Back to GetFilings.com

Table of Contents

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark One)

For the fiscal year ended April 26, 2003

OR

For the transition period from              to             

Commission File No. 0-20572

PATTERSON DENTAL COMPANY

(Exact name of registrant as specified in its charter)

1031 Mendota Heights Road

St. Paul, Minnesota 55120

(Address of principal executive offices including Zip Code)

Registrant’s telephone number, including area code: (651) 686-1600

Securities registered pursuant to Section 12(b) of the Act:

None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, par value $.01

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, and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K    x

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).    Yes  x    No

The aggregate market value of voting stock held by nonaffiliates of the registrant as of October 26, 2002, was approximately $2,495,200,000.

As of July 14, 2003, there were 68,164,714 shares of Common Stock of the registrant issued and outstanding.

Documents Incorporated By Reference

Certain portions of the document listed below have been incorporated by reference into the indicated part of this Form 10-K.

Table of Contents

FORM 10-K INDEX

i

Table of Contents

PART I

1. BUSINESS

Certain information of a non-historical nature contained in Items 1, 2, 3 and 7 of this Form 10-K includes forward-looking statements. Reference is made to Item 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations—Factors that May Affect Future Operating Results, for a discussion of certain factors which could cause the Company’s actual operating results to differ materially from those expressed in any forward-looking statements.

General

Patterson Dental Company (“Patterson” or the “Company”) is a value-added distributor serving the North American dental supply and companion-pet (dogs, cats and other common household pets) veterinary supply markets. Unless otherwise indicated, all references to Patterson or the Company include its subsidiaries: Direct Dental Supply Co.; Patterson Dental Canada, Inc.; Patterson Dental Supply, Inc.; Webster Veterinary Supply, Inc.; PDC Funding Company, LLC; Patterson Technology Center, Inc.; Colwell Systems, Inc. and Webster Management LP.

Patterson began distributing dental supplies in 1877. The modern history of the business dates to May 1985, when the Company’s management and certain investors purchased the Company from a subsidiary of The Beatrice Companies, Inc. Patterson became a publicly traded company in October 1992.

The Company historically reported under one operating segment, dental supply. In July 2001, the Company purchased the assets of J. A. Webster, Inc. The acquisition became a reportable business segment of the Company, and Patterson Dental Company began reporting two segments, dental supply and veterinary supply. The Company’s reportable segments are strategic business units that offer similar products and services to different customer bases.

Dental Supply

As Patterson’s largest business, Patterson Dental Supply is one of the two largest distributors of dental products in North America. The business currently has operations in the United States and Canada. Patterson Dental Supply, a full-service, value-added supplier to dentists, dental laboratories, institutions, and other healthcare professionals, provides: consumable products (including x-ray film, restorative materials, hand instruments and sterilization products); advanced technology dental equipment; practice management and clinical software; and office forms and stationery. The Company offers its customers a broad selection of dental products including more than 85,000 stock keeping units (“SKU’s”) of which approximately 4,000 are private-label products sold under the Patterson name. Patterson Dental Supply also offers customers a full range of related services including dental equipment installation, maintenance and repair, dental office design and equipment financing. The Company markets its dental products and services through over 1,200 direct sales representatives, 285 of whom are equipment specialists.

Founded in 1877, Patterson Dental Supply has over 125 years of experience providing quality service to dental professionals. Net sales of this segment have increased from $165.8 million in fiscal 1986 to $1,471.2 million in fiscal 2003, operating margins have increased every year since fiscal 1985 and profitability has increased from an operating loss in fiscal 1986 to operating income of $163.9 million in fiscal 2003.

The Company estimates the dental supply market it serves to be approximately $4.8 billion annually. The Company also believes that its share of this market is approximately 30%. The underlying structure of the dental supply market consists of a sizeable geographically dispersed number of fragmented dental practices which is attractive for the Company’s role as a value-added, full-service distributor. According to the American Dental Association, there are over 150,000 dentists practicing in the United States in approximately 120,000 dental practices, representing a fragmented, geographically diverse market. There are approximately 17,000 licensed dentists in Canada according to the Canadian Dental Association. The average general practitioner generated approximately $450,000 in annual revenue in 1999, while the average specialty practitioner produced about $600,000. The Company believes that a dentist uses between 5% and 7% of annual revenue to purchase consumable supplies used in the daily operations of the practice. This translates into between $22,000 and $42,000 of supplies being purchased by the average practice each year. However, dentists generally do not maintain a large supply of inventory on hand. The Company believes the average dental practitioner purchases about 40% of their supplies from their top supplier.

2

Table of Contents

Total expenditures for dental services in the United States increased from $13 billion in 1980 to $68 billion in 2002. Domestic dental care expenditures are projected by the Centers for Medicare & Medicaid Services to grow 6% annually, reaching $100 billion by the year 2010. The Company believes that the demand for dental services, equipment and supplies will continue to be influenced by the following factors:

Veterinary Supply

Webster Veterinary Supply is the leading distributor of veterinary supplies to companion-pet (dogs, cats and other common household pets) veterinary clinics in the eastern United States and the third largest nationally. Webster provides products used for the treatment and/or prevention of diseases in companion pets and, to a lesser extent, equine animals. Founded in 1946 and headquartered in Sterling, Massachusetts, Webster has developed a strong regional brand identity as a value-added, full-service distributor of a virtually complete range of consumable supplies, equipment, diagnostic supplies, biologicals (vaccines) and pharmaceuticals. Webster does not distribute pet foods. Webster’s product offering, totaling more than 8,000 items, is sold by over 78 field sales representatives. In addition to its core business of distributing veterinary products, Webster Veterinary Supply has a significant agency commission business with a few large pharmaceutical manufacturers. Under the agency relationships, the Company typically earns a commission for soliciting orders through its sales force representatives. In the agency relationship, the Company processes the order to the manufacturer but handles none of the product nor does the Company bill and collect from the customer. The agency commissions that Webster Veterinary Supply earns range from 4% to 8%, a portion of which is shared with the direct sales personnel. Webster’s agency commissions accounted for approximately 2% of net sales in fiscal 2003. Net sales by this segment in fiscal 2003 were $185.8 million. Operating income totaled $15.0 million.

The Company estimates the market for pharmaceuticals and supplies sold to companion pet veterinarians through distribution is approximately $2.4 billion on an annual basis. Based upon the estimated $2.4 billion market, the Company believes its share of this market is approximately 10%. Similar to the dental supply market, the veterinary supply market is fragmented and geographically diverse. There are approximately 60,000 veterinarians practicing at 21,700 animal health clinics. The vast majority, approximately 65% of veterinarians, work in private animal health clinics specializing in small animals, predominately companion pets. The average private veterinary practice generates approximately $550,000 of annual revenue. These practices purchase between $80,000 and $120,000 of supplies each year but similar to the dental practitioner do not maintain a large supply of inventory on hand. The typical veterinary practice purchases approximately 80% of its supplies from its top two suppliers. The average purchase of consumables by the veterinary practice is noticeably higher than that of the dental practitioner due predominately to pharmaceutical products which are administered and dispensed by veterinarians.

3

Table of Contents

According to a market study prepared by KMPG LLP for three veterinary professional organizations in 1999, the demand for veterinary services has grown significantly faster than growth in the overall economy. Total expenditures for veterinary services in the United States grew at an inflation adjusted real annual rate of 7.2% from 1980 through 1997, and are projected to grow 5% on a real basis annually, through the year 2015. The companion pet segment is the fastest growing area of the overall U.S. veterinary supply market. The Company believes this growth is sustainable due to the following favorable factors:

For further information on the Company’s operating segments and operations by geographic area, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7 of this document and Note 10 to the Consolidated Financial Statements.

Patterson’s Strategy

Patterson’s objective is to remain a leading national distributor of supplies, equipment and related services in its markets while continuing to improve its profitability and enhance its value to customers. To achieve this objective, Patterson has adopted a strategy of emphasizing its value-added, full-service capabilities, using technology to enhance customer service, continuing to improve operating efficiencies, and growing through internal expansion and acquisitions.

Emphasizing Value-Added, Full-Service Capabilities. The Company believes that its customers value full service and responsive delivery of quality supplies and equipment, in addition to competitive prices. Customers also increasingly expect suppliers to be knowledgeable about products and services, and generally a superior sales representative can create a special relationship with the practitioner by providing an education link to the overall industry. The Company’s knowledgeable sales representatives assist customers in the selection and purchasing of supplies. In addition, the high quality sales force allows Patterson to offer broader product lines. Most dentists and veterinarians are independent, sole practitioners who are unable to store and manage large volumes of supplies in their offices. Patterson meets its customer’s requirements by delivering frequent, small quantity orders rapidly and reliably from its strategically located distribution centers. Equipment specialists, technology representatives and service technicians also support the Company’s value-added strategy in the dental supply market. Equipment specialists offer consultation on office design, equipment requirements and financing. Technology representatives provide guidance on integrating technology solutions including practice management and clinical software, digital radiography, custom hardware and networking into the dental practice. The Company’s trained service technicians perform equipment installation, maintenance and repair services.

Using Technology to Enhance Customer Service. As part of its commitment to providing superior customer service, the Company offers its customers easy order placement. The Company has offered electronic ordering capability to its dental supply segment since 1987 when it first introduced Remote Order Entry (REMO^SM). The Company believes that its computerized order entry systems help to establish relationships with new customers and increase loyalty among existing customers. The remote order entry systems permit customers to place orders from their offices directly to Patterson 24 hours a day, seven days a week. Over the years, the Company has continued to introduce new order entry systems designed to meet the varying needs of its customers. Today the Company offers five systems to the dental supply segment, eMAGINE^®, REMO^SM, PDXpress^®, PassPort^SM Plus and Pattersondental.com. Customers as well as the Company’s sales force use these systems. Over the years, the number of orders transmitted electronically has grown steadily to approximately 54% of Patterson’s consumable dental product volume or $448.8 million in fiscal year 2003.

In fiscal 2002, the Company introduced its newest order entry system, eMAGINE^®. eMAGINE^® has become the standard platform for the sales representative and includes many new features and upgrades including: up to three years of order history for the

4

Table of Contents

customer’s reference, faster searches for products and reports, order tracking, instant information on monthly product specials, descriptions and photographs of popular products and an electronic custom catalog, including a printable version with scanable bar codes.

For those dental customers not using eMAGINE^®, the Company offers three alternative order entry products. REMO^SM gives customers direct and immediate ordering access through a personal computer to a database containing Patterson’s complete inventory. PDXpress^® is a handheld order entry system that eliminates handwritten order forms by permitting a user to scan a product bar code from an inventory tag system or from Patterson’s bar-coded catalog. PassPort^SM Plus is a smart phone which incorporates automated ordering and bar code scanning with credit card processing. These systems, including eMAGINE^®, are provided at no additional charge to customers who maintain certain minimum purchase requirements.

The goal of the Company’s Internet strategy is to distribute information and service related products over the Internet to enhance customers’ practices and to increase sales force productivity. The Company’s Internet environment includes order entry, access to “Patterson Today” articles, manufacturers’ product information, and an office design application. Additionally, Patterson utilizes a tool, InfoSource, to provide real time customer and Company information to the Company’s sales force, managers and vendors via the Internet.

Late in fiscal 2002, the Company introduced eMAGINE^® to the sales force calling on the veterinary supply market. During fiscal 2003, the Company began to offer eMAGINE^® to a select number of its veterinary customers. Beta testing is underway and a complete rollout is expected to begin in late fiscal 2004. Since its introduction, approximately $34.4 million, or 15% of consumable veterinary sales have been processed using eMAGINE^®. Webstervet.com, the Company’s website for the veterinary supply market, does not currently include e-commerce capabilities. Longer-term the Company plans to implement a strategy in the veterinary market similar to the dental market with multiple order entry systems that suit a variety of customers’ needs.

In addition to enhancing customer service, by offering its electronic order entry systems to customers, the Company enables its sales representatives to spend more time with existing customers and to call on additional customers.

Continuing to Improve Operating Efficiencies. Patterson continues to implement programs designed to improve operating efficiencies and allow for continued sales growth over time. These programs include a wide variety of initiatives from investing in management information systems to consolidating distribution centers. Recent initiatives include deploying InfoSource, upgrading the Company’s communications architecture, and implementing a new technical service system. In fiscal 2001, the Company launched its new InfoSource program, a web-based system that disseminates key sales information, customer purchasing trends and other administrative reports to the Company’s dental sales force and branch managers. InfoSource allows dental sales representatives to more effectively and efficiently market the Company’s broad product line while enabling branch managers to increase their productivity. The Company has also improved operating efficiencies by converting its communications architecture to faster, higher capacity data lines that combine voice and data transmissions while reducing overall communication costs. During fiscal 2003, the Company began implementing a new field service management tool for its technical service operations. This new tool will allow the Company to fundamentally change its technical service business processes improving the Company’s ability to coordinate the actions of its service technicians and enhancing customer service while reducing the overall cost of operations. The Company is also in the process of developing a new order entry system for its sales offices. The system is being developed around a customer relationship management concept and has a look and feel similar to the Company’s eMAGINE^® product. This system will provide customer support staff with integrated customer information on one screen. By leveraging Patterson’s existing national distribution network, the Company has begun to implement a growth strategy in the veterinary supply market without significant new investments in physical infrastructure. In addition, many of the tools and capabilities available in the dental segment can be integrated into the veterinary segment. Consequently, the Company expects to continue to improve its operating leverage and efficiencies going forward.

Growing Through Internal Expansion and Acquisitions. The Company intends to continue to grow by opening additional sales offices, hiring established sales representatives, hiring and training college graduates as territory sales representatives, and acquiring other distributors in order to enter new markets and expand its customer base. The Company believes that it is well positioned to take advantage of expected continued consolidation in both the dental and veterinary distribution industries. Over the past 15 years the Company has made the following acquisitions:

Dental distribution acquisitions in the United States

5

Table of Contents

added distributor of dental supplies, equipment and services in the mid-Atlantic and southeastern U.S. Thompson ranked among the 10 largest dental distributors in the country.

Dental distribution acquisitions in Canada

Printed office products acquisitions

Software acquisitions

Veterinary acquisitions

Products and Services

The Company has operations in two segments, dental supply and veterinary supply. Each segment provides similar products and services albeit to different customer bases. The following table sets forth the principal categories of products and services offered by the Company:

6

Table of Contents

Consumable and Printed Products

Dental Supplies. Patterson offers a broad product line of consumable dental supplies such as x-ray film and solutions; impression materials; restorative materials (composites and alloys); hand instruments; sterilization products; infection control products such as protective clothing, gloves and facemasks; paper, cotton and other disposable products; toothbrushes and a full line of dental accessories including instruments, burs, and diamonds. Patterson markets its own private label line of dental supplies including anesthetics, instruments, preventive and restorative products, and cotton and paper products. Compared to most name brand supplies, the private label line provides lower prices for the Company’s customers and higher margins for the Company.

Veterinary Supplies. Webster offers its customers a broad selection of veterinary supply products including consumable supplies, pharmaceuticals, diagnostics, and biologicals. Consumable supplies distributed by Webster include lab supplies, various types and sizes of paper goods, needles and syringes, gauze and wound dressings, sutures, latex gloves, orthopedic and casting products. Webster’s pharmaceutical products are FDA licensed products including anesthetics, antibotics, injectables, ointments and neutraceuticals. The diagnostics product category includes on-site testing products for heartworm, FIV, FELV and Parvo virus. Biological products are comprised of vaccines and injectibles.

Printed Products. The Company provides a variety of printed products, office filing supplies, and practice management systems to office-based healthcare providers including dental, medical and veterinary offices. Products include custom printed products, insurance and billing forms, stationery, envelopes and business cards, labels, file folders, appointment books and other stock office supply products. Products are sold through three channels:

All three channels are supported by a staff of telemarketing personnel located in Champaign, Illinois. Orders are received by telephone, through the mail or electronically from the dental distribution order processing system.

Equipment and Software

Dental Equipment. Patterson Dental Supply is the largest supplier of dental equipment in the U.S. and Canada by a factor of more than two times when compared to its next largest competitor. It offers a wide range of dental equipment products including x-ray machines, high-and low-speed handpieces, dental chairs, dental handpiece control units, diagnostic equipment, sterilizers, dental lights and compressors. The Company also distributes newer technology equipment that provides customers with the tools to improve productivity and patient satisfaction. Examples of such innovative and high-productivity products include the CEREC^® product family, a chair-side restoration system; air abrasion systems; digital x-rays; and inter-oral cameras.

Veterinary Equipment. Equipment sold by Webster generally consists of machines for hospital, laboratory and general surgical use within the veterinary practice. Equipment sales accounted for about 4% of veterinary segment sales in fiscal 2003.

Software. The Company develops and markets practice management and clinical software for dental professionals. Products include software for scheduling, billing, charting and storage/retrieval of digital images. The Company also sells software products developed by third parties including Sidexis by Sirona, Dimax2 by Planmeca and VixWin by Gendex. These value-added products are designed to help achieve office productivity improvements, which translates into higher profitability for the customer.

Hardware. In fiscal 2003, the Company began to offer custom hardware and networking solutions required for integrating the entire dental office. By January 2003, this new product offering was available to all of the Company’s dental customers. This initiative marks another step in Patterson’s overall strategy of providing customers with the convenience and cost-effectiveness of a virtually complete range of products and value-added services and is the newest component of the Company’s single-source solution for dental offices.

7

Table of Contents

Other

Software Services. The Company offers a variety of services to complement its software products such as service agreements, electronic claims processing and billing statement processing. These services provide value to customers by allowing them to keep products current state, or receive payments more rapidly while obtaining greater productivity.

Equipment Installation, Repair and Maintenance. To keep their practices running efficiently, dentists require reliable performance from their equipment. All major equipment sold by Patterson includes installation and Patterson’s 90-day labor warranty at no additional charge. Patterson also provides complete repair and maintenance services for all dental equipment, whether or not purchased from Patterson, including 24-hour handpiece repair service. In addition to service technicians who provide installation and repair services on basic dental equipment, the Company also invested in personnel who specialize in installing and troubleshooting issues with technology solutions such as practice management software, digital imaging products, hardware and networking. The goal of this group, which is comprised of both local service technicians and the Patterson Technology Center, is to help customers integrate newer technology into their dental practice. The Patterson Technology Center helps the customer minimize costly downtime by offering a single point of contact for post sale technology related issues.

Dental Office Design. Patterson provides dental office layout and design services through the use of a computer-aided design (CAD) program. Equipment specialists can create original or revised dental office designs in a fraction of the time required to produce conventional drawings. Customers purchasing major equipment items receive dental office design services at no additional charge.

Equipment Financing. The Company provides a variety of options to fulfill its customers’ financing needs. For qualified purchasers of equipment, the Company will arrange financing for the customer through Patterson or a third party. For non-equipment related needs, customers are referred to one of the third party organizations. These alternatives allow the Company to offer its customers convenience while still meeting their diverse financing needs. In fiscal 2003, the Company originated over $184.0 million of equipment finance contracts. The Company, or one of its vendor partners, financed approximately 40% of the equipment purchased by customers during fiscal 2003.

Equipment leasing is provided by Banc of America Vendor Finance, a unit of BankAmerica, pursuant to an agreement entered into in July 1993. Applications for lease financing originated by the Company are reviewed by Banc of America Vendor Finance who, upon approval, will purchase the equipment and lease it to the customer. They will also finance the customer’s purchases on an installment sale contract with no recourse to the Company. Since November 1998, Patterson has also maintained a finance referral agreement with an outside finance company to provide a more extensive selection of finance opportunities to its customers. Currently this service is provided by HPSC Inc. There are no recourse provisions under this agreement. Patterson receives referral fees under both of these agreements and these institutions service the accounts.

To meet the needs of its customers, the Company also initiates installment sale contracts which are sold to a commercial paper conduit managed by Bank One, N. A., or a group of banks led by U.S. Bank National Association.

To participate in the commercial paper conduit, the Company created a special purpose entity (“SPE”), PDC Funding Company, LLC, a wholly-owned subsidiary, and entered into a new Receivables Purchase Agreement with the commercial paper conduit. The Company transfers installment sale contracts to the SPE. In turn, the SPE sells the contracts to the commercial paper conduit administered by Bank One. This agreement was renewed in May 2003, with a current limit of $200 million of contract purchases. There is no recourse to the Company for contracts purchased by the commercial paper conduit but there is a holdback equal to 10% of the contracts, which is carried as a non-current asset subject to mark-to-market adjustments.

The banks, led by U.S. Bank National Assocation, also purchase the Company’s installment sale contracts secured by dental equipment, on a limited recourse basis. The contract purchase agreement with the banks allowed for a maximum capacity of $50 million, which had been fully utilized at April 26, 2003. In May 2003, the Company extended its agreement with the banks, which now provides for sales of installment contracts up to $70 million.

The Company continues to service the accounts under both of the preceding arrangements for which it receives a fee.

8

Table of Contents

Sales and Marketing

During fiscal 2003, the Company sold products to over 127,000 customers in the U.S. and Canada who made one or more purchases of supplies during the year. The Company’s customers include dentists, veterinarians, laboratories, institutions and other healthcare professionals. No single customer accounted for more than 1% of sales during fiscal 2003, and Patterson is not dependent on any single customer or geographic group of customers. The Company’s sales and marketing efforts are designed to establish and improve customer relationships through personal interaction with its sales representatives and frequent direct marketing contact, which underscores the Company’s value-added approach.

A primary component of the Company’s value-added approach is its sales force. Due to the fragmented nature of both the dental and veterinary supply markets, Patterson believes that a large sales force is necessary to reach potential customers and to provide full service. Sales representatives provide an education link to the overall industry, assist practitioners in selecting and purchasing products and help customers efficiently manage their supply inventories. Each representative works within an assigned sales territory under the supervision of a location (branch) manager. Sales representatives are all Patterson employees and are generally compensated on a commission basis, with some, less experienced, representatives receiving a base salary and commission.

To assist its sales representatives, the Company publishes a variety of catalogs and fliers containing product and service information. The Company’s dental customers receive a full-line product catalog containing over 24,000 inventoried items. Veterinary customers receive a parallel catalog, which contains the approximately 8,000 SKU’s offered to the veterinary market. These catalogs include detailed descriptions and specifications of products and are utilized by practitioners as a reference source. Selected consumable supplies, new products, specially priced items and high-demand items such as infection control products are promoted through merchandise fliers printed and distributed bimonthly to the dental supply market and monthly to the veterinary supply market. In addition, dental equipment sold by the Company is featured in the Company’s tri-yearly publication, Patterson Today, which also includes articles on dental office design, trends in dental practice, products and services offered by Patterson, and information on equipment maintenance.

To enhance the total value it brings to its customers, the Company created value-added benefit programs for its preferred customers. The Patterson Plus^SM program entitles its best dental customers to priority technical services, automated supply management systems at no charge, a variety of product discounts and reduced rates on financial, practice management and technical services. For its preferred veterinary customers, the Company offers the Webstar Plus program. Membership rewards include an assortment of benefits such as reduced finance rates and deferred billing terms for equipment purchases, in-depth business reports and product discounts.

Distribution

The Company believes that responsive delivery of quality supplies and equipment is a key element to providing complete customer satisfaction.

The Company ships dental consumable supplies from 10 strategically located distribution centers in the U.S. and Canada. Orders for consumable dental supplies can be placed by telephone or electronically 24 hours a day, seven days a week. Printed office products are shipped from the Company’s two manufacturing facilities in Illinois.

Veterinary supplies are shipped from 6 distribution centers. Orders can be placed by salesperson, telephone, fax or mail. Tele-sales representatives are responsible for processing approximately 70% of customers’ orders in this segment.

All orders are routed through the Company’s centralized computer ordering, shipping and inventory management systems, which are linked to each of the Company’s strategically located distribution centers. If an item is not available in the distribution center nearest to the customer, the computer system automatically directs shipment of the item from another center. Rapid and accurate order fulfillment is another principal component of the Company’s value-added approach. The Company estimates that 99% of its consumable goods orders are delivered to the customer on time, which is generally within 24 hours.

In order to assure the availability of the Company’s broad product lines for prompt delivery to customers, the Company must maintain sufficient inventories at its distribution centers. Purchasing is centralized by segment and the purchasing departments use a real-time perpetual inventory system to manage inventory levels. The Company’s inventory consists mostly of consumable supply items. By utilizing its computerized inventory management and ordering systems, the Company is able to accurately predict inventory turns in order to minimize inventory levels for each item.

9

Table of Contents

The Company’s 96 dental sales offices are generally configured with display areas where the latest dental equipment can be demonstrated. Dental equipment inventory is generally custom ordered and is staged at the Company’s sales offices before delivery to dental offices for installation. About 50% of veterinary equipment orders are drop shipped directly to the customer, of which 15% are custom ordered from the manufacturer. The balance of veterinary equipment is distributed in a fashion similar to consumable supplies.

Sources of Supply

Effective purchasing is a key strategy the Company has adopted in order to achieve its objective of continuing to improve profitability. The Company has a program to effectuate electronic data interchange (EDI) with its major vendor partners. In fiscal 2003, the Company processed 58% of its dental vendor invoices using EDI capabilities. In addition, 49% of Patterson’s dental purchase order volume was conducted employing EDI, which represented 71% of dental purchase order dollars placed during the fiscal year. Utilizing EDI allows the Company to improve efficiencies and reduce administrative costs.

The Company obtains products from approximately 1,400 vendors, including 1,100 in the dental segment and 300 in the veterinary segment. In addition, the Company has exclusive distribution agreements with several quality dental equipment manufacturers including Sirona for the CEREC^®, and Schick Technologies for digital x-rays. The Company is the only national dealer for a-dec equipment, including chairs, units and cabinetry. A-dec is the largest manufacturer of dental equipment in the U.S.

While the Company makes purchases from many suppliers and there is generally more than one source of supply for most of the categories of products sold by the Company, the concentration of business with key suppliers is considerable. In fiscal 2003, the Company’s top 10 dental supply vendors and single largest vendor accounted for approximately 44% and 12%, respectively, of the cost of dental products sold. Likewise, the Company’s top 10 veterinary supply manufacturers and single largest supplier comprised 74% and 23%, respectively, of the Company’s cost of veterinary supply sales.

Competition

The highly competitive U.S. dental products distribution industry consists principally of national, regional and local full-service distributors and mail-order distributors. The dental supply market is extremely fragmented. In addition to Patterson and one other national, full-service firm, Henry Schein, Inc., there are at least 19 full-service distributors which operate on a regional level, and hundreds of small local distributors. Also, some manufacturers sell directly to end-users, and thereby eliminate the role of the Company.

Within the “companion pet” market segment, competitors range from small local distributors to large national and regional full-service companies, and to a lesser extent mail order distributors or buying groups. Webster also competes directly with pharmaceutical companies who sell certain products directly to the customer.

The Company approaches its markets by emphasizing and delivering a value-added model to the practitioner. To differentiate itself from its competition it deploys a strategy of premium customer service, a highly qualified and motivated sales force, experienced service technicians, an extensive breadth and mix of products and services, accurate and timely delivery of product, strategic location of sales offices and distribution centers, and competitive pricing.

The Company also experiences competition in Canada in the dental supply market. Principal competitors include two national, full-service dental distributors, Ash Temple and Arcona, a division of Henry Schein, Inc. The Company believes it competes in Canada on essentially the same basis as in the United States.

Trademarks

Patterson has registered with the United States Patent and Trademark Office the marks “Patterson”, “PDXpress” and “eMAGINE”. The Company believes that the Patterson mark is well recognized in the dental products industry and by dental professionals, and is therefore a valuable asset of the Company.

Employees

As of April 26, 2003, the Company employed 4,772 people in the United States and Canada on a full-time basis. Patterson has not experienced a shortage of qualified personnel in the past, and believes that it will be able to attract such employees in the future. None of Patterson’s employees is subject to collective bargaining agreements or represented by a union. The Company considers its relations with its employees to be good.

10

Table of Contents

Website Access to Company Reports

The Company makes available, free of charge, on or through its website, its Annual Report on Form 10-K, quarterly reports on Form 10-Q, and current reports on Form 8-K, and amendments to those reports as soon as reasonably practicable after this material is electronically filed with or furnished to the Securities and Exchange Commissions. This material may be accessed by visiting the Investor Relations section of the Company’s website at www.pattersondental.com.

Governmental Regulation

The marketing, distribution and sale of certain products sold by the Company are subject to the requirements of various state, local and federal laws and regulations. The Company is subject to regulation by the Food and Drug Administration, U. S. Department of Agriculture, OSHA and the Drug Enforcement Administration. Among the federal laws which impact the Company are the Federal Food, Drug and Cosmetic Act, which regulates the advertising, record keeping, labeling, handling, storage and distribution of drugs and medical devices, and which requires the Company to be registered with the Federal Food and Drug Administration, and the Safe Medical Devices Act of 1990, which imposes certain reporting requirements on distributors in the event of an incident involving serious illness, injury or death caused by a medical device. In addition, the Company is required to be licensed as a distributor of drugs and medical devices by each state in which it conducts business. Several State Boards of Pharmacy require the Company to be licensed in their state for the sale of animal health products within their jurisdiction. The Company believes that it is in substantial compliance with all of the foregoing laws and that it possesses all licenses required in the conduct of its business.

Executive Officers of the Registrant

Set forth below are the names, ages and positions of the executive officers of the Company as of June 30, 2003.

The officers of the Company are elected annually and serve at the discretion of the Board of Directors. None of the Company’s officers is employed pursuant to a written employment contract.

Background of Executive Officers

Peter L. Frechette has been Chief Executive Officer of the Company since September 1982. Mr. Frechette has been a director of Patterson since March 1983 and was named Chairman of Board in 1985. Mr. Frechette served as President of the Company from September 1982 to April 2003. Prior to joining Patterson, Mr. Frechette was employed by American Hospital Supply Corporation for 18 years, the last seven of which he served as president of its Scientific Products Division. Mr. Frechette is also a director of FinishMaster, Inc.

James W. Wiltz was named the Company’s President and Chief Operating Officer in April 2003. Mr. Wiltz served as a Vice President of the Company from 1986 to 2003 and as President of Patterson Dental Supply, Inc., from 1996 to 2003. He has been employed

11

Table of Contents

by Patterson since September 1969, initially as a territory sales representative. Mr. Wiltz was appointed to the Board of Directors in March 2001.

R. Stephen Armstrong was elected Executive Vice President, Treasurer and Chief Financial Officer of the Company effective July 31, 1999. Prior to joining Patterson, Mr. Armstrong had been an Assurance Partner with Ernst & Young LLP. Ernst & Young LLP is currently the Company’s independent auditor.

Scott R. Kabbes was named President of the Company’s subsidiary Patterson Dental Supply, Inc., in April 2003 and is also President of Patterson Technology Center, Inc. Mr. Kabbes owned EagleSoft prior to its acquisition by the Company in July 1996.

Jeffrey H. Webster has been President of Webster Veterinary Supply, Inc., since its acquisition by Patterson in July 2001. Mr. Webster held various management positions with J. A. Webster, Inc. since 1984. At the time the company was acquired, Mr. Webster was President of J. A. Webster, Inc.

Cree Z. Hanna joined Patterson Dental Company in June of 2002 as Vice President, Human Resources. Prior to joining Patterson, Ms. Hanna provided human resource consulting support to various organizations and served as Senior Vice President, Human Resources at U.S. BANCORP for approximately 9 years.

Lynn E. Askew became Vice President, Management Information Systems, on September 1, 1999. Mr. Askew joined Patterson in 1994 as Manager, Distributed Systems, and was promoted to Director, Systems and Development in 1996. Prior to joining Patterson, Mr. Askew provided advanced technology consulting and project management services to various organizations, including Patterson.

Gary D. Johnson has been Vice President, Sales, of Patterson Dental Supply, Inc. since October 1996. Mr. Johnson has served in various sales and management positions since he joined the Company in August 1981.

R. Reed Saunders has been a Vice President of Patterson Dental Supply, Inc. since March 1997 and is President of Colwell Systems, Inc. Prior to joining Patterson, Mr. Saunders spent 15 years with American Express Company as Senior Vice President—Chief Marketing Officer of its division, American Express Financial Advisors.

Richard A. Kochmann was promoted to Vice President, Marketing, of Patterson Dental Supply, Inc. in November 2000. Mr. Kochmann began his career with Patterson in 1980 as a college representative and has held various sales and management positions within the Company.

Andre Desjardins was named President of the Company’s Canadian subsidiary Patterson Dental Canada Inc., in May 2003. Mr Desjardins was President of Distribution Quebec Dentaire, Inc. prior to its acquisition by the Company in July 2002.

2. PROPERTIES

The Company owns its principal executive offices in St. Paul, Minnesota.

The Company has 10 dental and 6 veterinary distribution centers as well as two locations used to ship printed office products. Sales and administrative personnel for the veterinary segment reside within the distribution facilities. Distribution and manufacturing facilities are located in Alabama, California, Florida, Illinois, Indiana, Iowa, Massachusetts, North Carolina, Pennsylvania, South Carolina, Texas, Washington and Quebec and Alberta, Canada. The Company owns approximately 60%, or 346,000 square feet, of the total distribution space and the balance is leased.

The Company’s dental segment also maintains sales and administrative offices inside the United States at 87 locations in 45 states and outside the United States at 11 locations in Canada. All of these locations, except one, are leased. The Company has two owned manufacturing facilities used to produce the printed office products and one leased site.

In management’s opinion, all buildings, machinery and equipment are in good condition, suitable for their purposes and are maintained on a basis consistent with sound operations. Currently, the Company does not have substantial idle facilities.

12

Table of Contents

3. LEGAL PROCEEDINGS

The Company has been involved in various product-related and employment-related legal proceedings arising in the ordinary course of business. Some of these proceedings involve product liability claims arising out of the use of dental products manufactured by third parties and distributed by the Company. The Company believes that if any such product liability cases are determined in favor of the claimants, the manufacturers of such products would have primary responsibility for any damages because Patterson is a distributor of finished goods manufactured by third parties. In the event a manufacturer of a defective product is unable to pay a judgment for which the Company may be jointly liable, the Company could have liability for the entire judgment.

Among the product liability cases in which the Company is currently a defendant, seven involve claims by healthcare workers alleging damages from allergic reactions from exposure to latex gloves distributed by the Company. In each of these cases the Company acted as a distributor of “Patterson” private label gloves manufactured by third parties, as well as gloves bearing the brand names of other suppliers. In each of these cases the Company intends to seek indemnification from or assert claims against the glove manufacturers pending completion of product identification.

Since May 1985 the Company has maintained product liability insurance coverage for any potential liability for claims arising out of products sold by the Company. The Company believes that any liabilities which might result from pending cases and claims relating to events occurring after May 1985 would be adequately covered by such insurance and that any unfavorable results in such cases would not have a material adverse effect on the Company’s business or financial condition. With respect to claims relating to events occurring prior to May 1985, the agreement providing for the acquisition of Patterson from The Beatrice Companies, Inc. provides that Beatrice and its successors are obligated to indemnify the Company for losses exceeding a litigation reserve established at the time of the acquisition plus $200,000. The successor to Beatrice has not been asked to indemnify the Company regarding any pending cases and has not contested its obligation to indemnify the Company. Although the Company has insurance coverage for product liability claims relating to events occurring after May 1985 and may be entitled to indemnification from third parties under certain circumstances, any additional litigation could have a material adverse effect on the Company’s business or financial condition in the future.

4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

There were no matters submitted to a vote of the Company’s shareholders during the three-month period ended April 26, 2003.

13

Table of Contents

PART II

5. MARKET FOR REGISTRANT’S COMMON STOCK AND RELATED STOCKHOLDER MATTERS

The Company’s common stock trades on the Nasdaq Stock Market^® under the symbol “PDCO”.

The following table sets forth the range of high and low sale prices for the Company’s common stock for each full quarterly period within the two most recent fiscal years. Such quotations reflect inter-dealer prices, without retail mark-up, mark-down or commission, and may not necessarily represent actual transactions.

On July 14, 2003, the number of holders of record of common stock was 4,244. The transfer agent for the Company’s common stock is Wells Fargo Bank Minnesota, N.A., 161 North Concord Exchange, South St. Paul, Minnesota, 55075-0738, telephone: (651) 450-4064.

The Company has not paid any cash dividends on its common stock since its initial public offering in 1992 and expects that for the foreseeable future it will follow a policy of retaining earnings in order to finance the continued development of its business. Payment of dividends is within the discretion of the Company’s Board of Directors and will depend upon the earnings, capital requirements and operating and financial condition of the Company, among other factors.

14

Table of Contents

6. SELECTED CONSOLIDATED FINANCIAL DATA

(In thousands, except per share amounts)

7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Introduction

The Company’s fiscal 2003 financial information is summarized in this Management’s Discussion and Analysis, the Consolidated Financial Statements, and the related Notes. The following background is essential to fully understanding the Company’s financial information.

Historically the Company’s effective strategy for growth focused on internal growth and the acquisition of smaller dental distributors and businesses offering dental related products and services. In fiscal 2002, the Company expanded its strategy to take advantage of a parallel growth opportunity in the veterinary supply market by acquiring the assets of J. A. Webster, Inc.

The historical operating performance of the veterinary supply business is somewhat different than the dental business. Gross margins in the veterinary business are typically in the mid 20’s compared to the mid 30’s for the dental business. The operating expense rate is also lower in the veterinary business than in the dental business. These disparities have had a notable impact on the Company’s operating ratios as is highlighted in the discussion that follows.

15

Table of Contents

Results of Operations

The following table summarizes the results of operations over the past three fiscal years as a percent of sales:

Fiscal 2003 Compared to Fiscal 2002

Net Sales. Net sales for the year ended April 26, 2003 totaled $1,657.0 million, a 17.1% increase from $1,415.5 million reported last year.

Sales in the dental supply market increased 14.9%. Sales of dental equipment continued to be a principal sales growth driver for the dental supply segment, increasing 22.2%. Equipment was paced by robust demand for such new-technology products as the CEREC^® 3 dental restorative system and digital radiography. Consumable supplies grew 11.1% due primarily to contributions from an expanded sales force, an increase in the number of customers and acquisitions. Sales of other services and products, consisting primarily of parts, technical service, software support and insurance e-claims, grew 15.6%. During the year, the Company successfully integrated two acquisitions into its dental operation: Thompson Dental Company (“Thompson”) acquired in early April 2002 and Distribution Quebec Dentaire, Inc. acquired in July 2002. The acquisitions accounted for approximately five percentage points of annual sales growth.

Canadian dental sales increased 21.4% in fiscal 2003, 19.0% excluding currency gains. The acquisition of DQD contributed about 6% to the overall sales increase in Canada.

Sales of the Webster Veterinary Supply unit increased 37.8% for the year to $185.8 million. Webster was acquired in the first quarter of fiscal 2002. Assuming this unit had been acquired at the beginning of fiscal 2002, Webster’s sales increased 10% in fiscal 2003.

Gross Margins. Gross margins increased 16.3% in fiscal 2003 due solely to higher sales volumes. The consolidated gross margin rate declined 20 basis points due to the addition of the veterinary supply business in July 2001. That business has historically experienced margins in the mid 20’s. Dental supply gross margins were the same as last year.

Operating Expenses. Results for fiscal 2003 include the impact of the adoption of Statement of Financial Accounting Standards (SFAS) No. 142, “Goodwill and Other Intangible Assets” resulting in the cessation of goodwill amortization. Additional information regarding the adoption of SFAS No. 142 is included in Note 3 to the Consolidated Financial Statements. That information is incorporated by reference into this section of this report. After adjusting fiscal 2002 to exclude goodwill amortization, fiscal 2003 operating expenses increased 15.2% but declined 40 basis points as a percent of sales.

Fiscal 2003 operating expenses as a percent of sales reflects twelve months of operating results for Webster Veterinary Supply compared to ten months in fiscal 2002. Since the operating expense rate in the veterinary business is lower than in the dental business, this disparity provides a favorable year-over-year impact of approximately 40 basis points after the amortization of certain identifiable intangible assets.

Excluding the impact of the adoption of SFAS No. 142, the 2003 operating expense rate for the dental business was unchanged from 2002. In fiscal 2003, the Company made substantial investments in people and training to support its single-source technology solution aimed at automating and networking the dental office. While the Company realized sales and modest profits from

16

Table of Contents

this program in 2003, it had a dampening effect on the Company’s operating expense rate. The implementation of new systems for managing and strengthening the Company’s technical service operation also affected the expense ratio in fiscal 2003. In addition, the current year expense rate reflects the impact of the acquisition of Thompson, which contributed to operating earnings but to a lesser degree than the Company’s historical dental business. By the end of fiscal 2003 the single-source technology solution and the acquisition were contributing to earnings at a rate similar to the historic dental business. While the Company expects the technical service initiative to improve operating efficiencies and contribute sales growth over time, the Company expects this initiative to be neutral to earnings in fiscal 2004 as the Company continues to invest in training and communication costs to roll-out the program nationwide.

Operating Income. Operating income increased 21.6% and improved 40 basis points as a percent of sales. Higher sales volumes accounted for most of the increase. The improvement in operating income as a percent of sales is primarily the result of the veterinary supply business, which saw a favorable improvement in its operating income due to operating leverage. The discontinuation of goodwill amortization in fiscal 2003 due to adoption of SFAS No. 142 also helped improve operating income.

Other Income. Other income, net of expenses, was $7.5 million for fiscal 2003 compared to $5.0 million for fiscal 2002. The benefit of higher financing income on equipment contracts was mitigated by the elimination of the amortization of deferred credits associated with the adoption of SFAS No. 142.

Income Taxes. The effective income tax rate in fiscal 2003 was 37.6%, an increase from the 37.4% rate used in fiscal 2002 reflecting the impact of the elimination of the amortization of the deferred credits discussed above which were non-taxable.

Earnings Per Share, Before Cumulative Effect of Accounting Change. Earnings per share increased to $1.70 versus $1.40 a year ago. Had amortization of goodwill and the deferred credits ceased in fiscal 2002, prior year net earnings would have increased by $1.6 million or approximately $0.02 per diluted share.

Fiscal 2002 Compared to Fiscal 2001

Net Sales. Net sales for the year totaled $1,415.5 million a 22.4% increase from $1,156.5 million reported in fiscal 2001. The Company’s sales growth reflected solid contributions from all product categories combined with $141.5 million of incremental sales from acquisitions.

Dental supply sales increased 10.7% for the fiscal year led by a 14.9% increase in equipment and software sales. The Company experienced double digit growth rates across most equipment product lines. Software sales were particularly robust growing 32% illustrating the success of a new marketing strategy launched during fiscal 2002. Sales for the year were also helped by an 8.8% increase in consumable dental supplies. Consumable dental supply sales were paced by a 10.0% increase in the U. S. dental market reflecting the continued expansion of the Company’s sales force and customer base. Sales of other dental products and services, consisting of parts, technical service, software support and insurance e-claims, grew 10.7% during fiscal 2002. Dental acquisitions, principally Thompson, added about $6.7 million to net sales and accounted for .6 percentage points of the 10.7% sales growth. Thompson was acquired for approximately $21 million in cash and stock and is expected to contribute sales of more than $50 million on an annualized basis, making it Patterson’s second largest dental acquisition. Thompson is expected to become accretive to earnings in the latter half fiscal 2003. In fiscal 2001, dental acquisitions contributed approximately 2 percentage points to the overall sales growth rate.

Canadian sales were up almost 10% for the year in local currencies due primarily to strong equipment sales. Currency exchange rates negatively impacted results reducing reported sales by approximately $3.5 million.

On a proforma basis, veterinary net sales increased approximately 10% year-over-year. However, sales on a comparable basis increased approximately 9%. This gives effect to the conversion of a product group from distribution status to an agency arrangement at the beginning of calendar year 2001. Comparable basis sales performance also excludes the introduction of ProHeart-6^®, a new heart worm medication from Fort Dodge Animal Health that was introduced during fiscal 2002. Including ProHeart-6^®, comparable basis sales increased 18%.

Gross Margin. The gross margin for the historical dental business was better than last year by 60 basis points benefiting from, among other things, improved point-of-sale margins in sundries, favorable changes in product mix, and improvement in the Colwell gross margins as this product group recognized results from its realignment efforts. Veterinary gross margins of 24.9% were consistent with management’s expectations. Gross margins on the veterinary supply business are lower than those on the dental operations as a

17

Table of Contents

result of pharmaceutical products, which carry lower margins. Reflecting this combination of factors, the Company’s consolidated gross margin for fiscal 2002 declined to 34.9% from 35.4% in fiscal 2001.

Operating Expenses. Operating expenses for the year increased 18% to $347.0 million up from $294.0 million reported a year earlier. As a percent of sales, operating expenses declined 90 basis points year-over-year. The dental operating expense rate improved 30 basis points despite higher insurance costs. The dental supply business achieved this reduction through a variety of cost containment initiatives and improved operating leverage. Fiscal year 2002 operating expenses as a percent of sales also reflects Webster Veterinary Supply, providing a favorable year-over-year impact of approximately 60 basis points after the amortization of certain intangible assets. The veterinary operation has a lower operating expense rate than the historical dental operation due primarily to not having the infrastructure of a technical service business.

Operating Income. Operating income increased 27.9% to $147.2 million up from $115.1 million a year ago. As a percent of sales, operating income increased 40 basis points to 10.4%. Dental supply operating income increased 20.4% and as a percent of sales improved 90 basis points. Veterinary supply operating income was $8.5 million.

Other Income. Other income, net of expenses, was $5.0 million for fiscal 2002, a $2.0 million or 28.8% decline compared to fiscal 2001. The decrease resulted from lower yields on investment balances and reduced average cash balances due to expenditures for acquisitions.

Income Taxes. The effective income tax rate at 37.4% remained the same as last year.

Net Income. Net income increased to $95.3 million, or 24.6% due to the factors discussed above.

Earnings Per Share. Diluted earnings per share increased to $1.40 versus $1.13 reported a year ago, a 27 cent or 23.9% increase over a year ago. The acquisition of assets of J. A. Webster, Inc. added approximately $0.04 per diluted share to the Company’s consolidated net earnings in fiscal 2002.

Liquidity and Capital Resources

Patterson’s operating cash flow, which generally parallels net earnings, has been the Company’s principal source of liquidity in fiscal 2003, 2002 and 2001. Cash generated from operating activities was invested in working capital, capital expenditures and acquisitions.

Operating activities generated cash of $86.7 million in fiscal 2003 compared with $89.4 million in fiscal 2002 and $79.1 million in fiscal 2001. Cash flow from operations was diminished in both fiscal 2003 and 2002 by an increase in the level of equipment finance contracts the Company carried. At the end of fiscal 2002, the Company was unable to sell a portion of its equipment finance contracts due to capacity constraints with its then current bank arrangement. This was the result of stronger than anticipated fourth quarter equipment sales. The capacity constraints were eliminated in fiscal 2003 by a new financing arrangement with a commercial paper conduit. However, the Company is now required to receive one payment from the customer before a contract is eligible for sale to the commercial paper conduit. This requirement in conjunction with increased equipment sales resulted in an increase in the level of accounts receivable in fiscal 2003. The level of investment in working capital made in fiscal 2003 to support the financing portion of the business is not anticipated to repeat in fiscal 2004.

Capital expenditures net of dispositions were $11.4, $11.1, and $10.0 million in fiscal years 2003, 2002 and 2001, respectively. The Company expects to invest approximately $18 to $20 million in capital in fiscal 2004 to enhance information systems and upgrade facilities. The higher level of projected spending for fiscal 2004 includes expenditures for a new distribution center to replace an existing facility.

The Company leases various facilities under noncancelable operating lease arrangements. Future minimum lease payments under these leases are as follows: $8.9 in fiscal 2004; $7.1 in fiscal 2005; $5.2 in fiscal 2006; $3.5 in fiscal 2007; $2.5 in fiscal 2008 and $2.9 million in years thereafter.

In fiscal 2003, the Company used $6.5 million of cash for acquisitions, namely DQD. Acquisition costs incurred during fiscal 2003 also reflect contingent earn-out payments from acquisitions made in prior years. In comparison, the Company invested cash of $109.3 million

18

Table of Contents

in fiscal 2002 to acquire the assets of J. A. Webster Inc., Thompson, and Modern Practice Technologies, a company that provides custom computing solutions to the dental industry. The Company spent $3.8 million in fiscal 2001 to acquire one dental distribution business and eCheck-Up.com, a web-based value-added service company.

The Company repurchased 321,299, 247,000 and 125,000 shares of its common stock for $13.1, $8.3 and $3.6 million during fiscal 2003, 2002 and 2001, respectively. The shares repurchased minimized the dilutive effect of shares issued in conjunction with the Company’s employee benefit plans and in acquisitions.

The Company expects funds generated by operations and existing cash and cash equivalents to continue to be its most significant sources of liquidity. The Company currently believes funds generated from the expected results of operations and available cash and cash equivalents of $217.4 million will be sufficient to meet the Company’s working capital needs and finance anticipated expansion plans and strategic initiatives for the next fiscal year. However, to increase the Company’s liquidity and flexibility, the Company entered into a $50 million credit agreement. There were no outstanding borrowings under the agreement at April 26, 2003. Should additional investment opportunities arise, management believes that the strength of the Company’s earnings, cash flows and balance sheet will permit the Company to obtain additional debt or equity capital, if necessary.

The Company sells a significant portion of its installment sale contracts to a commercial paper funded conduit managed by a third party bank, and as a result commercial paper is indirectly an important source of liquidity for the Company. The Company is allowed to participate in the conduit due to its financial strength. Cash flow could be impaired if the Company’s financial strength diminished to a level that precluded the Company from taking part in this facility or other similar facilities. The Company’s financing business is described in further detail in Note 6 of the Notes to Consolidated Financial Statements. That description is incorporated by reference into this section.

Outlook

Over the last ten years, the Company has been able to average double-digit revenue and earnings growth through its strategy of emphasizing its value-added, full-service capabilities, using technology to enhance customer service, continuing to improve operating efficiencies, and growing through internal expansion and acquisitions. The Company’s growth strategy will continue to focus on these key elements. Maintaining financial flexibility is also a key component of the Company’s future growth. With strong operating cash flow and available credit facility, the Company is confident that it will be able to financially support its future growth. The strategic initiatives that the Company implemented during fiscal 2003, which have significantly strengthened the Company’s operational platform, are also a key ingredient to continuing future growth. Given these factors, the Company considers itself well positioned to continue capitalizing upon the growth opportunities in both the dental supply and companion-pet veterinary supply markets. The Company continues to believe that the sustainable, long-term growth rate of its North American dental operation is four percentage points in excess of the market’s 7% to 9% estimated rate of growth. The Company also believes its Webster unit can continue to grow faster than the estimated 6% to 7% growth rate of the U.S. companion-pet veterinary supply market.

Asset Management

The following table summarizes the Company’s days sales outstanding (DSO) and inventory turnover over the past three fiscal years:

19

Table of Contents

Foreign Operations

Foreign sales are derived primarily from operations in Canada. Fluctuations in currency exchange rates have not significantly impacted earnings. However, net sales in fiscal 2003 were enhanced by changes in the exchange rate while sales in fiscal 2002 and 2001 were adversely affected by the strengthening of the U.S. dollar. Without foreign currency effects, net sales would have been $2.3 million lower in fiscal 2003 but would have been higher by $3.5 and $2.5 million in fiscal 2002 and 2001, respectively. The Company expects the favorable US/Canadian exchange rate to continue to impact its rate of year-over-year sales growth during the first half of fiscal 2004. Changes in currency exchange rates is a risk accompanying foreign operations, but this risk is not considered material with respect to the net operations of the Company’s business.

Critical Accounting Policies

The Company has adopted various accounting policies to prepare its consolidated financial statements in accordance with accounting principles generally accepted in the United States (U.S.). Management believes that the Company’s policies are conservative and its philosophy is to adopt accounting policies, which minimize the risk of adverse events having a material impact on recorded assets and liabilities. However, the preparation of financial statements requires the use of estimates and judgements regarding the realization of assets and the settlements of liabilities based on the information available to management at the time. Changes subsequent to the preparation of the financial statements in economic, technological and competitive conditions may materially impact the recorded values of the Company’s assets and liabilities. Therefore, the users of the financial statements should read all the notes to the consolidated financial statements and be aware that conditions currently unknown to management will develop in the future. This may require a material adjustment to a recorded asset or liability to consistently apply the Company’s significant accounting principles and policies that are discussed in Note 1 to the Consolidated Financial Statements. The financial performance and condition of the Company may also be materially impacted by transactions and events that the Company has not previously experienced and for which the Company has not been required to establish an accounting policy or adopt a generally accepted accounting principle. Because we are a distributor, we face inventory risk due to obsolescence and customer preference. We assess our inventories continuously and value them at the lower of cost or market, and in addition, we relieve inventory cost using a last-in, first-out convention which results in an inventory carrying value that is well below the replacement cost of the inventory. Our revenue recognition processes involve establishing estimates for bad debts, returns, damaged goods and other allowances. These estimates are based on historical experience and the facts known at the date of preparing the financial statements but future events could cause actual results to vary from our estimates. We have acquired other businesses in the past and this has resulted in goodwill being recorded on our financial statements. While this asset is no longer amortized systematically over time due to changes in generally accepted accounting principles in the U.S., this asset is subject to a periodic assessment of its continuing value to the Company. Currently, we believe the recorded value is well below the realizable value of this asset.

New Accounting Pronouncements

A discussion of recently issued accounting pronouncements is described in Note 1 of the Notes to Consolidated Financial Statements. That discussion is incorporated by reference into this section.

Factors That May Affect Future Operating Results

Certain information of a non-historical nature contained in Items 1, 2, 3 and 7 of this Form 10-K include forward-looking statements. Words such as “believes,” “expects,” “plans,” “estimates,” “intends” and variations of such words are intended to identify such forward-looking statements. The statements are not guaranties of future performance and are subject to certain risks, uncertainties or assumptions that are difficult to predict; therefore, the Company cautions shareholders and prospective investors that the following important factors, among others, could cause the Company’s actual operating results to differ materially from those expressed in any forward-looking statements. The statements under this caption are intended to serve as cautionary statements within the meaning of the Private Securities Litigation Reform Act of 1995. The following information is not intended to limit in any way the characterization of other statements or information under other captions as cautionary statements for such purpose. The order in which such factors appear below should not be construed to indicate their relative importance or priority.

20

Table of Contents

7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Market Risk

The Company is subject to market risk associated with changes in interest rates and foreign currency exchange rates.

The Company’s earnings are affected by changes in short-term interest rates as a result of its investment of its cash balances in short-term commercial paper and government securities and due to its practice of selling its equipment finance contracts. As of the end of fiscal 2003 and 2002, the fair market value of the investments approximated the carrying value. If market interest rates averaged 10 percent more or less in fiscal 2003 and 2002, the Company’s earnings would have increased or decreased by less than $0.01 per diluted share in each of the years.

The Company has operations in Canada, which it considers to be both long-term and strategic. As a result, the Company does not hedge the long-term translation exposure to its balance sheet. The Company experienced a positive translation adjustment of $2.6 million in fiscal 2003 and a negative translation adjustment of $0.8 million in fiscal 2002, which were reflected in the balance sheet as an adjustment to stockholders’ equity. The cumulative translation adjustment at the end of fiscal 2003 showed a negative translation adjustment of $0.5 million.

The Company purchases a portion of the products it sells from suppliers located in countries other than where the products are sold. The risk of transaction gains and losses from changes in foreign exchange rates is not material as a majority of these purchases are denominated in the U.S. dollar.

21

Table of Contents

8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

REPORT OF INDEPENDENT AUDITORS

The Board of Directors and Stockholders

Patterson Dental Company

We have audited the accompanying consolidated balance sheets of Patterson Dental Company as of April 26, 2003 and April 27, 2002, and the related consolidated statements of income, changes in stockholders’ equity and cash flows for each of the three years in the period ended April 26, 2003. 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 consolidated financial position of Patterson Dental Company at April 26, 2003 and April 27, 2002, and the consolidated results of its operations and its cash flows for each of the three years in the period ended April 26, 2003 in conformity with accounting principles generally accepted in the United States.

As discussed in Note 3 to the consolidated financial statements, the Company adopted Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets, in fiscal 2003.

Minneapolis, Minnesota

May 22, 2003

22

Table of Contents

PATTERSON DENTAL COMPANY

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except per share amounts)

See accompanying notes

23

Table of Contents

PATTERSON DENTAL COMPANY

CONSOLIDATED STATEMENTS OF INCOME

(In thousands, except per share amounts)

See accompanying notes

24

Table of Contents

PATTERSON DENTAL COMPANY

CONSOLIDATED STATEMENT OF

CHANGES IN STOCKHOLDERS’ EQUITY

(Dollars in thousands)