UNITED STATES
SECURITIES AND EXCHANGE
COMMISSION
Washington, DC 20549
FORM 10-Q
Quarterly Report
Pursuant to Section 13 or 15(d)
of the
Securities Exchange Act
of 1934
For the Quarter Ended September 30, 2004
Commission file number 000-23092
NATIONAL DENTEX
CORPORATION
(Exact name of registrant as specified in its charter)
| MASSACHUSETTS | 04-2762050 |
| (State or Other Jurisdiction of Incorporation | (I.R.S. Employer Identification No.) |
| or Organization) | |
| 526 Boston Post Road, Wayland, MA | 01778 |
| (Address of Principal Executive Offices) | (Zip Code) |
(508) 358-4422
(Registrant’s
Telephone No., including Area Code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes X No
Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2).
Yes X No
As of November 1, 2004, 3,468,760 shares of the registrant’s Common Stock, par value $.01 per share, were outstanding.
2
| December
31, 2003 |
September
30, 2004 |
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|---|---|---|---|---|---|---|---|---|
| ASSETS | (Unaudited) | |||||||
| CURRENT ASSETS: | ||||||||
| Cash and cash equivalents | $ | 1,835,471 | $ | 2,825,987 | ||||
| Accounts receivable: | ||||||||
| Trade, less allowance of $313,000 in 2003 and $235,000 in 2004 | 11,497,927 | 12,139,326 | ||||||
| Other | 416,093 | 422,467 | ||||||
| Inventories, net (Note 6) | 5,996,483 | 6,125,349 | ||||||
| Prepaid expenses | 1,702,632 | 1,864,039 | ||||||
| Deferred tax asset | 481,539 | 289,866 | ||||||
|
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|
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| Total current assets | 21,930,145 | 23,667,034 | ||||||
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| PROPERTY, PLANT AND EQUIPMENT: | ||||||||
| Land and buildings | 4,620,571 | 6,617,568 | ||||||
| Leasehold and building improvements | 6,953,659 | 7,147,839 | ||||||
| Laboratory equipment | 11,328,266 | 12,210,769 | ||||||
| Furniture and fixtures | 4,617,170 | 4,939,669 | ||||||
|
|
|
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| 27,519,666 | 30,915,845 | |||||||
| Less — Accumulated depreciation and amortization | 14,169,829 | 15,555,736 | ||||||
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| Net property, plant and equipment | 13,349,837 | 15,360,109 | ||||||
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| OTHER ASSETS: | ||||||||
| Goodwill | 30,443,508 | 32,887,499 | ||||||
| Non-competition agreements | 2,838,676 | 2,875,262 | ||||||
| Other assets | 3,670,427 | 4,384,006 | ||||||
|
|
|
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| Total other assets | 36,952,611 | 40,146,767 | ||||||
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|
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| Total assets | $ | 72,232,593 | $ | 79,173,910 | ||||
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| LIABILITIES AND STOCKHOLDERS’ EQUITY | ||||||||
| CURRENT LIABILITIES: | ||||||||
| Revolving line of credit | $ | — | $ | 3,400,000 | ||||
| Accounts payable | 1,778,288 | 2,085,490 | ||||||
| Accrued liabilities: | ||||||||
| Payroll and employee benefits | 5,106,325 | 4,666,376 | ||||||
| Current portion of deferred purchase price | 2,391,951 | 767,611 | ||||||
| Other accrued expenses | 401,252 | 302,252 | ||||||
|
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|
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| Total current liabilities | 9,677,816 | 11,221,729 | ||||||
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| LONG-TERM LIABILITIES: | ||||||||
| Payroll and employee benefits | 1,981,751 | 2,348,003 | ||||||
| Deferred purchase price | 304,162 | 157,219 | ||||||
| Deferred tax liability | 128,603 | — | ||||||
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|
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| Total long-term liabilities | 2,414,516 | 2,505,222 | ||||||
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| COMMITMENTS AND CONTINGENCIES | ||||||||
| STOCKHOLDERS’ EQUITY: | ||||||||
| Preferred stock, $.01 par value | ||||||||
| Authorized — 500,000 shares | ||||||||
| None issued and outstanding | — | — | ||||||
| Common stock, $.01 par value | ||||||||
| Authorized — 8,000,000 shares | ||||||||
| Issued — 3,691,022 shares at December 31, 2003 and | ||||||||
| 3,724,926 shares at September 30, 2004 | ||||||||
| Outstanding — 3,431,417 shares at December 31, 2003 and | ||||||||
| 3,465,321 shares at September 30, 2004 | 36,911 | 37,249 | ||||||
| Paid-in capital | 17,034,343 | 17,598,314 | ||||||
| Retained earnings | 48,187,945 | 52,930,334 | ||||||
| Treasury stock at cost — 259,605 shares at December 31, 2003 and | ||||||||
| September 30, 2004 | (5,118,938 | ) | (5,118,938 | ) | ||||
|
|
|
|||||||
| Total stockholders’ equity | 60,140,261 | 65,446,959 | ||||||
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|
|
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| Total liabilities and stockholders’ equity | $ | 72,232,593 | $ | 79,173,910 | ||||
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The accompanying notes are an integral part of these condensed consolidated financial statements.
3
| Three Months Ended | Nine Months Ended | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
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|
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| September
30, 2003 |
September
30, 2004 |
September
30, 2003 |
September
30, 2004 |
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| Net sales | $ | 24,357,436 | $ | 27,394,696 | $ | 73,504,568 | $ | 84,154,006 | |||||
| Cost of goods sold | 14,788,311 | 16,734,231 | 44,074,722 | 49,893,811 | |||||||||
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| Gross profit | 9,569,125 | 10,660,465 | 29,429,846 | 34,260,195 | |||||||||
| Selling, general and administrative expenses | 7,579,712 | 8,904,432 | 22,451,874 | 26,040,711 | |||||||||
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| Operating income | 1,989,413 | 1,756,033 | 6,977,972 | 8,219,484 | |||||||||
| Other expense | 89,301 | 112,563 | 217,795 | 287,192 | |||||||||
| Interest (income) expense | (5,292 | ) | 10,604 | (20,914 | ) | 28,310 | |||||||
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|
|
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| Income before provision for income taxes | 1,905,404 | 1,632,866 | 6,781,091 | 7,903,982 | |||||||||
| Provision for income taxes | 628,440 | 653,147 | 2,522,157 | 3,161,593 | |||||||||
|
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|
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| Net income | $ | 1,276,964 | $ | 979,719 | $ | 4,258,934 | $ | 4,742,389 | |||||
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| Net income per share - basic | $ | .37 | $ | .28 | $ | 1.25 | $ | 1.37 | |||||
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| Net income per share - diluted | $ | .37 | $ | .27 | $ | 1.23 | $ | 1.31 | |||||
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| Weighted average shares outstanding – basic | 3,427,748 | 3,462,969 | 3,417,508 | 3,450,235 | |||||||||
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| Weighted average shares outstanding – diluted | 3,496,824 | 3,661,555 | 3,463,547 | 3,631,315 | |||||||||
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The accompanying notes are an integral part of these condensed consolidated financial statements.
4
| Common Stock | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
|
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| Number
of Shares |
$.01
Par Value |
Paid-in Capital |
Retained Earnings |
Treasury Stock |
Total
|
|||||||||||||
| BALANCE, December 31, 2003 | 3,691,022 | $ | 36,911 | $ | 17,034,343 | $ | 48,187,945 | $ | (5,118,938 | ) | $ | 60,140,261 | ||||||
| Issuance of 15,747 shares of common | ||||||||||||||||||
| stock under the stock option plans | 15,747 | 157 | 278,799 | — | — | 278,956 | ||||||||||||
| Issuance of 18,157 shares of common | ||||||||||||||||||
| stock under the stock purchase plan | 18,157 | 181 | 285,172 | — | — | 285,353 | ||||||||||||
| Net income | — | — | — | 4,742,389 | — | 4,742,389 | ||||||||||||
|
|
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| BALANCE, September 30, 2004 | 3,724,926 | $ | 37,249 | $ | 17,598,314 | $ | 52,930,334 | $ | (5,118,938 | ) | $ | 65,446,959 | ||||||
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The accompanying notes are an integral part of these condensed consolidated financial statements.
5
| For the Nine Months Ended | ||||||||
|---|---|---|---|---|---|---|---|---|
|
|
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| September
30, 2003 |
September
30, 2004 |
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| Cash flows from operating activities: | ||||||||
| Net income | $ | 4,258,934 | $ | 4,742,389 | ||||
| Adjustments to reconcile net income to net cash | ||||||||
| provided by operating activities, net of | ||||||||
| effects of acquisitions: | ||||||||
| Depreciation and amortization | 1,738,956 | 2,042,725 | ||||||
| Provision (benefit) for deferred income taxes | 121,385 | (77,031 | ) | |||||
| Provision for bad debts | 77,797 | 52,896 | ||||||
| Issuance of common stock as director’s fees | 48,006 | — | ||||||
| Changes in operating assets and liabilities, net of | ||||||||
| effects of acquisitions: | ||||||||
| Increase in accounts receivable | (263,697 | ) | (171,633 | ) | ||||
| Decrease in inventories | 146,992 | 24,819 | ||||||
| Increase in prepaid expenses | (18,176 | ) | (161,407 | ) | ||||
| Increase in other assets | (700,158 | ) | (429,238 | ) | ||||
| Decrease in accounts payable and accrued liabilities | (528,293 | ) | (541,345 | ) | ||||
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| Net cash provided by operating activities | 4,881,746 | 5,482,175 | ||||||
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| Cash flows from investing activities: | ||||||||
| Payment for acquisitions, net of cash acquired | (3,883,570 | ) | (3,643,778 | ) | ||||
| Payment of deferred purchase price | (1,222,676 | ) | (1,855,792 | ) | ||||
| Additions to property, plant and equipment, net | (2,158,485 | ) | (2,956,398 | ) | ||||
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| Net cash used in investing activities | (7,264,731 | ) | (8,455,968 | ) | ||||
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| Cash flows from financing activities: | ||||||||
| Net borrowings of current obligations | — | 3,400,000 | ||||||
| Issuance of common stock | 354,208 | 564,309 | ||||||
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| Net cash provided by financing activities | 354,208 | 3,964,309 | ||||||
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| Net (decrease) increase in cash and cash equivalents | (2,028,777 | ) | 990,516 | |||||
| Cash and cash equivalents at beginning of period | 5,808,435 | 1,835,471 | ||||||
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| Cash and cash equivalents at end of period | $ | 3,779,658 | $ | 2,825,987 | ||||
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| Supplemental disclosures of cash flow information: | ||||||||
| Interest paid | $ | 8,509 | $ | 30,832 | ||||
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| Income taxes paid | $ | 1,950,920 | $ | 3,743,066 | ||||
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The accompanying notes are an integral part of these condensed consolidated financial statements.
6
(1) Interim Financial Statements
The accompanying unaudited financial statements include all adjustments (consisting only of normal recurring adjustments) that are, in the opinion of management, necessary for fair presentation of the results of operations for the periods presented. Interim results are not necessarily indicative of the results to be expected for a full year.
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted in accordance with the rules and regulations of the SEC. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the Company’s condensed consolidated financial statements for the year ended December 31, 2003 as filed with the SEC on Form 10-K.
(2) Earnings Per Share
In accordance with the disclosure requirements of Statement of Financial Accounting Standard (“SFAS”) No. 128, “Earnings per Share,” basic earnings per share is computed by dividing net income by the weighted average number of shares outstanding and diluted earnings per share reflects the dilutive effect of stock options. The weighted average number of shares outstanding, the dilutive effects of outstanding stock options, and the shares under option plans that were anti-dilutive for the three and nine months ended September 30, 2003 and 2004 are as follows:
| Three
Months Ended September 30, |
Nine
Months Ended September 30, |
|||||||||||||
| 2003
|
2004
|
2003
|
2004
|
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| Weighted average number of shares used in basic earnings per share | ||||||||||||||
| calculation | 3,427,748 | 3,462,969 | 3,417,508 | 3,450,235 | ||||||||||
| Incremental shares under option plans | 69,076 | 198,586 | 46,039 | 181,080 | ||||||||||
|
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|
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| Weighed average number of shares used in diluted earnings per share | ||||||||||||||
| calculation | 3,496,824 | 3,661,555 | 3,463,547 | 3,631,315 | ||||||||||
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|
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| Shares under option plans excluded in computation of diluted | ||||||||||||||
| earnings per share due to anti-dilutive effects | 117,010 | None | 474,185 | None | ||||||||||
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|
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The following table summarizes options that were outstanding but were not included in the computation of diluted earnings per share because the options’ exercise price was greater than the average market price of the common shares:
Three
Months Ended September 30, |
Nine
Months Ended September 30, |
||||||||
| 2003
|
2004
|
2003
|
2004
|
||||||
| Number of Options for Common Shares | 117,010 | None | 474,185 | None | |||||
| Range of Exercise Prices | $21.88-$24.88 | — | $20.05-$24.88 | — | |||||
| Expire Through: | January 2013 | — | January 2013 | — | |||||
7
(3) Stock-Based Compensation
Effective January 1, 1996, the Company adopted the disclosure provisions of SFAS No. 123, “Accounting for Stock-Based Compensation.” The Company has elected to continue to account for employee stock options at intrinsic value, in accordance with Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” with disclosure of the effects of fair value accounting on net income and earnings per share on a pro forma basis. Had compensation costs for the Company’s 1992 Long-Term Incentive Plan, 2001 Stock Plan and 1992 Employees’ Stock Purchase Plan been determined consistent with SFAS No. 123, the Company’s net income and earnings per share would have been reduced to the following pro forma amounts:
| Three Months
Ended September 30, |
Nine Months
Ended September 30, |
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|
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| 2003
|
2004
|
2003
|
2004
|
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| Stock-based employee compensation expense, as reported | $ | — | $ | — | $ | — | $ | — | ||||||
|
|
|
|
|
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| Net income, as reported: | $ | 1,276,964 | $ | 979,719 | $ | 4,258,934 | $ | 4,742,389 | ||||||
| Deduct: Total stock-based employee compensation expense | ||||||||||||||
| determined under fair value based method for all awards, net of | ||||||||||||||
| related tax effects | 83,708 | 37,242 | 254,336 | 119,928 | ||||||||||
|
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|
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| Pro forma net income | $ | 1,193,256 | $ | 942,477 | $ | 4,004,598 | $ | 4,622,461 | ||||||
|
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|
|
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| Earnings per share: As reported, basic | $ | .37 | $ | .28 | $ | 1.25 | $ | 1.37 | ||||||
| Pro forma, basic | .35 | .27 | 1.17 | 1.34 | ||||||||||
| As reported, diluted | .37 | .27 | 1.23 | 1.31 | ||||||||||
| Pro forma, diluted | .34 | .26 | 1.16 | 1.28 | ||||||||||
(4) Recent Accounting Pronouncements
In January 2003, the FASB issued FASB Interpretation No. 46,“Consolidation of Variable Interest Entities” (“FIN 46”). This interpretation of Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” addresses consolidation by business enterprises of variable interest entities that possess certain characteristics. FIN 46 requires that if a business enterprise has a controlling financial interest in a variable interest entity, the assets, liabilities, and results of the activities of the variable interest entity must be included in the consolidated financial statements with those of the business enterprise. FIN 46, as revised in December 2003, must be applied at the end of periods ending after March 15, 2004, and is effective immediately for all new variable interest entities created or acquired after January 31, 2003. The adoption of the revised FIN 46 did not have a material impact on the Company’s results of operations or financial position, as the Company is not a party to any variable interest entities at this time. The Company will apply the consolidation requirement of FIN 46 in future periods if the Company should own any interest in any variable interest entity.
(5) Legal Proceedings
The Company is involved from time to time in litigation incidental to its business. Management believes that the outcome of current litigation will not have a material adverse effect upon the operations or financial condition of the Company and will not disrupt the normal operations of the Company.
(6) Inventories
Inventories consist of the following:
| December 31, 2003 | September 30, 2004 | ||||||||
| Raw Materials | $5,000,816 | $4,913,867 | |||||||
| Work in Process | 995,667 | 1,000,657 | |||||||
| Finished Goods | — | 210,825 | |||||||
| $5,996,483 | $6,125,349 |
Finished goods inventory consists of completed orders that were shipped to customers immediately subsequent to period end.
(7) Acquisitions
The Company’s acquisition strategy is to consolidate within the dental laboratory industry and use its financial and operational synergies to create a competitive advantage. Certain factors, such as the laboratory’s technical skills, reputation in the local marketplace and value as a going concern result in the recognition of goodwill.
In connection with these acquisitions, the Company has incurred certain deferred purchase costs relating to non-competition agreements with the former owners and certain other key employees, ranging over periods of 2 to 10 years, and other contingent payments provided for in the purchase agreements.
8
During the nine months ended September 30, 2003 and 2004, the Company acquired the following dental laboratory operations:
Nobilium Dental Laboratory March, 2003 Accurate Dental Laboratory, Inc. April, 2003 Dan Jackson Laboratory April, 2003 Salem Dental Laboratory, Inc. July, 2003 Top Quality Partials, Inc. September, 2003 Hamlett Dental Laboratory, Inc. April, 2004 Dental Arts Laboratory of Dallas, Inc. May, 2004 Loyd Dental Studio, LTD July, 2004 G&S Dental Laboratory, Inc. July, 2004 Artisan Dental Studio, LTD July, 2004 D.H. Baker Dental Laboratory, Inc. August, 2004
These acquisitions have been reflected in the accompanying condensed consolidated financial statements from the date of acquisition and have been accounted for as purchases in accordance with SFAS No.141, “Business Combinations”. The total purchase price has been allocated to the acquired assets and liabilities based on preliminary estimates of their fair values. The following pro forma operating results of the Company assume these acquisitions had been made as of January 1, 2003. Such information includes adjustments to reflect additional depreciation, non-compete amortization and interest expense and is not necessarily indicative of what the results of operations would actually have been, or the results of operations to be expected in future periods.
Nine Months Ended
September 30,
2003
September 30,
2004
(unaudited) Net sales $80,352,000 $87,119,000 Net income 4,889,000 5,004,000 Net income per share: Basic $1.43 $1.45 Diluted $1.41 $1.38
(8) Lines of Credit
The Company has executed a new financing agreement (the “Agreement”) with Fleet National Bank, a Bank of America Company (the “Bank”). The Agreement, dated June 30, 2004, includes a revolving line of credit of $5,000,000 and a revolving acquisition line of credit of $20,000,000. The interest rate on both revolving lines of credit is the prime rate or, at the Company’s option, the London Interbank Offered Rate (“LIBOR”) or a cost of funds rate plus a range of 0.75% to 1.5% depending on the ratio of total liabilities to tangible net worth. Both revolving lines of credit terminate on June 30, 2007.
A commitment fee of one-eighth of 1% per annum is payable on the unused amount of the first revolving line of credit. A facility fee of $10,000 per year is required on the acquisition line of credit. At September 30, 2004, the Company had borrowed $3,400,000, with $16,600,000 remaining available, on the revolving acquisition line of credit while the full principal amount of $5,000,000 was available to the Company under the first revolving line of credit. As of September 30, 2004, the interest rate associated with current borrowing was 2.46%. The Agreement requires compliance with certain covenants, including the maintenance of specified net worth and other financial ratios. As of September 30, 2004, the Company was in compliance with these covenants.
The Company had previously maintained a financing agreement with Citizens Bank of Massachusetts that included a revolving credit facility of $4,000,000 and a line of credit facility of $8,000,000. The interest rate on both lines of credit would have been the prime rate minus 0.5% or the London Interbank Offered Rate (“LIBOR”) plus 1.5%, at the Company’s option. Both lines of credit expired as planned on June 30, 2004.
9
This Quarterly Report on Form 10-Q, including this discussion and analysis by management, contains or incorporates 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 forward-looking statements are based on current expectations, estimates, forecasts and projections about the industry and markets in which we operate and our management’s beliefs and assumptions. In addition, other written or oral statements that constitute forward-looking statements may be made by or on our behalf. Words such as “expect,” “anticipate,” “intend,” “plan,” “believe,” “seek,” “estimate,” variations of such words and similar expressions are intended to identify such forward-looking statements. These statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions that are difficult to predict. We have included important factors in the cautionary statements below under the heading “Factors That May Affect Future Results” that we believe could cause our actual results to differ materially from the forward-looking statements we make. We do not intend to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise.
We own and operate 39 dental laboratories located in 29 states, serving an active customer base of over 20,000 dentists. Our business consists of a single industry segment, which is the design, fabrication, marketing and sale of custom dental prosthetic appliances for dentists located primarily in the domestic marketplace. Product offerings include:
| • | Restorative products that are permanently affixed by a dentist to a patient’s existing dental anatomy, including traditional porcelain fused to metal crowns and bridges and dental implants. |
| • | Reconstructive products that are removable prostheses that replace missing teeth and associated structures, including partial and full dentures. |
| • | Cosmetic products that consist primarily of porcelain veneers designed to enhance the appearance of the front of a tooth as well as all-ceramic crowns that are made without a traditional metal substructure and more closely replicate the appearance of natural teeth. This category also includes composite inlays and onlays, which replace silver fillings for a more natural appearance and orthodontic appliances, which are products fabricated to move existing teeth to enhance function and appearance. |
Internal revenue growth has been relatively flat over the last three years. In 2001, we noted that the economic climate appeared to be impacting the dental laboratory industry. In 2002, we began to believe that many patients and dentists were postponing optimal treatment plans, such as crowns, and pursuing less expensive alternatives such as direct and indirect composite fillings, for which we recognize no revenue. As a result, sales of restorative products were unfavorably impacted. We believe that while a portion of this segment can be temporarily deferred by patients, the work will eventually be required and will be done. During 2003, the economic situation was much like that in 2002, although we began to see some recent favorable signs in the marketplace that industry growth may have been returning to more positive trends. During the first nine months of 2004, we have seen internal sales growth stabilize and begin to grow. We are guardedly optimistic that sales growth will continue as economic conditions continue to improve.
We have also continued to pursue an acquisition strategy, which has played an important role in helping us increase sales from $75,680,000 in 2000 to $99,274,000 in 2003. However, operating margins as measured as a percentage of sales declined over this period. The main cost drivers for us are the cost of labor and related employee benefits. Competition for labor resources and increases in medical insurance costs drive these costs higher. These increased costs combined with somewhat flat internal sales growth contributed to lower operating margins. During 2003, we reviewed and adjusted staffing levels at each of our locations to minimize the costs of the slowdown in sales growth. We have been cautious about labor reductions due to the need to maintain an available and properly trained workforce in anticipation of future sales growth. During 2004, sales growth coupled with the cost containment efforts enacted in 2003 have improved operating margins in comparison to 2003.
Beginning in the fourth quarter of 2001 and continuing through 2004, we first developed and subsequently continued to invest in the “NDX Reliance Program™", a national marketing and branding campaign that we believe holds long-term value and will help us attain our sales objectives. During 2004, we have continued to maintain our branding effort and have focused additional efforts on obtaining the measurable sales improvements we expect from this program.
10
Our working capital increased from $12,252,000 at December 31, 2003 to $12,445,000 at September 30, 2004. Cash and cash equivalents increased $991,000 from $1,835,000 at December 31, 2003 to $2,826,000 at September 30, 2004. Operating activities provided $5,482,000 in cash flow for the nine months ended September 30, 2004 compared to $4,882,000 during the nine months ended September 30, 2003, primarily due to increased earnings. Cash outflows related to dental laboratory acquisitions, including deferred purchase price payments, totaled $5,500,000 for the nine months ended September 30, 2004 compared to $5,106,000 for the nine months ended September 30, 2003. Additions to property, plant and equipment, including the purchase of a $2,000,000 replacement facility for our dental laboratory in Houston, Texas, were $2,956,000 for the nine months ended September 30, 2004 compared to $2,158,000 for the nine months ended September 30, 2003.
We have concluded a new financing agreement (the “Agreement”) with Fleet National Bank, a Bank of America company (the “Bank”). The Agreement, dated June 30, 2004, includes a revolving line of credit of $5,000,000 and a revolving acquisition line of credit of $20,000,000. The interest rate on both revolving lines of credit is the prime rate or, at our option, the London Interbank Offered Rate (“LIBOR”) or a cost of funds rate plus a range of 0.75% to 1.5% depending on the ratio of current liabilities to tangible net worth. Both revolving lines of credit terminate on June 30, 2007.
A commitment fee of one-eighth of 1% per annum is payable on the unused amount of the first revolving line of credit, plus an annual facility fee of $10,000 on the acquisition line of credit. At September 30, 2004, we had borrowed $3,400,000, with $16,600,000 remaining available, on the revolving acquisition line of credit while the full principal amount of $5,000,000 was available under the first revolving line of credit. As of September 30, 2004, the interest rate associated with current borrowing was 2.46%. The Agreement requires compliance with certain covenants, including the maintenance of specified net worth and other financial ratios. As of September 30, 2004, we were in compliance with these covenants.
Our management believes that cash flow from operations and available financing arrangements will be sufficient to meet contemplated operating and capital requirements, including deferred payments associated with prior acquisitions and costs associated with anticipated acquisitions, if any, in the foreseeable future.
The following table represents a list of our contractual obligations and commitments as of September 30, 2004:
| Payments Due By Period | |||||||||||||||||
| Total
|
Less
Than 1 Year |
1
- 3 Years
|
4
- 5 Years
|
Greater
Than 5 Years |
|||||||||||||
| Operating Leases: | |||||||||||||||||
| Real Estate | $ | 9,198,000 | $ | 2,164,000 | $ | 3,142,000 | $ | 1,700,000 | $ | 2,192,000 | |||||||
| Vehicles | 831,000 | 554,000 | 277,000 | — | — | ||||||||||||
| Equipment | 107,000 | 65,000 | 40,000 | 2,000 | — | ||||||||||||
| Laboratory Purchase Obligations | 925,000 | 768,000 | 157,000 | — | — | ||||||||||||
| Contingent Laboratory Purchase Price | 3,930,000 | 917,000 | 3,013,000 | — | — | ||||||||||||
|
|
|||||||||||||||||
| TOTAL | $ | 14,991,000 | $ | 4,468,000 | $ | 6,629,000 | $ | 1,702,000 | $ | 2,192,000 | |||||||
|
|
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The laboratory purchase obligations totaling $925,000 above are classified as deferred acquisition costs and are presented in the liability section of the balance sheet. Contingent laboratory purchase price includes amounts subject to acquisition agreements that are tied to earnings performance, as defined by the individual agreements, over a three year period. As payments become determinable, they are recorded as goodwill. We are committed under various non-cancelable operating lease agreements covering office space and dental laboratory facilities, vehicles and certain equipment. Certain of these leases also require us to pay maintenance, repairs, insurance and related taxes.
As sponsor of the National Dentex Corporation Dollars Plus Plan, (the “Plan”), a qualified plan under Section 401(a) of the Internal Revenue Code, we filed a retroactive plan amendment on April 22, 2004 under the Internal Revenue Service’s Voluntary Correction Program to clarify the definition of compensation in the Plan. Based on our consultation with our ERISA counsel, we believe this issue will be favorably resolved without requiring additional employer contributions or jeopardizing the tax-qualified status of the Plan.
11
The following table sets forth for the periods indicated the percentage of net sales represented by certain items in our condensed consolidated financial statements:
| Three
Months Ended September 30 |
Nine Months Ended September 30 |
|||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
|
|
|||||||||||||
| 2003
|
2004
|
2003
|
2004
|
|||||||||||
| Net sales | 100.0 | % | 100.0 | % | 100.0 | % | 100.0 | % | ||||||
| Cost of goods sold | 60.7 | 61.1 | 60.0 | 59.3 | ||||||||||
|
|
|
|
|
|||||||||||
| Gross profit | 39.3 | 38.9 | 40.0 | 40.7 | ||||||||||
| Selling, general and administrative expenses | 31.1 | 32.5 | 30.5 | 30.9 | ||||||||||
|
|
|
|
|
|||||||||||
| Operating income | 8.2 | 6.4 | 9.5 | 9.8 | ||||||||||
| Other expense | 0.4 | 0.4 | 0.3 | 0.4 | ||||||||||
| Interest income | 0.0 | 0.0 | 0.0 | 0.0 | ||||||||||
|
|
|
|
|
|||||||||||
| Income before provision for income taxes | 7.8 | 6.0 | 9.2 | 9.4 | ||||||||||
| Provision for income taxes | 2.6 | 2.4 | 3.4 | 3.8 | ||||||||||
|
|
|
|
|
|||||||||||
| Net income | 5.2 | % | 3.6 | % | 5.8 | % | 5.6 | % | ||||||
|
|
|
|
|
|||||||||||
Net Sales
For the nine months ended September 30, 2004, net sales increased $10,649,000 or 14.5% from the prior year. Net sales increased by approximately $8,520,000, or 11.6%, as a result of acquisitions, measured by business at dental laboratories owned less than one year. Net sales increased approximately $2,129,000, an increase of 2.9%, at dental laboratories owned for both the nine months ended September 30, 2004 and the comparable nine months ended September 30, 2003. We believe sales growth was primarily attributable to a moderate improvement in industry economic conditions.
Cost of Goods Sold
Cost of goods sold as a percentage of sales was 59.3% in the nine months ended September 30, 2004 compared with 60.0% during the same period of 2003. Headcount reductions, productivity improvements and purchasing cost savings helped improve our gross margin, despite increases in employee benefit and general insurance costs and the occupancy costs related to four acquisitions completed in the last half of 2003.
Selling, General and Administrative Expenses
Selling, general and administrative expenses, which consist of selling, delivery and administrative expenses both at the laboratory and corporate level, were $26,041,000 or 30.9% of sales in 2004 compared to $22,452,000 or 30.5% in 2003. The increase of $3,589,000 was related to the added administrative and delivery costs for recent acquisitions as well as the overall increases in insurance, benefits and utility costs. As a percentage of sales, declines in selling, delivery and laboratory administrative costs were offset by increases in our laboratory and executive incentive compensation programs. Improving profit margins resulting from sales growth and operational efficiencies increased our required contribution to these programs. Finally, we have engaged Deloitte and Touche, LLP to assist us in complying with the new internal controls provisions mandated by Section 404 of the Sarbanes-Oxley Act of 2002. Fees paid to Deloitte totaled approximately $360,000 and were incurred during the third quarter. We anticipate a similar level of expense during the fourth quarter but do not believe this level of financial commitment will be required in subsequent years since we believe most of this expense relates to the initial cost of documenting and testing these controls.
Operating Income
As a result of the factors discussed above, our operating income increased by $1,242,000 to $8,219,000 for the nine months ended September 30, 2004 from $6,978,000 for the comparable nine months ended September 30, 2003. As a percentage of net sales, operating income increased from 9.5% in 2003 to 9.8% in 2004.
Interest (Income) Expense
Interest expense was $28,000 in the first nine months of 2004 compared with interest income of $21,000 in the first nine months of 2003. The change of $49,000 was primarily due to periodic borrowings under the lines of credit during 2004 and a decrease in the average cash and cash equivalents balance from 2003 to 2004.
12
Provision for Income Taxes
The provision for income taxes increased to $3,162,000 in 2004 from $2,522,000 in 2003 due to an increase in operating income and a higher effective tax rate. The effective tax rate increased to 40.0% in 2004 from 37.2% in 2003. The finalization of certain permanent tax benefits resulted in a reduction in the tax provision during the comparative nine months of 2003.
Net Income
As a result of all of the factors discussed above, net income increased to $4,742,000 or $1.31 per share on a diluted basis in the first nine months of 2004 from $4,259,000 or $1.23 per share on a diluted basis in the first nine months of 2003.
Net Sales
For the three months ended September 30, 2004, net sales increased $3,037,000 or 12.5% from the prior year. Net sales increased by approximately $2,812,000, or 11.5%, as a result of acquisitions, measured by business at dental laboratories owned less than one year. Net sales increased approximately $226,000 an increase of 1.0%, at dental laboratories owned for both the three months ended September 30, 2004 and the comparable three months ended September 30, 2003.
Cost of Goods Sold
Cost of goods sold as a percentage of sales was 61.1% in the quarter ended September 30, 2004 compared with 60.7% in the same period of 2003 for reasons comparable to the nine month period discussed above.
Selling, General and Administrative Expenses
Selling, general and administrative expenses, which consist of selling, delivery and administrative expenses both at the laboratory and corporate level, were $8,904,000 or 32.5% of sales in 2004 compared to $7,580,000 or 31.1% in 2003 for reasons comparable to the nine month period discussed above.
Operating Income
As a result of the factors discussed above, and for reasons comparable to the nine month period discussed above, our operating income decreased by $233,000 to $1,756,000 for the three months ended September 30, 2004 from $1,989,000 for the comparable three months ended September 30, 2003. As a percentage of net sales, operating income decreased from 8.2% in 2003 to 6.4% in 2004.
Interest (Income) Expense
Interest expense was $11,000 in the third quarter of 2004 compared with interest income of $5,000 in the third quarter of 2003 for reasons comparable to the nine month period discussed above.
Provision for Income Taxes
The provision for income taxes increased to $653,000 in 2004 from $628,000 in 2003 and the effective tax rate increased to 40.0% in 2004 from 33.0% in 2003. The finalization of certain permanent tax benefits resulted in a reduction in the tax provision during the comparison quarter of 2003.
Net Income
As a result of all of the factors discussed above, net income decreased to $980,000 or $.27 per share on a diluted basis in the third quarter of 2004 from $1,277,000 or $.37 per share on a diluted basis in the third quarter of 2003.
13
Various risks, uncertainties and contingencies could cause our actual results, performance or achievements to differ materially from those expressed in, or implied by, statements contained in this Quarterly Report on Form 10-Q, including, but not limited to, the following:
| • | the timing, duration and effects of adverse changes in overall economic conditions, particularly those affecting employment patterns or likely to cause individuals to defer needed or elective dental work, |
| • | our ability to acquire and successfully operate additional laboratories, |
| • | governmental regulation of health care, |
| • | trends in the dental industry towards managed care, |
| • | competition within the dental laboratory industry, including from foreign competitors, |
| • | increases in labor and benefits costs, |
| • | increases in material costs, particularly related to the purchase of dental alloys, which contain gold, palladium, and other precious metals, |
| • | product development risks, and |
| • | technological innovations by third parties. |
Our market risk exposure includes potential price volatility of commodities we use in our manufacturing processes. We purchase dental alloys that contain gold, palladium and other precious metals. We have not participated in hedging transactions. We have relied on pricing practices that attempt to pass increased costs on to the customer, in conjunction with materials substitution strategies.
(a) Evaluation of Disclosure Controls and Procedures.
Our management, with the participation of our Chief Executive Officer, or CEO, and Chief Financial Officer, or CFO, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act) as of September 30, 2004. In designing and evaluating our disclosure controls and procedures, our management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives, and our management necessarily applied its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on this evaluation, our CEO and CFO concluded that, as of September 30, 2004, our disclosure controls and procedures were (1) designed to ensure that material information relating to us, including our consolidated subsidiaries, is made known to our CEO and CFO by others within those entities, particularly during the period in which this report was being prepared and (2) effective, in that they provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms.
(b) Changes in Internal Controls.
No change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act) occurred during the fiscal quarter ended September 30, 2004 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
14
| PART II OTHER INFORMATION |
| We are involved from time to time in litigation incidental to our business. Our management believes that the outcome of current litigation will not have a material adverse effect upon our operations or financial condition and will not disrupt our normal operations. |
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds:
| We did not repurchase any of our equity securities during the fiscal quarter ended September 30, 2004 or engage in any transactions during such period reportable pursuant to Item 703 of Regulation S-K. |
| Not Applicable |
Item 4. Submission of Matters to a Vote of Security Holders:
| Not Applicable |
| Not Applicable |
| (a) | Exhibits |
| The exhibits listed in the Exhibit Index immediately preceding the exhibits are filed as part of this Quarterly Report of Form 10-Q |
| (b) | Reports on Form 8-K |
| On July 7, 2004, we furnished a Current Report on Form 8-K under Item 9, containing the loan agreement documenting the Company’s new credit facility with Fleet National Bank. |
| On July 29, 2004, we furnished a Current Report on Form 8-K under Item 7 and Item 9, containing a press release announcing our financial results for the fiscal quarter ended June 30, 2004. |
| On August 9, 2004, we furnished a Current Report on Form 8-K under Item 12 containing a correction to the press release we furnished on July 29, 2004. |
| On August 11, 2004, we furnished a Current Report on Form 8-K under Item 7 and Item 9, containing a press release announcing the acquisition of D.H. Baker Dental Laboratory, Inc. of Traverse City, Michigan. |
| On August 20, 2004, we furnished a Current Report on Form 8-K under Item 5 and Item 7, containing a press release announcing that the Company’s Board of Directors had voted on August 18, 2004 to expand the size of the Company’s Board of Directors from five to six and that Mr. Thomas E. Callahan has been appointed to fill the resulting vacancy, effective August 18, 2004. |
| On October 29, 2004, we furnished a Current Report on Form 8-K under Item 2.02 and Item 9.01, containing a press release announcing our financial results for the fiscal quarter ended September 30, 2004. |
15
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
| November 9, 2004 | NATIONAL DENTEX CORPORATION
(Registrant) By: /s/ DAVID L. BROWN —————————————— David L. Brown President, CEO and Director (Principal Executive Officer) |
|
| November 9, 2004 |
By: /s/ RICHARD F. BECKER, JR. —————————————— Richard F. Becker, Jr. Vice President, Treasurer and Chief Financial Officer (Principal Financial Officer) |
16
| Exhibit | ||
|---|---|---|
| No | Description | |
|
|
|
|
| 31.1 | Certification Pursuant to Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act, as | |
| adopted pursuant to Section 302 of the Sarbanes-Oxley Act (Chief Executive Officer). | ||
| 31.2 | Certification Pursuant to Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act, as | |
| adopted pursuant to Section 302 of the Sarbanes-Oxley Act (Chief Financial Officer). | ||
| 32.1 | Certification pursuant to 18 U.S.C. Section 1350 (Chief Executive Officer) | |
| 32.2 | Certification pursuant to 18 U.S.C. Section 1350 (Chief Financial Officer) | |
17