UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
CURRENT REPORT
Pursuant to Section 13 or 15(d) of
the Securities Exchange Act of 1934
Date of Report (Date of earliest event reported): January 14, 2005
INTEGRA LIFESCIENCES HOLDINGS CORPORATION
(Exact name of Registrant as specified in its charter)
Delaware 0-26224 51-0317849
(State or other jurisdiction of (Commission File Number) (I.R.S. Employer
incorporation or organization) Identification No.)
311 Enterprise Drive
Plainsboro, NJ 08536
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number, including area code): (609)-275-0500
Not Applicable
(Former name or former address, if changed since last report)
Check the appropriate box below if the Form 8-K filing is intended to
simultaneously satisfy the filing obligation of the registrant under any of the
following provisions:
[ ] Written communications pursuant to Rule 425 under the Securities Act (17 CFR
230.425)
[ ] Soliciting material pursuant to Rule 14a-12 under the Exchange Act (17 CFR
240.14a-12)
[ ] Pre-commencement communications pursuant to Rule 14d-2(b) under the Exchange
Act (17 CFR 240.14d-2(b))
[ ] Pre-commencement communications pursuant to Rule 13e-4(c) under the Exchange
Act (17 CFR 240.13e-4(c))
ITEM 8.01. OTHER EVENTS.
As previously reported in our Current Report on Form 8-K dated August 3, 2004,
Integra adopted the provisions of Emerging Issues Task Force (EITF) Issue 03-6
"Participating Securities and the Two-Class Method Under FASB Statement No.
128," during the second quarter of 2004. The transition provisions of Issue 03-6
require prior period earnings per share amounts to be restated to conform to the
new standard, including the impact relating to securities that have been
extinguished but were outstanding for a portion of some prior period that is
presented for comparative purposes. Accordingly, Integra is restating its
earnings per share calculations for the year ended December 31, 2001 to conform
to the two-class method required by Issue 03-6 as it relates to the dividend
participation rights included in the Series B and Series C Convertible Preferred
Stock that were outstanding during that period, but were converted in 2001 and
2002, respectively. The adoption of Issue 03-6 reduced previously reported basic
earnings per share in 2001 by $0.05 to $1.03 and diluted earnings per share in
2001 by $0.02 to $0.92. The adoption of Issue 03-6 did not change the previously
reported basic or diluted earnings per share for any other year.
Integra is also restating the following footnote disclosures with the adoption
of Issue 03-6:
- Previously disclosed 2001 basic net income per share, as adjusted for
the non-amortization provisions of Statement 142, was reduced by $0.04
to $1.07 (see Note 2).
- Previously disclosed 2001 diluted net income per share, as adjusted for
the non-amortization provisions of Statement 142, was reduced by $0.02
to $0.95 (see Note 2).
- Previously disclosed pro forma basic and diluted net income per share
for 2002 and 2001, adjusted to reflect compensation cost for the
Company's stock option plans as if it had been determined based on the
fair value at the grant consistent with the provisions of Statement
123, was reduced as follows (see Note 2):
o 2002 pro forma basic net income per share was reduced by $0.01
to $1.04
o 2002 pro forma diluted net income per share was reduced by
$0.01 to $1.02
o 2001 pro forma basic net income per share was reduced by $0.02
to $0.80
o 2001 pro forma diluted net income per share was reduced by
$0.02 to $0.73
This Current Report on Form 8-K updates the following information contained in
our Annual Report on Form 10-K for the year ended December 31, 2003 (the "2003
Form 10-K") to reflect the restatement of 2001 earnings per share amounts as
required by the adoption of Issue 03-6. No other information has been updated in
the 2003 Form 10-K.
- Part II, Item 6. Selected Financial Data
- Part II, Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations
- Part IV, Item 15. Financial Statements
This updated information should be read together with Integra's 2003 Form 10-K
and all other reports filed with the Securities and Exchange Commission pursuant
to Section 13, 14, or 15 of the Securities Exchange Act of 1934 (as amended)
since the end of the fiscal year covered by the 2003 Form 10-K..
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UPDATE TO 2003 ANNUAL REPORT ON FORM 10-K, PART II, ITEM 6. SELECTED FINANCIAL
DATA
ITEM 6. SELECTED FINANCIAL DATA
The information set forth below should be read in conjunction with "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
our consolidated financial statements and related notes included elsewhere in
this report. We have acquired numerous businesses and product lines during the
previous five years. As a result of these acquisitions, the consolidated
financial results and balance sheet data for certain of the periods presented
below may not be directly comparable.
Years Ended December 31,
2003 2002 2001 2000 1999
------ ------ ------ ------ ------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Operating Results:
Total revenue (1) ...................................... $185,599 $117,822 $ 93,442 $ 71,649 $ 42,876
Total operating costs and expenses (2) ................. 145,952 98,635 79,156 83,370 55,256
-------- -------- -------- -------- --------
Operating income (loss) ................................ 39,647 19,187 14,286 (11,721) (12,380)
Interest income (expense), net ......................... 471 3,535 1,393 (473) 294
Gain on disposition of product line .................... -- -- -- 1,146 4,161
Other income (expense), net (1) ........................ 3,071 3 (392) 201 141
-------- -------- -------- -------- --------
Income (loss) before income taxes ...................... 43,189 22,725 15,287 (10,847) (7,784)
Income tax expense (benefit) (3) ....................... 16,328 (12,552) (10,876) 108 (1,818)
-------- -------- -------- -------- --------
Net income (loss) before cumulative
effect of accounting change ......................... 26,861 35,277 26,163 (10,955) (5,966)
Cumulative effect of accounting change(5) .............. -- -- -- (470) --
-------- -------- -------- -------- --------
Net income (loss) ...................................... $ 26,861 $ 35,277 $ 26,163 $(11,425) $ (5,966)
======== ======== ======== ======== ========
Diluted net income (loss) per share .................... $ 0.88 $ 1.14 $ 0.92 $ (0.97) $ (0.40)
Weighted average shares outstanding .................... 30,468 30,720 27,196 17,553 16,802
Pro Forma Data (5):
Total revenue .......................................... $ 42,974
Net loss ............................................... (5,868)
Basic and diluted net loss per share ................... $ (0.40)
December 31,
2003 2002 2001 2000 1999
------ ------ ------ ------ ------
(IN THOUSANDS)
Financial Position:
Cash, cash equivalents, and marketable securities(4,6).. $206,743 $132,311 $131,036 $ 15,138 $ 23,612
Total assets ........................................... 412,526 274,668 227,588 86,514 66,253
Long-term debt (6) ..................................... 119,257 -- -- 4,758 7,625
Accumulated deficit .................................... (17,462) (44,323) (79,600) (105,729) (94,304)
Stockholders' equity ................................... 268,530 247,597 204,056 53,781 37,989
(1) In 2003, we recorded $11.0 million of other revenue related to the
acceleration of the recognition of unused minimum purchase payments and
unamortized license fee revenue from ETHICON following the termination of
the supply distribution and collaboration agreement in December 2003. We
also recorded a $2.0 million gain in other income associated with a related
termination payment received from ETHICON.
(2) We recorded the following significant special items in operating expenses:
$1.1 million of expenses related to the closure of our San Diego research
center, $0.4 million of acquired in-process research and development and a
$2.0 million donation to the Integra Foundation in 2003; $2.3 million of
acquired in-process research and development charges recorded in connection
with acquisitions in 2002; a $13.5 million stock-based compensation charge
incurred in connection with the extension of the employment of our
President and Chief Executive Officer in 2000; and $2.5 million in fair
value inventory charges and $1.0 million in severance costs related to
acquisitions in 1999.
(3) In 2002 and 2001, respectively, Integra recognized a $20.4 million and
$11.5 million deferred income tax benefit primarily related to the
reduction of a portion of the valuation allowance recorded against its
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deferred tax assets. In 1999, Integra recognized a $1.8 million deferred
income tax benefit from the reduction of the deferred tax liability
recorded in the NeuroCare acquisition to the extent that consolidated
deferred tax assets were generated subsequent to the acquisition.
(4) In August 2001, we issued 4,747,500 shares of common stock at $25.50 per
share in a follow-on public offering. The net proceeds generated by the
offering, after expenses, were $113.4 million. We subsequently used a
portion of these proceeds to repay outstanding indebtedness totaling $9.3
million, for which we recorded a $256,000 loss on the early retirement of
debt.
(5) As the result of the adoption of SEC Staff Accounting Bulletin No. 101
"Revenue Recognition" (SAB 101), we recorded a $470,000 cumulative effect
of an accounting change to defer a portion of a nonrefundable, up-front fee
received and recorded in other revenue in 1998. The cumulative effect of
this accounting change was measured as of January 1, 2000. As a result of
this accounting change, other revenue in 2003, 2002, 2001 and 2000 includes
$112,000 of amortization of the amount deferred as of January 1, 2000. Pro
forma data reflects the amounts that would have been reported if SAB 101
had been retroactively applied.
(6) In 2003, we issued $120.0 million of 2.5% contingent convertible
subordinated notes due 2008. The net proceeds generated by the notes, after
expenses, were $115.9 million. The notes are convertible into approximately
3.5 million shares.
UPDATE TO 2003 ANNUAL REPORT ON FORM 10-K, PART II, ITEM 7. MANAGEMENT'S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of our financial condition and results of
operations should be read together with the selected consolidated financial data
and our financial statements and the related notes appearing elsewhere in this
report. This discussion and analysis contains forward-looking statements that
involve risks, uncertainties and assumptions. Our actual results may differ
materially from those anticipated in these forward-looking statements as a
result of many factors, including but not limited to those under the heading
"Factors That May Affect Our Future Performance".
Regulation G, "Conditions for Use of Non-GAAP Financial Measures," and other
provisions of the Securities Exchange Act of 1934, as amended, define and
prescribe the conditions for the use of certain non-GAAP financial information.
In Management's Discussion and Analysis of Financial Condition and Results of
Operations, we provide information regarding growth in product revenues
excluding recently acquired product lines, which is a non-GAAP financial
measure. A reconciliation of this non-GAAP financial measure to the most
comparable GAAP measure is provided in this annual report.
This non-GAAP financial measure should not be relied upon to the exclusion of
GAAP financial measures. Management believes that this non-GAAP financial
measure constitutes important supplemental information to investors which
reflects an additional way of viewing aspects of our operations that, when
viewed with our GAAP results and the accompanying reconciliations, provides a
more complete understanding of factors and trends affecting our ongoing business
and operations. Management strongly encourages investors to review our financial
statements and publicly-filed reports in their entirely and to not rely on any
single financial measure. Because non-GAAP financial measures are not
standardized, it may not be possible to compare these financial measures with
other companies' non-GAAP financial measures having the same or similar names.
GENERAL
Integra develops, manufactures, and markets medical devices for use in
neuro-trauma, neurosurgery, plastic and reconstructive surgery, and general
surgery. Our business is organized into PRODUCT GROUPS and DISTRIBUTION
CHANNELS. Our product groups include implants and other devices for use in the
operating room, monitoring systems for the measurement of various parameters in
tissue (such as pressure, temperature, and oxygen), hand-held and ultrasonic
surgical instruments, and private label products that we manufacture for other
medical device companies.
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Our distribution channels include a sales organization that we employ to call on
neurosurgeons, another employed sales force to call on plastic and
reconstructive surgeons, and networks of third-party distributors that we
manage. We invest substantial resources and management effort to develop our
sales organizations, and we believe that we compete very effectively in this
aspect of our business.
We manufacture most of the operating room, monitoring and private label products
that we sell in various plants located in the United States, Puerto Rico,
France, the United Kingdom and Germany. We also manufacture the ultrasonic
surgical instruments that we sell, but we source most of our hand-held surgical
instruments through specialized third-party vendors.
We believe that we have a particular advantage in the development, manufacture
and sale of specialty tissue repair products derived from bovine collagen. We
develop and build these products in our manufacturing facility in Plainsboro,
New Jersey. Taken together, these products accounted for approximately 27%, 32%
and 32% of product revenues in the years ended December 31, 2003, 2002 and 2001,
respectively.
We manage these multiple product groups and distribution channels on a
centralized basis. Accordingly, we report our financial results under a single
operating segment - the development, manufacturing, and distribution of medical
devices.
Our objective is to build a customer-focused and profitable medical device
company by developing or acquiring innovative medical devices and other products
to sell through our sales channels. Our strategy therefore entails substantial
growth in product revenues both through internal means - through launching new
and innovative products and selling existing products more intensively - and by
acquiring existing businesses or already successful product lines.
We aim to achieve this growth in revenues while maintaining strong financial
results. While we pay attention to any meaningful trend in our financial
results, we pay particular attention to measurements that tend to support the
view that our profitability can grow for a period of years. These measurements
include revenue growth from products developed internally or acquired more than
a year before the reporting period in question, gross margins on products
revenues, which we hope to increase to more than 65% over a period of several
years, operating margins for the entire company, which we hope to increase
substantially from the level we reported in 2003, and earnings per fully diluted
share of common stock.
ACQUISITIONS
Our strategy for growing our business includes the acquisition of complementary
product lines and companies. Our recent acquisitions of businesses, assets and
product lines may make our financial results for the year ended December 31,
2003 not directly comparable to those of the corresponding prior year periods.
Since the beginning of 2001, we have acquired the following businesses, assets
and product lines:
In December 2003, we acquired the assets of Reconstructive Technologies, Inc.
for $400,000 in cash and an agreement to make future payments based on product
sales. Reconstructive Technologies is the developer of the Automated Cyclic
Expansion System (ACE System(TM)), a tissue expansion device. As the ACE system
is not yet approved, we recorded an in-process research and development charge
in connection with this acquisition. Once approved, we plan to market the system
through our plastic and reconstructive sales force.
In November 2003, we acquired all of the outstanding capital stock of Spinal
Specialties, Inc. from I-Flow Corporation for approximately $6.0 million in
cash, subject to a working capital adjustment. Spinal
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Specialties assembles and sells custom kits and products for chronic pain
management, including the OsteoJect(TM) Bone Cement Delivery System and the
ACCU-DISC(TM) Pressure Monitoring System. Spinal Specialties markets its
products to anesthesiologists and interventional radiologists through an
in-house telemarketing team and a network of distributors. We report sales of
Spinal Specialties products as instrument revenues.
In August 2003, we acquired the assets of Tissue Technologies, Inc., the
manufacturer and distributor of the UltraSoft(TM) line of facial implants for
soft tissue augmentation of the facial area. We market the UltraSoft products
directly to cosmetic and reconstructive surgeons through our plastic and
reconstructive surgery sales force.
In March 2003, we acquired all of the outstanding capital stock of J. Jamner
Surgical Instruments, Inc. (doing business as JARIT(R) Surgical Instruments) for
$45.6 million in cash. JARIT sells its products to more than 5,200 hospitals and
surgery centers worldwide. JARIT generates its domestic product sales primarily
through sales to hospitals that are members of group purchasing organizations.
Group purchasing organizations use the combined leverage of their member
hospitals to obtain better prices for medical products for the participating
hospitals and other health care providers than might otherwise be available to
these institutions individually. The acquisition of JARIT broadened Integra's
customer base and surgical instrument product offering and facilitated the
procurement of Integra's Ruggles(TM) and Padgett instrument products directly
from the instrument manufacturers.
In December 2002, we acquired the epilepsy monitoring and neurosurgical shunt
business of the Radionics division of Tyco Healthcare Group for $3.7 million in
cash. We moved the manufacturing of the acquired lines to our facility in Biot,
France and are selling the acquired products through our Integra NeuroSciences
sales force.
In October 2002, we acquired Padgett Instruments, Inc.(R), a marketer of
instruments used in reconstructive and plastic surgery, for $9.6 million in
cash. Our acquisition of Padgett Instruments broadened our existing surgical
customer base and allowed us to expand into new market segments. We consolidated
Padgett's operations into our distribution center located in Cranbury, New
Jersey in March 2003.
In August 2002, we acquired certain assets, including the NeuroSensor(R) monitor
and rights to certain intellectual property, from Novus Monitoring Limited of
the United Kingdom ("Novus") and entered into a related development agreement
pursuant to which Novus will, at its own cost, conduct certain clinical studies,
continue development of an additional monitoring product, and design and
transfer to us a validated manufacturing process for these products. We paid
Novus $3.5 million in cash at closing and agreed to pay an additional $1.5
million upon Novus' achievement of a development milestone and up to an
additional $2.5 million based upon revenues from Novus' products. We expect the
Novus products to complement our existing line of brain parameter monitoring
products.
We expect to introduce the Novus NeuroSensor(R) Cerebral Blood Flow Monitoring
System in the second half of 2004. The Novus monitoring system measures both
intracranial pressure and cerebral blood flow using a single combined probe and
an electronic monitor for data display. Cerebral blood flow is considered to be
an important parameter for monitoring cerebral auto-regulation and, when
combined with the measurement of intracranial pressure, is expected to
facilitate improved patient care and clinical management with applications in
neuro-trauma, cerebrovascular disease, and post-operative neurosurgical
treatment.
In connection with the Novus acquisition, we recorded a $1.1 million in-process
research and development charge for the value associated with the development of
a next generation monitoring
6
system. Novus remains responsible for the costs to complete development and
obtain regulatory clearance for this project, the value of which we recorded as
prepaid research and development. We estimated the value of the in-process
research and development with the assistance of a third party appraiser using
probability weighted cash flow projections with factors for successful
development ranging from 15% to 20% and a 15% discount rate.
In August 2002, we acquired the neurosciences division of NMT Medical, Inc. for
$5.7 million in cash. Through this acquisition, we added a range of leading
differential pressure valves, including the Orbis-Sigma(R), Integra Hakim(R) and
horizontal-vertical lumbar valves, and external ventricular drainage products to
our neurosurgical product line. The acquired operations included a facility
located in Biot, France that manufactures, packages and distributes shunting,
catheter and drainage products.
In July 2002, we acquired the assets of Signature Technologies, Inc., a
specialty manufacturer of titanium and stainless steel implants for the
neurosurgical and spinal markets, and certain other intellectual property
assets. The purchase price consisted of $2.9 million in cash, $0.5 million of
deferred consideration, and royalties on future sales of products to be
developed. Our acquisition of Signature Technologies gave us the capability of
developing and manufacturing metal implants for our strategic partners and for
our direct sale. Signature Technologies currently manufactures cranial fixation
systems for sale primarily under a single contract manufacturing agreement that
expires in June 2004.
In connection with the Signature Technologies acquisition, we recorded a $1.2
million in-process research and development charge for the value associated with
a project for the development of an enhanced cranial fixation system using
patented technology for improved identification and delivery of certain
components of the system.
In December 2001, we acquired NeuroSupplies, Inc., a specialty distributor of
disposables and supplies for neurologists, pulmonologists and other physicians,
for $4.1 million. The purchase price consisted of $0.2 million in cash, a $3.6
million note paid in January 2002, and 10,000 shares of Integra common stock.
Integra NeuroSupplies markets a wide variety of supplies to neurologists,
hospitals, sleep clinics, and other physicians in the United States as well as
to original equipment manufacturers and distributors. In 2003, we relocated the
NeuroSupplies operations to our facility in Pembroke, Massachusetts.
In April 2001, we acquired Satelec Medical, a manufacturer and marketer of the
Dissectron(R) ultrasonic surgical aspirator console and a line of related
handpieces, for $3.9 million in cash. We completed the consolidation of the
Satelec operations into our Andover, England and Biot, France facilities in
2002.
In April 2001, we acquired GMSmbH, the German manufacturer of the LICOX(R)
product, for $3.2 million. The purchase price consisted of $2.6 million in cash,
the forgiveness of $0.2 million in notes receivable from GMSmbH, and $0.4
million of future minimum royalty payments to the seller. Prior to the
acquisition, we had exclusive marketing rights to the LICOX(R) products in the
United States and certain other markets.
RESULTS OF OPERATIONS
Net income in 2003 was $26.9 million, or $0.88 per diluted share, as compared to
net income of $35.3 million or $1.14 per diluted share in 2002, and net income
of $26.2 million or $0.92 per diluted share in 2001. Included in these amounts
are certain revenues, charges, or gains resulting from facts and circumstances
that, based on our recent history and future expectations, may not recur with
similar materiality or impact on continuing operations. We believe that the
identification of all revenues, charges, and gains that meet these criteria
promotes comparability of reported financial results. The following revenues,
charges, and gains were included in net income and net income per diluted share:
7
RECORDED IN 2003
- We recorded $11.0 million of other revenue related to the acceleration
of the recognition of unused minimum purchase payments and unamortized
license fee revenue from ETHICON following the termination of the
Supply, Distribution and Collaboration agreement in December 2003.
- We incurred $1.1 million of expenses related to the closing of our San
Diego research center, consolidation of the research activities into
our other facilities and the discontinuation of certain research
programs.
- We recorded an acquired in-process research and development charge of
$400,000 in connection with an acquisition.
- We made a $2.0 million donation to the Integra Foundation, which is
included in general and administrative expenses.
- We received a $2.0 million payment from ETHICON from the termination of
our agreement with them, which is included in other income.
RECORDED IN 2002
- We recorded a $20.4 million deferred income tax benefit primarily from
the reduction of the valuation allowance recorded against our deferred
tax assets associated with net operating loss carryforwards.
- We recorded acquired in-process research and development charges of
$2.3 million in connection with acquisitions.
RECORDED IN 2001
- We recorded an $11.5 million deferred income tax benefit from the
reduction of a portion of the valuation allowance recorded against our
deferred tax assets associated with net operating loss carryforwards.
- We recorded a $256,000 loss from the early retirement of debt.
TOTAL REVENUES AND GROSS MARGIN ON PRODUCT REVENUES
(in thousands, except per share data) 2003 2002 2001
-------- -------- --------
Monitoring products ................................. $ 44,229 $ 37,184 $ 28,158
Operating room products ............................. 53,301 38,326 27,240
Instruments ......................................... 47,168 16,802 14,972
Private label products .............................. 21,997 20,313 17,538
-------- -------- --------
Total product revenues ................................. 166,695 112,625 87,908
Other revenue .......................................... 18,904 5,197 5,534
-------- -------- --------
Total revenues.......................................... 185,599 117,822 93,442
Cost of product revenues ............................... 70,597 45,772 36,014
Gross margin on product revenues ....................... 96,098 66,853 51,894
Gross margin as a percentage of product revenues ....... 58% 59% 59%
In 2003, total revenues increased 58% over 2002 to $185.6 million, led by a
$54.1 million or 48% increase in product revenues to $166.7 million. Domestic
product revenues increased $42.4 million in 2003 to $132.8 million, or 80% of
total product revenues, as compared to 80% of product revenues in 2002 and 78%
of product revenues in 2001. Sales of instruments and operating room products,
which
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reported a 181% and 39% increase, respectively, in sales over 2002, led our
growth in product revenues in 2003.
In 2002, total revenues increased 26% over 2001 to $117.8 million, led by a 28%
increase in product revenues to $112.6 million. Domestic product revenues
increased $21.8 million in 2002 to $90.4 million, or 80% of total product
revenues. Sales of monitoring and operating room products, which reported a 32%
and 41% increase, respectively, in sales over 2001, led our growth in product
revenues in 2002.
Reported product revenues for 2003 and 2002 included the following amounts in
revenues from acquired product lines:
2003 Revenues 2002 Revenues % change
--------------- --------------- ------------
(in thousands)
Monitoring
Products acquired during 2002 ........... $ 3,832 $ 1,626 136%
All other product revenues .............. 40,397 35,558 14%
-------- --------
Total Monitoring product revenues........ 44,229 37,184 19%
Operating Room
Products acquired during 2002 ........... $ 9,360 $ 3,325 182%
All other product revenues .............. 43,941 35,001 26%
-------- --------
Total Operating Room product revenues.... 53,301 38,326 39%
Instruments
Products acquired during 2003 ........... $ 24,476 $ -- N/A
Products acquired during 2002 ........... 4,775 1,238 286%
All other product revenues .............. 17,917 15,564 15%
-------- --------
Total Instruments product revenues....... 47,168 16,802 181%
Private Label
Products acquired during 2002 ........... $ 2,772 $ 1,418 95%
All other product revenues .............. 19,225 18,895 2%
-------- --------
Total Private Label product revenues..... 21,997 20,313 8%
Consolidated
Products acquired during 2003 ........... $ 24,476 $ -- N/A
Products acquired during 2002 ........... 20,739 7,607 173%
All other product revenues .............. 121,480 105,018 16%
-------- --------
Total product revenues .................. 166,695 112,625 48%
Product line revenues excluding 2003 and 2002 acquisitions grew at 16% for the
year ended December 31, 2003 as compared to 2002. Increased sales of our
DuraGen(R) Dural Graft Matrix, NeuraGen(TM) Nerve Guide, intracranial monitoring
and drainage systems, and neurosurgical systems accounted for most of this
growth in 2003.
Revenue from sales of drainage product lines acquired in 2002 and the Integra
NeuroSupplies(TM) products acquired in December 2001 and increased sales of our
intracranial monitoring systems and existing drainage systems all contributed
significantly to the growth in our monitoring product revenues in 2002. Revenue
from sales of the Padgett Instruments product line acquired in 2002 and a full
year of sales of the Dissectron(R) Ultrasonic Aspirator product line acquired in
April 2001 contributed to the growth in instruments product revenues in 2002.
Growth in private label product revenues in 2002 was generated primarily by
increased revenues from the Absorbable Collagen Sponge component of Medtronic's
recently approved InFUSE(TM) Bone Graft product and $1.4 million in sales of
product lines acquired in 2002.
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In 2003, we expanded our dural repair product offering with the introduction
through our Integra NeuroSciences sales force of the DuraGen Plus(TM) Dural
Graft Matrix and EnDura(TM) No-React(R) Dural Substitute in the United States.
The DuraGen Plus product represents the second generation in Integra's line of
absorbable and sutureless onlay collagen matrix grafts for cranial and spinal
dural repair. The EnDura(TM) product is a new suturable product for the repair
of the dura mater.
In addition, through our plastic and reconstructive sales force we launched the
Dermatome Model S. Designed specifically for burn surgeons, it is lighter, more
ergonomic and more powerful than the other dermatomes in Integra's Padgett
instrument line.
Through ETHICON, we also launched the INTEGRA(TM) Bi-Layer Matrix Wound
Dressing. This product is used for the management of wounds, including partial
and full-thickness wounds, as well as chronic wounds and trauma wounds.
Following the termination of the ETHICON agreement in December 2003, we now
market these products through our plastic and reconstructive sales force.
We have generated our product revenue growth through acquisitions, new product
launches and increased direct sales and marketing efforts both domestically and
in Europe. We expect that our future growth will derive from our expanded
domestic sales force, the continued implementation of our direct sales strategy
in Europe and from internally developed and acquired products. We also intend to
continue to acquire businesses that complement our existing businesses and
products.
Gross margin as a percentage of product revenues was 58% in 2003 and 59% in 2002
and 2001. Cost of product revenues included $1,261,000, $447,000 and $203,000 in
fair value inventory purchase accounting adjustments recorded in connection with
acquisitions in 2003, 2002 and 2001, respectively. During 2003, the gross margin
was negatively affected by acquisitions of lower margin products and the impact
of foreign exchange rates on the cost of products that we manufacture or
purchase in Europe. We expect our future gross margins to benefit as we resume
the direct sales of the INTEGRA(R) Dermal Regeneration Template and related
products and as sales of the higher margin products continue to grow faster than
other products.
We currently do not hedge our exposure to foreign currency risk. In 2003, the
cost of products we manufacture in or purchase in Europe exceeded our foreign
currency-denominated revenues. We expect this imbalance to continue into 2004. A
further weakening of the dollar against the euro and British pound could
negatively affect future gross margins.
Other revenue consists of research and development funding from strategic
partners and government grants, and license, distribution, and other
event-related revenues from strategic partners and other third parties. Other
revenue increased in 2003 by $13.7 million primarily due to the accelerated
recognition of $11.0 million of license and distribution fee revenue due to the
termination of the ETHICON agreement. The $337,000 decline in 2002 resulted from
a decline in government grant funding and the expiration of a technology royalty
agreement, although the receipt in 2002 of $1.0 million in event-related
payments partially offset those negative factors. Since our agreement with
ETHICON was the main source of our other revenue, we expect it to significantly
decrease in 2004.
10
OTHER OPERATING EXPENSES
The following is a summary of other operating expenses as a percent of product
revenues:
2003 2002 2001
-------- -------- --------
Research and development ........................ 7.7% 10.2% 10.1%
Selling and marketing ........................... 22.9% 22.3% 23.1%
General and administrative ...................... 12.8% 12.9% 12.7%
We recorded $400,000 and $2.3 million of in-process research and development
charges in connection with acquisitions in 2003 and 2002, respectively. Other
research and development expenses increased in both 2003 and 2002 as a result of
increased headcount and spending on product development focused on our neuro
products. We incurred additional expenses of $950,000 in 2003 related to the
consolidation of our San Diego research center with our other facilities. During
2003, we also increased spending on clinical research relationships with
research institutions related to markets in which we compete.
We expect our research and development expenses as a percentage of product
revenues to decline further in 2004 because of the significant increase in
hand-held instrument product revenues as a proportion of our total revenues. By
their nature, our hand-held instrument product lines require less research and
development and depend on sales and marketing efforts to support continued
growth.
Sales and marketing expenses increased significantly in both 2003 and 2002 with
the expansion of our domestic and international sales and marketing organization
and increased trade show activities. In 2003, the increase included sales
support for JARIT Instruments and the expansion of the plastic and
reconstructive sales force in anticipation of the termination of the ETHICON
agreement. We also hired more experienced marketing professionals and spent more
on advertising. In 2004, we expect to continue to expand our neuro and plastic
and reconstructive sales forces.
General and administrative expenses increased $6.8 million in 2003, $2.5 million
of which is related to operating costs associated with recently acquired
businesses that were not reflected in our results for the full year in 2002. In
addition, in 2003 we donated $2.0 million to the Integra Foundation and incurred
additional costs to consolidate several facilities.
General and administrative expenses increased $3.4 million in 2002, $1.9 million
of which was related to operating costs associated with acquired businesses that
were not reflected in our results for the full year in 2001. The remaining
increase in general and administrative expenses in 2002 consisted primarily of
increased rent at our expanded corporate headquarters and higher insurance and
legal costs.
We initiated and completed a number of activities in the fourth quarter of 2003,
including the expansion of our marketing capability, the doubling of our plastic
and reconstructive surgery sales organization, the consolidation of our San
Diego research and manufacturing facilities, and making a significant
contribution to the Integra Foundation. These activities resulted in higher
operating costs compared to our recent trend. We anticipate our 2004 operating
costs as a percentage of product revenues to decrease compared to the levels
incurred in the fourth quarter of 2003.
Amortization expense increased in 2003 primarily because of amortization on
additional intangible assets acquired through our business acquisitions. Annual
amortization expense is expected to be approximately $3.3 million in 2004, $3.1
million in 2005, $3.0 million in 2006, $2.8 million in 2007, and $2.5 million in
2008.
11
NON-OPERATING INCOME AND EXPENSES
In 2003, we received approximately $115.9 million of net proceeds from the sale
of $120.0 million of our 2 1/2% contingent convertible subordinated notes due in
March 2008. We have recorded $2.7 million for the interest expense associated
with the notes, which was offset by $3.2 million of interest income on our
invested cash and marketable debt securities.
We will pay additional interest ("Contingent Interest") on our convertible notes
if, at thirty days prior to maturity, Integra's common stock price is greater
than $37.56 per share. The fair value of this Contingent Interest obligation is
marked to its fair value at each balance sheet date, with changes in the fair
value recorded to interest expense. We recorded a $365,000 liability related to
the estimated fair value of the Contingent Interest obligation at the time the
notes were issued. At December 31, 2003, the estimated fair value of the
Contingent Interest obligation was $458,000.
In August 2003, we entered into an interest rate swap agreement with a $50.0
million notional amount to hedge the risk of changes in fair value attributable
to interest rate risk with respect to a portion of our fixed rate convertible
notes. We receive a 2 1/2% fixed rate from the counterparty, payable on a
semi-annual basis, and pay to the counterparty a floating rate based on 3-month
LIBOR minus 35 basis points, payable on a quarterly basis. The interest rate
swap agreement terminates in March 2008, subject to early termination upon the
occurrence of certain events, including redemption or conversion of the
convertible notes.
The interest rate swap agreement qualifies as a fair value hedge under SFAS No.
133, as amended "Accounting for Derivative Instruments and Hedging Activities".
The net amount to be paid or received under the interest rate swap agreement is
recorded as a component of interest expense. Interest expense for the year ended
December 31, 2003 reflects a $330,000 reduction associated with the interest
rate swap.
The net fair value of the interest rate swap at inception was $767,000. At
December 31, 2003, the net fair value of the interest rate swap increased
$305,000 to $1.1 million, and this amount is included in other liabilities. In
connection with this fair value hedge transaction, we recorded a $433,000 net
decrease in the carrying value of our convertible notes. The net $128,000
difference between changes in the fair value of the interest rate swap and the
convertible notes represents the ineffective portion of the hedging
relationship, and this amount is recorded in other income.
Our net other income/expense increased by $3.1 million in 2003. This increase
consisted primarily of the $2.0 million termination payment received from
ETHICON and foreign currency transaction gains.
In August 2001, we raised $113.4 million from a follow-on public offering of 4.7
million shares of common stock. Accordingly, net interest income in 2002
increased to $3.5 million, as compared to net interest income of $1.4 million in
2001.
INCOME TAXES
Since 1999, we have generated positive taxable income on a cumulative basis. In
light of this trend, our projections for future taxable earnings, and the
expected timing of the reversal of deductible temporary differences, we
concluded in the fourth quarter of 2001 that we no longer needed to maintain a
portion of the valuation allowance recorded against federal and state net
operating loss carryforwards and certain other temporary differences. We reduced
the valuation allowance by $12.0 million in 2001 because we believed that it was
more likely than not that we would realize the benefit of that portion of the
deferred tax assets recorded at December 31, 2001.
12
In the fourth quarter of 2002, we reduced the remaining valuation allowance
recorded against net operating loss carryforwards by $23.4 million, which
reflected our estimate of additional tax benefits that we expected to realize in
the future. A valuation allowance of $5.4 million is recorded against the
remaining $33.5 million of net deferred tax assets recorded at December 31,
2003. This valuation allowance relates to deferred tax assets for certain
expenses which will be deductible for tax purposes in very limited circumstances
and for which we believe it is unlikely that we will recognize the associated
tax benefit. We do not anticipate additional income tax benefits through future
reductions in the valuation allowance. However, if we determine that we would be
able to realize more or less than the recorded amount of net deferred tax
assets, we will record an adjustment to the deferred tax asset valuation
allowance in the period such a determination is made.
In 2003, our effective income tax rate was 37.8% of income before income taxes.
The increase as compared to 2002 and 2001 resulted from the income tax benefits
related to the reduction of deferred tax asset valuation allowances recorded in
2002 and 2001 and a larger proportion of our taxable income being generated in
higher tax jurisdictions in 2003.
The net change in the Company's valuation allowance was $(2.3) million, $(26.7)
million, and $(10.4) million, in 2003, 2002 and 2001, respectively.
At December 31, 2003, we had net operating loss carryforwards of approximately
$72.8 million and $10.5 million for federal and state income tax purposes,
respectively, to offset future taxable income. The federal and state net
operating loss carryforwards expire through 2018 and 2009, respectively. New
Jersey has imposed a moratorium on the ability of corporations to use their net
operating loss carryforwards to reduce their New Jersey state tax obligations.
At December 31, 2003, several of our subsidiaries had unused net operating loss
carryforwards and tax credit carryforwards arising from periods prior to our
ownership which expire through 2010. The Internal Revenue Code limits the timing
and manner in which we may use any acquired net operating losses or tax credits.
INTERNATIONAL PRODUCT REVENUES AND OPERATIONS
Because we have operations based in Europe and we generate revenues and incur
operating expenses in euros and British pounds, we will experience currency
exchange risk with respect to those foreign currency denominated revenues or
expenses.
In 2003, the cost of products we manufactured in our European facilities or
purchased in foreign currencies exceeded our foreign currency-denominated
revenues. We expect this imbalance to continue into 2004. We currently do not
hedge our exposure to foreign currency risk. Accordingly, a further weakening of
the dollar against the euro and British pound could negatively affect future
gross margins and operating margins. We will continue to assess the potential
effects that changes in foreign currency exchange rates could have on our
business. If we believe this potential impact presents a significant risk to our
business, we may enter into derivative financial instruments to mitigate this
risk.
Additionally, we generate significant revenues outside the United States, a
portion of which are U.S. dollar-denominated transactions conducted with
customers who generate revenue in currencies other than the U.S. dollar. As a
result, currency fluctuations between the U.S. dollar and the currencies in
which those customers do business may have an impact on the demand for our
products in foreign countries.
13
Our sales to foreign markets may be affected by local economic conditions,
regulatory or political considerations, the effectiveness of our sales
representatives and distributors, local competition, and changes in local
medical practice.
Relationships with customers and effective terms of sale frequently vary by
country, often with longer-term receivables than are typical in the United
States.
Product revenues by major geographic area are summarized below:
United Asia Other
States Europe Pacific Foreign Consolidated
-------- -------- --------- --------- --------------
(in thousands)
2003 ..................... $132,805 $21,433 $5,828 $6,629 $166,695
2002 ..................... 90,422 14,737 4,062 3,404 112,625
2001 ..................... 68,612 10,577 4,838 3,881 87,908
In 2003, product revenues from customers outside the United States totaled $33.9
million, or 20% of consolidated product revenues, of which approximately 63%
were to European customers. Of this amount, $21.3 million of these revenues were
generated in foreign currencies.
In 2002, product revenues from customers outside the United States totaled $22.2
million, or 20% of consolidated product revenues, of which approximately 66%
were to European customers. Of this amount, $13.4 million of these revenues were
generated in foreign currencies.
In 2001, revenues from customers outside the United States totaled $19.3
million, or 22% of consolidated product revenues, of which approximately 55%
were to European customers. Of this amount, $7.2 million of these revenues were
generated in foreign currencies.
LIQUIDITY AND CAPITAL RESOURCES
CASH AND MARKETABLE SECURITIES
At December 31, 2003, we had cash, cash equivalents and marketable securities
totaling $206.7 million. Investments consist almost entirely of highly liquid,
interest bearing debt securities.
CASH FLOWS
We generated positive operating cash flows of $34.8 million, $32.0 million and
$15.7 million in 2003, 2002 and 2001, respectively. Operating cash flows
improved in 2003 and 2002 primarily as a result of higher pre-tax income and the
benefits from the continued utilization of our net operating loss carryforwards
and tax deductions generated by employee stock option exercises. Based on our
current unused net operating loss carryforward position and various other future
potential tax deductions, we expect our operating cash flows to continue to
benefit from actual cash tax payments being lower than our effective book income
tax rate for at least the next two years.
In 2003, we also generated $14.2 million from the issuance of common stock under
employee benefit plans and $115.9 million of net proceeds from the sale of
$120.0 million of our contingent convertible subordinated notes.
Our principal uses of funds in 2003 were $50.4 million for acquisitions, $38.6
million for the net purchases of marketable debt securities, $35.4 million for
the repurchase of approximately 1.5 million
14
shares our common stock and $3.8 million for capital expenditures. The
significant repurchase of our common stock in 2003 was made simultaneously with
the issuance of our convertible notes.
In 2002, our principal sources of funds were $32.0 million of operating cash
flow and $3.3 million from the issuance of common stock. In 2002, our principal
uses of funds were $25.0 million for acquisitions, the repayment of a $3.6
million note and $2.3 million for capital expenditures.
In August 2001, we issued 4.7 million shares of common stock in a public
offering at $25.50 per share. The net proceeds generated by the offering, after
expenses, were $113.4 million. With the proceeds from the public offering of
common stock, we repaid all outstanding debt, including $7.9 million of bank
loans and $1.4 million payable under the terms of a promissory note, in 2001.
Additionally, a related term loan and revolving credit facility was terminated
in 2001.
WORKING CAPITAL
At December 31, 2003 and 2002, working capital was $167.3 million and $130.3
million, respectively. The increase in working capital in 2003 was primarily due
to a decrease in the overall maturity of our marketable securities portfolio,
additional investments in inventory to support our growth in product revenues,
higher accounts receivable balances related to increased sales, and the
recognition of significant amounts of deferred revenue and customer advances as
revenue in 2003.
CONVERTIBLE DEBT AND RELATED HEDGING ACTIVITIES
In 2003, we generated $115.9 million of net proceeds from the sale of $120.0
million of our contingent convertible subordinated notes due in March 2008. We
pay interest on the convertible notes at an annual rate of 2 1/2% each September
15th and March 15th. We will also pay contingent interest on the notes if, at
thirty days prior to maturity, Integra's common stock price is greater than
$37.56. The contingent interest will be payable for each of the last three years
the notes remain outstanding in an amount equal to the greater of i) 0.50% of
the face amount of the notes and ii) the amount of regular cash dividends paid
during each such year on the number of shares of common stock into which each
note is convertible. Holders of the notes may convert the notes into shares of
our common stock under certain circumstances, including when the market price of
our common stock on the previous trading day is more than $37.56 per share,
based on an initial conversion price of $34.15 per share.
The notes are general, unsecured obligations of Integra and will be subordinate
to any future senior indebtedness. We cannot redeem the notes prior to their
maturity, and the notes' holders may compel us to repurchase the notes upon a
change of control. There are no financial covenants associated with the
convertible notes.
In August 2003, we entered into an interest rate swap agreement with a $50
million notional amount to hedge the risk of changes in fair value attributable
to interest rate risk with respect to a portion of the notes. We receive a 2
1/2% fixed rate from the counterparty, payable on a semi-annual basis, and pay
to the counterparty a floating rate based on 3-month LIBOR minus 35 basis
points, payable on a quarterly basis. The interest rate swap agreement
terminates in March 2008, subject to early termination upon the occurrence of
certain events, including redemption or conversion of the contingent convertible
notes.
SHARE REPURCHASE PLANS
In March 2004, our Board of Directors authorized us to repurchase up to an
additional 1.5 million shares of our common stock for an aggregate purchase
price not to exceed $40.0 million. We may repurchase
15
shares under this program through March 2005 either in the open market or in
privately negotiated transactions.
During 2003 and 2002, respectively, we repurchased approximately 1.5 million and
100,000 shares of our common stock under previously authorized share repurchase
programs.
DIVIDEND POLICY
We have not paid any cash dividends on our common stock since our formation. Any
future determinations to pay cash dividends on our common stock will be at the
discretion of our Board of Directors and will depend upon our financial
condition, results of operations, cash flows, and other factors deemed relevant
by the Board of Directors.
REQUIREMENTS AND CAPITAL RESOURCES
We believe that our cash and marketable securities are sufficient to finance our
operations and capital expenditures in the near term. In 2004, we expect to
increase cash outlays for capital expenditures as compared to 2003, primarily
because of an estimated $4.3 million of expenditures associated with information
system upgrades.
Given the significant level of liquid assets and our objective to grow by
acquisition and alliances, our financial position could change significantly if
we were to complete a business acquisition by utilizing a significant portion of
our liquid assets.
Currently, we do not have any existing borrowing capacity or other credit
facilities in place to raise significant amounts of capital if such a need
arises.
CONTRACTUAL OBLIGATIONS AND COMMITMENTS
We are obligated to pay the following amounts under various agreements:
Less than More than
Total 1 year 1-3 Years 3-5 Years 5 years
------- ----------- ----------- ----------- -----------
(in millions)
Long Term Debt............... $120.0 $ -- $ -- $120.0 $ --
Interest on Long Term Debt... 13.5 3.0 9.0 1.5 --
Operating Leases............. 9.1 2.2 2.9 1.9 2.1
Purchase Obligations......... 10.2 6.3 3.2 0.7 --
Pension Contribution(1)...... 0.2 0.2 -- -- --
Other Long Term Liabilities.. 0.4 -- 0.2 0.1 0.1
-------- ------- ------- -------- ------
Total........................ $153.4 $ 11.7 $ 15.3 $124.2 $ 2.2
(1) Pension contributions after 2004 cannot be reasonably estimated.
In addition, under other agreements we are required to make payments based on
sales levels of certain products or if specific development milestones are
achieved.
In January 2004, the Company acquired the R&B instrument business from R&B
Surgical Solutions, LLC for approximately $2.0 million in cash. The R&B
instrument line is a complete line of high-quality handheld surgical instruments
used in neuro- and spinal surgery. The acquired business generated approximately
$1.2 million in revenues for the twelve months ended December 31, 2003. The
Company plans to market these products through its JARIT sales force.
16
In January 2004, the Company acquired the Sparta disposable critical care
devices and surgical instruments business from Fleetwood Medical, Inc. for
approximately $1.5 million in cash. The Sparta product line includes products
used in plastic and reconstructive, ear, nose and throat (ENT), neuro,
ophthalmic and general surgery. Prior to the acquisition, Fleetwood Medical
marketed these product lines primarily to hospitals and physicians through a
catalogue and a network of distributors. The acquired business generated
approximately $1.0 million in revenues for the twelve months ended December 31,
2003.
USE OF ESTIMATES AND CRITICAL ACCOUNTING POLICIES
Our discussion and analysis of financial condition and results of operations is
based upon our consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States of
America. The preparation of these financial statements requires us to make
estimates and assumptions that affect the reported amounts of assets and
liabilities, the disclosure of contingent liabilities, and the reported amounts
of revenues and expenses. Significant estimates affecting amounts reported or
disclosed in the consolidated financial statements include allowances for
doubtful accounts receivable and sales returns, net realizable value of
inventories, estimates of future cash flows associated with acquired in-process
research and development charges, derivatives, amortization periods for acquired
intangible assets, and loss contingencies. These estimates are based on
historical experience and on various other assumptions that are believed to be
reasonable under the current circumstances. Actual results could differ from
these estimates.
We believe the following accounting policies, which form the basis for
developing these estimates, are those that are most critical to the presentation
of our financial statements and require the most difficult, subjective and
complex judgments:
ALLOWANCES FOR DOUBTFUL ACCOUNTS AND SALES RETURNS
We evaluate the collectibility of accounts receivable based on a combination of
factors. In circumstances where a specific customer is unable to meet its
financial obligations to us, we record an allowance against amounts due to
reduce the net recognized receivable to the amount that we reasonably expect to
collect. For all other customers, we record allowances for doubtful accounts
based on the length of time the receivables are past due, the current business
environment and our historical experience. If the financial condition of
customers or the length of time that receivables are past due were to change, we
may change the recorded amount of allowances for doubtful accounts in the
future. We record a provision for estimated sales returns and allowances on
product revenues in the same period as the related revenues are recorded. We
base these estimates on historical sales returns and other known factors. Actual
returns could be different from our estimates and the related provisions for
sales returns and allowances, resulting in future changes to the sales returns
and allowances provision.
INVENTORIES
Inventories, consisting of purchased materials, direct labor and manufacturing
overhead, are stated at the lower of cost, the value determined by the first-in,
first-out method, or market. At each balance sheet date, we evaluate ending
inventories for excess quantities, obsolescence or shelf life expiration. Our
evaluation includes an analysis of historical sales levels by product and
projections of future demand. To the extent that we determine there are excess,
obsolete or expired inventory quantities, we record valuation reserves against
all or a portion of the value of the related products. If future demand or
market conditions are different than our projections, a change in recorded
inventory valuation reserves may be required and would be reflected in cost of
revenues in the period the revision is made.
17
DERIVATIVES
We report all derivatives at their estimated fair value and record changes in
fair value in current earnings or defer these changes until a related hedged
item is recognized in earnings, depending on the nature and effectiveness of the
hedging relationship. The designation of a derivative as a hedge is made on the
date the derivative contract is executed. On an ongoing basis, we assess whether
each derivative continues to be highly effective in offsetting changes in the
fair value or cash flows of hedged items. If and when a derivative is no longer
expected to be highly effective, we discontinue hedge accounting. All hedge
ineffectiveness is included in current period earnings in other income
(expense), net.
We document all relationships between hedged items and derivatives. Our overall
risk management strategy describes the circumstances under which we may
undertake hedge transactions and enter into derivatives. The objective of our
current risk management strategy is to hedge the risk of changes in fair value
attributable to interest rate risk with respect to a portion of our fixed rate
debt.
The determination of fair value of derivatives is based on valuation models that
use observable market quotes or projected cash flows and our view of the
creditworthiness of the derivative counterparty. If a derivative is no longer
deemed qualify as an effective hedge, changes in the fair value of that
derivative could significantly affect our non-operating income or expense.
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT CHARGES
In-process research and development charges are recorded in connection with
acquisitions and represent the value assigned to acquired assets which have not
yet reached technological feasibility and for which there is no alternative use.
Fair value is generally assigned to these assets based on the net present value
of the projected cash flows expected to be generated by those assets.
Significant assumptions underlying these cash flows include our assessment of
the timing and our ability to successfully complete the in-process research and
development project, projected cash flows associated with the successful
completion of the project, and interest rates used to discount these cash flows
to their present value.
AMORTIZATION PERIODS
We provide for amortization using the straight-line method over the estimated
useful lives of acquired intangible assets. We base the determination of these
useful lives on the period over which we expect the related assets to contribute
to our cash flows. If our assessment of the useful lives of intangible assets
changes, we may change future amortization expense.
LOSS CONTINGENCIES
We are subject to claims and lawsuits in the ordinary course of our business,
including claims by employees or former employees, with respect to our products
and involving commercial disputes. Our financial statements do not reflect any
material amounts related to possible unfavorable outcomes of claims and lawsuits
to which we are currently a party because we currently believe that such claims
and lawsuits are either adequately covered by insurance or otherwise
indemnified, and are not expected, individually or in the aggregate, to result
in a material adverse effect on our financial condition. However, it is possible
that our results of operations, financial position and cash flows in a
particular period could be materially affected by these contingencies if we
change our assessment of the likely outcome of these matters.
18
UPDATE TO 2003 ANNUAL REPORT ON FORM 10-K, PART IV, ITEM 15. FINANCIAL
STATEMENTS
1. Financial Statements.
The following financial statements and financial statement schedules are filed
as a part of this report.
Report of Independent Registered Public Accounting Firm ............... F-1
Consolidated Statements of Operations for the years ended
December 31, 2003, 2002, and 2001 .................................... F-2
Consolidated Balance Sheets as of December 31, 2003 and 2002 .......... F-3
Consolidated Statements of Cash Flows for the years ended
December 31, 2003, 2002, and 2001 .................................... F-4
Consolidated Statements of Changes in Stockholders' Equity
For the years ended December 31, 2003, 2002, and 2001 ................ F-5
Notes to Consolidated Financial Statements ............................ F-6
19
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and
Stockholders of Integra LifeSciences
Holdings Corporation and Subsidiaries:
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, cash flows and stockholders' equity
present fairly, in all material respects, the financial position of Integra
LifeSciences Holdings Corporation and Subsidiaries (the Company) at December 31,
2003 and 2002 and the results of their operations and their cash flows for each
of the three years in the period ended December 31, 2003, in conformity with
accounting principles generally accepted in the United States of America. 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 of these statements in accordance with the
standards of the Public Company Accounting Oversight Board (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, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
As discussed in Note 2 to the consolidated financial statements, the Company has
adopted Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets", effective January 1, 2002.
/s/ PricewaterhouseCoopers LLP
------------------------------
Florham Park, New Jersey
February 25, 2004, except for Note 11 for which the date is January 5, 2005
F1
INTEGRA LIFESCIENCES HOLDINGS CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
IN THOUSANDS, EXCEPT PER SHARE AMOUNTS
Years Ended December 31,
--------------------------------
2003 2002 2001
-------- -------- --------
REVENUES
Product revenue ................................. $166,695 $112,625 $ 87,908
Other revenue ................................... 18,904 5,197 5,534
-------- -------- --------
Total revenue ................................ 185,599 117,822 93,442
COSTS AND EXPENSES
Cost of product revenue ......................... 70,597 45,772 36,014
Research and development ........................ 12,814 11,517 8,884
Selling and marketing ........................... 38,097 25,118 20,322
General and administrative ...................... 21,364 14,584 11,152
Amortization .................................... 3,080 1,644 2,784
-------- -------- --------
Total costs and expenses ..................... 145,952 98,635 79,156
Operating income ................................ 39,647 19,187 14,286
Interest income ................................. 3,195 3,575 2,039
Interest expense ................................ (2,724) (40) (646)
Other income (expense), net ..................... 3,071 3 (392)
-------- -------- --------
Income before income taxes ...................... 43,189 22,725 15,287
Income tax expense (benefit) .................... 16,328 (12,552) (10,876)
-------- -------- --------
Net income....................................... $ 26,861 $ 35,277 $ 26,163
======== ======== ========
Basic net income per share .................. $ 0.92 $ 1.21 $ 1.03
Diluted net income per share ................. $ 0.88 $ 1.14 $ 0.92
Weighted average common shares outstanding:
Basic ........................................ 29,071 29,021 23,353
Diluted ...................................... 30,468 30,720 27,196
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS
F2
INTEGRA LIFESCIENCES HOLDINGS CORPORATION
CONSOLIDATED BALANCE SHEETS
IN THOUSANDS, EXCEPT PER SHARE AMOUNTS
December 31,
-----------------------
ASSETS 2003 2002
--------- ---------
Current Assets:
Cash and cash equivalents ...................................... $ 78,979 $ 43,583
Short-term investments ......................................... 29,567 55,278
Trade accounts receivable, net of allowances
of $2,025 and $1,387 ....................................... 28,936 19,412
Inventories .................................................... 41,046 28,502
Prepaid expenses and other current assets ...................... 9,365 5,498
--------- ---------
Total current assets ....................................... 187,893 152,273
Noncurrent investments .......................................... 98,197 33,450
Property, plant, and equipment, net ............................. 20,072 16,556
Deferred income taxes, net ...................................... 21,369 25,218
Goodwill ........................................................ 26,683 22,073
Intangible assets, net .......................................... 52,435 23,091
Other assets .................................................... 5,877 2,007
--------- ---------
Total assets ..................................................... $ 412,526 $ 274,668
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable, trade ........................................ $ 7,947 $ 3,764
Customer advances and deposits ................................. 977 7,908
Accrued expenses and other current liabilities ................. 11,694 10,249
--------- ---------
Total current liabilities .................................. 20,618 21,921
Long term debt .................................................. 119,257 --
Deferred revenue ................................................ 418 3,263
Other liabilities ............................................... 3,703 1,887
--------- ---------
Total liabilities ................................................ 143,996 27,071
Commitments and contingencies
Stockholders' Equity:
Common stock; $.01 par value; 60,000 authorized shares; 28,611
and 27,204 issued ........................................... 286 272
Additional paid-in capital ..................................... 286,716 292,007
Treasury stock, at cost; 219 and 106 shares .................... (5,236) (1,812)
Other .......................................................... (5) (15)
Accumulated other comprehensive income (loss):
Unrealized gain on available-for-sale securities ............ 63 861
Foreign currency translation adjustment ..................... 5,400 1,618
Minimum pension liability adjustment ........................ (1,232) (1,011)
Accumulated deficit ............................................ (17,462) (44,323)
--------- ---------
Total stockholders' equity ................................... 268,530 247,597
--------- ---------
Total liabilities and stockholders' equity ...................... $ 412,526 $ 274,668
========= =========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS
F3
INTEGRA LIFESCIENCES HOLDINGS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
IN THOUSANDS
Years Ended December 31,
------------------------------
2003 2002 2001
-------- -------- --------
OPERATING ACTIVITIES:
Net income ............................................... $ 26,861 $ 35,277 $ 26,163
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization ............................ 7,030 5,020 5,959
In process research and development charge ............... 400 2,328 --
Deferred tax provision (benefit).......................... 12,357 (13,401) (12,085)
Amortization of discount and premium on investments ...... 2,013 2,142 298
Other, net ............................................... 802 188 443
Changes in assets and liabilities, net of business
acquisitions:
Accounts receivable .................................... (4,819) (2,109) 98
Inventories ............................................ (1,829) 1,153 (6,987)
Prepaid expenses and other current assets .............. (505) (1,131) (1,443)
Non-current assets ..................................... 480 185 1,858
Accounts payable, accrued expenses and other
liabilities ......................................... 2,537 (90) (941)
Customer advances and deposits ......................... (6,431) 2,565 4,020
Deferred revenue ....................................... (4,070) (142) (1,682)
-------- -------- --------
Net cash provided by operating activities ................ $ 34,826 $ 31,985 $ 15,701
-------- -------- --------
INVESTING ACTIVITIES:
Proceeds from the sales/maturities of investments ......... 178,483 35,402 3,000
Purchases of available for sale investments ............... (217,070) (39,113) (88,533)
Purchases of property and equipment ....................... (3,843) (2,254) (2,860)
Payment of product license fee ............................ (1,500) -- --
Cash used in business acquisitions, net of cash acquired .. (50,405) (25,015) (6,348)
-------- -------- --------
Net cash used in investing activities .................... $(94,335) $(30,980) $(94,741)
-------- -------- --------
FINANCING ACTIVITIES:
Repayment of note payable and bank loans................... -- (3,600) (13,652)
Proceeds from the issuance of common stock, net ........... -- -- 113,433
Proceeds from exercised stock options and warrants ........ 14,152 3,323 9,676
Purchases of treasury stock ............................... (35,402) (1,761) --
Proceeds from issuance of convertible notes, net........... 115,923 -- --
-------- -------- --------
Net cash provided by (used in) financing activities ...... $ 94,673 $ (2,038) $109,457
Effect of exchange rate changes on cash and cash equivalents .. 232 98 15
-------- -------- --------
Net increase (decrease) in cash and cash equivalents .......... $ 35,396 (935) 30,432
Cash and cash equivalents at beginning of period .............. 43,583 44,518 14,086
-------- -------- --------
Cash and cash equivalents at end of period .................... $ 78,979 $ 43,583 $ 44,518
======== ======== ========
Cash paid during the year for interest ........................ $ 1,476 $ 20 $ 778
Cash paid during the year for income taxes .................... 1,309 1,435 928
Supplemental non-cash disclosure:
Property and equipment purchases included in liabilities $ 2,000 -- --
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS
F4
INTEGRA LIFESCIENCES HOLDINGS CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
In thousands
Accumulated
Additional Other
Preferred Common Treasury Paid-In Comprehensive Accumulated Total
Stock Stock Stock Capital Other Income (Loss) Deficit Equity
--------- --------- --------- ---------- ----- ------------- ----------- ----------
Balance, December 31, 2000 ............... 2 173 (180) 160,134 (66) (553) (105,729) 53,781
======== ========= ========= ========== ===== ============= =========== ==========
Net income ............................... 26,163 26,163
Unrealized gains on investments .......... 333 333
Foreign currency translation ............. (319) (319)
----------
Total comprehensive income......... $ 26,177
==========
Conversion of 100 shares of Series B
Preferred Stock into 2,618 shares of
common stock .......................... (1) 26 (25) --
Public offering of 4,748 shares of
common stock ........................... 48 113,385 113,433
Issuance of 879 shares of common stock
through employee benefit plans ......... 9 129 5,998 (34) 6,102
Warrants exercised for cash .............. 5 3,611 3,616
Issuance of 10 shares of common stock in
acquisition ............................ 276 276
Amortization of unearned compensation .... 29 29
Tax benefit related to stock option
exercises ............................. 642 642
Balance, December 31, 2001 ............... 1 261 (51) 284,021 (37) (539) (79,600) $ 204,056
======== ========= ========= ========== ===== ============= =========== ==========
Net income ............................... 35,277 35,277
Unrealized losses on investments ......... 624 624
Foreign currency translation ............. 2,394 2,394
Minimum pension liability adjustment ..... (1,011) (1,011)
----------
Total comprehensive income ........ $ 37,284
==========
Conversion of 54 shares of Series C
Preferred Stock into 600 shares of
common stock .......................... (1) 6 (5) --
Issuance of 475 shares of common stock
through employee benefit plans ......... 5 3,288 3,293
Amortization of unearned compensation .... 9 22 31
Tax benefit related to stock option
exercises ............................. 4,694 4,694
Repurchase 100 shares of common stock .... (1,761) (1,761)
Balance, December 31, 2002 ............... $ -- $ 272 $ (1,812) $ 292,007 $(15) $ 1,468 $ (44,323) $ 247,597
======== ========= ========= ========== ===== ============= =========== ==========
Net income................................ 26,861 26,861
Realized gains on investments............. (210) (210)
Unrealized losses on investments ......... (588) (588)
Foreign currency translation.............. 3,673 3,673
Minimum pension liability adjustment ..... (112) (112)
----------
Total comprehensive income......... $ 29,624
==========
Issuance of 1,788 shares of common stock
through employee benefit plans.......... 4 31,978 (17,880) 14,102
Warrants exercised for cash............... 50 50
Conversion of 1,000 Restricted Units into
1,000 shares of common stock .......... 10 (10) --
Amortization of unearned compensation..... 16 10 26
Tax benefit related to stock option
exercises.............................. 12,533 12,533
Repurchase 1,503 shares of common stock... (35,402) (35,402)
Balance, December 31, 2003 ............... $ -- $ 286 $ (5,236) $ 286,716 $ (5) $ 4,231 $ (17,462) $ 268,530
======== ========= ========= ========== ===== ============= =========== ==========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS
F5
INTEGRA LIFESCIENCES HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BUSINESS
Integra LifeSciences Holdings Corporation (the "Company") develops,
manufactures, and markets medical devices for use in neuro-trauma, neurosurgery,
plastic and reconstructive surgery, and general surgery. The Company's product
lines include innovative tissue repair products that incorporate the Company's
proprietary absorbable implant technology, such as the DuraGen(R) Dural Graft
Matrix, the NeuraGen(TM) Nerve Guide, and the INTEGRA(R) Dermal Regeneration
Template, as well as, more traditional medical devices, such as monitoring and
drainage systems, surgical instruments, and fixation systems.
The Company sells its products directly through various sales forces and through
a variety of other distribution channels.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company and
its subsidiaries, all of which are wholly owned. All intercompany accounts and
transactions are eliminated in consolidation.
RECLASSIFICATIONS
Certain prior year amounts have been reclassified to conform to the current year
presentation.
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments purchased with original
maturities of three months or less to be cash equivalents.
FINANCIAL INSTRUMENTS
Investments in marketable debt and equity securities are classified and
accounted for as available-for-sale securities and are carried at fair value,
which is based on quoted market prices. Unrealized gains and losses are reported
as a component of accumulated other comprehensive income (loss). Realized gains
and losses are determined on the specific identification cost basis and reported
in other income (expense), net. Investment balances as of December 31, 2003 and
2002 were as follows:
Unrealized Fair
Cost Gains Losses Value
------- ------- ------- -------
2003 (in thousands)
----
MARKETABLE SECURITIES, CURRENT
Corporate Debt Securities...................... $ 23,761 $ 21 $ (1) $ 23,781
U.S. Government Debt Securities................ 5,550 1 -- 5,551
Other Securities............................... 235 -- -- 235
-------- ------- ------- --------
Total marketable securities, current........ $ 29,546 $ 22 $ (1) $ 29,567
MARKETABLE SECURITIES, NON-CURRENT
Corporate Debt Securities...................... $ 56,811 $ 98 $ (105) $ 56,804
U.S. Government Debt Securities................ 41,341 58 (6) 41,393
-------- ------- ------- --------
Total marketable securities, non-current.... $ 98,152 $ 156 $ (111) $ 98,197
2002:
-----
Marketable securities, current................. $ 54,755 $ 525 $ (2) $ 55,278
Marketable securities, non-current............. 33,112 347 (9) 33,450
-------- ------- ------- --------
$ 87,867 $ 872 $ (11) $ 88,728
The maturity dates for marketable debt securities classified as current are less
than one year. The maturity dates for marketable debt securities classified as
non-current are less than 60 months and less than 40 months as of December 31,
2003 and 2002, respectively.
The fair value of the Company's $120.0 million principal amount 2 1/2%
contingent convertible subordinated notes outstanding at December 31, 2003 was
approximately $116.7 million.
The carrying values of all other financial instruments were not materially
different from their estimated fair values.
ALLOWANCES FOR DOUBTFUL ACCOUNTS RECEIVABLE AND SALES RETURNS
The Company evaluates the collectibility of accounts receivable based on a
combination of factors. In circumstances where a specific customer is unable to
meet its financial obligations to us, an allowance is recorded against amounts
due to reduce the net recognized receivable to the amount that is reasonably
expected to be collected. For all other customers, allowances for doubtful
accounts are recorded based on the length of time the receivables are past due,
the current business environment and our historical experience.
The Company records a provision for estimated returns and allowances on product
sales in the same period as the related revenues are recorded. These estimates
are based on historical sales returns and other known factors.
INVENTORIES
Inventories, consisting of purchased materials, direct labor and manufacturing
overhead, are stated at the lower of cost, the value determined by the first-in,
first-out method, or market. Inventories consisted of the following:
December 31,
2003 2002
---------- ----------
(IN THOUSANDS)
Finished goods .......................... $ 26,239 $ 17,497
Work in process ......................... 5,069 3,019
Raw materials ........................... 9,738 7,986
---------- ----------
$ 41,046 $ 28,502
At each balance sheet date, the Company evaluates ending inventories for excess
quantities, obsolescence or shelf-life expiration. This evaluation includes
analyses of historical sales levels by product and projections of future demand.
To the extent that management determines there are excess, obsolete or expired
inventory quantities, valuation reserves are recorded against all or a portion
of the value of the related products.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost. The Company provides for
depreciation using the straight-line method over the estimated useful lives of
the assets. Leasehold improvements are amortized over the lesser of the lease
term or the useful life. The cost of major additions and improvements is
capitalized, while maintenance and repair costs that do not improve or extend
the lives of the respective assets are charged to operations as incurred.
Property, plant and equipment balances and corresponding lives were as follows:
December 31,
2003 2002 Lives
---------- ---------- ---------------
(IN THOUSANDS)
Land ............................................ $ 892 $ 511
Buildings and leasehold improvements ............ 12,082 11,877 2 - 40 years
Machinery and equipment ......................... 19,498 16,492 3 - 15 years
Furniture and fixtures .......................... 3,277 3,561 5 - 7 years
Construction in progress ........................ 2,316 500
---------- ----------
38,065 32,941
Less: Accumulated depreciation .................. (17,993) (16,385)
---------- ----------
$ 20,072 $ 16,556
Depreciation expense associated with property, plant and equipment was $3.9
million, $3.4 million, and $3.2 million, in 2003, 2002, and 2001 respectively.
GOODWILL AND OTHER INTANGIBLE ASSETS
The excess of the cost over the fair value of net assets of acquired businesses
is recorded as goodwill. Goodwill acquired prior to July 1, 2001 was amortized
on a straight line basis over a period of 15 years through December 31, 2001.
Goodwill acquired after July 1, 2001 was not subject to amortization.
Effective January 1, 2002, goodwill is no longer amortized, but is reviewed for
impairment at the reporting unit level annually, or more frequently if
impairment indicators arise.
Upon adoption of Statement of Financial Accounting Standards No. 142, "Goodwill
and Other Intangible Assets", the Company reassessed the useful lives of its
existing identifiable intangible assets and determined that they continue to be
appropriate. The Company does not have any indefinite life intangible assets.
If the Company had applied the non-amortization provisions of Statement 142 for
all of 2001, net income would have been as follows:
2001
--------
(in thousands)
Net income, as reported ................................... $ 26,163
Effect of goodwill and assembled workforce amortization ... 858
--------
Net income, as adjusted ................................... $ 27,021
Basic net income per share, as reported ................... $ 1.03
Effect of goodwill and assembled workforce amortization ... .04
--------
Basic net income per share, as adjusted ................... $ 1.07
Diluted net income per share, as reported ................. $ 0.92
Effect of goodwill and assembled workforce amortization ... .03
--------
Diluted net income per share, as adjusted ................. $ 0.95
The Company's assessment of the recoverability of goodwill is based upon a
comparison of the carrying value of goodwill with its estimated fair value. The
Company updated its impairment review for goodwill as of June 30, 2003 and
determined that its goodwill was not impaired.
Changes in the carrying amount of goodwill in 2003 and 2002 were as follows:
2003 2002
---------- ---------
(IN THOUSANDS)
Goodwill, net of accumulated amortization beginning of year ....... $ 22,073 $ 14,627
Reclassification of net assembled workforce intangible ............ -- 1,275
Acquisitions ...................................................... 3,321 5,775
Adjustments to previously recorded pre-acquisition
income tax contingencies ....................................... -- (484)
Other, net ....................................................... (29) 64
Foreign currency translation ...................................... 1,318 816
---------- ---------
Goodwill, end of year ............................................. $ 26,683 $ 22,073
========== =========
The components of the Company's identifiable intangible assets were as follows:
December 31, 2003 December 31, 2002
Weighted ---------------------- ----------------------
Average Accumulated Accumulated
Life Cost Amortization Cost Amortization
-------- -------- ------------ -------- ------------
(IN THOUSANDS)
Completed technology ........... 15 years $15,062 $ (3,337) $ 13,165 $ (2,380)
Customer relationships ......... 20 years 16,755 (2,053) 4,661 (1,085)
Trademarks / brand names ....... 38 years 25,235 (1,017) 7,151 (445)
All other ...................... 10 years 2,909 (1,119) 2,601 (577)
-------- --------- -------- ---------
$59,961 $ (7,526) $ 27,578 $ (4,487)
Accumulated amortization .................... (7,526) (4,487)
-------- --------
$52,435 $ 23,091
======== ========
Annual amortization expense is expected to approximate $3.3 million in 2004,
$3.1 million in 2005, $3.0 million in 2006, $2.8 million in 2007, and $2.5
million in 2008. Identifiable intangible assets are initially recorded at fair
market value at the time of acquisition generally using an income or cost
approach.
LONG-LIVED ASSETS
Long-lived assets held and used by the Company, including property, plant and
equipment and intangible assets, are reviewed for impairment whenever events or
changes in circumstances indicate that the carrying amount of an asset may not
be recoverable. For purposes of evaluating the recoverability of long-lived
assets to be held and used, a recoverability test is performed using projected
undiscounted net cash flows applicable to the long-lived assets. If an
impairment exists, the amount of such impairment is calculated based on the
estimated fair value of the asset. Impairments to long-lived assets to be
disposed of are recorded based upon the fair value of the applicable assets.
INTEGRA FOUNDATION
The Company may periodically, at the discretion of its Board of Directors, make
a contribution to the Integra Foundation, Inc. The Integra Foundation was
incorporated in 2002 exclusively for charitable, educational, and scientific
purposes and qualifies under IRC 501(c)(3) as an exempt private foundation.
Under its charter, the Integra Foundation engages in activities that promote
health, the diagnosis and treatment of disease, and the development of medical
science through grants, contributions and other appropriate means. The Integra
Foundation is a separate legal entity and is not a subsidiary of the Company.
Therefore, its results are not included in these consolidated financial
statements. During 2003, the Company contributed $2.0 million to the Integra
Foundation. This contribution is included in general and administrative
expenses.
DERIVATIVES
The Company reports all derivatives at their estimated fair value and records
changes in fair value in current earnings or defers these changes until a
related hedged item is recognized in earnings, depending on the nature and
effectiveness of the hedging relationship. The designation of a derivative as a
hedge is made on the date the derivative contract is executed. On an ongoing
basis, the Company assesses whether each derivative continues to be highly
effective in offsetting changes in the fair value or cash flows of hedged items.
If and when a derivative is no longer expected to be highly effective, the
Company discontinues hedge accounting. All hedge ineffectiveness is included in
current period earnings in other income (expense), net.
The Company documents all relationships between hedged items and derivatives.
The Company's overall risk management strategy describes the circumstances under
which it may undertake hedge transactions and enter into derivatives. The
objective of the Company's current risk management strategy is to hedge the risk
of changes in fair value attributable to interest rate risk with respect to a
portion of fixed rate debt.
The determination of fair value of derivatives is based on valuation models that
use observable market quotes or projected cash flows and the Company's view of
the creditworthiness of the derivative counterparty.
FOREIGN CURRENCY
All assets and liabilities of foreign subsidiaries are translated at the rate of
exchange at year-end, while elements of the income statement are translated at
the average exchange rates in effect during the year. The net effect of these
translation adjustments is shown as a component of accumulated other
comprehensive income (loss). These currency translation adjustments are not
currently adjusted for income taxes as they relate to permanent investments in
non-U.S. subsidiaries. Foreign currency transaction gains and losses are
reported in other income (expense), net.
INCOME TAXES
Deferred tax assets and liabilities are recognized for the estimated future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases.
REVENUE RECOGNITION
Product revenues include both product sales and royalties earned on sales by
strategic alliance partners of the Company's products or of products
incorporating one or more of the Company's products. Product sales are
recognized when delivery has occurred and title has passed to the customer,
there is a fixed or determinable sales price, and collectability of that sales
price is reasonably assured. Product royalties are recognized as the royalty
products are sold by our customers and the amount earned by Integra is fixed and
determinable.
Other revenues include research grants, fees received under research, licensing,
and distribution arrangements, and technology-related royalties. Research grant
revenue is recognized when the related expenses are incurred. Non-refundable
fees received under research, licensing and distribution arrangements or for the
licensing of technology are recognized as revenue when received if the Company
has no continuing obligations to the other party. For those arrangements where
the Company has continuing performance obligations, revenue is recognized using
the lesser of the amount of non-refundable cash received or the result achieved
using the proportional performance of completion accounting based upon the
estimated cost to complete these obligations.
SHIPPING AND HANDLING FEES AND COSTS
Amounts billed to customers for shipping and handling are included in product
revenues. The related shipping and freight charges incurred by the Company are
included in cost of product revenues. Distribution and handling costs of
approximately $2.6 million, $1.5 million, and $1.5 million are recorded in
selling and marketing expense during 2003, 2002, and 2001, respectively.
PRODUCT WARRANTIES
Certain of the Company's medical devices, including monitoring systems and
neurosurgical systems, are reusable and are designed to operate over long
periods of time. These products are sold with warranties generally extending for
up to two years from date of purchase. The Company accrues estimated product
warranty costs at the time of sale based on historical experience. Any
additional amounts are recorded when such costs are probable and can be
reasonably estimated.
Accrued warranty expense consisted of the following:
December 31,
2003 2002
-------- --------
(IN THOUSANDS)
Beginning balance .................. $ 216 $ 226
Liability acquired through acquisition 95 --
Charged to expense ................. 209 257
Deductions ......................... (151) (267)
-------- --------
Ending balance ..................... $ 369 $ 216
RESEARCH AND DEVELOPMENT
Research and development costs, including salaries, depreciation, consultant and
other external fees, and facility costs directly attributable to research and
development activities, are expensed in the period in which they are incurred.
In-process research and development charges recorded in connection with
acquisitions represent the value assigned to acquired assets to be used in
research and development activities and for which there is no alternative use.
Value is generally assigned to these assets based on the net present value of
the projected cash flows expected to be generated by those assets.
The Company recorded $400,000 and $2.3 million of in-process research and
development in connection with acquisitions during 2003 and 2002, respectively.
STOCK BASED COMPENSATION
Employee stock based compensation is recognized using the intrinsic value method
prescribed by Accounting Principles Board Opinion No. 25 "Accounting for Stock
Issued to Employees" and Financial Accounting Standards Board Interpretation No.
44 "Accounting for Certain Transactions Involving Stock Compensation -an
interpretation of APB Opinion No. 25".
Had the compensation cost for the Company's stock option plans been determined
based on the fair value at the grant consistent with the provisions of Statement
of Financial Accounting Standards No. 123 "Accounting for Stock-Based
Compensation", the Company's net income and basic and diluted net income per
share would have been as follows:
2003 2002 2001
-------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Net income:
As reported ...................................... $ 26,861 $ 35,277 $ 26,163
Less: Total stock-based employee compensation
expense determined under the fair
value-based method for all awards, net
of related tax effects ..................... (5,537) (4,774) (5,911)
-------- -------- --------
Pro forma ........................................ $ 21,324 $ 30,503 $ 20,252
Net income per share:
BASIC
As reported ...................................... $ 0.92 $ 1.21 $ 1.03
Pro forma ........................................ $ 0.73 $ 1.04 $ 0.80
DILUTED
As reported ...................................... $ 0.88 $ 1.14 $ 0.92
Pro forma ........................................ $ 0.70 $ 1.02 $ 0.73
As options vest over a varying number of years and awards are generally made
each year, the pro forma impacts shown above may not be representative of future
pro forma expense amounts. The pro forma additional compensation expense was
calculated based on the fair value of each option grant using the Black-Scholes
model.
The Company used the following weighted-average assumptions for the valuation of
stock option grants:
2003 2002 2001
---------- ---------- ----------
Dividend yield ....................... 0% 0% 0%
Expected volatility .................. 61% 65% 80%
Risk free interest rate .............. 2.92% 3.00% 4.50%
Expected life of option from
vesting date ....................... 4.5 years 4.5 years 4.5 years
CONCENTRATION OF CREDIT RISK
Financial instruments, which potentially subject the Company to concentrations
of credit risk, consist principally of cash and cash equivalents, which are held
at major financial institutions, investment-grade marketable debt securities and
trade receivables. The Company's products are sold on an uncollateralized basis
and on credit terms based upon a credit risk assessment of each customer.
USE OF ESTIMATES
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amount of assets and liabilities, the
disclosure of contingent liabilities, and the reported amounts of revenues and
expenses. Significant estimates affecting amounts reported or disclosed in the
consolidated financial statements include allowances for doubtful accounts
receivable and sales returns, net realizable value of inventories, estimates of
projected cash flows and discount rates used to value and test impairments of
long-lived assets, depreciation and amortization periods for long-lived assets,
valuation allowances recorded against deferred tax assets, loss contingencies,
and in-process research and development charges. These estimates are based on
historical experience and on various other assumptions that are believed to be
reasonable under the current circumstances. Actual results could differ from
these estimates.
RECENTLY ISSUED ACCOUNTING STANDARDS
In December 2003, the FASB issued SFAS No. 132 (revised 2003), Employers'
Disclosures about Pensions and Other Postretirement Benefits - an amendment of
FASB Statement No. 87, 88 and 106. This Statement revises employers' disclosures
about pension plans and other postretirement benefit plans. The Company will
adopt the disclosure requirements of SFAS 132 (revised 2003) in 2004, as the
Company's only pension plan is a non-U.S. plan.
In May 2003, the Financial Accounting Standards Board ("FASB") issued SFAS No.
150, "Accounting for Certain Instruments with Characteristics of both
Liabilities and Equity", which establishes standards for how an issuer
classifies and measures certain financial instruments with characteristics of
both liabilities and equity. SFAS 150 is effective for financial instruments
entered into or modified after May 31, 2003, and otherwise is effective at the
beginning of the first interim period beginning after June 15, 2003. The
Company's adoption of the initial recognition and initial measurement provisions
of SFAS 150 did not have a material impact on the Company's results of
operations or financial position.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities", which amends and clarifies
financial accounting and reporting for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging activities
under SFAS 133. SFAS 149 is effective for contracts entered into or modified
after June 30, 2003, and for hedging relationships designated after June 30,
2003. The adoption of SFAS 149 did not have a material impact on the Company's
results of operations or financial position.
In November 2002, the Emerging Issues Task Force (EITF) issued EITF 00-21
"Accounting for Revenue Arrangements with Multiple Deliverables". EITF 00-21
addresses when and how an arrangement involving multiple deliverables should be
divided into separate units of accounting. EITF 00-21 is effective for revenue
arrangements entered into in fiscal periods beginning after June 15, 2003. The
Company will continue to evaluate the impact of EITF 00-21 on revenue
arrangements it may enter into in the future.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No.
4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections".
Among other things, SFAS 145 eliminates the requirement that gains and losses
related to extinguishments of debt be classified as extraordinary items.
Accordingly, the Company reclassified the $256,000 loss on the early retirement
of debt incurred in 2001 to other income/(expense), net.
3. ACQUISITIONS
In November 2003, the Company acquired all of the outstanding capital stock of
Spinal Specialties, Inc. for $6.0 million in cash including expenditures
associated with the acquisition and subject to a working capital adjustment. At
December 31, 2003, we have accrued $380,000 for the estimated amount to be paid
for the working capital adjustment. In connection with this acquisition, the
Company recorded approximately $5.4 million of goodwill and intangible assets.
The acquired intangible assets consisted primarily of trade name, technology and
customer relationships and are being amortized on a straight-line basis over
lives ranging from 3 to 15 years.
Spinal Specialties markets its products primarily to anesthesiologists and
interventional radiologists through an in-house telemarketing team and a network
of distributors. Spinal Specialties' products include the OsteoJect(TM) Bone
Cement Delivery System and the ACCU-DISC(TM) Pressure Monitoring System.
Physicians use these products in a variety of spinal, orthopedic and pain
management procedures.
In August 2003, the Company acquired substantially all of the assets of Tissue
Technologies, Inc., the manufacturer and distributor of the UltraSoft(TM) line
of implants for soft tissue augmentation of the facial area. The Company paid
$0.6 million in cash and is obligated to pay the seller up to an additional $1.5
million in contingent consideration based upon a multiple of the Company's sales
of the UltraSoft product in the third year following the acquisition. The
Company markets the UltraSoft products directly to cosmetic and reconstructive
surgeons through its plastic and reconstructive surgery sales force and through
a network of distributors. The acquired assets consist primarily of technology,
which is being amortized on a
straight-line basis over 10 years, and goodwill. Any future contingent
consideration paid to the seller is expected be recorded as additional goodwill.
In March 2003, the Company acquired all of the outstanding capital stock of J.
Jamner Surgical Instruments, Inc. (doing business as JARIT(R) Surgical
Instruments) ("JARIT") for $43.5 million in cash, including expenditures
associated with the acquisition and net of $2.1 million of cash acquired.
JARIT markets a wide variety of high quality, reusable surgical instruments to
virtually all surgical disciplines. JARIT sells its products to more than 5,200
hospitals and surgery centers worldwide. The acquisition of JARIT has broadened
Integra's existing customer base and surgical instrument product offering and
has provided an opportunity to achieve operating costs savings, including the
procurement of Integra's Ruggles(TM) and Padgett(TM) instruments products
directly from the instrument manufacturers.
In connection with this acquisition, the Company recorded approximately $29.1
million of intangible assets, consisting primarily of trade name and customer
relationships, which are being amortized on a straight-line basis over lives
ranging from 5 to 40 years.
In December 2002, the Company acquired the neurosurgical shunt and epilepsy
monitoring business of the Radionics division of Tyco Healthcare Group for $3.7
million in cash, including expenditures associated with the acquisition. The
manufacturing of the acquired product lines was transferred to Integra's
manufacturing facility located in Biot, France. This acquisition broadened
Integra's neurosurgical product line offering and customer base and increased
capacity utilization at the Company's Biot facility.
In October 2002, the Company acquired all of the outstanding capital stock of
Padgett Instruments, Inc., an established marketer of instruments used in
reconstructive and plastic surgery, for $9.6 million in cash, including
expenditures associated with the acquisition. For more than 40 years, Padgett
has been providing high quality instruments to meet the needs of the plastic and
reconstructive surgeon and, as a result, has become one of the most recognized
names in the plastic and reconstructive surgery market. Approximately $5.4
million of the purchase price was allocated to the trademarks and trade name of
the acquired business, which are being amortized on a straight-line basis over
40 years.
In August 2002, the Company acquired all of the capital stock of the
neurosciences division of NMT Medical, Inc. for $5.7 million in cash, including
expenditures associated with the acquisition. Through this acquisition, the
Company added a range of leading differential pressure valves and external
ventricular drainage products to its neurosurgical product line. The acquired
operations included a manufacturing facility located in Biot, France. The $4.2
million fair value assigned to the land, building and equipment in Biot was
determined based on a third party appraisal.
In connection with this acquisition, the Company terminated all of NMT's
independent neurosciences sales agents based in the United States and exited the
Atlanta, Georgia distribution facility. These termination and closure costs were
accrued as part of the purchase price because they provided no future benefit to
the Company's operations.
In July 2002, the Company acquired the assets of Signature Technologies, Inc., a
specialty manufacturer of titanium and stainless steel implants for the
neurosurgical and spinal markets, and certain other intellectual property
assets. The Company acquired Signature Technologies to gain the capability of
developing and manufacturing metal implants for strategic partners and for
direct sale by Integra. The purchase price consisted of $2.9 million in cash
(including expenditures associated with the acquisition), $0.5 million of
deferred consideration that was paid in 2003, and royalties on future sales of
products to be developed. Signature Technologies currently manufactures cranial
fixation systems primarily for sale under a single contract manufacturing
agreement that expires in June 2004.
In connection with this acquisition, the Company recorded a $1.2 million
in-process research and development charge of for the value associated with a
project for the development of an enhanced cranial fixation system using
patented technology for
improved identification and delivery of certain components of the system.
Signature Technologies has manufactured prototypes of this enhanced cranial
fixation system and we do not expect to incur significant costs to complete
development and obtain regulatory clearance to market the product. The value of
the in-process research and development charge was estimated with the assistance
of a third party appraiser using probability weighted cash flow projections with
factors for successful development ranging from 10% to 35% and a 15% discount
rate.
In December 2001, the Company acquired all of the capital stock of
NeuroSupplies, Inc., a specialty distributor of disposables and supplies for
neurologists, pulmonologists and other physicians, for $4.1 million. The
purchase price consisted of $0.2 million in cash (including expenditures
associated with the acquisition), a $3.6 million note that was repaid in 2002,
and 10,000 shares of Integra common stock. This acquisition extended Integra's
reach to the neurologist and allied fields and further into products used for
the diagnosis and monitoring of neurological disorders. In 2003, the Company
relocated the NeuroSupplies operations to its facility in Pembroke,
Massachusetts.
In April 2001, the Company acquired all of the outstanding capital stock of
Satelec Medical, a subsidiary of the Satelec-Pierre Rolland group, for $3.9
million in cash, including expenditures associated with the acquisition. Satelec
Medical, based in France, manufactures and markets the Dissectron(R) ultrasonic
surgical aspirator console and a line of related handpieces. The Company
completed the consolidation of the Satelec manufacturing operations into its
Andover, England and Biot, France facilities in 2002. This acquisition broadened
Integra's neurosurgical product line offering and its direct sales and marketing
presence in Europe.
In April 2001, the Company acquired all of the outstanding capital stock of
GMSmbH, the German manufacturer of the LICOX(R) Brain Tissue Oxygen Monitoring
System, for $3.2 million. The purchase price consisted of $2.6 million in cash
(including expenditures associated with the acquisition), the forgiveness of
$0.2 million in notes receivable from GMSmbH, and $0.4 million of future minimum
royalty payments to the seller. Prior to the acquisition, the Company had
exclusive marketing rights to the LICOX(R) products in the United States and
certain other markets. This acquisition provided Integra with full rights to the
LICOX(R) product technology.
All of these acquisitions have been accounted for using the purchase method of
accounting, and the results of operations of the acquired businesses have been
included in the consolidated financial statements since their respective dates
of acquisition.
The following table summarizes the fair value of the assets acquired and
liabilities assumed as a result of 2003 and 2002 acquisitions:
(ALL AMOUNTS IN THOUSANDS)
Spinal Jarit Tissue
2003 Acquisitions Specialties Instruments Technologies
----------------- ------------- ----------- ------------
Current assets ....................... $ 1,944 $ 17,498 $ 81
Property, plant and equipment ........ 307 1,285 88
Intangible assets .................... 2,300 29,091 281
Goodwill ............................. 3,070 -- 251
Other non-current assets ............. -- 104 --
------------- ----------- -----------
Total assets acquired ............. 7,621 47,978 701
Current liabilities .................. 358 2,357 76
Deferred tax liabilities ............. 836 -- --
------------- ----------- -----------
Total liabilities assumed ......... 1,194 2,357 76
Net assets acquired .................. $ 6,427 $ 45,621 $ 625
2002 Acquisitions Radionics Padgett NMT Neuro Signature
----------------- --------- --------- --------- ---------
Current assets ....................... $ 977 $ 1,895 $ 5,977 $ 490
Property, plant and equipment ........ 75 65 4,138 1,165
Intangible assets .................... 391 6,437 -- 626
Goodwill ............................. 2,028 3,658 -- --
In-process research and development .. -- -- -- 1,177
Other non-current assets ............. 18 281 -- --
--------- --------- --------- ---------
Total assets acquired ............. 3,489 12,336 $10,115 3,458
Current liabilities .................. 10 200 3,789 76
Deferred tax liabilities ............. -- 2,524 665 --
--------- --------- --------- ---------
Total liabilities assumed ......... 10 2,724 4,454 76
Net assets acquired .................. $ 3,479 $ 9,612 $ 5,661 $ 3,382
The 2003 purchase price allocations are preliminary.
The goodwill acquired in the Tissue Technologies and Radionics acquisitions is
expected to be deductible for tax purposes. The acquired intangible assets are
being amortized on a straight-line basis over lives ranging from 2 to 40 years.
The following unaudited pro forma financial information summarizes the results
of operations for the periods indicated as if the acquisitions consummated in
2003 and 2002 had been completed as of January 1, 2002. The pro forma results
are based upon certain assumptions and estimates and they give effect to actual
operating results prior to the acquisitions and adjustments to reflect increased
depreciation expense, increased intangible asset amortization, and increased
income taxes at a rate consistent with Integra's effective rate in each year. No
effect has been given to cost reductions or operating synergies. As a result,
these pro forma results do not necessarily represent results that would have
occurred if the acquisition had taken place on the basis assumed above, nor are
they indicative of the results of future combined operations.
2003 2002
-------- --------
(IN THOUSANDS)
Total revenue ......................................... $195,327 $168,915
Net income ............................................ 27,469 41,987
Basic net income per share ............................ $ 0.94 $ 1.45
Diluted net income per share .......................... $ 0.90 $ 1.36
In December 2003, the Company acquired the assets of Reconstructive
Technologies, Inc.("RTI") for approximately $400,000 in cash and agreed to make
certain future performance-based payments for the RTI assets. Any future
contingent consideration paid to the seller is expected to be recorded as a
technology-based intangible asset. RTI is the developer of the Automated Cyclic
Expansion System (ACE System(TM)), a tissue
expansion device. RTI's technology encompasses a sophisticated and compact pump
that produces a cyclic force when attached to ballooning tissue expanders. RTI's
ACE System technology rapidly expands tissue by stimulating the body's natural
response to physical stress on the skin. Because the ACE System is not approved
by the FDA for sale and the Company did not acquire any assets other than
technology and intellectual property underlying the ACE System, the Company
recorded the entire acquisition price as an in-process research and development
charge in the fourth quarter of 2003. This transaction was accounted for as an
asset purchase because the acquired assets did not constitute a business under
Statement 141.
In September 2002, the Company acquired certain assets, including the
NeuroSensor(TM) monitoring system and rights to certain intellectual property,
from Novus Monitoring Limited of the United Kingdom for $3.7 million in cash
(including expenditures associated with the acquisition), an additional $1.5
million to be paid upon Novus' achievement of a product development milestone,
and up to an additional $2.5 million payable based upon revenues from Novus'
products. As part of the consideration paid, Novus has also agreed to conduct
certain clinical studies on the NeuroSensor(TM) system, continue development of
a next generation, advanced neuromonitoring product, and design and transfer to
Integra a validated manufacturing process for these products.
The assets acquired from Novus were accounted for as an asset purchase because
the acquired assets did not constitute a business under Statement 141. The
initial $3.7 million purchase price was allocated as follows (in thousands):
Prepaid research and development expense ......... $ 771
Other assets ..................................... 151
Intangible assets ................................ 1,663
In-process research and development .............. 1,151
The acquired intangibles assets consisted primarily of technology-related
intangible assets, which are being amortized on a straight-line basis over lives
ranging from 3 to 15 years. The prepaid research and development expense
represents the estimated fair value of future services to be provided by Novus
under the development agreement. The $1.2 million in-process research and
development charge represents the value associated with the development of a
next generation neuromonitoring system. The value of the in-process research and
development was estimated with the assistance of a third party appraiser using
probability weighted cash flow projections with factors for successful
development ranging from 15% to 20% and a 15% discount rate.
4. DEBT
In March and April 2003, the Company completed a $120.0 million private
placement of contingent convertible subordinated notes due 2008.
The notes bear interest at 2.5 percent per annum, payable semiannually. The
Company will pay additional interest ("Contingent Interest") if, at thirty days
prior to maturity, Integra's common stock price is greater than $37.56 per
share. The Contingent Interest will be payable for each of the last three years
the notes remain outstanding in an amount equal to the greater of i) 0.50% of
the face amount of the notes and ii) the amount of regular cash dividends paid
during each such year on the number of shares of common stock into which each
note is convertible. The Company recorded a $365,000 liability related to the
estimated fair value of the Contingent Interest obligation at the time the notes
were issued. The fair value of the Contingent Interest obligation is marked to
its fair value at each balance sheet date, with changes in the fair value
recorded to interest expense. At December 31, 2003, the estimated fair value of
the Contingent Interest obligation was $458,000.
Debt issuance costs totaled $4.1 million and are being amortized using the
straight-line method over the five-year term of the notes.
Holders may convert their notes into shares of Integra common stock at an
initial conversion price of $34.15 per share, upon the occurrence of certain
conditions, including when the market price of Integra's common stock on the
previous trading day is more than 110% of the conversion price.
The notes are general, unsecured obligations of the Company and will be
subordinate to any future senior indebtedness of the Company. The Company cannot
redeem the notes
prior to their maturity. Holders of the notes may require the Company to
repurchase the notes upon a change in control.
Concurrent with the issuance of the notes, the Company used approximately $35.3
million of the proceeds to purchase 1.5 million shares of its common stock.
In connection with the prepayment of all outstanding bank loans and a $2.8
million note payable issued in connection with an acquisition, the Company
recorded in 2001 a loss on the early retirement of debt of $256,000, which is
included in other income/(expense), net.
5. INTEREST RATE SWAP AGREEMENT
In August 2003, the Company entered into an interest rate swap agreement with a
$50 million notional amount to hedge the risk of changes in fair value
attributable to interest rate risk with respect to a portion of its fixed rate
contingent convertible subordinated notes. The Company receives a 2 1/2% fixed
rate from the counterparty, payable on a semi-annual basis, and pays to the
counterparty a floating rate based on 3-month LIBOR minus 35 basis points,
payable on a quarterly basis. The floating rate resets each quarter. The
interest rate swap agreement terminates on March 15, 2008, subject to early
termination upon the occurrence of certain events, including redemption or
conversion of the contingent convertible notes.
The interest rate swap agreement qualifies as a fair value hedge under SFAS No.
133, as amended, "Accounting for Derivative Instruments and Hedging Activities".
Accordingly, the interest rate swap is recorded at fair value and changes in
fair value are recorded in other income (expense), net. The net amount to be
paid or received under the interest rate swap agreement is recorded as a
component of interest expense. Interest expense for the year ended December 31,
2003 reflects a $330,000 reduction in interest expense associated with the
interest rate swap. Our effective interest rate on the hedged portion of the
notes was 0.79% as of December 31, 2003.
The net fair value of the interest rate swap at inception was $767,000. At
December 31, 2003, the net fair value of the interest rate swap increased
$305,000 to $1.1 million and is included in other liabilities. In connection
with this fair value hedge transaction, the Company recorded a $433,000 net
decrease in the carrying value of its contingent convertible notes. The $128,000
net difference between changes in the fair value of the interest rate swap and
the contingent convertible notes represents the ineffective portion of the
hedging relationship, and this amount is recorded in other income.
6. COMMON AND PREFERRED STOCK
PREFERRED STOCK TRANSACTIONS
The Company is authorized to issue up to 15,000,000 shares of preferred stock in
one or more series, of which 2,000,000 shares have been designated as Series A,
120,000 shares have been designated as Series B, and 54,000 shares have been
designated as Series C.
On March 29, 2000, the Company issued 54,000 shares of Series C Convertible
Preferred Stock (Series C Preferred) and warrants to purchase 300,000 shares of
common stock at $9.00 per share to affiliates of Soros Private Equity Partners
LLC (SPEP) for $5.4 million, net of issuance costs. The Series C Preferred
ranked on a parity with the Company's Series B Convertible Preferred Stock, was
senior to the Company's common stock and all other preferred stock of the
Company, had common stock dividend participation rights, and had a 10%
cumulative annual dividend yield payable only upon liquidation. The Series C
Preferred was converted into 600,000 shares of common stock in April 2002. The
warrants issued with the Series C Preferred were exercised in December 2001 for
proceeds of $2.7 million.
The Company issued 100,000 shares of Series B Convertible Preferred Stock
(Series B Preferred) and warrants to purchase 240,000 shares of common stock at
$3.82 per share to SPEP for $9.9 million, net of issuance costs. In June 2001,
SPEP converted the Series B Preferred into 2,617,800 shares of common stock. The
Series B Preferred had common stock dividend participation rights and a 10%
cumulative annual dividend yield
payable only upon liquidation. The warrants issued with the Series B Preferred
were exercised in March 2001 for proceeds of $916,800.
SPEP is entitled to certain registration rights for shares of common stock
obtained through conversion of the Series B Preferred or Series C Preferred or
the exercise of the related warrants.
COMMON STOCK TRANSACTIONS
In August 2001, the Company issued 4,747,500 shares of common stock at $25.50
per share in a follow-on public offering. The net proceeds generated by the
offering, after expenses, were $113.4 million.
In 2003 and 2002, respectively, the Company repurchased 1.5 million and 100,000
shares of its common stock for $35.4 million and $1.8 million.
7. STOCK PURCHASE AND AWARD PLANS
EMPLOYEE STOCK PURCHASE PLAN
The Company received stockholder approval for its Employee Stock Purchase Plan
(ESPP) in May 1998. The purpose of the ESPP is to provide eligible employees of
the Company with the opportunity to acquire shares of common stock at periodic
intervals by means of accumulated payroll deductions. Under the ESPP, a total of
500,000 shares of common stock have been reserved for issuance. These shares
will be made available either from the Company's authorized but unissued shares
of common stock or from shares of common stock reacquired by the Company as
treasury shares. At December 31, 2003, approximately 196,000 shares remain
available for purchase under the ESPP.
STOCK OPTION PLANS
As of December 31, 2003 the Company had stock options outstanding under seven
plans, the 1993 Incentive Stock Option and Non-Qualified Stock Option Plan (the
1993 Plan), the 1996 Incentive Stock Option and Non-Qualified Stock Option Plan
(the 1996 Plan), the 1998 Stock Option Plan (the 1998 Plan), the 1999 Stock
Option Plan (the 1999 Plan), the 2000 Equity Incentive Plan (the 2000 Plan), the
2001 Equity Incentive Plan (the 2001 Plan), and the 2003 Equity Incentive Plan
(the 2003 Plan, and collectively, the Plans). No new options may be granted
under the 1993 Plan.
The Company has reserved 750,000 shares of common stock for issuance under both
the 1993 Plan and 1996 Plan, 1,000,000 shares under the 1998 Plan, 2,000,000
shares under each of the 1999 Plan, the 2000 Plan and the 2001 Plan, and
2,500,000 shares under the 2003 Plan. The 1993 Plan, 1996 Plan, 1998 Plan, and
the 1999 Plan permit the Company to grant both incentive and non-qualified stock
options to designated directors, officers, employees and associates of the
Company. The 2000 Plan, 2001 Plan, and 2003 Plan permit the Company to grant
incentive and non-qualified stock options, stock appreciation rights, restricted
stock, performance stock, or dividend equivalent rights to designated directors,
officers, employees and associates of the Company. Options issued under the
Plans become exercisable over specified periods, generally within four years
from the date of grant, and generally expire six years from the grant date.
Option activity for all the Plans was as follows:
2003 2002 2001
--------------------- --------------------- ---------------------
Wtd. Avg. Wtd. Avg. Wtd. Avg.
Options Ex. Price Options Ex. Price Options Ex. Price
-----------------------------------------------------------------------
(SHARES IN THOUSANDS)
Options outstanding at
January 1, ........... 4,295 $12.15 4,261 $10.79 4,519 $ 7.74
Granted ................. 430 $24.81 618 $17.73 748 $24.61
Exercised ............... (1,726) $ 7.70 (425) $ 6.15 (836) $ 6.49
Cancelled ............... (115) $17.40 (159) $13.39 (170) $11.88
Options outstanding at
December 31, ......... 2,884 $16.49 4,295 $12.15 4,261 $10.79
Options exercisable at
December 31, .......... 1,495 $13.65 2,380 $ 8.75 1,986 $ 6.89
At December 31, 2003, there were 3,436,000 shares available for grant under the
Plans.
The following table summarizes information about stock options outstanding as of
December 31, 2003:
Options Outstanding Options Exercisable
---------------------------------------------- -----------------------
As of Wtd. Avg. Wtd. Avg. As of Wtd. Avg.
Range Of Dec. 31, Exercise Remaining Dec. 31 Exercise
Exercise Prices 2003 Price Contractual Life 2003 Price
----------------- ---------- ------------ -------------------- ---------- -----------
(SHARES IN THOUSANDS)
$ 3.38 - $ 6.00 478 $ 4.85 1.5 years 478 $ 4.85
$ 6.28 - $12.00 496 $ 10.00 4.9 years 226 $ 8.85
$12.19 - $17.00 490 $ 14.20 3.4 years 300 $ 14.13
$17.07 - $23.00 630 $ 18.91 4.9 years 156 $ 18.31
$23.58 - $32.42 790 $ 27.12 4.5 years 335 $ 26.87
------- -------- ----------- ------- --------
2,884 $ 16.49 4.0 years 1,495 $ 13.65
The weighted average fair market value of options granted in 2003, 2002 and 2001
was $13.01, $9.57, and $16.14 per share, respectively.
RESTRICTED UNITS
In December 2000, the Company issued 1,250,000 restricted units (Restricted
Units) under the 2000 Plan as a fully vested equity based bonus to the Company's
President and Chief Executive Officer (Executive) in connection with the
extension of his employment agreement. Each Restricted Unit represents the right
to receive one share of the Company's common stock. The Executive has demand
registration rights under the Restricted Units issued.
The Executive received 1,000,000 Restricted Units in December 1997, each of
which entitles him to receive one share of the Company's common stock. The
Restricted Units issued in December 1997 were not issued under any of the Plans.
In November 2003, the 1997 restricted units were converted into 1,000,000 shares
of the Company's common stock.
No other stock-based awards are outstanding under any of the Plans.
8. RETIREMENT BENEFIT PLANS
DEFINED BENEFIT PLAN
The Company maintains a defined benefit pension plan in the United Kingdom
covering certain current and former employees. This plan is no longer open to
new participants. Net periodic benefit costs for this defined benefit pension
plan included the following amounts:
2003 2002 2001
-------- -------- --------
(IN THOUSANDS)
Service cost ..................................... $ 88 $ 122 $ 115
Interest cost .................................... 397 355 332
Expected return on plan assets ................... (330) (331) (356)
Recognized net actuarial loss .................... 116 85 7
-------- -------- --------
Net periodic benefit cost ..................... $ 271 $ 231 $ 98
The following weighted average assumptions were used to develop net periodic
benefit cost and the actuarial present value of projected benefit obligations:
2003 2002 2001
-------- -------- --------
Discount rate .................................... 5.4% 5.5% 5.9%
Expected return on plan assets ................... 6.2% 6.5% 6.5%
Rate of compensation increase .................... 3.3% 3.8% 4.1%
The following sets forth the change in benefit obligations and change in plan
assets at December 31, 2003 and 2002 and the accrued benefit cost:
December 31,
2003 2002
-------- --------
(IN THOUSANDS)
CHANGE IN BENEFIT OBLIGATION
Benefit obligation, beginning of year .......................... $ 6,803 $ 5,733
Service cost ................................................... 88 123
Interest cost .................................................. 397 356
Participant contributions ...................................... 36 33
Actuarial (gain) loss .......................................... 857 30
Benefits paid .................................................. (151) (105)
Effect of foreign currency exchange rates ...................... 802 633
-------- --------
Benefit obligation, end of year ................................ $ 8,832 $ 6,803
CHANGE IN PLAN ASSETS
Plan assets at fair value, beginning of year ................... $ 5,068 $ 5,153
Actual return on plan assets ................................... 881 (669)
Employer contributions ......................................... 211 153
Benefits paid .................................................. (151) (105)
Participant contributions ...................................... 36 33
Effect of foreign currency exchange rates ...................... 601 503
-------- --------
Plan assets at fair value, end of year ......................... $ 6,646 $ 5,068
RECONCILIATION OF FUNDED STATUS
Funded status, Benefit obligation in excess of plan assets ........ $(2,186) $(1,735)
Unrecognized net actuarial loss ................................... 2,416 2,001
Adjustment to recognize minimum liability ......................... (1,804) (1,444)
-------- --------
Accrued benefit cost .............................................. $(1,574) $(1,178)
The accrued benefit liability recorded at December 31, 2003 and 2002 is included
in other liabilities.
DEFINED CONTRIBUTION PLAN
The Company also has various defined contribution savings plans that cover
substantially all employees in the United States, the United Kingdom, and Puerto
Rico. The Company matches a certain percentage of each employee's contributions
as per the provisions of the plans. Total contributions by the Company to the
plans were $483,000, $575,000 and $411,000 in 2003, 2002 and 2001, respectively.
9. LEASES
The Company leases administrative, manufacturing, research and distribution
facilities and various manufacturing, office and transportation equipment
through operating lease agreements.
In November 1992, a corporation whose shareholders are trusts, whose
beneficiaries include family members of the Company's Chairman, acquired from
independent third parties a 50% interest in the general partnership from which
the Company leases its manufacturing facility in Plainsboro, New Jersey. The
lease provides for a rent escalation of 8.5% in 2007 and expires in October
2012.
In June 2000, the Company signed a ten-year agreement to lease certain
production equipment from a corporation whose sole stockholder is a general
partnership, for which the Company's Chairman is a partner and the President.
Under the terms of the lease agreement, the Company paid $90,000 to the related
party lessor in 2003, 2002 and 2001.
Future minimum lease payments under operating leases at December 31, 2003 were
as follows:
Related Third
Parties Parties Total
--------- --------- ---------
(IN THOUSANDS)
2004 ............................ 321 1,860 2,181
2005 ............................ 321 1,378 1,699
2006 ............................ 321 894 1,215
2007 ............................ 324 854 1,178
2008 ............................ 341 364 705
Thereafter ...................... 999 1,090 2,089
--------- --------- ---------
Total minimum lease payments..... 2,627 6,440 9,067
========= ========= =========
Total rental expense in 2003, 2002, and 2001 was $2.9 million, $2.0 million, and
$1.9 million, respectively, and included $321,000, $321,000, and $306,000, in
related party expense, respectively.
10. INCOME TAXES
The income tax expense (benefit) consisted of the following:
2003 2002 2001
-------- -------- --------
(IN THOUSANDS)
Current:
Federal ............................. $ 972 $ -- $ 208
State ............................... 2,470 1,276 446
Foreign ............................. 529 (427) 555
--------- --------- ---------
Total current ......................... 3,971 849 1,209
Deferred:
Federal ............................. $ 12,800 $(13,671) $(10,774)
State ............................... 83 373 (739)
Foreign ............................. (526) (103) (572)
--------- --------- ---------
Total deferred ........................ 12,357 (13,401) (12,085)
Income tax expense (benefit) .......... $ 16,328 $(12,552) $(10,876)
========= ========= =========
The temporary differences that give rise to deferred tax assets are presented
below:
December 31
2003 2002
-------- --------
(IN THOUSANDS)
Net operating loss and tax credit carryforwards ........... $ 22,695 $ 23,749
Inventory reserves and capitalization ..................... 2,294 2,722
Other ..................................................... 1,758 2,102
Deferred compensation ..................................... 5,361 7,692
Deferred income ........................................... 1,434 2,167
-------- --------
Total deferred tax assets before valuation allowance .... 33,542 38,432
Valuation allowance ....................................... (5,360) (7,692)
Depreciation and amortization ............................. (6,421) (5,130)
Other ..................................................... (392) (392)
-------- --------
Net deferred tax assets ................................... $ 21,369 $ 25,218
======== ========
Since 1999, the Company has generated positive taxable income on a cumulative
basis. In light of this trend, current projections for future taxable earnings,
and the expected timing of the reversal of deductible temporary differences,
management concluded in the fourth quarter of 2001 that a portion of the
valuation allowance recorded against federal and state net operating loss
carryforwards and certain other temporary differences was no longer necessary.
The valuation allowance was reduced by $12.0 million in 2001 because management
believed that it was more likely than not that the Company would realize the
benefit of that portion of the deferred tax assets recorded at December 31,
2001. The $12.0 million reduction in the valuation allowance consisted of an
$11.5 million deferred income tax benefit and a $450,000 credit to additional
paid-in capital related to net operating loss carryforwards generated through
the exercise of stock options.
In the fourth quarter of 2002, the Company reduced the remaining valuation
allowance recorded against net operating loss carryforwards by $23.4 million,
which reflects the Company's estimate of additional tax benefits that it expects
to realize in the future. The $23.4 million reduction in the valuation allowance
consisted of a $20.4 million deferred income tax benefit and a $3.0 million
credit to additional paid-in capital related to net operating loss carryforwards
generated through the exercise of stock options. A valuation allowance of $5.4
million is recorded against the remaining $33.3 million of deferred tax assets
recorded at December 31, 2003. This valuation allowance relates to deferred tax
assets for certain expenses that will be deductible for tax purposes in very
limited circumstances and for which the Company believes it is unlikely that it
will recognize the associated tax benefit. The Company does not anticipate
additional income tax benefits through future reductions in the valuation
allowance. However, in the event that the Company determines that it
would be able to realize more or less than the recorded amount of net deferred
tax assets, an adjustment to the deferred tax asset valuation allowance would be
recorded in the period such a determination is made.
The net change in the Company's valuation allowance was $ (2.3) million, $(26.7)
million, and $(10.4) million, in 2003, 2002, and 2001, respectively. Included in
the 2002 reduction was the write off of the valuation allowance associated with
$3.3 million of deferred tax assets which the Company wrote off because they are
no longer expected to be utilizable. Included in the 2003 reduction was the
write off of the valuation allowance associated with $2.3 million of deferred
tax assets which the Company wrote off because they are not expected to be
utilizable.
A reconciliation of the United States Federal statutory rate to the Company's
effective tax rate for the years ended December 31, 2003, 2002, and 2001 is as
follows:
2003 2002 2001
------ ------ ------
Federal statutory rate ..................................... 35.0% 35.0% 34.0%
Increase (reduction) in income taxes resulting from:
State income taxes, net of federal tax benefit ........... 3.9% 3.7% 1.9%
Foreign taxes booked at different rates .................. (1.0%) (2.5%) (1.3%)
Alternative minimum tax, net of state benefit ............ -- -- 1.4%
Nondeductible items ...................................... (0.1%) (0.5%) 1.1%
Other .................................................... -- (1.0%) 0.7%
Change in valuation allowance ............................ -- (89.9%) (108.9%)
------ ------ ------
Effective tax rate ......................................... 37.8% (55.2%) (71.1%)
====== ====== ======
At December 31, 2003, the Company had net operating loss carryforwards of
approximately $72.8 million and $10.5 million for federal and state income tax
purposes, respectively, to offset future taxable income. The federal and state
net operating loss carryforwards expire through 2018 and 2009, respectively.
At December 31, 2003, several of the Company's subsidiaries had unused net
operating loss carryforwards and tax credit carryforwards arising from periods
prior to the Company's ownership which expire through 2010. The timing and
manner in which any acquired net operating losses or tax credits may be utilized
in any year by the Company are limited by the Internal Revenue Code of 1986, as
amended, Section 382 and other provisions of the Internal Revenue Code and its
applicable regulations.
Income taxes are not provided on undistributed earnings of non-U.S. subsidiaries
because such earnings are expected to be permanently reinvested. Undistributed
earnings of foreign subsidiaries totaled $11.8 million and $9.0 million at
December 31, 2003 and 2002, respectively.
11. NET INCOME PER SHARE
All earnings per share data for the year ended December 31, 2001 appearing in
these consolidated financial statements and related notes has been restated to
conform to the two-class method required by Emerging Issues Task Force Issue
03-6 as it relates to the dividend participation rights included in the Series B
and Series C Convertible Preferred Stock that were outstanding during that
period. The adoption of Issue 03-6 reduced previously reported basic earnings
per share by $0.05 to $1.03 and diluted earnings per share by $0.02 to $0.92 in
2001. Additionally, net income applicable to common stock and the weighted
average common shares outstanding used to calculate diluted earnings per share
per share data for the year ended December 31, 2002 appearing in these
consolidated financial statements and related notes has been restated to conform
to the two-class method required by Issue 03-6. The adoption of Issue 03-6 did
not change the previously reported basic or diluted earnings per share
information for 2003 or 2002.
Amounts used in the calculation of basic and diluted net income per share were
as follows:
2003 2002 2001
-------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Basic:
------
Net income..................................................... $ 26,861 $ 35,277 $ 26,163
Dividends on dilutive preferred stock:
Series B Preferred Stock ................................. -- -- (486)
Series C Preferred Stock ................................. -- (159) (540)
Net income allocable to dilutive participating preferred stock:
Series B Preferred Stock ................................. -- -- (438)
Series C Preferred Stock ................................. -- (96) (555)
-------- -------- --------
Net income applicable to common stock ......................... $ 26,861 $ 35,022 $ 24,144
Basic net income per share .................................... $ 0.92 $ 1.21 $ 1.03
======== ======== ========
Weighted average common shares outstanding - Basic ............ 29,071 29,021 23,353
======== ======== ========
Diluted:
--------
Net income..................................................... $ 26,861 $ 35,277 $ 26,163
Dividends on dilutive preferred stock:
Series C Preferred Stock ................................. -- (159) (540)
Net income allocable to dilutive participating preferred stock:
Series C Preferred Stock ................................. -- (96) (555)
--------- -------- --------
Net income applicable to common stock ......................... $ 26,861 $ 35,022 $ 25,068
Diluted net income per share .................................. $ 0.88 $ 1.14 $ 0.92
======== ======== ========
Weighted average common shares outstanding - Basic ............ 29,071 29,021 23,353
Effect of dilutive securities:
Assumed conversion of preferred stock:
Series B Preferred Stock ............................... -- -- 1,273
Stock options and warrants ................................. 1,397 1,699 2,570
-------- -------- --------
Weighted average common shares outstanding .................... 30,468 30,720 27,196
======== ======== ========
Shares of common stock issuable through exercise or conversion of the following
dilutive securities were not included in the computation of diluted net income
per share for each period because their effect would have been antidilutive:
2003 2002 2001
-------- -------- --------
(IN THOUSANDS)
Stock options and warrants ....................... 424 1,104 65
Series C Preferred Stock ......................... -- 175 600
Notes payable outstanding at December 31, 2003 that are convertible into
3,514,166 shares of common stock were excluded from the computation of diluted
net income per share in 2003 because the conditions required to convert the
notes were not met.
Restricted Units issued by the Company (see Note 7) that entitle the holder to
1,250,000 shares of common stock are included in the weighted average shares
outstanding calculation from their date of issuance because no further
consideration is due related to the issuance of the underlying common shares.
12. DEVELOPMENT, DISTRIBUTION, AND LICENSE AGREEMENTS AND GOVERNMENT GRANTS
The Company has various development, distribution, and license agreements under
which it receives payments. Significant agreements include the following:
In 1999, the Company and ETHICON, Inc., a division of Johnson & Johnson, signed
an agreement (the ETHICON Agreement) providing ETHICON with exclusive marketing
and distribution rights to INTEGRA(R) Dermal Regeneration Template worldwide,
excluding Japan. Under the ETHICON Agreement, the Company manufactured
INTEGRA(R) Dermal Regeneration Template and collaborated with ETHICON to conduct
research and development and clinical research aimed at expanding indications
and developing future products in the field of skin repair and regeneration.
Upon signing the ETHICON Agreement, the Company received a nonrefundable payment
from ETHICON of $5.3 million for the exclusive use of the Company for trademarks
and regulatory filings related to the INTEGRA(R) Dermal Regeneration Template
and certain other rights. This amount was initially recorded as deferred revenue
and was recognized as revenue in accordance with the Company's revenue
recognition policy for nonrefundable, up-front fees received. Additionally, the
ETHICON Agreement required ETHICON to make nonrefundable payments to the Company
each year based upon minimum purchases of INTEGRA(R) Dermal Regeneration
Template.
In 2003, and 2002, the Company received $2.8 million and $1.0 million,
respectively, of event-related payments from ETHICON. The ETHICON Agreement also
provided for annual research funding of $2.0 million. Both the event-related
payments and the research funding were recorded in other revenue in accordance
with the Company's revenue recognition policy.
In September 2003, the Company and ETHICON amended the ETHICON agreement. Under
the amended ETHICON agreement, ETHICON continued to market and sell INTEGRA
Dermal Regeneration Template through December 31, 2003 under the original terms,
and ETHICON paid Integra $2.0 million on December 31, 2003 in connection with
the termination of the agreement. The Company has recorded this termination fee
as other income.
Due to the termination of the ETHICON agreement, the Company recorded $11.0
million of other revenue in the fourth quarter of 2003 related to the
acceleration of the recognition of unused minimum purchase payments and
unamortized license fee revenue.
The Company has an agreement with Wyeth for the development of collagen and
other absorbable matrices to be used in conjunction with Wyeth's recombinant
human bone morphogenetic protein-2 (rhBMP-2) in a variety of bone regeneration
applications. The agreement with Wyeth requires Integra to supply Absorbable
Collagen Sponges to Wyeth (including those that Wyeth sells to Medtronic Sofamor
Danek with rhBMP-2 for use in Medtronic Sofamor Danek's InFUSE(TM) product) at
specified prices. In addition, the Company receives a royalty equal to a
percentage of Wyeth's sales of surgical kits combining rhBMP-2 and the
Absorbable Collagen Sponges. The agreement terminates in 2007, but may be
extended at the option of the parties. The agreement does not provide for
milestones or other contingent payments, but Wyeth pays the Company to assist
with regulatory affairs and research. The Company received $2.2 million, $1.2
million, and
$1.1 million of research and development revenues under the agreement in 2003,
2002, and 2001, respectively.
13. COMMITMENTS AND CONTINGENCIES
As consideration for certain technology, manufacturing, distribution and selling
rights and licenses granted to the Company, the Company has agreed to pay
royalties on the sales of products that are commercialized relative to the
granted rights and licenses. Royalty payments under these agreements by the
Company were not significant for any of the periods presented.
Various lawsuits claims and proceedings are pending or have been settled by the
Company. The most significant of those are described below.
In July 1996, we filed a patent infringement lawsuit in the United States
District Court for the Southern District of California (the "Trial Court")
against Merck KGaA, a German corporation, Scripps Research Institute, a
California nonprofit corporation, and David A. Cheresh, Ph.D., a research
scientist with Scripps, seeking damages and injunctive relief. The complaint
charged, among other things, that the defendant Merck KGaA willfully and
deliberately induced, and continues willfully and deliberately to induce,
defendants Scripps Research Institute and Dr. Cheresh to infringe certain of our
patents. These patents are part of a group of patents granted to The Burnham
Institute and licensed by us that are based on the interaction between a family
of cell surface proteins called integrins and the arginine-glycine-aspartic acid
("RGD") peptide sequence found in many extracellular matrix proteins. The
defendants filed a countersuit asking for an award of defendants' reasonable
attorney fees.
In March 2000, a jury returned a unanimous verdict in our favor and awarded us
$15,000,000 in damages, finding that Merck KGaA had willfully infringed and
induced the infringement of our patents. The Trial Court dismissed Scripps and
Dr. Cheresh from the case.
In October 2000, the Trial Court entered judgment in our favor and against Merck
KGaA in the case. In entering the judgment, the Trial Court also granted to us
pre-judgment interest of approximately $1,350,000, bringing the total award to
approximately $16,350,000, plus post-judgment interest. Merck KGaA filed various
post-trial motions requesting a judgment as a matter of law notwithstanding the
verdict or a new trial, in each case regarding infringement, invalidity and
damages. In September 2001, the Trial Court entered orders in favor of us and
against Merck KGaA on the final post-judgment motions in the case, and denied
Merck KGaA's motions for judgment as a matter of law and for a new trial.
Merck KGaA and we each appealed various decisions of the Trial Court to the
United States Court of Appeals for the Federal Circuit (the "Circuit Court").
The Circuit Court affirmed the Trial Court's finding that Merck KGaA had
infringed our patents. The Circuit Court also held that the basis of the jury's
calculation of damages was not clear from the trial record, and remanded the
case to the Trial Court for further factual development and a new calculation of
damages consistent with the Circuit Court's decision. We expect the Trial Court
to begin new hearings on damages in the summer of 2004. We have not recorded any
gain in connection with this matter.
Three of the Company's French subsidiaries that were acquired from the
neurosciences division of NMT Medical, Inc. received a tax reassessment notice
from the French tax authorities seeking in excess of 1.7 million euros in back
taxes, interest and penalties. NMT Medical, Inc., the former owner of these
entities, has agreed to specifically indemnify Integra against any liability in
connection with these tax claims. In addition, NMT Medical, Inc. has agreed to
provide the French tax authorities with payment of the tax liabilities on behalf
of each of these subsidiaries.
The Company is also subject to various claims, lawsuits and proceedings in the
ordinary course of our business, including claims by current or former employees
and distributors and with respect to our products. In the opinion of management,
such claims are either adequately covered by insurance or otherwise indemnified,
or are not expected, individually or in the aggregate, to result in a material
adverse effect on our financial condition. However, it is possible that our
results of operations, financial position and cash flows in a particular period
could be materially affected by these contingencies.
In December 2003, the Company recorded a $1.1 million charge in connection with
closing of its San Diego research center, the termination of certain research
programs conducted there, and the consolidation of the remaining research
activities into its other facilities. The charge consisted of the following:
Facility lease termination fee .................. $ 379,000
Research program termination costs .............. 216,000
Property and equipment impairment ............... 183,000
Inventory write-off ............................. 157,000
Employee severance .............................. 120,000
Other ........................................... 52,000
----------
Total $1,107,000
The inventory write-off was recorded to cost of product revenues. All other
amounts were recorded to research and development expense. All amounts were paid
in 2003, except for the employee severance amounts, which were included in
accrued expenses and other current liabilities at December 31, 2003.
14. SEGMENT AND GEOGRAPHIC INFORMATION
In 2003, following the integration of several recently acquired, diverse
businesses, Integra began to manage the business and review financial results on
an aggregate basis, instead of through two operating segments. Accordingly, all
prior period financial results provided below have been revised to reflect the
retroactive application of this change to a single operating segment.
Product revenues consisted of the following:
2003 2002 2001
-------- -------- --------
(IN THOUSANDS)
Neuromonitoring products ................. $ 44,229 $ 37,184 $ 28,158
Operating room products .................. 53,301 38,326 27,240
Instruments .............................. 47,168 16,802 14,972
Private label products ................... 21,997 20,313 17,538
-------- -------- --------
Consolidated product revenues ............ $166,695 $112,625 $ 87,908
======== ======== ========
Certain of the Company's products, including the DuraGen(R) Dural Graft
products, NeuraGen(TM) Nerve Guide, INTEGRA(R) Dermal Regeneration Template,
INTEGRA(TM) Bi-Layer Matrix Wound Dressing, and BioMend(R) Absorbable Collagen
Membrane, contain material derived from bovine tissue. Products that contain
materials derived from animal sources, including food as well as pharmaceuticals
and medical devices, are increasingly subject to scrutiny from the press and
regulatory authorities. These products comprised approximately 27%, 32% and 32%
of product revenues in 2003, 2002 and 2001, respectively. Accordingly,
widespread public controversy concerning collagen products, new regulation, or a
ban of the Company's products containing material derived from bovine tissue,
could have a material adverse effect on the Company's current business or its
ability to expand its business.
Product revenue and long-lived assets (excluding financial instruments and
deferred tax assets) by major geographic area are summarized below:
United Asia Other
States Europe Pacific Foreign Consolidated
---------- ---------- ---------- ---------- ------------
(IN THOUSANDS)
Product revenue:
2003 ................... $132,805 $ 21,433 $ 5,828 $ 6,629 $166,695
2002 ................... 90,422 14,737 4,062 3,404 112,625
2001 ................... 68,612 10,577 4,838 3,881 87,908
Long-lived assets:
December 31, 2003 ...... $ 81,182 $ 21,082 $ -- $ -- $102,264
December 31, 2002 ...... 45,319 18,408 -- -- $ 63,727
December 31, 2001 ...... 33,001 12,057 -- -- 45,058
15. SELECTED QUARTERLY INFORMATION -- UNAUDITED
Fourth Third Second First
Quarter Quarter Quarter Quarter
-------- --------- --------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
2003:
-----
Total revenue ................... $ 59,025 $ 47,058 $ 42,736 $ 36,780
Cost of product revenues ........ 20,935 18,869 17,090 13,703
Total other operating expenses .. 25,095 17,266 17,357 15,637
Operating income ................ 12,995 10,923 8,289 7,440
Interest income (expense), net .. 81 (188) (198) 776
Other income (expense), net ..... 1,962 309 451 349
Income before income taxes ...... 15,038 11,044 8,542 8,565
Income tax expense .............. 5,867 4,210 3,124 3,127
Net income ...................... $ 9,171 $ 6,834 $ 5,418 $ 5,438
Basic net income per share....... $ 0.31 $ 0.24 $ 0.19 $ 0.18
Diluted net income per share .... $ 0.30 $ 0.23 $ 0.18 $ 0.18
2002:
-----
Total revenue ................... $ 35,261 $ 30,204 $ 26,441 $ 25,916
Cost of product revenues ........ 14,168 12,611 9,465 9,528
Total other operating expenses .. 14,313 16,001 11,486 11,063
Operating income ................ 6,780 1,592 5,490 5,325
Interest income, net ............ 727 822 993 993
Other income (expense), net ..... (18) (11) 55 (23)
Income before income taxes ...... 7,489 2,403 6,538 6,295
Income tax expense (benefit) .... (17,885) 840 2,289 2,204
Net income ...................... $ 25,374 $ 1,563 $ 4,249 $ 4,091
Basic net income per share ...... 0.87 0.05 0.15 0.14
Diluted net income per share .... 0.83 0.05 0.14 0.13
16. SUBSEQUENT EVENTS
In January 2004, the Company acquired the R&B instrument business from R&B
Surgical Solutions, LLC for approximately $2.0 million in cash. The R&B
instrument line is a complete line of high-quality handheld surgical instruments
used in neuro- and spinal surgery. The Company plans to market these products
through its JARIT sales force.
In January 2004, the Company acquired the Sparta disposable critical care
devices and surgical instruments business from Fleetwood Medical, Inc. for
approximately $1.5 million in cash. The Sparta product line includes products
used in plastic and reconstructive, ear, nose and throat (ENT), neuro,
ophthalmic and general surgery. Prior to the acquisition, Fleetwood Medical
marketed these product lines primarily to hospitals and physicians through a
catalogue and a network of distributors.
The determination of the fair value of the assets acquired and liabilities
assumed as a result of these acquisitions is in progress.
ITEM 9.01. Financial Statements, Pro Forma Financial Information and Exhibits.
(a) Not applicable
(b) Not applicable
(c) Exhibits.
Exhibit
Number Description of Exhibit
------- ----------------------
99.1 Consent of Independent Registered Public Accounting Firm
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned, hereunto duly authorized.
INTEGRA LIFESCIENCES HOLDINGS CORPORATION
DATE: JANUARY 14, 2005 BY: /s/ STUART M. ESSIG
------------------------------
STUART M. ESSIG
PRESIDENT AND CHIEF EXECUTIVE OFFICER
Exhibit Index
Exhibit
Number Description of Exhibit
------- ----------------------
99.1 Consent of Independent Registered Public Accounting Firm