SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
(Mark one)
[X] Quarterly report pursuant to Section 13 or 15 (d) of the Securities
Exchange Act of 1934 for the quarterly period ended March 31, 2003 or
[_] Transition report pursuant to Section 13 or 15 (d) of the Securities
Exchange Act of 1934 for the transition period from _________ to _________
Commission file number: 0-18793
----------
VITAL SIGNS, INC.
(Exact name of registrant as specified in its charter)
New Jersey 11-2279807
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
20 Campus Road
Totowa, New Jersey 07512
(Address of principal executive office, including zip code)
973-790-1330
(Registrant's telephone number, including area code)
--------------------------------------------------------------------------------
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [_]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [X] No [_]
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
At May 8, 2003 there were 12,994,462 shares of Common Stock, no par value,
outstanding.
VITAL SIGNS, INC.
INDEX
PAGE
NUMBER
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PART I.
Financial information.......................................... 1
Item 1. Financial Statements
Independent Accountant's Report................................ 2
Consolidated Balance Sheet as of March 31, 2003 (Unaudited) and
September 30, 2002............................................. 3
Consolidated Statement of Operations for the Three Months ended
March 31, 2003 and 2002 (Unaudited)............................ 4
Consolidated Statement of Operations for the Six Months ended
March 31, 2003 and 2002 (Unaudited)............................ 5
Consolidated Statement of Cash Flows for the Six Months Ended
March 31, 2003 and 2002 (Unaudited)............................ 6
Notes to Consolidated Financial Statements (Unaudited)......... 7-10
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.......................................... 10-18
Item 3. Quantitative and Qualitative Disclosure About Market Risks..... 19
Item 4. Controls and Procedures........................................ 19-21
PART II.
Item 1. Legal Proceedings.............................................. 22
Item 6. Exhibits and Reports on Form 8-K............................... 23
Signatures..................................................... 25
Certifications................................................. 26-27
Exhibit 99.1................................................... 28
Exhibit 99.2................................................... 29
PART I.
Financial Information
Item 1.
Financial Statements
Certain information and footnote disclosures required under generally
accepted accounting principles have been condensed or omitted from the following
consolidated financial statements pursuant to the rules and regulations of the
Securities and Exchange Commission. Vital Signs, Inc. (the "registrant", the
"Company", "Vital Signs", "we", "us", or "our") believes that the disclosures
are adequate to assure that the information presented is not misleading in any
material respect. It is suggested that the following consolidated financial
statements be read in conjunction with the year-end consolidated financial
statements and notes thereto included in the registrant's Annual Report on Form
10-K for the year ended September 30, 2002.
The results of operations for the interim period presented herein are not
necessarily indicative of the results to be expected for the entire fiscal year,
or any other period.
1
INDEPENDENT ACCOUNTANT'S REPORT
To the Board of Directors
Vital Signs, Inc.
We have reviewed the accompanying consolidated balance sheet of Vital Signs,
Inc. and Subsidiaries as of March 31, 2003 and the related consolidated
statements of operations for the three month periods and six month periods ended
March 31, 2003 and 2002, and the consolidated statements of cash flows for the
six month periods ended March 31, 2003 and 2002. These financial statements are
the responsibility of the Company's management.
We conducted our reviews in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures and
making inquiries of persons responsible for financial and accounting matters. It
is substantially less in scope than an audit conducted in accordance with
generally accepted auditing standards, the objective of which is the expression
of an opinion regarding the consolidated financial statements taken as a whole.
Accordingly, we do not express such an opinion.
Based on our reviews, we are not aware of any material modifications that should
be made to the consolidated financial statements referred to above for them to
be in conformity with accounting principles generally accepted in the United
States of America.
We have previously audited, in accordance with auditing standards generally
accepted in the United States of America, the consolidated balance sheet of
Vital Signs, Inc. and Subsidiaries as of September 30, 2002 and the related
consolidated statements of income, stockholders' equity and cash flows for the
year then ended (not presented herein); and in our report dated November 22,
2002, we expressed an unqualified opinion on those consolidated financial
statements. In our opinion, the information set forth in the accompanying
consolidated balance sheet as of September 30, 2002, is fairly stated, in all
material respects, in relation to the consolidated balance sheet from which it
has been derived.
GOLDSTEIN GOLUB KESSLER LLP
New York, New York
May 8, 2003
2
VITAL SIGNS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
MARCH 31, SEPTEMBER 30,
2003 2002
----------- -------------
(IN THOUSANDS OF DOLLARS)
(Unaudited)
-----------
ASSETS
Current Assets:
Cash and cash equivalents ............................................... $ 44,771 $ 29,303
Accounts receivable, less allowance for doubtful accounts of
$572 and $638 respectively ........................................... 31,271 35,392
Inventory ............................................................... 21,991 21,024
Prepaid expenses and other current assets ............................... 5,239 6,085
Assets of discontinued business ......................................... 5,046 7,846
-------- --------
Total Current Assets ................................................. 108,318 99,650
Property, plant and equipment - net ..................................... 31,327 30,867
Marketable securities ................................................... 77 186
Goodwill ................................................................ 69,604 69,516
Deferred income taxes ................................................... 1,575 1,851
Other assets ............................................................ 3,701 3,007
-------- --------
Total Assets ......................................................... $214,602 $205,077
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable ........................................................ $ 5,817 $ 3,940
Current portion of long-term debt ....................................... 403 395
Accrued expenses ........................................................ 7,398 6,980
Other current liabilities ............................................... 1,871 1,015
Liabilities of discontinued business .................................... 639 720
-------- --------
Total Current Liabilities ............................................ 16,128 13,050
Long term debt ............................................................. 1,320 1,560
-------- --------
Total Liabilities .................................................... 17,448 14,610
Minority interest in subsidiary ............................................ 2,781 2,652
Commitments and contingencies
Stockholders' Equity
Common stock - no par value; authorized 40,000,000 shares, issued and
outstanding 12,991,564 and 12,938,002 shares, respectively ........... 32,654 30,812
Accumulated other comprehensive loss .................................... (287) (1,189)
Retained earnings ....................................................... 162,006 158,192
-------- --------
Stockholders' equity .................................................... 194,373 187,815
-------- --------
Total Liabilities and Stockholders' Equity ........................... $214,602 $205,077
======== ========
(See Notes to Consolidated Financial Statements)
3
VITAL SIGNS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
FOR THE THREE-MONTHS ENDED
MARCH 31,
---------------------------------------
2003 2002
---------------------------------------
(In Thousands Except Per Share Amounts)
---------------------------------------
Net Revenues:
Net sales .......................................................... $33,038 $36,749
Service revenue .................................................... 9,026 5,522
------- -------
42,064 42,271
------- -------
Cost of goods sold and services performed:
Cost of goods sold ................................................. 17,676 18,604
Cost of services performed ......................................... 4,674 3,367
------- -------
22,350 21,971
------- -------
Gross profit .......................................................... 19,714 20,300
------- -------
Operating expenses:
Selling, general and administrative ................................ 12,544 11,024
Research and development ........................................... 1,418 1,547
Write off of China receivable ...................................... 553 --
Reversal of litigation accrual ..................................... -- (5,006)
Other expense-net .................................................. 754 75
------- -------
Total operating expenses ........................................ 15,269 7,640
------- -------
Operating Income ...................................................... 4,445 12,660
------- -------
Interest (income) expense
Interest income .................................................... (155) (152)
Interest expense ................................................... 685 --
------- -------
Total interest (income) expense ....................................... 530 (152)
------- -------
Income from continuing operations before provision for income taxes and
minority interest in income of consolidated subsidiary ............. 3,915 12,812
Provision for income taxes ............................................ 2,508 4,364
------- -------
Income from continuing operations before minority interest in income of
consolidated subsidiary ............................................ 1,407 8,448
Minority interest in income of consolidated subsidiary ................ 74 154
------- -------
Income from continuing operations ..................................... 1,333 8,294
Discontinued Operations (Note 2):
Loss from operations of Vital Pharma, net of income tax benefit of
($1,325) and ($183) ................................................ (2,555) (353)
------- -------
Net (loss) income .................................................... $(1,222) $ 7,941
======= =======
Earnings (loss) per Common Share:
Basic
Income per share from continuing operations ........................ $ 0.10 $ 0.64
Loss per share from discontinued operations ........................ $ (0.19) $ (0.02)
Net (loss) earnings ................................................ $ (0.09) $ 0.62
Diluted
Income per share from continuing operations ........................ $ 0.10 $ 0.64
Loss per share from discontinued operations ........................ $ (0.19) $ (0.03)
Net (loss) earnings ................................................ $ (0.09) $ 0.61
Basic weighted average number of shares outstanding ................... 12,945 12,890
======= =======
Diluted weighted average number of shares outstanding ................. 13,024 13,013
======= =======
Dividends paid per share .............................................. $ .05 $ .04
======= =======
(see Notes to Consolidated Financial Statements)
4
VITAL SIGNS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
FOR THE SIX-MONTHS ENDED
MARCH 31,
---------------------------------------
2003 2002
---------------------------------------
(In Thousands Except Per Share Amounts)
---------------------------------------
Net Revenues:
Net sales........................................................... $68,093 $72,492
Service revenue..................................................... 18,728 10,935
------- -------
86,821 83,427
------- -------
Cost of goods sold and services performed:
Cost of goods sold.................................................. 33,801 35,246
Cost of services performed.......................................... 10,091 6,499
------- -------
43,892 41,745
------- -------
Gross profit........................................................... 42,929 41,682
------- -------
Operating expenses:
Selling, general and administrative................................. 24,635 21,174
Research and development............................................ 2,921 3,185
Write off of China receivable....................................... 553 --
Reversal of litigation accrual...................................... -- (5,006)
Other expense-net................................................... 586 142
------- -------
Total operating expenses......................................... 28,695 19,495
------- -------
Operating Income....................................................... 14,234 22,187
------- -------
Interest (income) expense
Interest income..................................................... (289) (385)
Interest expense.................................................... 727 59
------- -------
Total interest (income) expense........................................ 438 (326)
------- -------
Income from continuing operations before provision for income taxes and
minority interest in income of consolidated subsidiary.............. 13,796 22,513
Provision for income taxes............................................. 5,772 7,620
------- -------
Income from continuing operations before minority interest in income of
consolidated subsidiary............................................. 8,024 14,893
Minority interest in income of consolidated subsidiary................. 129 154
------- -------
Income from continuing operations...................................... 7,895 14,739
Discontinued Operations (Note 2):
Loss from operations of Vital Pharma, net of income tax benefit of
($1,500) and ($253)................................................. (2,912) (482)
------- -------
Net income............................................................. $ 4,983 $14,257
======= =======
Earnings (loss) per Common Share:
Basic
Income per share from continuing operations......................... $ 0.61 $ 1.15
Loss per share from discontinued operations......................... $ (0.22) $ (0.04)
Net earnings........................................................ $ 0.39 $ 1.11
Diluted
Income per share from continuing operations......................... $ 0.61 $ 1.13
Loss per share from discontinued operations......................... $ (0.23) $ (0.04)
Net earnings........................................................ $ 0.38 $ 1.09
Basic weighted average number of shares outstanding.................... 12,901 12,890
======= =======
Diluted weighted average number of shares outstanding.................. 12,988 13,036
======= =======
Dividends paid per share $ .10 $ .08
======= =======
(see Notes to Consolidated Financial Statements)
5
VITAL SIGNS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
FOR THE SIX MONTHS ENDED
MARCH 31,
-------------------------
2003 2002
-------------------------
(IN THOUSANDS OF DOLLARS)
-------------------------
Cash Flows from Operating Activities:
Net income.......................................................... $ 4,983 $ 14,257
Add loss from discontinued operations............................... 2,912 482
------- --------
Income from continuing operations................................... 7,895 14,739
Adjustments to reconcile income from continuing operations to net cash
provided by continuing operations
Depreciation and amortization.................................... 2,219 2,195
Deferred income taxes............................................ 276 1,914
Minority interest in income of consolidated subsidiary........... 129 154
Non cash loss on write off of China receivable................... 553 --
Non cash gain on litigation accrual reversal..................... -- (5,006)
Changes in operating assets and liabilities:
Decrease in accounts receivable.................................. 4,551 269
(Increase) decrease in inventory................................. (317) 1,405
Decrease in prepaid expenses and other current assets ........... 1,209 2,598
(Increase) decrease in other assets.............................. (185) 323
Increase in accounts payable and accrued expenses................ 1,121 1,145
Increase (decrease) in other liabilities......................... 839 (495)
------- --------
Net cash provided by continuing operations............................. 18,290 19,241
------- --------
Net cash used in discontinued operations............................... (193) (839)
------- --------
Net cash provided by operating activities.............................. 18,097 18,402
Cash flows from investing activities:
Acquisition of property, plant and equipment..................... (1,717) (1,866)
Capitalized software costs....................................... (268) --
Capitalized patent costs......................................... (204) (8)
Acquisition of subsidiaries, net of cash acquired................ -- (12,615)
Proceeds from sales of available for sale securities............. 109 10
------- --------
Net cash used in investing activities.................................. (2,080) (14,479)
Cash flows from financing activities:
Dividends paid................................................... (1,169) (1,036)
Proceeds from exercise of stock options.......................... 331 572
Purchase of treasury stock....................................... -- (267)
Issuance of treasury stock....................................... -- 196
Principal payments on long-term debt and notes payable........... (232) (1,198)
------- --------
Net cash used in financing activities................................. (1,070) (1,733)
Effect of foreign currency translation................................. 521 (217)
------- --------
Net increase in cash and cash equivalents.............................. 15,468 1,973
Cash and cash equivalents at beginning of period....................... 29,303 31,029
------- --------
Cash and cash equivalents at end of period............................. $44,771 $ 33,002
======= ========
Supplemental disclosures of cash flow information:
Cash paid during the six months for:
Interest......................................................... $ 82 $ 84
Income taxes..................................................... $ 2,595 $ 198
(See Notes to Consolidated Financial Statements)
6
VITAL SIGNS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. The consolidated balance sheet as of March 31, 2003, the consolidated
statements of operations for the three and six month periods ended March
31, 2003 and 2002, and the consolidated statements of cash flows for the
six month periods ended March 31, 2003 and 2002, have been prepared by
Vital Signs, Inc. (the "registrant", the "Company", "Vital Signs", "we",
"us", or "our") and are unaudited. In the opinion of management, all
adjustments necessary to present fairly the financial position at March 31,
2003 and the results of operations for the three month and six month
periods ended March 31, 2003 and 2002, and the cash flows for the six month
periods ended March 31, 2003 and 2002, have been made.
2. See the Company's Annual Report on Form 10-K for the year ended September
30, 2002 (the "Form 10-K") for additional disclosures relating to the
Company's consolidated financial statements.
3. At March 31, 2003, the Company's inventory was comprised of raw materials,
$12,189,000, and finished goods, $9,802,000. At September 30, 2002 the
Company's inventory was comprised of raw materials of $12,095,000 and
finished goods of $8,929,000.
4. For Details of Legal Proceedings, see Part II, Item 1, "Legal Proceedings".
5. The Company has aggregated its business units into four reportable
segments, anesthesia, respiratory/critical care, sleep and pharmaceutical
technology services. There are no material intersegment sales. Anesthesia
and Respiratory/Critical Care share certain manufacturing facilities, sales
and administration support; therefore the operating profit, total assets,
and capital expenditures are not specifically identifiable. However the
Company has allocated operating profit, total assets, and capital
expenditures on a net sales basis. Management evaluates performance on
gross profits and operating results of the four business segments.
Summarized financial information concerning the Company's reportable
segments is shown in the following table:
RESPIRATORY/ PHARMACEUTICAL
CRITICAL TECHNOLOGY
ANESTHESIA CARE SLEEP SERVICES OTHER(1) CONSOLIDATED
---------- ------------ ------- -------------- -------- ------------
(IN THOUSANDS OF DOLLARS)
------------------------------------------------------------------------------
FOR THE SIX MONTHS
ENDED MARCH 31,
2003
Net revenues $34,613 $22,222 $23,420 $ 9,866 $(3,300) $ 86,821
Gross profit 18,845 12,311 10,418 4,655 (3,300) 42,929
Operating income 8,388 5,385 2,028 1,733 (3,300) 14,234
Total assets 97,311 62,475 34,702 20,114 -- 214,602
Capital expenditures 996 640 59 22 -- 1,717
2002
Net revenues $33,910 $24,842 $18,410 $ 4,626 $ 1,639 $ 83,427
Gross profit 17,427 13,589 7,939 1,288 1,439 41,682
Operating income (2) 8,017 11,934 414 383 1,439 22,187
Total assets 95,280 66,583 29,476 18,878 -- 210,217
Capital expenditures 1,098 768 -- -- -- 1,866
7
RESPIRATORY/ PHARMACEUTICAL
CRITICAL TECHNOLOGY
ANESTHESIA CARE SLEEP SERVICES OTHER(1) CONSOLIDATED
---------- ------------ ------- -------------- ------- ------------
(IN THOUSANDS OF DOLLARS)
-----------------------------------------------------------------------------
FOR THE THREE MONTHS
ENDED MARCH 31,
2003
----
Net revenues $17,599 $11,029 $12,136 $4,600 $(3,300) $42,064
Gross profit 9,503 5,863 5,239 2,409 (3,300) 19,714
Operating income 3,457 2,166 1,279 843 (3,300) 4,445
2002
----
Net revenues $17,028 $13,039 $10,325 $1,879 $ -- $42,271
Gross profit 9,211 6,374 4,298 417 -- 20,300
Operating income (2) 4,037 8,097 577 (51) -- 12,660
(1) "Other" relates primarily to an adjustment for the allowance for rebates in
the quarter and six month period ended March 31, 2003 in the anesthesia and
respiratory/critical care business segments, and one-time licensing revenue
recorded in the six month period ended March 31, 2002 in the anesthesia
business segment.
(2) Operating income for both the three month and six month periods ended March
31, 2002 includes the $5,006,000 reversal of litigation accrual which
relates to our respiratory/critical care segments.
6. Other comprehensive income for the three month and six month periods ended
March 31, 2003 and 2002 consisted of:
SIX MONTH PERIOD THREE MONTH PERIOD
ENDED MARCH 31, ENDED MARCH 31,
---------------- ------------------
2003 2002 2003 2002
------ ------- ------- ------
Net income (loss) $4,983 $14,257 $(1,222) $7,941
Foreign currency translation 900 (7) (29) --
Other 2 (4) -- --
------ ------- ------- ------
Comprehensive income $5,885 $14,246 $(1,251) $7,941
====== ======= ======= ======
7. During the second quarter of fiscal 2003, the Company reviewed and adjusted
its estimate for rebates due to distributors. These rebates apply to our
anesthesia and respiratory/critical care segments. As background, the
Company's sales to distributors which represented 24.3% of the Company's
net sales during the second quarter of fiscal 2003 are made at the
Company's established price. Each distributor subsequently provides the
Company with documentation that the Company's products have been shipped to
particular end-users (i.e. particular hospitals). In general, the end-user
is entitled, on a case by case basis, to a price lower than the Company's
established price. Accordingly, the Company owes the distributor a rebate -
the difference between the established price and the lower price to which
the end user is entitled - upon the Company's receipt of the documentation
from the distributor. At the time that the distributor remits payment to
the Company for the products purchased, the distributor deducts an amount
for the related rebates.
The allowance for rebates is recorded at the time the Company records the
revenue for the product shipped to the distributor. The rebate is recorded
as a sales allowance, reducing gross revenue.
8
The Company has, for several years, utilized an historical moving average
to estimate the allowance for rebates. Based on the Company's recent
review, the Company has concluded that the moving average estimate does not
necessarily result in the appropriate liability due to the distributor.
Accordingly, the Company has changed its method of estimating rebate claims
to record the allowance for rebates based upon the documentation provided
by the distributor of the shipments to the end-user, as well as estimates
for inventory not yet sold by the distributor, adjusting from estimate to
actual at the time of remittance. As a result of its review of the rebate
allowance, the Company has recorded an additional allowance for rebates of
$3,300,000 ($2,178,000 after tax) in the second quarter of fiscal 2003 to
assure that Vital Signs has established an appropriate reserve for rebate
claims.
8. The Internal Revenue Service (IRS) has been performing, in their normal
course, an examination of the Company's 1997, 1998 and 1999 Federal tax
returns. As a result of views expressed by the IRS, the Company increased
its tax provision in the second quarter of fiscal 2003 by $1,081,000, and
increased interest expense by $650,000 ($429,000 after tax) for the related
interest due. The Company expects the Internal Revenue Service to complete
its examination in the third or fourth quarter of fiscal 2003. While the
Company believes it has recorded the appropriate tax liability and tax
provision, the Company may be subject to other audit adjustments arising
from that review.
9. During the third quarter of fiscal 2002, the Company recognized an
impairment charge of $1.6 million related principally to its Chinese
business. While the Company continues to sell products in China and the
business relationship continues, disputes remain over certain receivables
and other charges. During the second quarter of fiscal 2003, the Company
concluded that it would be unable to collect its receivable under normal
terms, and provided a reserve against the remaining receivable balance for
$553,000 before taxes ($365,000 after taxes).
10. In the second quarter of fiscal 2003, income from continuing operations
included $322,000 of pretax expenses ($212,000 after tax) relating to costs
for a public offering that was discontinued due to market conditions.
11. In December 2002, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards ("SFAS") No. 148, Accounting for
Stock-Based Compensation - Transition and Disclosure, an amendment of SFAS
No. 123". SFAS No. 148 provides alternative methods of transition for a
voluntary change to the fair value based method of accounting for
stock-based employee compensation. In addition, SFAS No. 148 amends the
disclosure requirements of SFAS No. 123 "Accounting for Stock-Based
Compensation", to require prominent disclosures in annual and interim
financial statements about the method of accounting for stock-based
employee compensation and the effect in measuring compensation expense. The
disclosure requirements of SFAS No. 148 are effective for periods beginning
after December 15, 2002.
The Company has elected, in accordance with the provisions of SFAS No. 123,
as amended by SFAS No. 148, to apply the current accounting rules under APB
Opinion No. 25 and related interpretations in accounting for its stock
options and, accordingly, has presented the disclosure-only information as
required by SFAS No. 123. If the Company had elected to recognize
compensation cost based on the fair value of the options granted at the
grant date as prescribed by SFAS No. 123, the Company's net income (loss)
and net income (loss) per common share for the six month and three month
periods ended March 31, 2003 and 2002 (pro forma effect has been adjusted
for income taxes) would approximate the pro forma amounts indicated in the
table below (dollars in thousands):
9
SIX MONTH PERIOD THREE MONTH PERIOD
ENDED MARCH 31, ENDED MARCH 31,
---------------- ------------------
2003 2002 2003 2002
------ ------- ------- ------
Net income (loss) - as reported..................... $4,983 $14,257 $(1,222) $7,941
Net income (loss) - pro forma....................... 4,676 14,046 (1,376) 7,838
Basic net income (loss) per common share - as reported .39 1.11 (.09) .62
Diluted net income (loss) per common share - as reported .38 1.09 (.09) .61
Basic net income (loss) per common share - pro forma .36 1.09 (.11) .61
Diluted net income (loss) per common share - pro forma .36 1.08 (.11) .60
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model with the following weighted-average
assumptions used for the six month and three month periods ended March 31,
2003 and 2002, respectively: expected volatility of 50% and 50%,
respectively, risk-free interest rate of 5.2% and 5.2%, respectively,
dividend yield rate of .5% and .5%, respectively, and all options have
expected lives of 5 years.
12. In November 2002, the Emerging Issues Task Force ("EITF") issued EITF
00-21, "Accounting for Revenue Arrangements with Multiple Deliverables."
This consensus provides guidance in determining when a revenue arrangement
with multiple deliverables should be divided into separate units of
accounting, and, if separation is appropriate, how the arrangement
consideration should be allocated to the identified accounting units. The
provisions of EITF 00-21 are effective for revenue arrangements entered
into in fiscal periods beginning after June 15, 2003. The Company will
evaluate multiple element arrangements in accordance with this EITF
conclusion upon its effective date for new arrangements into which it
enters.
The Company does not believe that any recently issued but not yet effective
accounting standards will have a material effect on the Company's financial
position or results of operations.
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL
CONDITION
Forward Looking Statements
This Quarterly Report on Form 10-Q contains, and from time to time we
expect to make, certain forward-looking statements regarding our business,
financial condition and results of operations. The forward-looking statements
are typically identified by the words "anticipates", "believes", "expects",
"intends", "forecasts", "plans", "future", "strategy", or words of similar
import. In connection with the "safe harbor" provisions of the Private
Securities Litigation Reform Act of 1995 (the "Reform Act"), we intend to
caution investors that there are important factors that could cause our actual
results to differ materially from those projected in our forward-looking
statements, whether written or oral, made herein or that may be made from time
to time by or on behalf of us. Investors are cautioned that such forward-looking
statements are only predictions and that actual events or results may differ
materially from such statements. We undertake no obligation to publicly release
the results of any revisions to our forward-looking statements to reflect
subsequent events or circumstances or to reflect the occurrence of unanticipated
events.
We wish to ensure that any forward-looking statements are accompanied by
meaningful cautionary statements in order to comply with the terms of the safe
harbor provided by the Reform Act.
10
Accordingly, we have set forth in Exhibit 99.1 to our Annual Report on Form 10-K
for the year ended September 30, 2002 a list of important factors, certain of
which are outside of management's control, that could cause our actual results
to differ materially from those expressed in forward-looking statements or
predictions made herein and from time to time by us. Reference is made to such
Exhibit 99.1 for a list of such risk factors.
Results of Operations
The following table sets forth, for the periods indicated, the percentage
increase or decrease of certain items included in the Company's consolidated
statement of income.
-----------------------------------------------------------------------------------------
INCREASE/(DECREASE) INCREASE/(DECREASE)
FROM PRIOR PERIOD FROM PRIOR PERIOD
SIX MONTHS ENDED THREE MONTHS ENDED
MARCH 31, 2003 MARCH 31, 2003
COMPARED WITH COMPARED WITH
SIX MONTHS ENDED THREE MONTHS ENDED
MARCH 31, 2002 MARCH 31, 2002
------------------- -------------------
Consolidated Statement of Operations Data:
Net revenues................................. 4.1% (0.5%)
Gross profit................................. 3.0% (2.9%)
Total operating expenses..................... 47.2% 99.9%
Income from continuing operations............ (46.4%) (83.9%)
Net income (loss)............................ (65.0%) (115.4%)
-----------------------------------------------------------------------------------------
11
Comparison of Results for the Three-Month Periods Ended March 31, 2003 to the
Three-Month Periods Ended March 31, 2002.
Net Revenue. Total net revenue declined 0.5% (a decrease of 2.5% excluding
the effect of foreign exchange), from $42.3 million for the three-month period
ended March 31, 2002 to $42.1 million for the three-month period ended March 31,
2003 due primarily to a $3.3 million adjustment, as described in Note 7 of the
Notes to Consolidated Financial Statements, to the Company's allowance for
rebates. Net sales decreased 10.1%, from $36.7 million to $33.0 million
primarily due to the rebate allowance adjustment. Service revenue increased
63.6%, from $5.5 million to $9.0 million. This increase was primarily due to the
growth in our pharmaceutical technology services businesses by our acquisition
of Stelex Inc. in the second quarter of fiscal 2002.
REVENUE BY BUSINESS SEGMENT
FOR THE QUARTER ENDED
MARCH 31,
--------------------- PERCENT
2003 2002 CHANGE
------- ------- -------
Anesthesia $17,599 $17,028 3.4%
Respiratory/Critical Care 11,029 13,039 (15.4%)
Sleep 12,136 10,325 17.5%
Pharmaceutical Technology Services 4,600 1,879 144.8%
Rebate Allowance adjustment (3,300) -- NA
------- ------- -----
$42,064 $42,271 0.5%
======= ======= =====
Our sleep segment increased revenues 17.5%, from $10.3 million for the
three month period ended March 31, 2002 to $12.1 million for the three-month
period ended March 31, 2003. The growth in our sleep segment, which includes
sleep therapy services and diagnostic products, was due primarily to increased
revenue of 30.7% (16% excluding foreign exchange) from our Breas subsidiary, our
sleep ventilation business. Also included in this segment is Sleep Services of
America, our sleep therapy company, whose revenues were essentially at the same
levels as the comparable period last year.
Service revenues in the Pharmaceutical Technology Services segment,
increased 144.8%, from $1.9 million for the three-month period ended March 31,
2002 to $4.6 million for the three-month period ended March 31, 2003, primarily
due to the acquisition of Stelex Inc, in the third quarter of fiscal 2002.
Sales of anesthesia products increased 3.4% from $17.0 million for the
three-month period ended March 31, 2002 to $17.6 million for the three-month
period ended March 31, 2003. This increase was due primarily to volume growth in
anesthesia circuits including our Limb-(Theta)'TM', a patented anesthesia
circuit, which increased 66.7% to $1.1 million
Sales of respiratory/critical care products decreased 15.4%, from $13.0
million for the three-month period ended March 31, 2002 to $11.0 million for the
three-month period ended March 31, 2003. This was due primarily to declining
sales in both our domestic and overseas business.
Cost of Goods Sold and Services Performed. Cost of goods sold and services
performed increased 1.7%. Cost of goods sold decreased 4.8%, from $18.6 million
for the three-month period ended March 31, 2002 to $17.7 million for the
three-month period ended March 31, 2003. This decrease was primarily due to
sales volume reduction in the respiratory / critical care segment, offset by
productivity improvements in the anesthesia and respiratory/critical care
segments and increased volume at our Breas subsidiary. Cost
12
of services performed increased 42.8%, from $3.3 million for the three-month
period ended March 31, 2002 to $4.7 million for the three-month period ended
March 31, 2003, resulting primarily from increased pharmaceutical technology
outsourcing services achieved with the acquisition of Stelex Inc. in the third
quarter of fiscal 2002.
Gross Profit. Our gross profit decreased 2.9%, from $20.3 million for the
three-month period ended March 31, 2002 to $19.7 million for the three-month
period ended March 31, 2003. Our overall gross profit margin was 46.9% for the
three month period ended March 31, 2003. The adjustment for rebates of $3.3
million (a reduction from gross sales to net sales) reduced gross margin. In
addition gross margin percentage reductions are a result of increases in sales
in our Sleep and Pharmaceutical Technology Services segment, that operate at a
lower gross margin as compared to our anesthesia and respiratory/critical care
segments that have higher margins. For gross profit information related to our
four segments, refer to Note 5 included herein of our Notes to Consolidated
Financial Statements.
Operating Expenses
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased 13.6%, from $11.0 million for the three-month
period ended March 31, 2002 to $12.5 million for the three-month period ended
March 31, 2003. The increase was primarily due to higher employment levels and
expenses resulting from the acquisition of Stelex Inc. in the third quarter of
fiscal 2002 and higher expense levels, in part due to foreign exchange, in our
Breas subsidiary.
Research and Development Expenses. Research and development expenses
declined by approximately $130,000, or 8.3%, from $1.5 million for the
three-month period ended March 31, 2002 to $1.4 million for the three-month
period ended March 31, 2003.
Impairment charge for China operations. During the third quarter of fiscal
2002, the Company recognized an impairment charge of $1.6 million related
principally to its Chinese business. While the Company continues to sell
products in China and the business relationship continues, disputes remain over
certain receivables and other charges. During the second quarter of fiscal 2003,
the Company concluded that it would be unable to collect its receivable under
normal terms, and provided a reserve against the remaining receivable balance
for $553,000 before taxes ($365,000 after taxes).
Reversal of litigation accrual. In September 1996, a patent infringement
action was filed in Japan against an OEM medical device distributor in
connection with the sale in Japan of Marquest Medical Products, Inc.'s ABG
syringe product line. In July 1999 the Court indicated at a hearing that, based
on one exhibit submitted by the plaintiff, the Marquest ABG syringe products
appeared to infringe the plaintiff's patent, and requested that the plaintiff
submit an updated proof of damages. In July 1999, plaintiff filed an updated
proof of damages of approximately $6.5 million, plus interest and costs. On June
23, 2000 the Court entered a judgment against the Company's distributor for Yen
336,872,689 ($2,887,645) plus five percent annual interest. The distributor
(which has patent indemnification protection from the Company's Marquest
subsidiary) appealed the judgement to the Tokyo Supreme Court. On March 28,
2002, the appellate court ruled in favor of the distributor, thereby ending the
litigation and ending the Company's exposure with respect to this proceeding.
The Company reversed the $5,006,000 accrual associated with this litigation.
Other Expense--Net. Other expense included in operating expense increased
by $679,000, from $75,000 for the three month period ended March 31, 2002 to
$754,000 for the three month period ended March 31, 2003. The increase results
primarily from a charge of $322,000, for the costs for a public offering that
was discontinued, see Note 10 to the Notes to the Consolidated Financial
Statements, the shutdown
13
expenses for redundant Breas sales offices of $179,000, additional contributions
of product to charitable organizations of $59,000, the loss on disposal of fixed
assets of $29,000, consulting costs of $29,000 and other items of $22,000. Also
included in the charge is a reclassification of dividend and tax free interest
income ($39,000) recorded in other expense in the first quarter of the current
year to interest income within this quarter.
Other Items
Interest income. Interest income of $155,000 for the three month period
ended March 31, 2003 remained consistent with the $152,000 of interest income
for the three month period ended March 31, 2002 as declining interest rates
offset the positive effect of increased cash.
Interest Expense. Interest expense increased to $685,000 during the
three-month period ended March 31, 2003, resulting primarily from $650,000 of
interest expense related to the IRS examination for the Company's 1997, 1998 and
1999 Federal Income Tax return (see Footnote 8).
Provision for Income Taxes. The provision for income tax expense for the
three-month periods ended March 31, 2003 and 2002 was $2.5 million and $4.4
million, reflecting effective tax rates of 64.1% and 34.0% for these periods,
respectively. The Internal Revenue Service (IRS) has been performing, in their
normal course, an examination of the Company's 1997, 1998 and 1999 Federal tax
returns. As a result of views expressed by the IRS, the Company increased its
tax provision in the second quarter of fiscal 2003 by $1,081,000, and increased
interest expense by $650,000 ($429,000 after tax) for the related interest due.
The Company expects the Internal Revenue Service to complete its examination in
the third or fourth quarter of fiscal 2003. While the Company believes it has
recorded the appropriate tax liability and tax provision, the Company may be
subject to other audit adjustments arising from that review (see Footnote 8).
Discontinued Operations. In September 2002, we decided to sell our Vital
Pharma, Inc. subsidiary, a fully integrated contract manufacturer that utilizes
blow-fill-seal technology. Accordingly, effective September 2002 the results for
Vital Pharma have been reclassified for all periods presented. Based upon
several non-binding bids received for its Vital Pharma business, the Company has
lowered its investment in Vital Pharma and has expensed an additional $3,300,000
($2,182,000 after tax) which is included in discontinued operations.
Consequently, the loss from operations, net of tax benefits, of Vital Pharma for
the three-month period ended March 31, 2003 was $2,555,000, which represents an
additional loss of $2,202,000 over the loss from operations of Vital Pharma of
$353,000 experienced in the three-month period ended March 31, 2002.
14
Comparison of Results for the Six-Month Periods Ended March 31, 2003 to the
Six-Month Periods Ended March 31, 2002
Net Revenue. Total net revenue increased 4.1% (2.1% excluding the effect of
foreign exchange), from $83.4 million for the six-month period ended March 31,
2002 to $86.8 million for the six-month period ended March 31, 2003. Net sales
decreased 6.1%, from $72.5 million to $68.1 million primarily due to the $3.3
million rebate allowance adjustment, as well as a reduction in license and other
revenue, offset in part by growth in anesthesia circuits. Service revenue
increased 71.3 %, from $10.9 million to $18.7 million. This increase was
primarily due to the acquisition of Stelex Inc., in the third quarter of fiscal
2002 in our Pharmaceutical Technology Services business segment and the merger
of our National Sleep Technologies subsidiary with a subsidiary of Johns Hopkins
Health System in our Sleep business segment.
REVENUE BY BUSINESS SEGMENT
FOR THE SIX-MONTHS ENDED
MARCH 31,
------------------------- PERCENT
2003 2002 CHANGE
------- ------- -------
Anesthesia $34,613 $33,910 2.1%
Respiratory/Critical Care 22,222 24,842 (10.5%)
Sleep 23,420 18,410 27.2%
Pharmaceutical Technology Services 9,866 4,626 113.3%
Rebate allowance adjustment (3,300) -- N/A
Other* -- 1,639 N/A
------- ------- -----
$86,821 $83,427 4.1%
======= ======= =====
*"Other" relates primarily to one-time licensing revenue recorded in the
six month period ended March 31, 2002 in the anesthesia business segment.
The rebate allowance of $3.3 million relates to our anesthesia and
respiratory/critical care segments. Refer to Footnote 7 of the Notes to
Consolidated Financial Statements for a description on the rebate
allowance.
Our sleep segment increased revenues 27.2%, from $18.4 million for the
six-month period ended March 31, 2002 to $23.4 million for the six-month period
ended March 31, 2003. The growth in our sleep segment, which includes sleep
therapy services and diagnostic products, was due primarily to the
above-mentioned merger in the second quarter of fiscal 2002 and increased
revenue of 36.4% from our Breas subsidiary. Approximately one-half of this 36.4%
increase is attributed to foreign exchange rate gains.
Service revenues in the Pharmaceutical Technology Services segment,
increased 113.3%, from $4.6 million for the six-month period ended March 31,
2002 to $9.9 million for the six-month period ended March 31, 2003, primarily
due to the acquisition of Stelex Inc. in the third quarter of fiscal 2002.
Sales of anesthesia products increased 2.1% from $33.9 million for the
six-month period ended March 31, 2002 to $34.6 million for the six-month period
ended March 31, 2003. This increase was due to volume growth in anesthesia
circuits including our Limb-(Theta)'TM', a patented anesthesia circuit, which
increased 97% to $2.1 million, offset by lower international sales.
Sales of respiratory/critical care products decreased 10.5%, from $24.8
million for the six-month period ended March 31, 2002 to $22.2 million for the
six-month period ended March 31, 2003. This was due primarily to both lower
domestic and lower international sales.
15
Cost of Goods Sold and Services Performed. Cost of goods sold and services
performed increased 5.1%. Cost of goods sold decreased 4.1%, from $35.2 million
for the six-month period ended March 31, 2002 to $33.8 million for the six-month
period ended March 31, 2003. This decrease was due to productivity improvement
in the anesthesia and respiratory/critical care segments and sales volume
reduction in the respiratory/critical care segment, offset by volume increases
at our Breas subsidiary. Cost of services performed increased 55.3%, from $6.5
million for the six-month period ended March 31, 2002 to $10.1 million for the
six-month period ended March 31, 2003, reflecting the increased pharmaceutical
technology outsourcing services that has been achieved with the acquisition of
Stelex Inc., in the third quarter of fiscal 2002 and the increased volume in
sleep services revenue resulting from the merger in the second quarter of fiscal
2002 of our National Sleep Technologies subsidiary with the Johns Hopkins Health
System subsidiary.
Gross Profit. Our gross profit increased 3.0%, from $41.7 million for the
six-month period ended March 31, 2002 to $42.9 million for the six-month period
ended March 31, 2003. Our overall gross profit margin was 49.4% for the
six-month period ended March 31, 2003 and 50.0% for the six-month period ended
March 31, 2002. Gross profit results reflect the $3.3 million rebate allowance
adjustment against sales that was offset by improved margins in our anesthesia
segment and Breas subsidiary resulting from productivity improvement. For gross
profit information related to our four segments, refer to Note 5 to our
financial statements.
Operating Expenses
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased 16.3%, from $21.2 million for the six-month
period ended March 31, 2002 to $24.6 million for the six-month period ended
March 31, 2003. The increase in such expenses was primarily due to additional
employment levels resulting from the acquisition of Stelex Inc, and the merger
of the Johns Hopkins Health System subsidiary into our Sleep Services of America
subsidiary into our sleep segment, as well as increases in insurance costs.
Research and Development Expenses. Research and development expenses
decreased by approximately $260,000, or 8.3%, from $3.2 million for the
six-month period ended March 31, 2002 to $2.9 million for the six-month period
ended March 31, 2003.
Impairment charge for China operations. During the third quarter of fiscal
2002, the Company recognized an impairment charge of $1.6 million related
principally to its Chinese business. While the Company continues to sell
products in China and the business relationship continues, disputes remain over
certain receivables and other charges. During the second quarter of fiscal 2003,
the Company concluded that it would be unable to collect its receivable under
normal terms, and provided a reserve against the remaining receivable balance
for $553,000 before taxes ($365,000 after taxes).
Reversal of litigation accrual. In September 1996, a patent infringement
action was filed in Japan against an OEM medical device distributor in
connection with the sale in Japan of Marquest Medical Products, Inc.'s ABG
syringe product line. In July 1999 the Court indicated at a hearing that, based
on one exhibit submitted by the plaintiff, the Marquest Arterial Blood Gas
("ABG") syringe products appeared to infringe the plaintiff's patent, and
requested that the plaintiff submit an updated proof of damages. In July 1999,
plaintiff filed an updated proof of damages of approximately $6.5 million, plus
interest and costs. On June 23, 2000 the Court entered a judgment against the
Company's distributor for Yen 336,872,689 ($2,887,645) plus five percent annual
interest. The distributor (which has patent indemnification protection
16
from the Company's Marquest subsidiary) appealed the judgement to the Tokyo
Supreme Court. On March 28, 2002, the appellate court ruled in favor of the
distributor, thereby ending the litigation and ending the Company's exposure
with respect to this proceeding. The Company reversed the $5,006,000 accrual
associated with this litigation during the second quarter of fiscal 2002.
Other Expense--Net. Other expense included in operating expense increased
by $444,000, from $142,000 for the six months ended March 31, 2002 to $586,000
for the six months ended March 31, 2003. This increase results primarily from a
charge of $322,000, for the costs for a public offering that was discontinued,
see Note 10 to the Notes to the Consolidated Financial Statements, the shutdown
expenses for redundant Breas sales offices of $179,000, additional contributions
of product to charitable organizations of $76,000, the loss on disposal of fixed
assets of $29,000, consulting costs of $31,000, offset by the reversal (due to
the expiration date of the coupons) of accrued interest expense of $109,000
related to bonds payable and a reduction in legal expense, $36,000, severance,
$27,000 and other of $21,000.
Other Items
Interest Income. Interest income declined from $385,000 for the six-months
ended March 31, 2002 to $289,000 during the six-month period ended March 31,
2003. The change reflects the reduction in interest rates between the two
periods.
Interest Expense. Interest expense increased $668,000 from $59,000 for the
six month period ended March 31, 2002 to $727,000 for the six month period ended
March 31, 2003 due to the interest expense related to the IRS examination of the
Company's 1997, 1998 and 1999 income tax returns.
Provision for Income Taxes. The provision for income tax expense for the
six-month periods ended March 31, 2003 and 2002 was $5.8 million and $7.6
million, reflecting effective tax rates of 41.8% and 33.8% for these periods,
respectively. The Internal Revenue Service (IRS) has been performing, in their
normal course, an examination of the Company's 1997, 1998 and 1999 Federal tax
returns. As a result of views expressed by the IRS, the Company increased its
tax provision in the second quarter of fiscal 2003 by $1,081,000, and increased
interest expense by $650,000 ($429,000 after tax) for the related interest due.
The Company expects the Internal Revenue Service to complete its examination in
the third or fourth quarter of fiscal 2003. While the Company believes it has
recorded the appropriate tax liability and tax provision, the Company may be
subject to other audit adjustments arising from that review (see Footnote 8).
Discontinued Operations. In September 2002, we decided to sell our Vital
Pharma, Inc. subsidiary, a fully integrated contract manufacturer that utilizes
blow-fill-seal technology. Accordingly, effective September 2002 the results for
Vital Pharma have been reclassified for all periods presented. Based upon
several non-binding bids received for its Vital Pharma business, the Company has
lowered its investment in Vital Pharma and has expensed an additional $3,300,000
($2,182,000 after tax) which is included in discontinued operations.
Consequently, the loss from operations, net of tax benefits, of Vital Pharma for
the six-month period ended March 31, 2003 was $2,555,000, which represents an
additional loss of $2,202,000 over the loss from operations of Vital Pharma of
$353,000 experienced in the six-month period ended March 31, 2002.
Liquidity and Capital Resources
Historically, our primary liquidity requirements have been to finance
business acquisitions and to support operations. We have funded these
requirements principally through internally generated cash flow. At March 31,
2003, we had cash and cash equivalents of $44.8 million and we had long-term
debt of $1.3 million, representing industrial revenue bonds payable in varying
installments through 2009. We
17
have a $20 million line of credit with JPMorgan Chase Bank. There were no
amounts outstanding on the JPMorgan Chase Bank line of credit at March 31, 2003.
Vital Signs continues to generate cash flows from its operations. During
the six-month period ended March 31, 2003, cash and cash equivalents increased
by $15.5 million. Operating activities provided $18.1 million net cash, of which
$18.3 million was provided from continuing operations, offset by $193,000 used
in our discontinued operation at Vital Pharma. Investing activities used
approximately $2.1 million for capital expenditures. Financing activities used
$1.1 million consisting of $242,000 used to pay down long term debt; and
$1,169,000 paid for dividends, offset by $331,000 of cash received from the
exercise of stock options.
Cash and cash equivalents were $44.8 million at March 31, 2003 as compared
to $29.3 million at September 30, 2002. At March 31, 2003 our working capital
was $92.2 million as compared to $86.6 million at September 30, 2002. At March
31, 2003 the current ratio was 6.7 to 1, as compared to 7.6 to 1 at September
30, 2002.
Our capital investments vary from year to year, based in part on capital
demands of newly acquired businesses. Capital expenditures for the six-month
period ended March 31, 2002 were approximately $1.7 million, and included
expenditures for equipment used as part of cost improvement projects at our New
Jersey and Colorado facilities, and the capitalized costs of software
development, ($268,000) and patents, ($204,000).
Our current policy is to retain working capital and earnings for use in our
business, subject to the payment of certain cash dividends. Such funds may be
used for business acquisitions, product acquisitions, and product development,
among other things. We regularly evaluate and negotiate with domestic and
foreign medical device companies regarding potential business or product line
acquisitions, licensing arrangements and strategic alliances.
Our Board of Directors has authorized the expenditure of up to $20 million
for the repurchase of Vital Signs' stock. Any purchases under Vital Signs' stock
repurchase program may be made from time-to-time in the open market, through
block trades or otherwise. Depending on market conditions and other factors,
these purchases may be commenced or suspended at any time or from time-to-time
without prior notice.
18
ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risks, including the impact of material price
changes and changes in the market value of our investments and, to a lesser
extent, interest rate changes and foreign currency fluctuations. In the normal
course of business as described below, we employ policies and procedures with
the objective of limiting the impact of market risks on earnings and cash flows
and to lower our overall borrowing costs.
The impact of interest rate changes is not material to our financial
condition. We do not enter into interest rate transactions for speculative
purposes.
Our international net revenue represent approximately 24% of our total net
revenues. Our Breas subsidiary, located in Sweden, represents 80% of our total
international net revenues. We do not enter into any derivative transactions,
including foreign currency transactions, for speculative purposes. The Company
has not entered into any derivative instruments (i.e. foreign exchange forward
or option contracts) as of March 31, 2003.
Our risk involving price changes relate to raw materials used in our
operations. We are exposed to changes in the prices of resins and latex for the
manufacture of our products. We do not enter into commodity futures or
derivative instrument transactions. Except with respect to our single source of
supply for face masks, it is our policy to maintain commercial relations with
multiple suppliers and when prices for raw materials rise to attempt to source
alternative supplies.
ITEM 4.
CONTROLS AND PROCEDURES
Within 90 days prior to the date of this report, we have carried out an
evaluation, under the supervision and with the participation of our management,
including our Chief Executive Officer and Chief Financial Officer, of the
effectiveness of the design and operation of our disclosure controls and
procedures pursuant to Securities Exchange Act Rule 13a-14. Based upon that
evaluation, our Chief Executive Officer and Chief Financial Officer concluded
that our disclosure controls and procedures are effective in timely alerting
them to material information relating to the Company (including its consolidated
subsidiaries) required to be included in our periodic SEC filings. There have
been no significant changes in our internal controls or in other factors that
could significantly affect internal controls subsequent to the date of their
evaluation, including any corrective actions with regard to significant
deficiencies and material weaknesses.
Critical Accounting Principles and Estimates
We have identified the following critical accounting principles that affect
the more significant judgments and estimates used in the preparation of our
consolidated financial statements. The preparation of our consolidated financial
statements in conformity with generally accepted accounting principles requires
us to make estimates and judgments that affect our reported amounts of assets
and liabilities, revenues and expenses, and related disclosures of contingent
assets and liabilities. On an ongoing basis, we evaluate our estimates,
including those related to asset impairment, revenue recognition, allowance for
doubtful accounts, and contingencies and litigation. We state these accounting
policies in the notes to our consolidated financial statements and at relevant
places in this discussion and
19
analysis. These estimates are based on the information that is currently
available to us and on various other assumptions that we believe to be
reasonable under the circumstances. Actual results could vary from these
estimates under different assumptions or conditions.
We believe that the following critical accounting principles affect the
more significant judgments and estimates used in the preparation of our
consolidated financial statements:
o Through September 30, 2001, we amortized goodwill and intangibles on a
straight-line basis over their estimated lives. Upon our adoption of
SFAS No. 142 on October 1, 2001, we ceased amortizing goodwill and
will perform an annual impairment analysis based upon discounted cash
flows to assess the recoverability of the goodwill, in accordance with
the provisions of SFAS No. 142. For the three months ended March 31,
2003 we completed this impairment test and found no impairment. If we
are required to record impairment charges in the future, it would have
an adverse impact on our results of operations and financial
condition.
o We maintain an allowance for doubtful accounts for estimated losses
resulting from the inability of our customers to make required
payments, which results in bad debt expense. Our allowance for
doubtful accounts was $572,000 at March 31, 2003 and $638,000 at
September 30, 2002. We determine the adequacy of this allowance by
evaluating individual customer receivables, considering the customer's
financial condition and credit history and analyzing current economic
conditions. If the financial condition of our customers were to
deteriorate, resulting in an impairment of their ability to make
payments, additional allowances may be required.
o Our sales to distributors are made at our established price. Each
distributor subsequently provides us with documentation that our
products have been shipped to particular end-users (i.e.. particular
hospitals). In general, the end-user is entitled, on a case by case
basis, to a price lower than our established price. Accordingly, we
owe the distributor a rebate - the difference between the established
price and the lower price to which the end-user is entitled - upon our
receipt of the documentation from the distributor. At the time that
the distributor remits payment to us for the products purchased, the
distributor deducts an amount for the related rebates.
The allowance for rebates is recorded at the time we record the
revenue for the product shipped to the distributor. The rebate is
recorded as a sales allowance reducing gross revenue.
We have, for several years, utilized an historical moving average to
estimate the allowance for rebates. Based upon our recent review, we
have concluded that the moving average estimate does not necessarily
result in the appropriate liability due to the distributor.
Accordingly, we have changed our method of estimating rebate claims to
record the allowance for rebates based upon the documentation provided
by the distributor of the shipments to the end-user, as well as
estimates for inventory not yet sold by the distributor, adjusting
from estimate to actual at the time of remittance.
o We are subject to various claims and legal actions in the ordinary
course of our business. These matters frequently arise in disputes
regarding the rights to intellectual property, where it is difficult
to assess the likelihood of success and even more difficult to assess
the probable ranges of recovery. Although we currently are not aware
of any legal proceeding that is reasonably likely to have a material
adverse effect on our financial position and results of operations, if
we become aware of any such claims against us, we will evaluate the
probability of an adverse outcome and provide accruals for such
contingencies as necessary.
20
o We have established an allowance for inventory obsolescence. The
allowance was determined by performing an aging analysis of the
inventory; based upon this review, inventory is stated at the lower of
cost (first in, first out method) or its net realizable value. Our
inventory allowance for obsolescence was $400,000 at March 31, 2003
and $438,000 at September 30, 2002.
21
PART II.
Other Information
ITEM 1.
Legal Proceedings:
(a) Reference is made to Item 3 of our Annual Report on Form 10-K for the year
ended September 30, 2002.
(b) On December 6, 1999, a complaint was filed against us on behalf of the
former shareholders of our Vital Pharma subsidiary alleging breach of
contract for failure to pay earnout payments allegedly due under the stock
purchase agreement executed in connection with our purchase of Vital Pharma
in December 1995. We have answered the complaint, filed counter-claims and
moved to transfer the case to arbitration. In August 2000, the court
ordered the plaintiff to submit such claims to binding arbitration and
stayed all other proceedings pending the outcome of the arbitration. The
parties are in the discovery phase of the arbitration proceeding. The
arbitration is anticipated to begin in the fourth quarter of fiscal 2003.
(c) On April 4, 1997 a complaint was filed against us for an incident which
occurred on April 6, 1995. The plaintiff, representing the estate of the
alleged victim, alleges that her mother died due to defects in a valve
manufactured by us. Such defects are alleged to include inadequate labeling
and instructions. The plaintiff seeks an unspecified amount of compensation
for damages for wrongful death and for recovery under the Illinois Survival
Act. In addition, the plaintiff has sought to amend the complaint to add an
additional cause of action for punitive damages. On September 26, 2002, the
court rejected the plaintiff's motion to add the claim for punitive
damages. On March 11, 2003 the parties settled this matter upon a payment
from the Company's insurance carrier and the execution of a general release
in favor of the Company. The settlement had no financial impact on the
Company.
(d) On May 7, 2003 a complaint was filed against the Company and two of its
officers by Joseph Bourgart, a former chief financial officer for the
period January 11, 2002 to November 2002. Plaintiff alleges that he was
first demoted and then terminated as a result of having informed senior
management, the Company's Audit Committee and its independent accountants
of his concerns of illegal activity including fraudulent accounting
practices. Plaintiff asserts these allegations notwithstanding the fact
that, in connection with the filing of the Company's report on Form 10-Q
for the Company's third quarter of fiscal 2002 (the period ended June 30,
2002), he had executed a certification pursuant to the Sarbanes-Oxley Act
certifying that the Quarterly Report on Form 10-Q for that period "fully
complies with the requirements of Section 13(a) of the Securities and
Exchange Act of 1934" and that "The information contained in the Report
fairly presents, in all material respects, the consolidated financial
condition of the Company..." Furthermore, as the Company's Chief Financial
Officer, Plaintiff signed the Company's quarterly reports on form 10-Q
for the first quarter and second quarter of fiscal 2002 (ended December 31,
2001 and March 31, 2002, respectively). Less than one month before
Plaintiff's resignation he participated in a meeting with the Company's
world-wide management team to review the accuracy of the Company's
Annual Report on form 10-K for the 2002 fiscal year. At that meeting he
voiced no objections to the 10-K, nor did he say that the report contained
any untrue statements or omit to state any material fact. Of the items
enumerated in the complaint, most had already been reviewed with the
Company's independent accountants and the Company's Audit Committee prior
to the Company's filing its quarterly report for the third quarter of
fiscal 2002. The Company believes that the filing of the complaint is a
retaliatory action by Plaintiff who voluntarily resigned without any
severance payment after being confronted with evidence that he had
committed actions that were in gross violation of permitted corporate
conduct and which may also have constituted violations of law.
Nevertheless, in accordance with the Sarbanes-Oxley Act, the issues raised
in the complaint have been referred to the Audit Committee, which has
commenced its own independent analysis of those matters. The
22
Company strongly denies that it had engaged in improper conduct both as
regards its accounting practices and with regard to its treatment of the
Plaintiff.
(e) We are also involved in other legal proceedings arising in the ordinary
course of business. We cannot predict the outcome of our legal proceedings
with certainty. However, based upon our review of pending legal
proceedings, we do not believe the ultimate disposition of our pending
legal proceedings will be material to our financial condition. Predictions
regarding the impact of pending legal proceedings constitute
forward-looking statements. The actual results and impact of such
proceedings could differ materially from the impact anticipated, primarily
as a result of uncertainties involved in the proof of facts in legal
proceedings.
ITEM 2 THROUGH 5
Not applicable.
ITEM 6.
Reports on Form 8-K
There were no reports on Form 8-K filed within the quarter.
23
Exhibits
--------
99.1 Certification Pursuant to [p] U.S.C. Section 1350, as Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
99.2 Certification Pursuant to [p] U.S.C. Section 1350, as Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
24
Signatures
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
VITAL SIGNS, INC.
By: /s/ Frederick S. Schiff
---------------------------------
Frederick S. Schiff
Executive Vice President and
Chief Financial Officer
Date: May 15, 2003
25
CERTIFICATIONS
I, Terry D. Wall, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Vital Signs, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent functions):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: May 15, 2003
/s/ Terry D. Wall
--------------------------
Terry D. Wall
Chief Executive Officer
26
I, Frederick S. Schiff, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Vital Signs, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent functions):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: May 15, 2003
/s/ Frederick S. Schiff
--------------------------------------
Frederick S. Schiff
Chief Financial and Accounting Officer
27
STATEMENT OF DIFFERENCES
The trademark symbol shall be expressed as............................. 'TM'
The paragraph symbol shall be expressed as............................. [p]