ======== =========
The components of the deferred tax asset as of December 31, 1999 and
2000 are (amounts in thousands):
1999 2000
-------------- --------------
Basis differences arising from Section 338(h)(10) election...................... $ 11,381 $ 8,092
Net operating loss carryforwards................................................ 9,019 15,973
Liabilities and allowances not currently deductible for tax purposes............ 2,443 4,199
Accelerated tax depreciation.................................................... (3,961) (4,181)
Other 266 343
-------------- --------------
19,148 24,426
Valuation allowance............................................................. (7,806) (13,084)
-------------- --------------
$ 11,342 $ 11,342
============== ==============
Net operating loss carryforwards expire on various dates through 2019.
In management's opinion, the net deferred tax asset is more likely than not to
be realized.
10. Deferred Compensation and Benefit Plans
Pension Plan
The Company has a defined-contribution pension plan covering
substantially all its employees. Amounts charged to expense relating to this
plan totaled approximately $810,000, $972,000 and $914,000 for the fiscal years
ended 1998, 1999 and 2000, respectively.
Deferred Compensation
Effective December 1, 1994, the Company established a deferred
compensation plan for certain key employees. As of December 31, 2000 no material
amount of compensation has been deferred.
11. Geographic, Segment and Major Customer Information
The Company presents segment information externally the same way
management uses financial data internally to make operating decisions and assess
performance. The Company also reports information about the revenues derived
from the enterprise's products or services (or groups of similar products and
services), about the countries in which the enterprise earns revenues and holds
assets and about major customers regardless of whether that information is used
in making operating decisions.
F-17
The Company sells respiratory care products to distributors and medical
facilities throughout the United States and internationally. During 1998, 1999
and 2000, the Company had foreign sales of approximately $20,148,000,
$28,497,000 and $31,383,000 respectively, which constituted approximately 20.0%,
22.1% and 19.7% of total sales, respectively.
The Company's percentage of sales by geographic region for the fiscal
years ended 1998, 1999 and 2000 are as follows:
1998 1999 2000
------ ------ ------
Domestic....................... 79.9% 77.9% 80.3%
Europe......................... 7.8 10.1 9.0
Pacific Rim.................... 6.2 6.1 5.8
Canada......................... 2.0 1.9 1.6
Other International............ 4.1 4.0 3.3
------ ------ ------
100.0% 100.0% 100.0%
====== ====== ======
The following summarizes the net book value of fixed assets at the
respective locations as of December 31, 1999 and 2000 (amounts in thousands):
1999 2000
-------- --------
Ensenada, Mexico............ $ 1,134 $ 1,137
Stockholm, Sweden........... 342 291
Kuala Lumpur, Malaysia...... 741 672
United States............... 52,124 56,930
-------- --------
$ 54,341 $ 59,030
======== ========
For the fiscal years ended 1998, 1999 and 2000, the Company had sales to
one domestic distributor in the amount of $24,940,000, $24,491,000 and
$32,184,000 which represented approximately 24.8%, 19.0% and 20.2% of sales,
respectively. Additionally, the Company had sales to another domestic
distributor of $14,775,000 and $16,936,000, that accounted for approximately
11.5% and 10.6% of sales in 1999 and 2000, respectively.
F-18
12. Unaudited Consolidated Quarterly Data
1999 Quarters Ended
-------------------------------------------------------------------------------------------
March 26 June 25 September 24 December 31
------------------- ------------------- ------------------- -------------
Net Sales.............................. $ 27,169 $ 27,274 $ 30,827 $ 43,533
Gross Profit........................... 11,729 11,531 12,309 15,556
Net Loss............................... (820) (774) (2,654) (1,326)
2000 Quarters Ended
-------------------------------------------------------------------------------------------
March 31 June 30 September 30 December 31
------------------- ------------------- ------------------- -------------
Net Sales.............................. $ 40,807 $ 31,811 $ 41,111 $ 45,549
Gross Profit........................... 18,304 16,986 21,524 17,541
Net (loss) income...................... (498) (1,486) 562 (16,111)
13. Subsequent Events
As discussed in Note 6, the Company was not in compliance with certain
restrictive covenants of the Credit Facility at December 31, 2000.
Subsequently, the Company amended its Credit Facility covenants so that under
the amended terms, the Company was in compliance as of December 31, 2000 and
expects to remain in compliance throughout the term of the agreement. As part of
this amendment (1) the Company's shareholders committed to invest an additional
$18 million, of which approximately $11.4 million was invested in April and May
of 2001 and $6.5 million was invested in August of 2001 and (2) interest rate
margins increased.
On March 22, 2001, the Company replaced its existing lending agreement
denominated in Swedish Krona with a new loan that allows for borrowings up to
approximately $19,100,000. The principal is amortized over 18 equal quarterly
payments commencing June 30, 2001. Interest is based on the STIBOR rate + 0% to
1.65%, based on the outstanding balance of the loan. The loan is secured by a
pledge of Hudson Euro SarL stock, a wholly-owned subsidiary of the Company and
100% owner of Hudson RCI AB, Hudson RCI UK Ltd. and Hudson RCI France S.A.S.
In April and May of 2001, the Company issued for cash unsecured senior
subordinated convertible notes to certain managers and shareholders in the
amount of $9,451,250. In August 2001, the Company issued for cash unsecured
senior subordinated convertible notes to certain managers and stockholders in
the amount of $3,500,000. The notes bear interest at 10% and are due in 2005.
The interest may be paid or deferred to the due date at the option of the
Company and are convertible to common stock at the demand of the note holder.
Additionally, in August of 2001 existing shareholders purchased $3,000,000 in
redeemable preferred stock of Holding (which Holding invested in preferred stock
of the Company).
F-19
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATED FINANCIAL STATEMENTS PAGE
- --------------------------------- ----
Report of Independent Public Accountants.................................................................................. F-21
Consolidated Balance Sheets as of December 31, 1999 and December 31, 2000................................................. F-22
Consolidated Statements of Operations and Comprehensive Loss for the years ended December 25, 1998, December 31, 1999
and December 31, 2000........................................................................................... F-23
Consolidated Statements of Stockholders' Equity (Deficit) for the years ended December 25, 1998, December 31, 1999 and
December 31, 2000............................................................................................... F-24
Consolidated Statements of Cash Flows for the years ended December 25, 1998, December 31, 1999 and December 31, 2000...... F-25
Notes to Consolidated Financial Statements................................................................................ F-27
F-20
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors of
Hudson Respiratory Care Inc.:
We have audited the accompanying consolidated balance sheets of HUDSON
RESPIRATORY CARE INC., (a California Corporation) and subsidiaries as of
December 31, 1999 and 2000, and the related consolidated statements of
operations and comprehensive loss, stockholders' equity (deficit) and cash flows
for the years ended December 25, 1998, December 31, 1999 and 2000. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Hudson Respiratory Care Inc.
and subsidiaries as of December 31, 1999 and 2000, and the results of their
operations and their cash flows for the years ended December 25, 1998, December
31, 1999 and 2000 in conformity with accounting principles generally accepted in
the United States.
/s/ Arthur Andersen LLP
Orange County, California
July 30, 2001
F-21
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands)
ASSETS
December 31, December 31,
1999 2000
-------------- --------------
CURRENT ASSETS:
Cash......................................................................................... $ 2,917 $ 3,530
Accounts receivable, less allowance for doubtful accounts of $973 and $3,500 at
December 31, 1999 and 2000, respectively................................................... 30,425 28,307
Inventories.................................................................................. 24,043 44,610
Other current assets......................................................................... 4,612 1,832
-------- ---------
Total current assets...................................................................... 61,997 78,279
-------- ---------
PROPERTY, PLANT AND EQUIPMENT, net............................................................ 42,476 49,425
-------- ---------
OTHER ASSETS:
Intangible assets, net....................................................................... 66,970 67,573
Deferred financing costs, net of accumulated amortization of $2,528 and $4,306 at
December 31, 1999 and December 31, 2000, respectively..................................... 11,134 9,587
Deferred tax asset........................................................................... 68,943 69,105
Other assets................................................................................. 299 1,265
-------- ---------
Total other assets........................................................................ 147,346 147,530
-------- ---------
Total assets......................................................................... $251,819 $ 275,234
======== =========
LIABILITIES, MANDATORILY-REDEEMABLE PREFERRED STOCK AND
STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Notes payable to banks....................................................................... $ 6,673 $ 10,686
Accounts payable............................................................................. 6,168 20,320
Accrued liabilities.......................................................................... 11,700 12,707
Notes payable to affiliates.................................................................. -- 2,000
Other current liabilities.................................................................... 1,485 3,007
-------- ---------
Total current liabilities............................................................... 26,026 48,720
NOTE PAYABLE TO AFFILIATE, net of current portion............................................. 7,508 8,266
NOTES PAYABLE TO BANKS, net of current portion................................................ 82,513 85,962
SENIOR SUBORDINATED NOTES PAYABLE............................................................. 115,000 115,000
-------- ---------
Total liabilities....................................................................... 231,047 257,948
-------- ---------
COMMITMENTS AND CONTINGENCIES (Note 7)
MANDATORILY-REDEEMABLE PREFERRED STOCK,
$.01 par value: 1,800 shares authorized; 356 and 398 shares issued and
outstanding at December 31, 1999 and 2000, respectively; liquidation
preference--$35,558 and $39,783 respectively (Note 4)........................................ 34,558 39,043
Accrued preferred stock dividends, payable in kind............................................ 863 1,018
-------- ---------
35,421 40,061
-------- ---------
STOCKHOLDERS' EQUITY (DEFICIT):
Common stock, no par value: 15,000 shares authorized; 10,044 and 10,387 shares issued and
outstanding at December 31, 1999 and 2000, respectively................................. 92,158 98,158
Cumulative translation adjustment............................................................ (862) (1,151)
Accumulated deficit.......................................................................... (105,945) (119,782)
-------- ---------
Total stockholders' equity (deficit).................................................... (14,649) (22,775)
-------- ---------
Total liabilities, mandatorily-redeemable preferred stock and stockholders' equity
(deficit)........................................................................... $251,819 $ 275,234
======== =========
The accompanying notes are an integral part of these consolidated balance
sheets.
F-22
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(In thousands)
For the Years Ended
--------------------------------------------------
December 25, December 31, December 31,
1998 1999 2000
---------------- -------------- --------------
NET SALES............................................................. $100,498 $128,803 $ 159,278
COST OF SALES......................................................... 56,802 75,418 84,923
-------- -------- ---------
Gross profit....................................................... 43,696 53,385 74,355
-------- -------- ---------
OPERATING EXPENSES:
Selling.............................................................. 10,350 13,122 18,262
Distribution......................................................... 3,336 4,647 10,109
General and administrative........................................... 10,125 13,269 24,023
Amortization of goodwill............................................. 159 1,463 3,320
Research and development............................................. 976 2,031 2,387
-------- -------- ---------
Total operating expenses........................................... 24,946 34,532 58,101
-------- -------- ---------
PROVISION FOR EQUITY PARTICIPATION PLAN AND RETENTION
PAYMENTS............................................................. (68,693) - -
(Loss) Income from operations...................................... (49,943) 18,853 16,254
OTHER EXPENSES:
Interest expense..................................................... (11,327) (17,263) (21,089)
Other, net........................................................... (406) (1,232) (1,159)
-------- -------- ---------
(11,733) (18,495) ( 22,248)
-------- -------- ---------
(Loss) income before provision for income taxes and
extraordinary item................................................... (61,676) 358 (5,994)
PROVISION FOR INCOME TAXES............................................ 8,405 1,586 3,203
-------- -------- ---------
Loss before extraordinary item........................................ (70,081) (1,228) (9,197)
EXTRAORDINARY ITEM-loss on extinguishment of debt..................... 104 - -
-------- -------- ---------
Net loss.............................................................. (70,185) (1,228) (9,197)
OTHER COMPREHENSIVE LOSS:
Foreign currency translation loss.................................... (119) (398) (289)
-------- -------- ---------
Comprehensive loss.................................................... $(70,304) $ (1,626) $ (9,486)
======== ======== =========
The accompanying notes are an integral part of these consolidated financial
statements.
F-23
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
(In thousands)
Common Stock Cumulative Retained Earnings
------------------ Translation (Accumulated
Shares Amount Adjustment Deficit Total
-------- -------- ------------ ----------------- -----
BALANCE, December 25, 1997.................................... 14,469 $ 3,789 $ (345) $ 19,071 $ 22,515
Stockholder redemption....................................... (12,969) (3,379) - (124,244) (127,623)
Foreign currency translation loss............................ - - (119) - (119)
Recapitalization investment............................ 6,300 63,000 - - 63,000
Issuance of common stock..................................... 13 125 - - 125
Pay-in-kind preferred stock dividends.................... - - - (2,512) (2,512)
Effect of Section 338(h)(10) election on deferred taxes...... - - - 77,064 77,064
Net loss..................................................... - - - (70,185) (70,185)
-------- ------- ------- --------- ---------
BALANCE, December 25, 1998.................................... 7,813 63,535 (464) (100,806) (37,735)
Issuance of common stock to parent for cash and
contribution of Hudson RCI AB Stock (see Note 2)........... 2,231 28,623 - - 28,623
Foreign currency translation loss............................ - - (398) - (398)
Pay-in-kind preferred stock dividends........................ - - - (3,911) (3,911)
Net loss..................................................... - - - (1,228) (1,228)
-------- ------- ------- --------- ---------
BALANCE, December 31, 1999.................................... 10,044 92,158 (862) (105,945) (14,649)
Issuance of common stock to parent for cash.................. 343 6,000 - - 6,000
Foreign currency translation loss............................ - - (289) - (289)
Pay-in-kind preferred stock dividends........................ - - - (4,640) (4,640)
Net loss..................................................... - - - (9,197) (9,197)
-------- ------- ------- --------- ---------
BALANCE, December 31, 2000.................................... 10,387 $98,158 $(1,151) $(119,782) $ (22,775)
======== ======= ======= ========= =========
The accompanying notes are an integral part of these consolidated financial
statements.
F-24
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
For the Years Ended
---------------------------------------------------
December 25, December 31, December 31,
1998 1999 2000
---- ---- ----
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss............................................................. $ (70,185) $ (1,228) $ (9,197)
Adjustments to reconcile net loss to net cash (used in) provided by
operating activities--
Depreciation and amortization.................................... 6,101 8,315 11,719
Amortization/write-off of deferred financing costs and other..... 1,119 1,374 991
Loss (gain) on disposal of equipment............................. 14 (5) 9
Change in deferred tax asset..................................... 6,735 1,385 (161)
Changes in operating assets and liabilities:
Accounts receivable.............................................. (4,547) (2,701) 2,118
Inventories...................................................... (1,411) (2,865) (12,351)
Other current assets............................................. 437 (1,194) 2,780
Other assets..................................................... 247 13 (966)
Accounts payable................................................. 2,482 (741) 14,152
Accrued liabilities.............................................. 1,687 4,277 1,008
Management bonus accrual......................................... (20,000) - -
Other current liabilities........................................ - 1,426 1,522
Other non-current liabilities.................................... - (959) -
Accrued equity participation plan (EPP).......................... 83,939 - -
Payment of EPP liabilities and retention bonuses................. (89,642) - -
--------- -------- --------
Net cash (used in) provided by operating activities......... (83,024) 7,097 11,624
--------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment........................... (3,111) (10,973) (11,329)
Proceeds from sale of property, plant and equipment.................. 18 23 4
(Advances) collections on notes receivable and other................. - (200) 2,384
Acquisition of certain assets of Gibeck, Inc......................... (3,351) - -
Acquisition of certain assets of Medimex............................. - (2,168) -
Acquisition of certain assets of Tyco................................ - (23,750) (18,000)
Acquisition of Louis Gibeck AB stock, net of cash acquired of
$8,208............................................................ - (38,750) -
--------- -------- --------
Net cash used in investing activities....................... (6,444) (75,818) (26,941)
--------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of notes payable to bank................................... (43,250) (17,355) (5,500)
Proceeds from bank borrowings........................................ 67,000 59,376 12,961
Additions to deferred financing costs................................ (12,918) - -
Redemption of stockholder interest................................... (127,623) - -
Proceeds from senior subordinated notes payable...................... 115,000 - -
Proceeds from note payable to affiliate.............................. - 22,000 2,758
Repayment of note payable to affiliate............................... - (14,492) -
Net proceeds from sale of common and mandatorily-redeemable
preferred stock, net of transaction costs........................... --------- -------- --------
91,415 22,000 6,000
--------- -------- --------
Net cash provided by financing activities................... 89,624 71,529 16,219
--------- -------- --------
Effect of exchange rate changes on cash............................... (119) (398) (289)
NET INCREASE IN CASH.................................................. 37 2,410 613
CASH, beginning of year............................................... 470 507 2,917
--------- -------- --------
CASH, end of year..................................................... $ 507 $ 2,917 $ 3,530
========= ======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
F-25
For the Years Ended
-----------------------------------------------------------
December 25, December 31, December 31,
1999 1999 2000
---- ---- ----
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION:
Cash paid during the year for--
Interest.......................................................... $ 8,742 $ 15,333 $ 17,726
============== ============== =============
Income taxes...................................................... $ 1,699 $ 27 $ 898
============== ============== =============
DETAILS OF ACQUISITIONS (Note 2):
Acquisition price................................................... $ $3,351 $79,499 $ 18,000
Less:
Common stock issued for acquisition............................... - (6,623) -
Cash acquired..................................................... - (8,208) -
-------------- -------------- -------------
Net cash paid for acquisitions.............................. $ $3,351 $ 64,668 $ 18,000
============== ============== =============
NON-CASH OPERATING ACTIVITIES:
Net income includes approximately $2,825,000 and $1,199,000 of non-cash
expense related to the recognition of the portion of the purchase price
allocation related to acquired inventories in 1999 and 2000, respectively.
NON-CASH FINANCING ACTIVITIES:
The Company satisfies its preferred dividend requirements by the issuance of
additional shares of preferred stock. Such accrued dividend requirements
totaled $9,765,000 from the date of issuance of the preferred stock through
December 31, 2000; preferred stock with an approximate face value of
$1,801,000 was issued in 1998, $3,757,000 was issued in 1999, $4,207,000 was
issued in 2000.
The Company issued common stock to its parent in partial consideration for the
contribution of Hudson RCI AB stock (see Note 2).
The accompanying notes are an integral part of these consolidated financial
statements.
F-26
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2000
1. Company Background
Hudson Respiratory Care Inc. ("Hudson" or the "Company"), a California
corporation founded in 1945, is a manufacturer and marketer of disposable
medical products utilized in the respiratory care and anesthesia segments of the
domestic and international health care markets. The Company is a wholly-owned
subsidiary of River Holding Corp., a Delaware corporation ("River"). River has
no operations of its own, except the Company. The Company's respiratory care and
anesthesia product lines include such products as oxygen masks, humidification
systems, nebulizers, cannulae and tubing. In the United States, the Company
markets its products to a variety of health care providers, including hospitals
and alternate site service providers such as outpatient surgery centers, long-
term care facilities, physician offices and home health care agencies.
Internationally, the Company sells its products to distributors that market to
hospitals and other health care providers. The Company's products are sold to
distributors and alternate site service providers throughout the United States
and internationally. The Company's respiratory product operations are conducted
from its primary facility in Temecula, California, facilities in Arlington
Heights and Elk Grove, Illinois, and a facility in Ensenada, Mexico. The
Company's anesthesia product operations are conducted from facilities located
principally in Sweden and Malaysia, which were acquired in July 1999 (see Note
2).
Recapitalization
In April 1998, the Company consummated a plan pursuant to which a majority
interest in the Company was sold in accordance with an agreement and plan of
merger (the "Recapitalization").
Key components of the Recapitalization included:
(1) Common and preferred equity investments in consideration for an 80.8%
ownership in the Company's common stock and preferred stock with an
initial liquidation preference of $30.0 million
(2) Issuance of 9-1/8% senior subordinated notes with a par value of $115.0
million, maturing in 2008 (see Note 5)
(3) Execution of a new term loan facility and revolving loan facility (see
Note 5)
(4) Repayment of existing indebtedness
(5) Payment of amounts due under the Equity Participation Plan (see Note
10)
(6) Payment for common shares acquired from the existing shareholder; this
shareholder retained a 19.2% interest in the common shares
outstanding
(7) Potential contingent payments based on 1998 performance, payable to the
continuing shareholder and former participants in the Equity
Participation Plan; however, as a result of the Company's 1998
performance, no additional amounts were due.
The Company has terminated the Equity Participation Plan and has adopted an
executive stock purchase plan. Additionally, Hudson's sole shareholder prior to
the Recapitalization, who owned the remaining 21.0% of Industrias Hudson
("Industrias"), a subsidiary of the Company, transferred this interest to the
Company in consideration of one dollar. Because of the commonality of ownership,
the 21.0% minority interest has been included in the financial statements for
all periods presented.
The Company effected a 245:1 stock split concurrent with the
Recapitalization. The stock split has been reflected in the stock amounts shown
herein for all periods presented.
F-27
The Recapitalization resulted in no change to the carrying amounts of the
Company's existing assets and liabilities. The Company recorded a deferred tax
asset due to the conversion from S to C corporation status and a tax election to
revalue the basis of assets and liabilities for tax purposes.
2. Acquisitions
Gibeck, Inc.
During 1998, the Company acquired certain assets of Gibeck Inc. ("Gibeck"),
a subsidiary of Louis Gibeck AB, for a cash purchase price of $3.4 million.
Gibeck engages primarily in the business of manufacturing, marketing, and
selling custom anesthesia circuits. The acquisition was accounted for as a
purchase and the purchase price was allocated as follows (amounts in thousands):
Goodwill..................................... $ 1,817
Inventory.................................... 871
Machinery and equipment...................... 663
----------
$ 3,351
==========
Hudson RCI AB
On July 22, 1999, the Company acquired substantially all of the outstanding
capital stock of Hudson RCI AB (formerly Louis Gibeck AB or "LGAB") and
subsidiaries, a Swedish company engaged primarily in the business of
manufacturing, marketing and selling respiratory and anesthesia equipment. The
purchase price was approximately $53.6 million, which included cash
consideration of approximately $45.5 million (including approximately $8.2
million of cash acquired), a non-cash contribution of shares of common stock of
River of $6.6 million and transaction expenses of approximately $1.5 million.
The acquisition was funded with (i) a $22.0 million common stock sale to
the Company's existing majority shareholder, (ii) a $22.0 million, 12.0% per
annum unsecured note payable to an affiliate of the Company's existing majority
shareholder due August 1, 2006 and (iii) a $5.9 million unsecured bank loan
bearing interest at the bank's reference rate plus 1/4% per annum due July 30,
2006.
The acquisition of Hudson RCI AB was accounted for as a purchase and the
purchase price was allocated based upon management's estimate of the assets
acquired and liabilities assumed as follows (amounts in thousands):
Cash......................................... $ 8,208
Accounts receivable.......................... 1,823
Inventories.................................. 5,161
Fixed assets................................. 1,206
Other assets................................. 2,939
Current liabilities.......................... (4,856)
Non-current liabilities...................... (4,123)
Goodwill..................................... 43,223
---------
$ 53,581
=========
F-28
Had this acquisition and the acquisition of certain assets of Gibeck, Inc.
occurred at the beginning of 1998 and 1999, the unaudited pro forma net sales,
net loss before extraordinary item and net loss would be as follows (amounts in
thousands):
Year Ended
--------------------------------
December 25, December 31,
1998 1999
---- ----
Net sales.................................... $ 122,819 $ 139,494
Net loss before extraordinary item.. ........ (66,344) (1,949)
Net loss..................................... (66,448) (1,949)
Goodwill related to the Hudson RCI AB acquisition is being amortized
over a period of 20 years.
Acquisition of Product Lines
On November 8, 1999, the Company acquired certain assets of Tyco Healthcare
Group LP ("Tyco"), including Tyco's incentive breathing exerciser and pulmonary
function monitor product lines, for a cash purchase price of approximately $23.8
million.
On October 28, 2000, the Company acquired certain assets of Tyco, including
Tyco's Sheridan endotracheal tube for a cash purchase price of approximately
$18.0 million.
3. Summary of Significant Accounting Policies
Principles of Consolidation
The accompanying consolidated financial statements include the accounts of
Hudson and its wholly-owned subsidiaries. All significant intercompany account
balances and transactions have been eliminated in consolidation. Hudson and its
wholly-owned subsidiaries are collectively referred to herein as the Company.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
certain estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities as of the date
of the consolidated financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ from those
estimates.
Inventories
Inventories are stated at the lower of cost (first-in, first-out (FIFO)
method) or market. At December 31, 1999 and December 31, 2000, inventories
consisted of the following (amounts in thousands):
1999 2000
---- ----
Raw materials......................... $ 5,901 $ 8,134
Work-in-process....................... 5,682 6,591
Finished goods........................ 12,460 29,885
----------- ----------
$ 24,043 $ 44,610
=========== ==========
F-29
Raw materials principally consist of bulk resins. Work-in-process and
finished goods include raw materials, labor and overhead costs. Certain
finished goods are purchased for resale and are not manufactured.
Foreign Currency Translation
The Company uses the local currency as the functional currency of its
operating subsidiaries. Accordingly, all assets and liabilities outside the
United States are translated into U.S. dollars at the rate of exchange in effect
at the balance sheet date. Income and expense items are translated at the
weighted-average exchange rate prevailing during the period.
Beginning in the second quarter of 1998, the Company commenced using the
U.S. dollar as the functional currency of its Mexican operations since Mexico
was considered a highly inflationary economy. Management believes that the
effect of not using the U.S. dollar as the functional currency from January 1,
1997 was not material to the financial statements. Beginning in January 1999,
Mexico was no longer considered a highly inflationary economy and, accordingly,
the Company resumed using the Mexican Peso as the functional currency.
Revenue Recognition
The Company recognizes revenue when product is shipped. The Company
establishes reserves for sales returns and other allowances based on historical
experience. The Company's policy is to provide a reserve for estimated
uncollectable trade accounts receivable. During 2000, the Company provided
approximately $3.5 million for such accounts.
Income Taxes
The Company applies the asset and liability method in recording income
taxes, under which deferred income tax assets and liabilities are determined,
based on the differences between the financial reporting and tax bases of assets
and liabilities and are measured using currently enacted tax rates and laws.
Additionally, deferred tax assets are evaluated and a valuation allowance is
established if it is more likely than not that all or a portion of the deferred
tax asset will not be realized.
Fiscal Year-End
The Company reported its operations on a 52-53 week fiscal year ending on
the Friday closest to December 31 for the fiscal years ended December 25, 1998
and December 31, 1999. Beginning in 2000, the Company adopted calendar year
reporting, with the year ending on December 31, 2000.
New Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," as amended by
SFAS No. 137 and SFAS No. 138, effective for fiscal years beginning after June
15, 2000. SFAS No. 133 establishes accounting and reporting standards for
derivative instruments. The statement requires that every derivative instrument
be recorded in the balance sheet as either an asset or liability measured at its
fair value, and that changes in the derivative's fair value be recognized
currently in earnings unless specific hedge accounting criteria are met. The
impact of adoption was not material to the financial statements.
During the second quarter of fiscal year 2000, Emerging Issues Task Force
(EITF) No. 00-10 "Accounting for Shipping and Handling Fees and Costs" was
issued. EITF No. 00-10 clarifies the accounting treatment and classification of
the Company's delivery revenues and expenses. The adoption of this EITF only
affects the classification of certain revenues and costs related to delivery
services and does not affect the Company's net loss. Delivery costs include
direct and incremental costs incurred to warehouse and move product to the
Company's customers. Since the Company records freight costs associated with
delivery of product to customers as a component of cost of sales and warehousing
costs as distribution expenses management believes the Company is in compliance
with this pronouncement.
F-30
During December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements." SAB
No. 101 summarizes certain of the SEC's views in applying generally accepted
accounting principles to revenue recognition in financial statements. Management
believes the Company is in compliance with this pronouncement.
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 141, "Business Combinations"
("SFAS 141"). This Statement addresses financial accounting and reporting for
business combinations and supersedes APB Opinion No. 16, "Business
Combinations," and FASB Statement No. 38, "Accounting for Preacquisition
Contingencies of Purchased Enterprises." All business combinations in the scope
of this Statement are to be accounted for using one method, the purchase method.
The Company will adopt SFAS 141 for all business combinations initiated after
June 30, 2001.
Also in June 2001, the FASB issued Statement of Financial Accounting
Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"). SFAS
142 addresses financial accounting and reporting for acquired goodwill and other
intangible assets and supersedes APB Opinion No. 17, "Intangible Assets." This
pronouncement addresses, among other things, how goodwill and other intangible
assets should be accounted for after they have been initially recognized in the
financial statements. Goodwill would no longer be amortized but would be
assessed at least annually for impairment using a fair value methodology. The
Company will adopt this statement for all goodwill and other intangible assets
acquired after June 30, 2001 and for all existing goodwill and other intangible
assets beginning January 1, 2002. Upon adoption of this standard on January 1,
2002 The Company will cease recording amortization of goodwill which would
increase net income in 2002 by approximately $2.8 million, net of income taxes.
Other than ceasing the amortization of goodwill, The Company does not anticipate
that the adoption of SFAS 142 will have a significant effect on our financial
position or the results of our operations as The Company does not currently
anticipate any impairment charges for existing goodwill.
Reclassifications
Certain reclassifications have been made in the 1998 and 1999 statements to
conform to the 2000 presentation.
4. Preferred Stock
In connection with the Recapitalization, the Company issued 300,000 shares
of mandatorily-redeemable 11-1/2% senior exchangeable pay-in-kind ("PIK")
preferred stock due 2010. Net proceeds from the original issuance were $29.0
million. Dividends are payable semi-annually in arrears on April 15 and October
15 each year. Dividends will be payable in cash, except on dividend payment
dates occurring on or prior to April 15, 2003, for which the Company has the
option to issue additional shares of preferred stock (including fractional
shares) having an aggregate liquidation preference equal to the amount of such
dividends. The preferred stock will rank junior in right of payment to all
obligations of the Company and its subsidiaries.
The Company issued PIK preferred stock with a liquidation preference of
approximately $3,757,000 and $4,207,000 to satisfy the dividend requirements in
1999 and 2000, respectively. As of December 31, 1999 and December 31, 2000 the
Company accrued for PIK preferred stock dividends in the amount of $863,000 and
$1,018,000, respectively.
5. Long-Term Debt Obligations
Summary of Amounts Outstanding
F-31
The Company's long-term debt obligations as of December 31, 1999 and
December 31, 2000 consist of the following (amounts in thousands):
1999 2000
---- ----
Borrowings under revolving credit facility..... $ 36,600 $ 53,000
Term loan payable to domestic banks............ 35,000 29,500
Term and revolving loan payable to Swedish
bank.......................................... 17,586 14,148
Senior subordinated notes...................... 115,000 115,000
Note payable to affiliate...................... 7,508 10,266
----------- -----------
211,694 221,914
Less--current portion.......................... (6,673) (12,686)
----------- -----------
Long-term debt................................. $ 205,021 $ 209,228
=========== ===========
Credit Facility
In connection with the Recapitalization, the Company entered into a new
credit agreement (the Credit Facility) with a bank group, which provides for
borrowings of up to $100.0 million. This agreement consists of two separate
facilities as follows:
1.) Revolving credit--maximum borrowings of $60.0 million with a letter of
credit sub-limit of $7.5 million. This facility must be prepaid upon
payment in full of the Term Loan facility.
2.) Term loan--maximum borrowings of $40.0 million with quarterly
installments to be made through maturity.
Interest on the Credit Facility is based, at the option of the Company,
upon either a eurodollar rate (as defined) plus 2.25%, or a base rate (as
defined) plus 1.25% per annum. A commitment fee of 0.50% per annum is charged on
the unused portion of the Credit Facility.
The following summarizes interest rate data on the Credit Facility as of
December 31, 1999 and 2000:
1999 2000
---- ----
Revolving credit facility rate................. 8.5625% to 9.563%
10.0%
Term loan facility rate........................ 8.75% 9.250%
Total borrowings as of December 31, 2000 were $53.0 million and $29.5
million under the Revolving Credit Facility and Term Loan Facility,
respectively. The Credit Facility will mature on April 7, 2004.
The agreement provides the bank a first security interest in substantially
all of the properties and assets of the Company and a pledge of 65.0% of the
stock of Industrias, a wholly-owned subsidiary of the Company. The agreement
also requires the Company to maintain certain financial ratios and financial
covenants, as defined in the agreement, the most restrictive of which and among
other restrictions, prohibit additional indebtedness and limit dividend payments
to the Company's stockholders. The Credit Facility is guaranteed by the
Company's parent.
As of December 31, 2000, the Company had available credit under the
Revolving Loan Facility in the amount of $7.0 million ($5.0 million of which is
restricted for use on future acquisitions). No additional borrowing is available
under the Term Loan Facility.
The Company is required under restrictive covenants of the Credit Facility
Agreement to maintain certain financial ratios, and meet certain operating cash
flow tests for which the Company was not in compliance as of December 31, 2000
(see Note 15).
Senior Subordinated Notes
F-32
Also related to the Recapitalization, the Company issued under an Indenture
$115.0 million of senior subordinated notes (the "Notes"). The Notes are fully
transferable and are general unsecured obligations of the Company, subordinated
in right of payment to all existing and future senior debt, as defined, of the
Company.
The Notes bear interest at a rate equal to 9-1/8% per annum from the date
of issuance of the Notes. Interest is payable semi-annually on April 15 and
October 15 of each year, commencing October 15, 1998. The Notes will mature on
April 15, 2008 and will be redeemable at the option of the Company, in whole or
in part, on or after April 15, 2003. The Notes are guaranteed by Industrias.
The fair value of the Company's senior subordinated notes at December 31,
2000 was approximately $69.0 million. The fair value is estimated based on the
quoted market prices for issues listed on exchanges and is not intended to, and
does not, represent the underlying fair value of the Company. Subsequent to
December 31, 2000, the Company was in default of certain financial reporting
requirements to the noteholders. Management believes that it has cured this
default.
Note Payable to Affiliate
In connection with the acquisition of Hudson RCI AB during 1999, the
Company borrowed $22.0 million under an unsecured 12% note payable to an
affiliate of the Company's existing majority stockholder. The note is due August
1, 2006. During 1999, the Company paid approximately $14.5 million in principal
on the note. During 2000, the Company Borrowed an additional $2 million from
the existing majority shareholder under an unsecured 14% note payable due on
demand.
Bank Notes Payable
The Company has bank borrowings of $14.1 million outstanding at December
31, 2000, which are denominated in Swedish Krona. The borrowings bear interest
at the 3-month STIBOR plus 0.75% to 1.75% (4.884% to 5.884% at December 31,
2000), are due December 21, 2003 and are secured by the common stock of Hudson
RCI AB.
Future Debt Principal Payments
As of December 31, 2000, future debt principal payments on the
aforementioned debt are as follows (amounts in thousands):
Fiscal Year Ending:
-------------------
2001....................................................... $ 10,686
2002....................................................... 11,444
2003....................................................... 13,444
2004....................................................... 55,944
2005....................................................... 5,130
Thereafter................................................. 125,266
--------
$221,914
========
6. Detail of Selected Balance Sheet Accounts
Property, Plant and Equipment
The following is a summary as of December 31, 1999 and December 31, 2000
(amounts in thousands):
1999 2000
-------- --------
Land........................................... $ 2,044 $ 2,044
Buildings...................................... 15,078 15,875
Leasehold improvements......................... 1,322 1,322
Machinery, equipment and purchased software.... 65,667 90,789
Furniture and fixtures......................... 4,227 2,883
-------- --------
88,338 112,913
Less -- Accumulated depreciation and (57,740) (64,556)
amortization.................................. -------- --------
30,598 48,357
F-33
Equipment installation in progress............. 8,481 268
ERP software installation in progress.......... 3,397 800
-------- --------
Property and equipment, net.................... $ 42,476 $ 49,425
======== ========
Depreciation of property, plant and equipment is provided using the
straight-line method over the following estimated useful lives:
Buildings...................................... 31.5 years
Leasehold improvements......................... Lesser of the useful life or lease term
Machinery, equipment and purchased software.... 5 to 7 years
Furniture and fixtures......................... 3 to 7 years
Upon retirement or disposal of depreciable assets, the cost and related
accumulated depreciation are removed and the resulting gain or loss is reflected
in income from operations. Major renewals and betterments are capitalized while
maintenance costs and repairs are expensed in the year incurred. ERP software
installation costs are capitalized in accordance with Statement of Position
("SOP") 98-1, "Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use." The Company implemented the new ERP system on April
1, 2000.
Total depreciation expense related to property, plant and equipment and
amortization expense related to intangible and other assets was $6,101,000,
$8,315,000 and $11,719,000 for the years ended December 25, 1998, December 31,
1999 and December 31, 2000, respectively.
Intangible Assets and Deferred Financing Costs, net
Amortization of intangible assets is provided using the straight-line
method over the applicable amortization period. During 1999, the Company wrote-
off certain fully-amortized patents. The following is a summary of the
components of intangible assets as of December 31, 1999 and December 31, 2000
(amounts in thousands):
Useful lives 1999 2000
-------------------- ------- -------
Covenant not-to-compete....................................... 5 to 7 years $ 3,500 $ 3,500
Patents....................................................... 15 years 472 68
Goodwill...................................................... 15 to 20 years 67,834 69,927
Other......................................................... 5 to 20 years 133 133
------- -------
71,939 73,628
Less -- Accumulated amortization.............................. (4,969) (6,055)
------- -------
$66,970 $67,573
======= =======
Deferred financing costs are amortized using the straight-line method over
the period of the related debt.
Management reviews Goodwill on a regular basis for possible impairment.
Management knows of no factors at December 31, 2000 which may affect the
impairment recorded of long-lived assets.
F-34
Accrued Liabilities and Accounts Payable
Accrued liabilities consisted of the following as of December 31, 1999 and
December 31, 2000 (amounts in thousands):
1999 2000
------- -------
Interest....................................... $ 4,162 $ 3,605
Payroll and related............................ 4,095 4,224
Vacation....................................... 1,509 1,824
Pension........................................ 1,353 1,767
Medical self-insurance......................... 577 569
Other.......................................... 4 718
------- -------
$11,700 $12,707
======= =======
Accounts payable includes a book overdraft of approximately $0.9 million
and $1.2 million at December 31, 1999 and 2000.
7. Commitments and Contingencies
The Company leases certain facilities, automobiles and office equipment
under noncancellable leases, with the majority of the automobile leases having a
term of one year with annual renewal provisions. All of these leases have been
classified as operating leases.
As of December 31, 2000, the Company had future obligations under operating
leases as follows (amounts in thousands):
Fiscal Year Ending:
-------------------
2001........................................... $ 2,534
2002........................................... 2,290
2003........................................... 2,099
2004........................................... 1,914
2005........................................... 1,378
Thereafter 4,023
-------
$14,238
=======
Rental expense was approximately $1,506,000, $2,052,000 and $3,115,000 in
fiscal 1998, 1999 and 2000, respectively.
The Company self-insures the majority of its medical benefit programs.
Reserves for losses totaling approximately $577,000 and $569,000 at December 31,
1999 and December 31, 2000, respectively, were established based upon estimated
obligations and are included in accrued liabilities in the accompanying balance
sheets. The Company maintains excess coverage on an aggregate claim basis.
The Company is party to lawsuits and other proceedings, including suits
relating to product liability and patent infringement. While the results of such
lawsuits and other proceedings cannot be predicted with certainty, management
does not expect that the ultimate liabilities, if any, will have a material
adverse effect on the financial position or results of operations of the
Company.
8. Income Taxes
Effective November 1, 1987, the stockholder of Hudson elected S corporation
status under the Internal Revenue Code, such that income of the Company is taxed
directly to the stockholder for both federal and state income tax purposes.
Hudson's provision for income taxes and income taxes payable was limited to the
California S corporation tax of 1.5%.
The Company became a C corporation upon consummation of the transaction
discussed in Note 1. Accordingly, the Company has presented pro forma net income
(loss) amounts to reflect a provision for income taxes at a combined effective
rate
F-35
of approximately 39% in 1998, after consideration of permanent differences
between financial reporting and income tax amounts. The pro forma amounts
presented do not include the one-time effect of the conversion to C corporation
status reflected in the 1998 financial statements. During 1999, the Company
revised its estimate of the combined effective income tax rate to approximately
40%.
The actual provision for income taxes for 1998 reflects that the Company
was a C corporation for a portion of the period presented. The conversion from S
to C corporation status and the related Section 338(h)(10) election to increase
the tax bases of assets in connection with the Recapitalization resulted in a
one-time net benefit of $77,064,000 in the second quarter of 1998 which was
recorded directly to retained earnings.
From the date of the Recapitalization, the Company is included in the
consolidated income tax returns of its parent. The Company provides for income
taxes on a stand-alone basis in accordance with the asset and liability method
pursuant to an informal tax-sharing agreement.
During the fourth quarter of 1998, management evaluated the Company's
subsequent actual performance relative to certain budget projections which were
originally used to evaluate the realizability of the deferred tax asset
established at the time of the Recapitalization. Based upon this assessment,
management provided a valuation allowance of $8,477,000 in the fourth quarter to
reduce the deferred tax asset to an amount that management believes are more
likely than not to be realizable. This change in estimate was included in the
deferred tax provision for the year ended December 25, 1998.
The effective tax rate for 1998, 1999 and 2000 consists of the following
(amounts in thousands):
1998 1999 2000
------ ------ ------
Income taxes at combined statutory rate of approximately 40%............... $(24,094) $ 143 $(2,398)
Domestic losses not benefited.............................................. 24,022 - 2,730
Foreign taxes.............................................................. - 1,443 2,871
Valuation allowance........................................................ 8,477 - -
-------- ------ -------
$ 8,405 $1,586 $ 3,203
======== ====== =======
The provision (benefit) for income taxes consists of the following (amounts
in thousands):
United States Foreign Total
------------- ------- -----
2000
Current....................................................... $ - $ 3,203 $ 3,203
Deferred...................................................... - - -
--------- -------- --------
$ - $ 3,203 $ 3,203
========= ======== ========
1999
Current....................................................... $ - $ 340 $ 340
Deferred...................................................... 1,724 (478) 1,246
--------- -------- --------
$ 1,724 $ (138) $ 1,586
========= ======== ========
1998
Current....................................................... $ - $ - $ -
Deferred...................................................... 8,405 - 8,405
--------- -------- --------
$ 8,405 $ - $ 8,405
========= ======== ========
The 1998 tax provision results primarily from the valuation allowance
discussed previously. As of December 31, 2000, the Company has recorded a net
deferred tax asset of approximately $69.0 million primarily related to basis
differences between financial reporting and tax purposes arising from the
Section 338(h)(10) election to increase the tax bases of assets in connection
with the Recapitalization (see Note 1), which in management's opinion is more
likely than not to be realized. As of December 31, 2000, the Company had a
United States net operating loss carryforward of approximately $34.0 million.
F-36
The components of the deferred tax asset as of December 31, 1999 and
December 31, 2000 are (amounts in thousands):
1999 2000
------- -------
Basis differences arising from Section 338(h)(10)
election............................................... $68,873 $66,933
Net operating loss carryforwards........................ 10,640 11,927
Other................................................... (2,093) (1,278)
------- -------
77,420 77,582
Valuation allowance..................................... (8,477) (8,477)
------- -------
$68,943 $69,105
======= =======
9. Related-Party Transactions
Amounts included in the consolidated financial statements with respect to
transactions with companies controlled by officers, the stockholders or members
of their immediate families are as follows (amounts in thousands):
December 25, December 31, December 31,
1998 1999 2000
---- ---- ----
Purchases..................................................... $ 128 $ - $ -
========= =========== =========
Notes and advances receivable................................. $ 91 $ 7,608 $10,366
========= =========== =========
10. Deferred Compensation and Benefit Plans
Pension Plan
The Company has a defined-contribution pension plan covering substantially
all its employees. Amounts charged to expense relating to this plan totaled
approximately $810,000, $972,000 and $914,000 for the fiscal years ended 1998,
1999 and 2000, respectively.
Deferred Compensation
Effective December 1, 1994, the Company established a deferred compensation
plan for certain key employees. As of December 31, 2000 no material amount of
compensation has been deferred.
Equity Participation Plan
Effective January 1, 1994, the Company's Board of Directors adopted the
Equity Participation Plan, as amended (the "Plan"). This Plan provided certain
key employees and independent contractors deferred compensation based upon the
Company's value, as defined in the agreement. Benefits earned by participants
were based upon a formula with a specified minimum benefit accruing each year
for each participant, and benefits were accrued and charged to compensation in
the year earned. As of the fiscal year ended 1998, the Company recorded
$68,693,000 related to amounts earned by the Plan participants.
In fiscal 1998, the Company declared bonuses totaling $20.0 million that
resulted in a corresponding decrease in amounts payable under the Plan. The
effect of the bonuses was to accelerate the timing of payments to the
participants.
Effective with the Recapitalization, all amounts owed to participants were
paid out and the plan was terminated. Total amounts paid in 1998 were
$89,642,000.
11. Extraordinary Item
F-37
In accordance with the Recapitalization, the Company recorded an
extraordinary loss on the extinguishment of the existing debt related to the
write-off of unamortized deferred finance fees of $104,000 in 1998.
12. Geographic, Segment and Major Customer Information
The Company presents segment information externally the same way management
uses financial data internally to make operating decisions and assess
performance. The Company also reports information about the revenues derived
from the enterprise's products or services (or groups of similar products and
services), about the countries in which the enterprise earns revenues and holds
assets and about major customers regardless of whether that information is used
in making operating decisions.
As discussed in Note 14, the non-guarantor subsidiaries consist principally
of Hudson RCI AB and subsidiaries (whose operations are principally
international). The Company operates in two segments: United States operations
and international operations. The financial data of these two segments closely
approximates the guarantor/non-guarantor information set forth in Note 14 and,
accordingly, no additional segment data has been provided.
The Company sells respiratory care products to distributors and medical
facilities throughout the United States and internationally. During 1998, 1999
and 2000, the Company had foreign sales of approximately $20,148,000,
$28,497,000 and $31,383,000 respectively, which constituted approximately 20.0%,
22.1% and 19.7% of total sales, respectively.
F-38
The Company's percentage of sales by geographic region for the fiscal years
ended 1998, 1999 and 2000 are as follows:
1998 1999 2000
---- ---- ----
Domestic...................................................... 79.9% 77.9% 80.3%
Europe........................................................ 7.8 10.1 9.0
Pacific Rim (Japan, Southeast Asia, Australia/New Zealand).... 6.2 6.1 5.8
Canada........................................................ 2.0 1.9 1.6
Other international........................................... 4.1 4.0 3.3
----- ----- -----
100.0% 100.0% 100.0%
===== ===== =====
The following summarizes the net book value of fixed assets at the
respective locations as of December 31, 1999 and December 31, 2000 (amounts in
thousands):
December 31, December 31,
1999 2000
------------ ------------
Ensenada, Mexico......................................... $ 1,134 $ 1,137
Stockholm, Sweden........................................ 342 291
Kuala Lumpur, Malaysia................................... 741 672
United States............................................ 40,259 47,325
------- -------
$42,476 $49,425
======= =======
For the fiscal years ended 1998, 1999 and 2000, the Company had sales to
one domestic distributor in the amount of $24,940,000, $24,491,000 and
$32,184,000 which represented approximately 24.8%, 19.0% and 20.2% of sales,
respectively. Additionally, the Company had sales to another domestic
distributor of $14,775,000 and $16,936,000, that accounted for approximately
11.5% and 10.6% of sales in 1999 and 2000, respectively.
13. Unaudited Consolidated Quarterly Data
1998 Quarters Ended
-------------------------------------------------
March 27 June 26 September 25 December 25
-------- --------- ------------- ------------
Net sales................................................. $24,265 $ 22,432 $22,130 $31,671
Gross profit.............................................. 10,431 9,600 9,843 13,822
Income (loss) before extraordinary item................... 1,498 (66,623) (243) (4,713)
Net income (loss)......................................... 1,498 (66,727) (243) (4,713)
1999 Quarters Ended
-------------------------------------------------
March 26 June 25 September 24 December 31
-------- -------- ------------- ------------
Net sales................................................. $27,169 $27,274 $30,827 $43,533
Gross profit.............................................. 11,389 11,414 12,185 18,397
Income (loss) before extraordinary item................... 281 327 (1,554) (282)
Net income (loss)......................................... 281 327 (1,554) (282)
2000 Quarters Ended
------------------------------------------------
March 31 June 30 September 30 December 31
-------- --------- ------------ ------------
Net sales................................................. $40,807 $31,811 $41,111 $ 45,549
Gross profit.............................................. 18,304 16,986 21,524 17,541
Income (loss) before extraordinary item................... 1,599 (385) 1,662 (12,073)
Net income (loss)......................................... 1,599 (385) 1,662 (12,073)
F-39
14. Subsidiaries Debt Guarantee and Segment Data
The Company is the 100% owner of certain subsidiaries, which do not
guarantee the Company's senior subordinated notes. The non-guarantor
subsidiaries consist principally of the assets, liabilities and operations of
Hudson RCI AB and subsidiaries. The following tables disclose the required
consolidating financial information for the guarantor, including the Company,
and non-guarantor subsidiaries (amounts in thousands):
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
GUARANTOR AND NON-GUARANTOR SUBSIDIARIES
CONSOLIDATING BALANCE SHEET
As of December 31, 1999
---------------------------------------------------
Non-
Guarantor Guarantor Adjustments Total
--------- --------- ----------- -----
ASSETS
CURRENT ASSETS:
Cash..................................................... $ 184 $ 2,733 $ - $ 2,917
Accounts receivable...................................... 28,329 2,096 - 30,425
Inventories.............................................. 21,124 4,065 (1,146) 24,043
Other current assets..................................... 4,578 16,673 (16,639) 4,612
-------- ------- -------- --------
Total current assets................................... 54,215 25,567 (17,785) 61,997
PROPERTY, PLANT AND EQUIPMENT, net........................ 41,335 1,141 - 42,476
OTHER ASSETS:
Intangible assets, net................................... 22,770 44,200 - 66,970
Deferred financing costs, net............................ 10,749 385 - 11,134
Deferred tax asset....................................... 68,600 223 120 68,943
Investment in non-guarantor subsidiaries................. 29,245 - (29,245) -
Other assets............................................. 833 162 (696) 299
-------- ------- -------- --------
Total other assets..................................... 132,197 44,970 (29,821) 147,346
-------- ------- -------- --------
$227,747 $71,678 $(47,606) $251,819
======== ======= ======== ========
LIABILITIES, MANDATORILY-REDEEMABLE PREFERRED STOCK AND
STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Notes payable to banks................................... $ 5,500 $ 1,173 $ - $ 6,673
Accounts payable......................................... 6,625 1,559 (2,016) 6,168
Accrued liabilities...................................... 8,344 3,356 - 11,700
Other current liabilities................................ 458 10,876 (9,849) 1,485
-------- ------- -------- --------
Total current liabilities.............................. 20,927 16,964 (11,865) 26,026
NOTE PAYABLE TO AFFILIATE................................. - 13,906 (6,398) 7,508
NOTES PAYABLE TO BANKS, net of current portion............ 66,100 16,413 - 82,513
SENIOR SUBORDINATED NOTES PAYABLE......................... 115,000 - - 115,000
-------- ------- -------- --------
Total liabilities...................................... 202,027 47,283 (18,263) 231,047
-------- ------- -------- --------
Mandatorily-redeemable preferred stock.................... 35,421 - - 35,421
STOCKHOLDERS' EQUITY (DEFICIT)............................ (9,701) 24,395 (29,343) (14,649)
-------- ------- -------- --------
$227,747 $71,678 $(47,606) $251,819
======== ======= ======== ========
F-40
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
GUARANTOR AND NON-GUARANTOR SUBSIDIARIES
CONSOLIDATING BALANCE SHEET
As of December 31, 2000
---------------------------------------------------
Non-
Guarantor Guarantor Adjustments Total
--------- -------- ----------- -----
ASSETS
CURRENT ASSETS:
Cash..................................................... $ 437 $ 3,093 $ - $ 3,530
Accounts receivable...................................... 32,665 4,395 (8,753) 28,307
Inventories.............................................. 38,703 7,973 (2,066) 44,610
Other current assets..................................... 6,350 52,467 (56,985) 1,832
-------- -------- -------- --------
Total current assets................................... 78,155 67,928 (67,804) 78,279
PROPERTY, PLANT AND EQUIPMENT, net........................ 48,260 1,165 - 49,425
OTHER ASSETS:
Intangible assets, net................................... 27,719 39,854 - 67,573
Deferred financing costs, net............................ 9,587 - - 9,587
Deferred tax asset....................................... 68,881 224 - 69,105
Investment in non-guarantor subsidiaries................. 29,245 - (29,245) -
Other assets............................................. 294 971 - 1,265
-------- -------- -------- --------
Total other assets..................................... 135,726 41,049 (29,245) 147,530
-------- -------- -------- --------
$262,141 $110,142 $(97,049) $275,234
======== ======== ======== ========
LIABILITIES, MANDATORILY-REDEEMABLE PREFERRED STOCK AND
STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Notes payable to banks................................... $ 7,500 $ 3,186 $ - $ 10,686
-
Accounts payable......................................... 24,758 4,711 (9,149) 20,320
Accrued liabilities...................................... 9,420 3,287 - 12,707
Other current liabilities................................ 1,242 22,764 (20,999) 3,007
-------- -------- -------- --------
Total current liabilities.............................. 42,920 33,948 (30,148) 46,720
NOTES PAYABLE TO AFFILIATE................................ 2,000 8,266 - 10,266
NOTES PAYABLE TO BANKS, net of current portion............ 75,000 10,962 - 85,962
SENIOR SUBORDINATED NOTES PAYABLE......................... 115,000 - - 115,000
OTHER NON-CURRENT LIABILTIES.............................. - 1,095 (1,095) -
-------- -------- -------- --------
Total liabilities...................................... 234,920 54,271 (31,243) 257,948
-------- -------- -------- --------
MANDATORILY-REDEEMABLE PREFERRED STOCK.................... 40,061 - - 40,061
STOCKHOLDERS' EQUITY (DEFICIT)............................ (12,840) 55,871 (65,806) (22,775)
-------- -------- -------- --------
$262,141 $110,142 $(97,049) $275,234
======== ======== ======== ========
F-41
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
GUARANTOR AND NON-GUARANTOR SUBSIDIARIES
CONSOLIDATING STATEMENT OF OPERATIONS
For the Year Ended December 31, 1999
---------------------------------------------------
Guarantor Non-Guarantor Adjustments Total
--------- ------------- ----------- -----
NET SALES............................................................. $121,796 $ 9,500 $(2,493) $128,803
COST OF SALES......................................................... 71,146 6,465 (2,193) 75,418
-------- ------- ------- --------
Gross profit.......................................................... 50,650 3,035 (300) 53,385
-------- ------- ------- --------
OPERATING EXPENSES:
Selling.............................................................. 10,649 2,473 - 13,122
Distribution......................................................... 4,647 - - 4,647
General and administrative........................................... 11,815 1,454 - 13,269
Amortization of goodwill............................................. 416 1,047 - 1,463
Research and development............................................. 1,362 669 - 2,031
-------- ------- ------- --------
Total operating expenses........................................... 28,889 5,643 - 34,532
-------- ------- ------- --------
Income (loss) from operations......................................... 21,761 (2,608) (300) 18,853
OTHER EXPENSES:
Interest expense..................................................... (16,023) (1,240) - (17,263)
Other, net........................................................... (633) (599) - (1,232)
-------- ------- ------- --------
Total other expense................................................ (16,656) (1,839) - (18,495)
-------- ------- ------- --------
Income (loss) before provision (benefit) for income taxes............. 5,105 (4,447) (300) 358
PROVISION (BENEFIT) FOR INCOME TAXES................................. 2,183 (477) (120) 1,586
-------- ------- ------- --------
Net income (loss)..................................................... $ 2,922 $(3,970) $ (180) $ (1,228)
======== ======= ======= ========
Depreciation and amortization (a)..................................... $ 6,531 $ 4,609 $ - $ 11,140
======== ======= ======= ========
Adjusted EBITDA (b)................................................... $ 28,292 $ 2,001 $ (300) $ 29,993
======== ======= ======= ========
______________________________
(a) Includes approximately $2,825,000 of non-cash expense related to the
recognition of the portion of purchase price allocation related to acquired
inventories.
(b) Adjusted EBITDA represents income before depreciation and amortization,
interest expense, income tax expense and recognition of the portion of
purchase price allocation related to acquired inventories. Adjusted EBITDA
is not a measure of performance under accounting principles generally
accepted in the United States, and should not be considered as a substitute
for net income, cash flows from operating activities and other income or
cash flow statement data prepared in accordance with accounting principles
generally accepted in the United States, or as a measure of profitability
or liquidity.
F-42
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
GUARANTOR AND NON-GUARANTOR SUBSIDIARIES
CONSOLIDATING STATEMENT OF OPERATIONS
For the Year Ended December 31, 2000
---------------------------------------------------
Guarantor Non-Guarantor Adjustments Total
--------- ------------- ----------- -----
NET SALES.............................................................. $145,786 $33,536 $(20,044) $159,278
COST OF SALES.......................................................... 87,092 16,875 (19,044) 84,923
-------- ------- -------- --------
Gross profit........................................................... 58,694 16,661 (1,000) 74,355
OPERATING EXPENSES:
Selling............................................................... 12,434 5,828 - 18,262
Distribution.......................................................... 9,566 543 - 10,109
General & Administrative.............................................. 20,659 3,364 - 24,023
Amortization of goodwill.............................................. 1,281 2,039 - 3,320
Research and development.............................................. 1,072 1,315 - 2,387
-------- ------- -------- --------
Total operating expenses............................................ 45,012 13,089 - 58,101
-------- ------- -------- --------
Income (loss) from operations.......................................... 13,682 3,572 (1,000) 16,254
OTHER INCOME AND (EXPENSES):
Interest expense...................................................... (18,506) (2,583) - (21,089)
Other, net............................................................ (205) (556) (398) (1,159)
-------- ------- -------- --------
Total other income (expense)........................................ (18,711) (3,139) (398) (22,248)
-------- ------- -------- --------
Income (loss) before provision (benefit) for income taxes.............. (5,029) 433 (1,398) (5,994)
PROVISION (BENEFIT) FOR INCOME TAXES.................................. - 3,203 - 3,203
-------- ------- -------- --------
Net income (loss)...................................................... $ (5,029) $(2,770) $ (1,398) $ (9,197)
======== ======= ======== ========
Depreciation and amortization (c)...................................... $ 10,450 $ 2,468 $ - $ 12,918
======== ======= ======== ========
Adjusted EBITDA (d).................................................... $ 24,132 $ 6,040 $ (1,000) $ 29,172
======== ======= ======== ========
__________________________
(c) Includes approximately $1,199,000 of non-cash expense related to the
recognition of the portion of purchase price allocation related to acquired
inventories.
(d) Adjusted EBITDA represents income before depreciation and amortization,
interest expense, income tax expense and recognition of the portion of
purchase price allocation related to acquired inventories. Adjusted EBITDA
is not a measure of performance under accounting principles generally
accepted in the United States, and should not be considered as a substitute
for net income, cash flows from operating activities and other income or
cash flow statement data prepared in accordance with accounting principles
generally accepted in the United States, or as a measure of profitability
or liquidity.
F-43
HUDSON RESPIRATORY CARE INC. AND SUBSIDIARIES
GUARANTOR AND NON-GUARANTOR SUBSIDIARIES
CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
For the Year Ended December 31, 1999
-------------------------------------
Guarantor Non-Guarantor Total
--------- ------------- -----
Net cash provided by operating activities.................................... $ 6,108 $ 989 $ 7,097
Net cash used in investing activities........................................ (34,928) (40,890) (75,818)
Net cash provided by financing activities.................................... 28,197 43,332 71,529
Effect of exchange rate changes on cash...................................... - (398) (398)
-------- -------- --------
NET INCREASE IN CASH......................................................... (623) 3,033 2,410
CASH, beginning of year...................................................... 507 - 507
-------- -------- --------
CASH, end of year............................................................ $ (116) $ 3,033 $ 2,917
======== ======== ========
For the Year Ended December 31, 2000
----------------------------------------------
Guarantor Non-Guarantor Total
--------- ------------- -----
Net cash provided by operating activities.................................. $ 11,804 $ (180) $ 11,624
Net cash used in investing activities...................................... (29,329) 2,388 (26,941)
Net cash provided by financing activities.................................. 17,778 (1,559) 16,219
Effect of exchange rate changes on cash.................................... - (289) (289)
-------- ------- --------
NET INCREASE IN CASH....................................................... 253 360 613
CASH, beginning of year.................................................... 184 2,733 2,917
-------- ------- --------
CASH, end of year.......................................................... $ 437 $ 3,093 $ 3,530
======== ======= ========
15. Subsequent Events
On March 21, 2001, the Company replaced its existing lending agreement
denominated in Swedish Krona with a new loan that allows for borrowings up to
approximately $19,100,000. The principal is amortized over 18 equal quarterly
payments commencing June 30, 2001. Interest is based on the STIBOR rate + 0% to
1.65%, based on the outstanding balance of the loan. The loan is secured by a
pledge of Hudson Euro SarL stock, a wholly-owned subsidiary of the Company and
100% owner of Hudson RCI AB, Hudson RCI UK Ltd. and Hudson RCI France S.A.S.
In April and May of 2001, the company issued for cash unsecured senior
subordinated convertible notes to certain managers and shareholders in the
amount of $9,451,250 and will issues an additional $3,500,000 in August of 2001.
The notes bear interest at 10% and are due in 2005. The interest may be paid or
deferred to the due date at the option of the Company and are convertible to
common stock at the demand of the note holder. Additionally, in August of 2001
the Company will issue for $3,000,000 cash an additional 30,000 shares of
mandatorily-redeemable preferred stock.
As discussed in Note 5, the Company was not in compliance with certain
restrictive covenants of the Credit Facility at December 31, 2000. On July 30,
2001, the Company amended its Credit Facility covenants so that under the
amended terms, the Company was in compliance as of December 31, 2000 and expects
to remain in compliance until December 31, 2001. As part of this amendment (1)
the Company's shareholders agreed to invest an additional $3 million in senior
subordinated convertible notes of the Company (2) certain maturities were
extended and (3) interest rate increased margins increased.
F-44
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
----------------------------------------
To the Board of Directors and Stockholders of
River Holding Corp.:
We have audited in accordance with auditing standards generally accepted in the
United States, the financial statements of RIVER HOLDING CORP. (a Delaware
corporation) and subsidiaries included in this Form 10-K and have issued our
report thereon dated July 30, 2001. Our audit was made for the purpose of
forming an opinion on the basic financial statements taken as a whole. The
accompanying Schedule II -- Valuation and Qualifying Accounts listed in the
index above is the responsibility of the Company's management and is presented
for purposes of complying with the Securities and Exchange Commission's rules
and is not part of the basic financial statements. This schedule has been
subjected to the auditing procedures applied in the audit of those financial
statements and, in our opinion, fairly states in all material respects the
financial data required to be set forth therein in relation to the basic
financial statements taken as a whole.
/s/ ARTHUR ANDERSEN LLP
Orange County, California
July 30, 2001
II-1
RIVER HOLDING CORP.
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
(Amounts in thousands)
Balance at Balance at
Beginning Charges to Write-offs End of
of Period Expenses Period
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Description
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For the Year Ending December 31, 2000:
Allowance for doubtful accounts
receivable............................ $ (973) $ (3,106) $ 579 $ (3,500)
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For the Year Ending December 25, 1999:
Allowance for doubtful accounts
receivable............................ $ (794) $ (440) $ 261 $ (973)
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For the Year Ending December 26, 1998:
Allowance for doubtful accounts
receivable............................ $ (258) $ (586) $ 50 $ (794)
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