UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2006
Commission file number 000-04217
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ACETO CORPORATION
(Exact name of registrant as specified in its charter)
NEW YORK 11-1720520
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(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) Number)
ONE HOLLOW LANE, LAKE SUCCESS, NY 11042
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(Address of principal executive offices
(516) 627-6000
(Registrant's telephone number, including area code)
WWW.ACETO.COM
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(Registrant's website address)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the Registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer" and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
Large accelerated filer [ ] Accelerated filer [X] Non-accelerated filer [ ]
Indicate by check mark whether the Registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
The Registrant has 24,286,521 shares of common stock outstanding as of November
2, 2006.
ACETO CORPORATION AND SUBSIDIARIES
QUARTERLY REPORT FOR THE PERIOD ENDED SEPTEMBER 30, 2006
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets - September 30, 2006 (unaudited)
and June 30, 2006
Consolidated Statements of Income - Three Months
Ended September 30, 2006 and 2005 (unaudited)
Consolidated Statements of Cash Flows - Three Months
Ended September 30, 2006 and 2005 (unaudited)
Notes to Consolidated Financial Statements (unaudited)
Report of Independent Registered Public Accounting Firm
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures about
Market Risk
Item 4. Controls and Procedures
PART II. OTHER INFORMATION
Item 1A. Risk Factors
Item 6. Exhibits
Signatures
Exhibits
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
ACETO CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except per-share amounts)
September 30, June 30,
2006 2006
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(unaudited)
ASSETS
Current assets:
Cash in banks $ 36,261 $ 33,732
Investments 5,347 3,309
Trade receivables, less allowance for doubtful
accounts (September, $376, June $416) 53,462 50,993
Other receivables 1,994 1,406
Inventory 45,537 47,259
Prepaid expenses and other current assets 1,328 1,011
Deferred income tax benefit, net 3,429 3,396
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Total current assets 147,358 141,106
Long-term notes receivable 540 557
Property and equipment, net 4,718 4,808
Property held for sale 4,531 4,531
Goodwill 1,765 1,755
Intangible assets, net 3,731 3,789
Deferred income tax benefit, net 6,485 7,356
Other assets 3,057 2,690
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TOTAL ASSETS $ 172,185 $ 166,592
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 24,500 $ 24,424
Note payable - related party 500 500
Accrued expenses 13,198 10,612
Deferred income tax liability 863 863
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Total current liabilities 39,061 36,399
Long-term liabilities 6,371 6,379
Environmental remediation liability 5,200 5,200
Deferred income tax liability 3,153 3,329
Minority interest 239 232
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Total liabilities 54,024 51,539
Commitments and contingencies (Note 12)
Shareholders' equity:
Common stock, $.01 par value, 40,000 shares authorized; 25,644 shares
issued; 24,287 and 24,278 shares outstanding at September 30, 2006
and June 30, 2006, respectively 256 256
Capital in excess of par value 56,764 56,691
Retained earnings 70,926 68,464
Treasury stock, at cost, 1,357 and 1,366 shares at September 30, 2006 and
June 30, 2006, respectively (13,114) (13,198)
Accumulated other comprehensive income 3,329 2,840
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Total shareholders' equity 118,161 115,053
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TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 172,185 $ 166,592
========= =========
See accompanying notes to consolidated financial statements and accountants' review report.
3
ACETO CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(unaudited and in thousands, except per-share amounts)
Three Months Ended
September 30,
2006 2005
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Net sales $ 74,725 $ 74,993
Cost of sales 61,834 62,490
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Gross profit 12,891 12,503
Selling, general and administrative expenses 9,404 10,362
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Operating income 3,487 2,141
Other income (expense):
Interest expense (13) (24)
Interest and other income, net 201 783
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188 759
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Income from continuing operations before income taxes 3,675 2,900
Provision for income taxes 1,213 899
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Income from continuing operations 2,462 2,001
Loss from discontinued operations, net of income taxes (Note 3) - (27)
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Net income $ 2,462 $ 1,974
======== ========
Basic income per common share:
Income from continuing operations $ 0.10 $ 0.08
Loss from discontinued operations $ - $ -
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Net income $ 0.10 $ 0.08
Diluted income per common share:
Income from continuing operations $ 0.10 $ 0.08
Loss from discontinued operations $ - $ -
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Net income $ 0.10 $ 0.08
Weighted average shares outstanding:
Basic 24,282 24,287
Diluted 24,581 24,634
See accompanying notes to consolidated financial statements and accountants' review report.
4
ACETO CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited and in thousands)
Three Months Ended
September 30,
2006 2005
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Operating activities:
Net income $ 2,462 $ 1,974
Loss from discontinued operations - 27
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization 381 344
Provision for doubtful accounts 35 -
Non-cash stock compensation 114 46
Deferred income taxes 662 984
Gain on sale of CDC product lines - (66)
Changes in assets and liabilities:
Investments - trading securities (5) (38)
Trade accounts receivable (3,016) (1,263)
Other receivables (707) 98
Inventory 1,850 831
Prepaid expenses and other current assets (315) (756)
Other assets (301) (152)
Accounts payable 582 (115)
Accrued environmental remediation - (43)
Other accrued expenses and long-term liabilities 2,839 687
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Net cash provided by operating activities 4,581 2,558
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Investing activities:
Payments received on notes receivable 8 13
Purchases of property and equipment (149) (136)
Proceeds from the sale of certain CDC product lines - 75
Purchases of investments (2,001) -
Purchase of intangible asset (42) (25)
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Net cash used in investing activities (2,184) (73)
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Financing activities:
Proceeds from exercise of stock options 13 19
Excess tax benefit on exercise of stock options 4 7
Borrowings (payments) of short-term bank loans - (126)
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Net cash provided by (used in) financing activities 17 (100)
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Effect of exchange rate changes on cash 115 (23)
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Net increase in cash 2,529 2,362
Cash at beginning of period 33,732 19,950
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Cash at end of period $ 36,261 $ 22,312
======== ========
See accompanying notes to consolidated financial statements and accountants' review report.
5
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
(1) BASIS OF PRESENTATION
The consolidated financial statements of Aceto Corporation and subsidiaries
("Aceto" or the "Company") included herein have been prepared by the Company and
reflect all adjustments (consisting solely of normal recurring adjustments)
necessary to present fairly the financial position, results of operations and
cash flows for all periods presented. Interim results are not necessarily
indicative of results which may be achieved for the full year.
The preparation of financial statements in conformity with U.S. generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenues
and expenses reported in those financial statements. These judgments can be
subjective and complex, and consequently actual results could differ from those
estimates and assumptions. The Company's most critical accounting policies
relate to revenue recognition; allowance for doubtful accounts; inventories;
goodwill and other intangible assets; environmental and other contingencies;
income taxes; and stock-based compensation.
These consolidated financial statements do not include all disclosures
associated with consolidated financial statements prepared in accordance with
U.S. generally accepted accounting principles. Accordingly, these statements
should be read in conjunction with the Company's consolidated financial
statements and notes thereto contained in the Company's Form 10-K for the year
ended June 30, 2006.
Certain reclassifications have been made to the prior consolidated financial
statements to conform to the current presentation.
(2) STOCK-BASED COMPENSATION
Prior to July 1, 2005, the Company accounted for stock-based employee
compensation under the intrinsic value method as outlined in the provisions of
APB Opinion No. 25, "Accounting for Stock Issued to Employees," and related
interpretations while disclosing pro-forma net income and net income per share
as if the fair value method had been applied in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based
Compensation." Under the intrinsic value method, no compensation expense was
recognized if the exercise price of the Company's employee stock options equaled
or exceeded the market price of the underlying stock on the date of grant. Since
the Company had issued all stock option grants with exercise prices equal to, or
greater than, the market value of the common stock on the date of grant, through
June 30, 2005 no compensation cost was recognized in the consolidated statements
of income.
Effective July 1, 2005, the Company adopted SFAS No. 123(R), "Share-based
Payment." SFAS No. 123(R) replaces SFAS No. 123 and supersedes APB Opinion No.
25. SFAS 123(R) requires that all stock-based compensation be recognized as an
expense in the financial statements and that such costs be measured at the fair
value of the award. This statement was adopted using the modified prospective
method, which requires the Company to recognize compensation expense on a
prospective basis. Therefore, prior period financial statements have not been
restated. SFAS 123(R) also requires that excess tax benefits related to stock
option exercises be reflected as financing cash inflows. Prior to the adoption
of SFAS 123(R), the Company presented all tax benefits related to stock-based
compensation as an operating cash inflow. The Company's policy is to satisfy
stock-based compensation awards with treasury shares.
(3) SALE OF INSTITUTIONAL SANITARY SUPPLIES SEGMENT
During June 2005, the Company entered into an agreement to sell the majority of
the product lines formulated and marketed by CDC Products Corp. ("CDC"), which
is one of the two subsidiaries forming part of the former Institutional Sanitary
Supplies segment. The sale of certain product lines of CDC was completed on
August 24, 2005 for $75 and a note receivable of $44 due in April 2006, which
resulted in a pre-tax gain of $66, included in other income in the statement of
income for the three months ended September 30, 2005. Excluded from the sale of
CDC's product lines was Anti-Clog, an EPA-registered biocide that has a unique
delivery system and is used in commercial air-conditioning systems. As a result
of management's decision to retain the Anti-Clog product, CDC's
6
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
operating results are included in continuing operations in the consolidated
statements of income and are included within the Chemicals & Colorants segment.
On September 6, 2005, the Company completed the sale of certain assets of Magnum
Research Corp. for $81, of which $45 was received as of September 30, 2005, the
remaining subsidiary forming part of the former Institutional Sanitary Supplies
segment, the operating results of which are included in discontinued operations
in the consolidated statements of income.
Net sales from discontinued operations for the three months ended September 30,
2005 were $154. The net loss from discontinued operations for the three months
ended September 30, 2005 of $27 includes a loss on the sale of assets of Magnum
Research Corp of $22, net of income taxes.
(4) INVESTMENTS
A summary of short-term investments were as follows:
September 30, 2006 June 30, 2006
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Fair Value Cose Basis Fair Value Cost Basis
---------- ---------- ---------- ----------
TRADING SECURITIES
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Corporate equity securities $ 702 $ 152 $ 697 $ 152
AVAILABLE FOR SALE SECURITIES
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Corporate bonds 1,179 $1,205 1,167 $1,210
Government and agency securities 3,466 $3,502 1,445 $1,501
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$5,347 $3,309
====== ======
The gains on trading securities were $5 and $38 for the three months ended
September 30, 2006 and 2005, respectively.
(5) GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill of $1,765 and $1,755 as of September 30, 2006 and June 30, 2006,
relates to the Health Sciences Segment.
Intangible assets subject to amortization as of September 30, 2006 and June 30,
2006 were as follows:
Gross Carrying Accumulated Net Book
Value Amortization Value
----- ------------ -----
September 30, 2006
------------------
Customer relationships $2,785 $1,094 $1,691
Patent license 838 76 762
EPA registrations 307 3 304
Non-compete agreements 233 128 105
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$4,163 $1,301 $2,862
====== ====== ======
June 30, 2006
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Customer relationships $2,755 $ 984 $1,771
Customer lists 600 600 -
Patent license 838 57 781
EPA registrations 265 3 262
Non-compete agreements 230 115 115
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$4,688 $1,759 $2,929
====== ====== ======
7
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
The estimated useful lives of customer relationships, customer lists, patent
license, EPA Registrations and non-compete agreements are 7 years, 5 years, 11
years, 10 years and 3-5 years, respectively.
Amortization expense for intangible assets subject to amortization amounted to
$142 and $141 for the three months ended September 30, 2006 and 2005,
respectively. The estimated aggregate amortization expense for intangible assets
subject to amortization for each of the succeeding years ended September 30 are
as follows: 2007: $529; 2008: $529; 2009: $501; 2010: $485; 2011: $287; 2012 and
thereafter: $531
As of September 30, 2006 and June 30, 2006, the Company also had $869 and $860,
respectively, of intangible assets pertaining to trademarks which are not
subject to amortization.
Changes in goodwill and the gross carrying value of customer relationships,
non-compete agreements and trademarks are attributable to changes in foreign
currency exchange rates used to translate the financial statements of foreign
subsidiaries.
(6) ACCRUED EXPENSES
The components of accrued expenses as of September 30, 2006 and June 30, 2006
were as follows:
September 30, June 30,
2006 2006
------- -------
Accrued compensation $ 2,301 $ 2,691
Accrued environmental remediation costs 200 200
Accrued income taxes payable 2,308 2,019
Other accrued expenses 8,389 5,702
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$13,198 $10,612
======= =======
(7) NET INCOME PER COMMON SHARE
Basic income per common share is based on the weighted average number of common
shares outstanding during the period. Diluted income per common share includes
the dilutive effect of potential common shares outstanding. The Company's only
potential common shares outstanding are stock options, which resulted in a
dilutive effect of 299 and 347 shares for the three months ended September 30,
2006, and 2005, respectively. There were 1,105 and 1,646 stock options
outstanding as of September 30, 2006, and 2005, respectively, that were not
included in the calculation of diluted income per common share for the three
months ended September 30, 2006, and 2005, respectively because their effect
would have been anti-dilutive.
8
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
(8) COMPREHENSIVE INCOME
Comprehensive income consists of net income and other gains and losses affecting
shareholders' equity that, under generally accepted accounting principles, are
excluded from net income. The components of comprehensive income were as
follows:
Three months ended
September 30,
2006 2005
------- -------
Comprehensive income:
Net income 2,462 1,974
Foreign currency translation
Adjustment 365 183
Unrealized gain (loss) on available
for sale securities 34 (42)
Change in fair value of cross
currency interest rate swaps 90 (91)
------- -------
Total $ 2,951 $ 2,024
======= =======
The financial statements of the Company's foreign subsidiaries are measured
using the local currency as the functional currency. Exchange gains or losses
resulting from the translation of financial statements of foreign operations are
accumulated in other comprehensive income. The currency translation adjustments
are not adjusted for income taxes as they relate to indefinite investments in
non-US subsidiaries.
(9) DEFERRED INCOME TAXES
The decrease in the deferred income tax assets of $662 and $984 for the quarter
ended September 30, 2006 and 2005, respectively, related to the reduction of
taxes payable due to the utilization of foreign net operating loss
carryforwards.
(10) SUPPLEMENTAL CASH FLOW INFORMATION
Cash paid for interest and income taxes for the three months ended September 30,
2006 and 2005 was as follows:
2006 2005
-------- --------
Interest $ 5 $ 9
Income taxes, net of refunds $ 217 $ 279
(11) RELATED PARTY TRANSACTIONS
Certain directors of the Company are affiliated with law firms which serve as
counsel to the Company on various corporate matters. During the three months
ended September 30, 2006 and 2005, the Company incurred legal fees of $118 and
$114, respectively, for services rendered to the Company by these law firms.
(12) COMMITMENTS AND CONTINGENCIES
As of September 30, 2006, the Company had outstanding purchase obligations
totaling $52,122 to acquire certain products for resale to third party
customers.
The Company and its subsidiaries are subject to various claims which have arisen
in the normal course of business. The impact of the final resolution of these
matters on the Company's results of operations in a particular reporting period
is not known. Management is of the opinion, however, that the ultimate outcome
of such matters will not have a material adverse effect upon the Company's
financial condition or liquidity.
9
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
The Company has environmental remediation obligations in connection with
Arsynco, Inc. ("Arsynco"), a subsidiary formerly involved in manufacturing
chemical, located in Carlstadt, New Jersey, which was closed in 1993 and is
currently held for sale. During fiscal 2006, based on continued monitoring of
the contamination at the site and the current proposed plan of remediation, the
Company received an estimate from an environmental consultant stating that the
costs of remediation could be between $5,400 and $6,900. As of both September
30, 2006 and June 30, 2006 a liability $5,400 is included in the accompanying
consolidated balance sheets. In accordance with Emerging Issues Task Force
(EITF) Issue 90-8, "Capitalization of Costs to Treat Environmental
Contamination" management believes that the majority of costs incurred to
remediate the site will be capitalized in preparing the property which is
currently held for sale. An appraisal of the fair value of the property by a
third-party appraiser supports this assumption. However, these matters, if
resolved in a manner different from those assumed in current estimates, could
have a material adverse effect on the Company's financial condition, operating
results and cash flows when resolved in a future reporting period.
In March 2006, Arsynco received notice from the Environmental Protection Agency
(EPA) of its status as a potentially responsible party ("PRP") under the
Comprehensive Environmental Response, Compensation and Liability Act (CERCLA)
for a site described as the Berry's Creek Study Area. Arsynco is one of over 150
PRP's which have potential liability for the required investigation and
remediation of the site. The estimate of the potential liability is not
quantifiable for a number of reasons, including the difficulty in determining
the extent of contamination and the length of time remediation may require. In
addition, any estimate of liability must also consider the number of other PRP's
and their financial strength. Since an amount of the liability can not be
reasonably estimated at this time, no accrual is recorded for these potential
future costs. The impact of the resolution of this matter on the Company's
results of operations in a particular reporting period is not known. However,
management believes that the ultimate outcome of this matter will not have a
material adverse effect on the Company's financial condition or liquidity.
One of the Company's subsidiaries was a defendant in a legal action alleging
patent infringement. The patent in question covered a particular method of
applying one of the products in the Company's Agrochemicals segment. In
September 2005, shortly before a trial was expected to begin, the parties agreed
to a settlement. Under the terms of the settlement agreement, the Company was
obligated to pay $1,375, of which $775 was paid as of September 30, 2006 and the
remaining $600 will be paid in equal installments over the next four years. As a
result of the settlement, the company recorded an intangible asset of $838 for
the patent license, which is being amortized over its remaining life, and a
charge of $537, included in SG&A expense, for the three months ended September
30, 2005.
A subsidiary of the Company markets certain agricultural chemicals which are
subject to the Federal Insecticide, Fungicide and Rodenticide Act (FIFRA). FIFRA
requires that test data be provided to the Environmental Protection Agency (EPA)
to register, obtain and maintain approved labels for pesticide products. The EPA
requires that follow-on registrants of these products compensate the initial
registrant for the cost of producing the necessary test data on a basis
prescribed in the FIFRA regulations. Follow-on registrants do not themselves
generate or contract for the data. However, when FIFRA requirements mandate that
new test data be generated to enable all registrants to continue marketing a
pesticide product, often both the initial and follow-on registrants establish a
task force to jointly undertake the testing effort. The Company is presently a
member of two such task force groups and historically, our payments have been in
the range of $250 - $500 per year. The Company may be required to make
additional payments in the future.
In June 2006, the Company negotiated a lease termination with its landlord for
the facility previously occupied by CDC and Magnum. In connection with the lease
termination, the landlord and a third party entered into a long-term lease for
which the Company guaranteed the rental payments by the third party through
September 30, 2009. The aggregate future rental payments of the third party that
are guaranteed by the Company are $925 and the fair value of this guarantee is
deemed to be insignificant.
Commercial letters of credit are issued by the Company in the ordinary course of
business through major domestic banks as requested by certain suppliers. The
Company had open letters of credit of approximately $1,635 and
10
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
$1,349 as of September 30, 2006 and June 30, 2006, respectively. The terms of
these letters of credit are all less than one year. No material loss is
anticipated due to non-performance by the counterparties to these agreements.
(13) RECENT ACCOUNTING PRONOUNCEMENTS
In June 2005, the Financial Accounting Standards Board ("FASB") issued SFAS No.
154, "Accounting Changes and Error Corrections," a replacement of APB Opinion
No. 20, "Accounting Changes", and FASB SFAS No. 3, "Reporting Accounting Changes
in Interim Financial Statements." SFAS No. 154 applies to all voluntary changes
in accounting principles, and changes the requirements for accounting for and
reporting of a change in accounting principle. SFAS No. 154 requires
retrospective application to prior periods' financial statements of a voluntary
change in accounting principle unless it is impracticable. SFAS No. 154 also
requires that a change in method of depreciation, amortization, or depletion for
long-lived, non-financial assets be accounted for as a change in accounting
estimate that is affected by a change in accounting principle. SFAS No. 154 is
effective for accounting changes and corrections of errors made in fiscal years
beginning after December 15, 2005. Earlier application is permitted for
accounting changes and corrections of errors occurring in fiscal years beginning
after June 1, 2005. SFAS No. 154 does not change the transition provisions of
any existing accounting pronouncements, including those that are in a transition
phase as of the date of SFAS No. 154. Management does not believe that adoption
of SFAS No. 154 will have a material impact on the consolidated financial
position and results of operations.
In June 2006, the FASB issued FASB Interpretation ("FIN") No. 48 "Accounting for
Uncertainty in Income Taxes - an interpretation of FASB Statement 109". FIN 48
prescribes a comprehensive model for recognizing, measuring, presenting and
disclosing in the financial statements tax positions taken or expected to be
taken on a tax return. FIN 48 is effective for fiscal years beginning after
December 15, 2006. Management is currently assessing the impact of FIN 48 on the
consolidated financial position and results of operations.
In September 2006, the FASB issued SFAS No. 157, "Fair Value Measurements" (SFAS
No. 157). SFAS No. 157 establishes a common definition for fair value to be
applied to US GAAP guidance requiring use of fair value, establishes a framework
for measuring fair value, and expands disclosure about such fair value
measurements. SFAS No. 157 is effective for fiscal years beginning after
November 15, 2007. Management is currently assessing the impact of SFAS No. 157
on the consolidated financial position and results of operations.
In September 2006, the FASB issued SFAS No. 158, "Employers' Accounting for
Defined Benefit Pension and Other Postretirement Plans" (SFAS No. 158). SFAS No.
158 requires that employers recognize on a prospective basis the funded status
of their defined benefit pension and other postretirement plans on their
consolidated balance sheet and recognize as a component of other comprehensive
income, net of tax, the gains or losses and prior service costs or credits that
arise during the period but are not recognized as components of net periodic
benefit cost. SFAS No. 158 also requires additional disclosures in the notes to
financial statements. SFAS No. 158 is effective as of the end of fiscal years
ending after December 15, 2006. Management is currently assessing the impact of
SFAS No. 158 on our consolidated financial statements but does not expect that
it will have a material impact on the consolidated financial position or results
of operations.
In September 2006, the SEC staff issued Staff Accounting Bulletin ("SAB") 108
"Considering the Effects of Prior Year Misstatements when Quantifying
Misstatements in Current Year Financial Statements" (SAB 108). SAB 108 requires
that public companies utilize a "dual-approach" to assessing the quantitative
effects of financial misstatements. This dual approach includes both an income
statement focused assessment and a balance sheet focused assessment. The
guidance in SAB 108 must be applied to annual financial statements for fiscal
years ending after November 15, 2006.
11
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
(14) SEGMENT INFORMATION
The Company's three reportable segments, organized by product, are as follows:
o Health Sciences - includes the active ingredients for generic
pharmaceuticals, vitamins, and nutritional supplements, as well
as products used in preparing pharmaceuticals, primarily by
major innovative drug companies, and biopharmaceuticals.
o Chemicals & Colorants - products include a variety of specialty
chemicals used in plastics, resins, adhesives, coatings, food,
flavor additives, fragrances, cosmetics, metal finishing,
electronics, air-conditioning systems and many other areas; dye
and pigment intermediates used in the color-producing industries
like textiles, inks, paper, and coatings; intermediates used in
the production of agrochemicals.
o Agrochemicals - crop protection products including herbicides,
fungicides and insecticides, as well as a sprout inhibitor for
potatoes.
The former Institutional Sanitary Supplies segment reported in prior years,
which included cleaning solutions, fragrances and deodorants for commercial and
industrial customers, was successfully divested from the Company's ongoing
business. During June 2005, the Company entered into an agreement to sell the
majority of the product lines formulated and marketed by CDC, which was one of
the two subsidiaries forming the Institutional Sanitary Supplies segment. The
sale of certain product lines of CDC was completed on August 24, 2005. Excluded
from the sale of CDC's product lines was Anti-Clog, an EPA-registered biocide
that has a unique delivery system and is used in commercial air-conditioning
systems, the results of which are included in the Chemicals & Colorants segment.
On September 6, 2005, the Company completed the sale of certain assets of Magnum
Research Corp., the remaining subsidiary forming part of the former
Institutional Sanitary Supplies segment, the operating results of which are
included in discontinued operations in the consolidated statements of income.
The Company does not allocate assets by segment. The Company's chief operating
decision maker evaluates performance of the segments based on net sales and
gross profit. The Company does not allocate assets by segment because the chief
operating decision maker does not review the assets by segment to assess the
segments' performance, as the assets are managed on an entity-wide basis.
Three Months Ended September 30, 2006 and 2005:
Health Chemicals & Consolidated
Sciences Colorants Agrochemicals Totals
-------- --------- ------------- ------
2006
----
Net sales $ 42,504 $ 28,842 $ 3,379 $ 74,725
Gross profit 8,266 4,126 787 13,179
Unallocated cost of sales (1) (288)
--------
Net gross profit $ 12,891
========
2005
----
Net sales $ 44,664 $ 26,160 $ 4,169 $ 74,993
Gross profit 8,833 4,089 656 13,578
Unallocated cost of sales (1) (1,075)
--------
Net gross profit $ 12,503
========
(1) Represents certain freight and storage costs not allocated to a particular
segment. As a result of certain system improvements, certain freight and storage
costs which previously were not able to be identified to a particular segment in
the prior period, have now been included within the segment. Therefore, the
unallocated portion of
12
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
certain freight and storage costs was lower in the current period. Total Company
gross profit and margin were not affected by this allocation.
Net sales and gross profit by location for the three months ended September 30,
2006 and 2005 and long-lived assets by location as of September 30, 2006 and
June 30, 2006 were as follows:
Net Sales Gross Profit Long-Lived Assets
--------------------- --------------------- ---------------------
Three months ended Three months ended As of
September 30, September 30, September 30, June 30,
2006 2005 2006 2005 2006 2006
------- ------- ------- ------- ------- -------
United States $42,702 $46,016 $ 6,766 $ 6,681 $ 3,016 $ 3,033
Germany 15,788 14,862 4,295 4,037 3,955 4,061
Netherlands 2,326 3,165 429 461 173 179
France 5,007 3,102 543 401 76 80
Asia-Pacific 8,902 7,848 858 923 2,994 2,999
------- ------- ------- ------- ------- -------
Total $74,725 $74,993 $12,891 $12,503 $10,214 $10,352
======= ======= ======= ======= ======= =======
13
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders
Aceto Corporation
We have reviewed the consolidated balance sheet of Aceto Corporation and
subsidiaries as of September 30, 2006 and the related consolidated statement of
income for the three-month period ended September 30, 2006, and the related
consolidated statement of cash flows for the three-month period ended September
30, 2006 included in the accompanying Securities and Exchange Commission Form
10-Q for the period ended September 30, 2006. These interim financial statements
are the responsibility of the Company's management.
We conducted our review in accordance with standards of the Public Company
Accounting Oversight Board (United States). A review of interim financial
information consists principally of applying analytical procedures and making
inquiries of persons responsible for financial and accounting matters. It is
substantially less in scope than an audit conducted in accordance with the
standards of the Public Company Accounting Oversight Board, the objective of
which is the expression of an opinion regarding the financial statements taken
as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the consolidated financial statements referred to above for them to
be in conformity with accounting principles generally accepted in the United
States of America.
We have previously audited, in accordance with standards of the Public Company
Accounting Oversight Board, the consolidated balance sheet of Aceto Corporation
and subsidiaries as of June 30, 2006, and the related consolidated statements of
income, shareholders' equity and comprehensive income and cash flows for the
year then ended (not presented herein); and in our report dated September 6,
2006, we expressed an unqualified opinion on those consolidated financial
statements. In our opinion, the information set forth in the accompanying
consolidated balance sheet as of June 30, 2006, is fairly stated, in all
material respects, in relation to the consolidated balance sheet from which it
has been derived.
/s/ BDO SEIDMAN LLP
Melville, New York
November 8, 2006
14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
CAUTIONARY STATEMENT RELATING TO THE SAFE HARBOR PROVISIONS OF THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995
This Quarterly Report on Form 10-Q and the information incorporated by reference
includes "forward-looking statements" within the meaning of section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
We intend those forward looking-statements to be covered by the safe harbor
provisions for forward-looking statements. All statements regarding our expected
financial position and operating results, our business strategy, our financing
plans and the outcome of any contingencies are forward-looking statements. Any
such forward-looking statements are based on current expectations, estimates and
projections about our industry and our business. Words such as "anticipates,"
"expects," "intends," "plans," "believes," "seeks," "estimates," or variations
of those words and similar expressions are intended to identify such
forward-looking statements. Forward-looking statements are subject to risks and
uncertainties that could cause actual results to differ materially from those
set forth or implied by any forward-looking statements. Factors that could cause
actual results to differ materially from forward-looking statements include, but
are not limited to, unforeseen environmental liabilities, uncertain military,
political and economic conditions in the world, the mix of products sold and the
profit margins thereon, order cancellation or a reduction in orders from
customers, the nature and pricing of competing products, the availability and
pricing of key raw materials, dependence on key members of management, risks of
entering into new European markets, continued successful integration of
acquisitions, and economic and political conditions in the United States and
abroad. We undertake no obligation to update any such forward-looking
statements.
NOTE REGARDING DOLLAR AMOUNTS
In this quarterly report, all dollar amounts are expressed in thousands, except
for share prices and per-share amounts.
EXECUTIVE SUMMARY
We are reporting net sales of $74,725 for the three months ended September 30,
2006, which represents less than a 1% decrease from the $74,993 reported in the
comparable prior period. Gross profit for the three months ended September 30,
2006 was $12,891 and our gross margin was 17.3% as compared to gross profit of
$12,503 and gross margin of 16.7% in the comparable prior period. Our selling,
general and administrative costs for the three months ended September 30, 2006
decreased to $9,404, a decrease of 9.2% over the $10,362 we reported in the
prior period. Our net income increased to $2,462, or $0.10 per diluted share, an
increase of 24.7% compared to the prior period.
Our financial position as of September 30, 2006, remains strong, as we had cash
of $36,261, working capital of $108,297, no long-term debt and shareholders'
equity of $118,161.
Our ongoing business is separated into three segments: Health Sciences,
Chemicals & Colorants and Agrochemicals.
The Health Sciences segment is our largest segment both in sales and gross
profits. This segment is comprised of APIs, pharmaceutical intermediates,
diagnostic chemicals, biopharmaceuticals and nutritional supplements. We
typically partner with both customers and suppliers years in advance of a drug
coming off patent to provide the generic equivalent.
We have a pipeline of new generic products poised to reach commercial levels
over the coming years as the patents on existing drugs expire, both in the
United States and Europe. In addition, as new members join the European Union,
primarily from Eastern Europe, they become subject to the same regulatory
standards as their Western European counterparts. Given our regulatory
expertise, we believe that this represents an opportunity for us, and we believe
we are well positioned to take advantage of that opportunity.
The Chemicals & Colorants segment supplies chemicals used in the color-producing
industries such as the textiles, ink, paper and coatings industries, as well as
chemicals used in plastic, resins, adhesives, coatings, food, flavor additives,
air-conditioning systems, and the production of agrochemicals. Our customers for
these products are
15
predominantly located in the United States, and we purchase the products
primarily from manufacturers located in China and Western Europe.
The Agrochemicals segment sells crop protection products including herbicides,
pesticides, and other agricultural chemicals to customers primarily located in
the United States and Western Europe. Our joint venture with Nufarm, which
markets Butoxone (R), is expected to increase our market share of the peanut,
soybean and alfalfa herbicide markets.
Our main business strengths are sourcing, regulatory support, quality control,
marketing and distribution. We are currently the largest buyer of pharmaceutical
and specialty chemicals for export from China, purchasing from over 500
different factories.
In this Management's Discussion and Analysis section, we explain our general
financial condition and results of operations, including the following:
o factors that affect our business
o our earnings and costs in the periods presented
o changes in earnings and costs between periods
o sources of earnings
o the impact of these factors on our overall financial condition
As you read this Management's Discussion and Analysis section, refer to the
accompanying consolidated statements of income, which present the results of our
operations for the three months ended September 30, 2006 and 2005. We analyze
and explain the differences between periods in the specific line items of the
consolidated statements of income.
CRITICAL ACCOUNTING ESTIMATES AND POLICIES
As disclosed in our Form 10-K for the year ended June 30, 2006, the discussion
and analysis of our financial condition and results of operations is based on
our consolidated financial statements, which have been prepared in accordance
with U.S. generally accepted accounting principles. In preparing these financial
statements, we were required to make estimates and assumptions that affect the
amounts of assets, liabilities, revenues and expenses, and related disclosure of
contingent assets and liabilities. We regularly evaluate our estimates including
those related to allowances for bad debts, inventories, goodwill and intangible
assets, environmental and other contingencies, and income taxes. We base our
estimates on various factors, including historical experience, advice from
outside subject-matter experts, and various assumptions that we believe to be
reasonable under the circumstances, which together form the basis for our making
judgments about the carrying values of assets and liabilities that are not
readily apparent from other sources. Actual results may differ from these
estimates.
Since June 30, 2006, there have been no significant changes to the assumptions
and estimates related to those critical accounting estimates and policies.
16
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 2006 COMPARED TO THREE MONTHS ENDED SEPTEMBER
30, 2005
Net Sales By Segment
Three months ended September 30,
Comparison 2006
2006 2005 Over/(Under) 2005
---- ---- -----------------
% of % of $ %
Segment Net Sales Total Net Sales Total Change Change
------- --------- ----- --------- ----- ------ ------
Health Sciences $42,504 56.9% $44,664 59.6% $(2,160) (4.8)%
Chemicals & Colorants 28,842 38.6 26,160 34.8 2,682 10.3
Agrochemicals 3,379 4.5 4,169 5.6 (790) (18.9)
------- ----- ------- ----- ------- -----
Net sales $74,725 100.0% $74,993 100.0% $ (268) (0.4%)
======= ===== ======= ===== ======= =====
Gross Profit By Segment
Three months ended September 30,
Comparison 2006
2006 2005 Over/(Under) 2005
---- ---- -----------------
Gross % of Gross % of $ %
Segment Profit Sales Profit Sales Change Change
------- ------ ----- ------ ----- ------ ------
Health Sciences $ 8,266 19.4% $ 8,833 19.8% $ (567) (6.4)%
Chemicals & Colorants 4,126 14.3 4,089 15.6 37 0.9
Agrochemicals 787 23.3 656 15.7 131 20.0
------ ----- ------ ----- ------ -----
Segment gross profit 13,179 17.6 13,578 18.1 (399) (2.9)
Freight and storage costs (1) (288) (0.3) (1,075) (1.4) 787 73.2
------ ----- ------ ----- ------ -----
Gross Profit $ 12,891 17.3% $ 12,503 16.7% $ 388 3.1%
====== ===== ====== ===== ======= =====
(1) Represents certain freight and storage costs that are not allocated to a
segment.
17
NET SALES
Net sales decreased $268, or less than 1%, to $74,725 for the three months ended
September 30, 2006, compared with $74,993 for the prior period. We reported a
sales decrease in our Health Sciences and Agrochemicals segments which was
partially offset by a sales increase in our Chemicals & Colorants segment, as
explained below.
HEALTH SCIENCES
Net sales for the Health Sciences segment decreased by $2,160 for the three
months ended September 30, 2006, to $42,504, which represents a 4.8% decrease
from net sales of $44,664 for the prior period. This decrease is the result of a
decrease of $4,742 in the generics product group relating to an expected
decrease from one particular product due to its normal selling pattern, which
accounted for over 80% of the decrease. This decrease was partially offset by
increases in pharmaceutical intermediates sales of $1,007 and the nutritionals
product group of $338. In addition, foreign sales increased $1,128 over the same
period in the prior year.
CHEMICALS & COLORANTS
Net sales for the Chemicals & Colorants segment were $28,842 for the three
months ended September 30, 2006, compared to $26,160 for the prior period. This
increase of $2,682, or 10.3%, over the prior period is partially attributable to
a steady increase in the number of products being offered by our foreign
subsidiaries. Sales of Chemicals & Colorants products by our foreign
subsidiaries for the three months ended September 30, 2006, showed an increase
of $1,918 over the prior period. Our chemical business is diverse in terms of
products, customers and consuming markets. One customer within our color-pigment
and pigment-intermediate business, whose contract expired in fiscal 2006,
purchased $1,700 during the three months ended September 30, 2005 as compared to
zero in the current period. This reduction was more than offset by increased
sales of agricultural intermediates, pigment intermediates and other
intermediates which together increased $1,591 over the prior period and coatings
which increased $2,382.
AGROCHEMICALS
Net sales for the Agrochemical segment decreased to $3,379 for the three months
ended September 30, 2006, a decrease of $790, or 18.9%, from net sales of $4,169
for the prior period. The extremely dry weather conditions, particularly in the
south, caused a decline in sales. In particular, sales of three products
decreased $1,130 over the prior period. This decline was partially offset by a
$493 increase in sales of our largest product group.
GROSS PROFIT
Gross profit increased $388 to $12,891 (17.3% of net sales) for the three months
ended September 30, 2006, as compared to $12,503 (16.7% of net sales) for the
prior period.
HEALTH SCIENCES
Health Sciences' gross profit of $8,266 for the three months ended September 30,
2006, was $567 or 6.4% lower than the prior period. This decrease in gross
profit was directly attributed to the expected decrease in sales of one
particular product in the generics product group as described above which
represented a $301 decline in gross profit. In addition, gross profit from our
foreign operations declined $312 as compared to the prior period due to a shift
in product mix to lower margin products.
CHEMICALS & COLORANTS
Gross profit for the three months ended September 30, 2006, increased by $37, or
less than 1%, over the prior period. An increase in gross profit from categories
such as coatings and our foreign operations were the primary reasons for this
improvement. The gross margin was 14.3% for the three months ended September 30,
2006 compared to 15.6% for the prior period. The decrease in the gross margin
was partly attributable to the increased allocation of certain freight and
storage costs compared to the prior period as further described below.
18
AGROCHEMICALS
Gross profit for the Agrochemicals segment increased to $787 for the three
months ended September 30, 2006, versus $656 for the prior period, an increase
of $131 or 20.0%. Gross margin for the quarter was 23.3% compared to the prior
period gross margin of 15.7%. The increase is primarily attributable to the
increased sales of our largest selling product which accounted for an increase
of $130 in gross profit, which includes our product expansion into Eastern
Europe.
UNALLOCATED FREIGHT AND STORAGE COSTS
Unallocated cost of sales decreased $787, to $288 for the three months ended
September 30, 2006 compared to $1,075 in the prior period, representing a 73.2%
decrease. As a result of certain system improvements, certain freight and
storage costs which previously were not able to be identified to a particular
segment in the prior period, have now been included within the applicable
segment. Therefore, the unallocated portion of certain freight and storage costs
was lower in the current period. Total company gross profit and margin were not
affected by this allocation.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses ("SG&A") decreased $958, or 9.2%,
to $9,404 for the three months ended September 30, 2006 compared to $10,362 for
the prior period. As a percentage of sales, SG&A decreased to 12.6% for the
three months ended September 30, 2006 versus 13.8% for the prior period. The
decrease in SG&A relates primarily to a legal settlement charge recorded in the
prior period of $537 as well as lower operating expenses of $428 resulting from
the sale of one of our subsidiaries in August 2005.
OPERATING INCOME
For the three months ended September 30, 2006, operating income was $3,487
compared to $2,141 in the prior period, an increase of $1,346 or 62.9%. This
increase was due to the overall increase in gross profit of $388 and the $958
decrease in SG&A expenses.
INTEREST AND OTHER INCOME (EXPENSE)
Interest and other income was $201 for the three months ended September 30,
2006, which represents a decrease of $582 over the prior period. The decrease is
primarily attributable to a decrease of $406 for a government subsidy paid
annually for doing business in a free trade zone in Shanghai, China. The lower
government subsidy was due to lower taxable income in the jurisdiction as well
as a lower subsidy rate.
PROVISION FOR INCOME TAXES
The effective tax rate for the three months ended September 30, 2006 increased
to 33.0% from 31.0% for the prior period. The increase in the effective tax rate
was primarily due to increased earnings in foreign tax jurisdictions with higher
tax rates, primarily Germany, and reduced earnings in foreign tax jurisdictions
with lower tax rates, primarily Shanghai.
DISCONTINUED OPERATIONS
In accordance with SFAS No. 144, "Accounting for the Impairment or Disposal of
Long-lived Assets," the results of operations for one of the subsidiaries
forming part of the Institutional Sanitary Supplies segment have been recorded
as discontinued operations in the accompanying consolidated statements of
income. The net loss from discontinued operations was $27 for the three months
ended September 30, 2005, which includes a loss on the sale of the business of
$22 net of income taxes.
19
LIQUIDITY AND CAPITAL RESOURCES
CASH FLOWS
At September 30, 2006, we had $36,261 in cash, $5,347 in short-term investments
and no short-term bank loans. Working capital was $108,297 at September 30,
2006, versus $104,707 at June 30, 2006.
Our cash position at September 30, 2006, increased $2,529 from the amount at
June 30, 2006. Operating activities provided cash of $4,581, primarily due net
income of $2,462 and changes in assets and liabilities. Investing activities
used cash of $2,184, primarily as a result of purchases of investments of
$2,001. Financing activities provided cash of $17 primarily as a result of
proceeds from the exercise of stock options of $13.
CREDIT FACILITIES
We have available credit facilities with certain foreign financial institutions.
These facilities provide us with a line of credit of $18,713, of which $284 in
letters of credit was utilized, leaving $18,429 of this facility unused as of
September 30, 2006. We are not subject to any financial covenants under these
arrangements.
We have a revolving credit agreement with a domestic financial institution that
expires June 30, 2007, and provides for available credit of $10,000. At
September 30, 2006, we had utilized $1,351 in letters of credit, leaving $8,649
of this facility unused. Under the credit agreement, we may obtain credit
through direct borrowings and letters of credit. Our obligations under the
credit agreement are guaranteed by certain of our subsidiaries and are secured
by 65% of the capital of certain of our non-domestic subsidiaries. There is no
borrowing base on the credit agreement. Interest under the credit agreement is
at LIBOR plus 1.50%. The credit agreement contains several covenants requiring,
among other things, minimum levels of debt service and tangible net worth. We
are also subject to certain restrictive debt covenants, including covenants
governing liens, limitations on indebtedness, limitations on cash dividends,
guarantees, sale of assets, sales of receivables, and loans and investments. We
were in compliance with all covenants at September 30, 2006.
WORKING CAPITAL OUTLOOK
Working capital was $108,297 at September 30, 2006, versus $104,707 at June 30,
2006. The increase in working capital was primarily attributable to net income
during the quarter. We continually evaluate possible acquisitions of or
investments in businesses that are complementary to our own, and such
transactions may require the use of cash. We believe that our cash, other liquid
assets, operating cash flows, borrowing capacity and access to the equity
capital markets, taken together, provide adequate resources to fund ongoing
operating expenditures and the anticipated continuation of semi-annual cash
dividends for the next twelve months. We may obtain additional credit facilities
to enhance our liquidity.
20
OFF-BALANCE SHEET ARRANGEMENTS AND COMMITMENTS AND CONTINGENCIES
We have no material financial commitments other than those under operating lease
agreements, letters of credit and unconditional purchase obligations. We have
certain contractual cash obligations and other commercial commitments which will
impact our short-term and long-term liquidity. At September 30, 2006, we had no
significant obligations for capital expenditures. At September 30, 2006,
contractual cash obligations and other commercial commitments were as follows:
Payments Due and/or
Amount of Commitment
Expiration Per Period
---------------------
Less Than 1-3 4-5 After
Total 1 Year Years Years 5 Years
------- ------- ------- ------- -------
Operating leases $ 5,872 $ 1,533 $ 2,628 $ 1,634 $ 77
Commercial letters of credit
1,635 1,635 - - -
Standby letters of credit 174 174 - - -
Unconditional purchase
obligations 52,122 52,122 - - -
------- ------- ------- ------- -------
$59,803 $55,464 $ 2,628 $ 1,634 $ 77
Total
Other significant commitments and contingencies include the following:
1. Our non-qualified deferred compensation plans are intended to
provide certain executives with supplemental retirement benefits
beyond our 401(k) plan, as well as to permit additional deferral
of a portion of their compensation. All compensation deferred
under the plans is held by us in a grantor trust, which is
considered our asset. We had a liability under the plan of
$3,096 and the assets held by the grantor trust amounted to
$2,803 as of September 30, 2006.
2 One of our subsidiaries markets certain agricultural chemicals
which are subject to the Federal Insecticide, Fungicide and
Rodenticide Act ("FIFRA"). FIFRA requires that test data be
provided to the Environmental Protection Agency ("EPA") to
register, obtain and maintain approved labels for pesticide
products. The EPA requires that follow-on registrants of these
products compensate the initial registrant for the cost of
producing the necessary test data on a basis prescribed in the
FIFRA regulations. Follow-on registrants do not themselves
generate or contract for the data. However, when FIFRA
requirements mandate that new test data be generated to enable
all registrants to continue marketing a pesticide product, often
both the initial and follow-on registrants establish a task
force to jointly undertake the testing effort. We are presently
a member of two such task force groups and historically, our
payments have been in the range of $250 - $500 per year. We may
be required to make additional payments in the future.
3. We, together with our subsidiaries, are subject to pending and
threatened legal proceedings that have arisen in the normal
course of business. We do not know how the final resolution of
these matters will affect our results of operations in a
particular reporting period. Our management is of the opinion,
however, that the ultimate outcome of such matters will not have
a material adverse effect upon our financial condition or
liquidity.
21
RELATED PARTY TRANSACTIONS
Two of our directors are affiliated with law firms that serve as our legal
counsel on various corporate matters. For the three months ended September 30,
2006 and 2005, we incurred legal fees of $118 and $114, respectively, for
services rendered to the Company by those law firms. The fees charged by those
firms were at rates comparable to rates obtainable from other firms for similar
services.
IMPACT OF NEW ACCOUNTING PRONOUNCEMENTS
In June 2005, the Financial Accounting Standards Board ("FASB") issued SFAS No.
154, "Accounting Changes and Error Corrections", a replacement of APB Opinion
No. 20, Accounting Changes, and FASB SFAS No. 3, Reporting Accounting Changes in
Interim Financial Statements. SFAS No. 154 applies to all voluntary changes in
accounting principles and changes the requirements for accounting for and
reporting of a change in accounting principle. SFAS No. 154 requires
retrospective application to prior periods' financial statements of a voluntary
change in accounting principle unless it is impracticable. SFAS No. 154 also
requires that a change in method of depreciation, amortization, or depletion for
long-lived, non-financial assets be accounted for as a change in accounting
estimate that is affected by a change in accounting principle. SFAS No. 154 is
effective for accounting changes and corrections of errors made in fiscal years
beginning after December 15, 2005. Earlier application is permitted for
accounting changes and corrections of errors occurring in fiscal years beginning
after June 1, 2005. SFAS No. 154 does not change the transition provisions of
any existing accounting pronouncements, including those that are in a transition
phase as of the date of SFAS No. 154. We do not believe that adoption of SFAS
No. 154 will have a material impact on our consolidated financial position or
results of operations.
In June 2006, the FASB issued FASB Interpretation ("FIN") No. 48 "Accounting for
Uncertainty in Income Taxes - an interpretation of FASB Statement 109". FIN 48
prescribes a comprehensive model for recognizing, measuring, presenting and
disclosing in the financial statements tax positions taken or expected to be
taken on a tax return. FIN 48 is effective for fiscal years beginning after
December 15, 2006. We are currently assessing the impact of FIN 48 on our
consolidated financial position and results of operations.
In September 2006, the FASB issued SFAS No. 157, "Fair Value Measurements" (SFAS
No. 157). SFAS No. 157 establishes a common definition for fair value to be
applied to US GAAP guidance requiring use of fair value, establishes a framework
for measuring fair value, and expands disclosure about such fair value
measurements. SFAS No. 157 is effective for fiscal years beginning after
November 15, 2007. We are currently assessing the impact of SFAS No. 157 on our
consolidated financial position and results of operations.
In September 2006, the FASB issued SFAS No. 158, "Employers' Accounting for
Defined Benefit Pension and Other Postretirement Plans" (SFAS No. 158). SFAS No.
158 requires that employers recognize on a prospective basis the funded status
of their defined benefit pension and other postretirement plans on their
consolidated balance sheet and recognize as a component of other comprehensive
income, net of tax, the gains or losses and prior service costs or credits that
arise during the period but are not recognized as components of net periodic
benefit cost. SFAS No. 158 also requires additional disclosures in the notes to
financial statements. SFAS No. 158 is effective as of the end of fiscal years
ending after December 15, 2006. We are currently assessing the impact of SFAS
No. 158 on our consolidated financial statements but do not expect that it will
have a material impact on our consolidated financial position or results of
operations.
In September 2006, the SEC staff issued Staff Accounting Bulletin ("SAB") 108
"Considering the Effects of Prior Year Misstatements when Quantifying
Misstatements in Current Year Financial Statements" (SAB 108). SAB 108 requires
that public companies utilize a "dual-approach" to assessing the quantitative
effects of financial misstatements. This dual approach includes both an income
statement focused assessment and a balance sheet focused assessment. The
guidance in SAB 108 must be applied to annual financial statements for fiscal
years ending after November 15, 2006.
22
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
MARKET RISK SENSITIVE INSTRUMENTS
The market risk inherent in our market-risk-sensitive instruments and positions
is the potential loss arising from adverse changes in investment market prices,
foreign currency exchange-rates and interest rates.
INVESTMENT MARKET PRICE RISK
We had short-term investments of $5,347 at September 30, 2006. Those short-term
investments consisted of government and agency securities, corporate bonds and
corporate equity securities, and they were recorded at fair value and had
exposure to price risk. If this risk is estimated as the potential loss in fair
value resulting from a hypothetical 10% adverse change in prices quoted by stock
exchanges, the effect of that risk would be $535 as of September 30, 2006.
Actual results may differ.
FOREIGN CURRENCY EXCHANGE RISK
In order to reduce the risk of foreign currency exchange rate fluctuations, we
hedge some of our transactions denominated in a currency other than the
functional currencies applicable to each of our various entities. The
instruments used for hedging are short-term foreign currency contracts
(futures). The changes in market value of such contracts have a high correlation
to price changes in the currency of the related hedged transactions. At
September 30, 2006, we had foreign currency contracts outstanding that had a
notional amount of $10,923. The difference between the fair market value of the
foreign currency contracts and the related commitments at inception and the fair
market value of the contracts and the related commitments at September 30, 2006,
was not material.
In addition, we enter into cross currency interest rate swaps to reduce foreign
currency exposure on inter-company transactions. In May 2003 we entered into a
five-year cross currency interest rate swap transaction for the purpose of
hedging fixed-interest-rate, foreign-currency-denominated cash flows under an
inter-company loan. Under the terms of the derivative financial instrument, U.S.
dollar fixed principal and interest payments to be received under the
inter-company loan will be swapped for Euro denominated fixed principal and
interest payments. The change in fair value of the swap from date of purchase to
September 30, 2006, was $(146). The gains or losses on the inter-company loan
due to changes in foreign currency rates will be offset by the gains or losses
on the swap in the accompanying consolidated statements of income. Since our
interest rate swap qualifies as a hedging activity, the change in their fair
value, amounting to $(90) and $(91) for the three months ended September 30,
2006 and 2005, respectively, is recorded in accumulated other comprehensive
income included in the accompanying consolidated balance sheets.
We are subject to risk from changes in foreign exchange rates for our
subsidiaries that use a foreign currency as their functional currency and are
translated into U.S. dollars. These changes result in cumulative translation
adjustments, which are included in accumulated other comprehensive income. On
September 30, 2006, we had translation exposure to various foreign currencies,
with the most significant being the Euro and the Chinese Renminbi. The potential
loss as of September 30, 2006, resulting from a hypothetical 10% adverse change
in quoted foreign currency exchange rates amounted to $8,262. Actual results may
differ.
INTEREST RATE RISK
Due to our financing, investing and cash-management activities, we are subject
to market risk from exposure to changes in interest rates. We utilize a balanced
mix of debt maturities along with both fixed-rate and variable-rate debt to
manage our exposure to changes in interest rates. Our financial instrument
holdings at year-end were analyzed to determine their sensitivity to interest
rate changes. In this sensitivity analysis, we used the same change in interest
rate for all maturities. All other factors were held constant. If there were an
adverse change in interest rates of 10%, the expected effect on net income
related to our financial instruments would be immaterial. However, there can be
no assurances that interest rates will not significantly affect our results of
operations.
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ITEM 4. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
Our disclosure controls and procedures (as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange
Act")) are designed to ensure that information required to be disclosed in the
reports that we file or submit under the Exchange Act is recorded, processed,
summarized and reported within the time periods specified in the rules and forms
of the Securities and Exchange Commission. Our chief executive officer and chief
financial officer, with assistance from other members of our management, have
reviewed the effectiveness of our disclosure controls and procedures as of
September 30, 2006 and, based on their evaluation, have concluded that the
disclosure controls and procedures were effective as of such date.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
There has been no change in our internal control over financial reporting (as
defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act) that occurred
during the first quarter of fiscal 2007 that has materially affected, or is
reasonably likely to materially affect, our internal control over financial
reporting.
LIMITATIONS ON THE EFFECTIVENESS OF INTERNAL CONTROL
Our management, including our chief executive officer and chief financial
officer, does not expect that our disclosure controls and procedures or our
internal controls will prevent all error and all fraud. A control system, no
matter how well conceived and operated, can provide only reasonable, not
absolute, assurance that the objectives of the control system are met. Further,
the design of a control system must reflect the fact that the benefits of
controls must be considered relative to their costs. Because of the inherent
limitations in any control system, no evaluation of controls can provide
absolute assurance that all control issues and instances of fraud, if any,
within a company have been detected.
PART II. OTHER INFORMATION
ITEM 1A. RISK FACTORS
In addition to the other information set forth in this report, you should
carefully consider the risk factors disclosed under Part I - "Item 1A. Risk
Factors" in our Form 10-K for the year ended June 30, 2006 which could
materially adversely affect our business, financial condition, operating results
and cash flows. The risks and uncertainties described in our Form 10-K for the
year ended June 30, 2006 are not the only ones we face. Additionally, risks and
uncertainties not currently known to us or that we currently deem immaterial
also may materially adversely affect our business, financial condition,
operating results or cash flows.
ITEM 6. EXHIBITS
The exhibits filed as part of this report are listed below.
15.1 Letter of independent registered public accounting firm re: unaudited
interim financial information
31.1 Certification by President and CEO Leonard S. Schwartz pursuant to
U.S.C. Section 1350, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certification by CFO Douglas Roth pursuant to U.S.C. Section 1350, as
adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification by President and CEO Leonard S. Schwartz pursuant to
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32.2 Certification by CFO Douglas Roth pursuant to U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ACETO CORPORATION
DATE November 9, 2006 BY /s/ Douglas Roth
------------------------- ----------------
Douglas Roth, Chief Financial Officer
DATE November 9, 2006 BY /s/ Leonard S. Schwartz
------------------------- -----------------------
Leonard S. Schwartz, Chairman,
President and Chief Executive Officer
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