U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB
(Mark One)
[ X ] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE FISCAL YEAR ENDED JUNE 30, 2003
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
--------------- ---------------
Commission File No. 0-9036
LANNETT COMPANY, INC.
(Name of small business issuer in its charter)
STATE OF DELAWARE 23-0787-699
State of Incorporation I.R.S. Employer I.D. No.
9000 STATE ROAD
PHILADELPHIA, PENNSYLVANIA 19136
(215) 333-9000
(Address of principal executive offices and telephone number)
Securities registered under Section 12(b) of the Exchange Act:
NONE
Securities registered under Section 12(g) of the Exchange Act:
COMMON STOCK, $.001 PAR VALUE
(Title of class)
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 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
--- ---
Check if there is no disclosure of delinquent filers in response to
Item 405 of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB.
Yes No X
--- ---
The issuer had net sales of $42,486,758 for the fiscal year ended June
30, 2003.
As of August 26, 2003, the aggregate market value of the voting stock
held by non-affiliates was approximately $106,812,000 computed by reference to
the closing price of the stock on the American Stock Exchange.
As of August 26, 2003, there were 20,045,390 shares of the issuer's
common stock, $.001 par value, outstanding.
Page 1 of 65 pages
Exhibit Index on Page 51
PART I
ITEM 1. DESCRIPTION OF BUSINESS
GENERAL
Lannett Company, Inc. (the "Company") was incorporated in 1942 under
the laws of the Commonwealth of Pennsylvania. In 1991, the Company merged into
Lannett Company, Inc., a Delaware corporation. The sole purpose of the merger
was to reincorporate the Company as a Delaware corporation. The Company
develops, manufactures, packages, markets and distributes pharmaceutical
products sold under generic chemical names. References herein to a fiscal year
refer to the Company's fiscal year ending June 30.
PRODUCTS
As of the date of this filing, the Company manufactured and/or
distributed twenty-three products:
NAME OF PRODUCT MEDICAL INDICATION EQUIVALENT BRAND
NAME PRODUCT
1.) Butalbital, Aspirin and
Caffeine Capsules Migraine Headache Fiorinal(R)
2.) Butalbital, Aspirin, Caffeine
with Codeine Capsules Migraine Headache Fiorinal(R)with Codeine
3.) Digoxin 0.125 mg Tablets Heart Failure Lanoxin(R)
4.) Digoxin 0.25 mg Tablets Heart Failure Lanoxin(R)
5.) Primidone 50 mg Tablets Epilepsy Mysoline(R)
6.) Primidone 250 mg Tablets Epilepsy Mysoline(R)
7.) Dicyclomine 10 mg Capsules Irritable Bowels Bentyl(R)
8.) Dicyclomine 20 mg Tablets Irritable Bowels Bentyl(R)
9.) Acetazolamide 250 mg Tablets Glaucoma Diamox(R)
10.) Prednisolone 5 mg Tablets Corticosteroid Not applicable
11.) Diphenoxylate with Atropine
Sulfate Tablets Diarrhea Lomotil(R)
12.) Isoniazid 300 mg Tablets Tuberculosis Not applicable
13.) Levothyroxine Sodium 0.025 mg Tablets Thyroid Deficiency Unithroid(R)
14.) Levothyroxine Sodium 0.050 mg Tablets Thyroid Deficiency Unithroid(R)
15.) Levothyroxine Sodium 0.075 mg Tablets Thyroid Deficiency Unithroid(R)
16.) Levothyroxine Sodium 0.088 mg Tablets Thyroid Deficiency Unithroid(R)
17.) Levothyroxine Sodium 0.100 mg Tablets Thyroid Deficiency Unithroid(R)
18.) Levothyroxine Sodium 0.112 mg Tablets Thyroid Deficiency Unithroid(R)
19.) Levothyroxine Sodium 0.125 mg Tablets Thyroid Deficiency Unithroid(R)
20.) Levothyroxine Sodium 0.150 mg Tablets Thyroid Deficiency Unithroid(R)
21.) Levothyroxine Sodium 0.175 mg Tablets Thyroid Deficiency Unithroid(R)
22.) Levothyroxine Sodium 0.200 mg Tablets Thyroid Deficiency Unithroid(R)
23.) Levothyroxine Sodium 0.300 mg Tablets Thyroid Deficiency Unithroid(R)
2
Additional products are currently under development. One of these
products has been redeveloped and submitted to the Food and Drug Administration
("FDA") for supplemental approval. Another is a new Abbreviated New Drug
Application ("ANDA") submitted to the FDA for approval. The remainder of the
products in development represent previously approved ANDAs which the Company is
planning to reintroduce, or new formulations which the Company will submit ANDAs
for FDA approval. In addition to the efforts of its internal product development
group, Lannett has contracted with outside firms for the formulation and
development of new generic drug products. The products under development are at
various stages in the development cycle--formulation, scale-up, and/or clinical
testing. Since the Company has no control over the FDA review process,
management is unable to anticipate whether or when it will be able to begin
producing and shipping additional products.
RAW MATERIAL AND INVENTORY SUPPLIERS
The raw materials used by the Company in the production process consist
of pharmaceutical chemicals in various forms, which are generally available from
various sources. FDA approval is required in connection with the process of
using active ingredient suppliers. In addition to the raw materials purchased
for the production process, the Company purchases certain finished dosage
inventories, including capsule and tablet products. The Company then sells these
finished dosage products directly to its customers along with the finished
dosage products internally manufactured. Currently, the only finished product
inventory supplier of the Company is Jerome Stevens Pharmaceuticals, Inc. (JSP),
in Bohemia, New York. Purchases of finished goods inventory from JSP accounted
for approximately 62% of the Company's raw material/finished goods inventory
purchases in Fiscal 2003. Another supplier accounted for 12% of the Company's
raw material/finished goods inventory purchases in Fiscal 2003. Purchases of
finished goods inventory from JSP accounted for approximately 26% of the
Company's raw material/finished goods inventory purchases in Fiscal 2002.
Another supplier accounted for 30% of the Company's raw material/finished goods
inventory purchases in Fiscal 2002. Generally, the raw materials purchased from
suppliers are available from a number of vendors. The finished products
purchased from JSP may not be available from other sources due to the limited
number of FDA approvals of competitive products. If suppliers of a certain
material or finished product are limited, the Company will generally take
certain precautionary steps to avoid a disruption in supply. This includes
building a satisfactory inventory level, and obtaining contractual supply
commitments.
CUSTOMERS AND MARKETING
The Company sells its products primarily to wholesale distributors,
generic drug distributors, mail-order pharmacies, drug chains, and other
pharmaceutical companies. Sales of the Company's pharmaceutical products are
made on an individual order basis. One customer accounted for approximately 13%
of net sales in Fiscal 2003. Another customer accounted for approximately 12%
and 22% of net sales in Fiscal 2003 and Fiscal 2002, respectively. Another
customer accounted for 19% of net sales in Fiscal 2002. The Company performs
ongoing credit evaluations of its customers' financial condition, and has
experienced no significant collection problems to date. Generally, the Company
requires no collateral from its customers.
3
COMPETITION
The manufacture and distribution of generic pharmaceutical products is
a highly competitive industry. Competition is based primarily on price, service
and quality. The Company competes primarily on this basis, as well as by
flexibility, availability of inventory, and by the fact that the Company's
products are available only from a limited number of suppliers. The
modernization of its facilities, hiring of experienced staff, and implementation
of inventory and quality control programs have improved the Company's
competitive position over the past five years.
GOVERNMENT REGULATION
Pharmaceutical manufacturers are subject to extensive regulation by the
federal government, principally by the FDA and the Drug Enforcement Agency
("DEA"), and, to a lesser extent, by other federal regulatory bodies and state
governments. The Federal Food, Drug and Cosmetic Act, the Controlled Substance
Act and other federal statutes and regulations govern or influence the testing,
manufacture, safety, labeling, storage, record keeping, approval, pricing,
advertising and promotion of the Company's generic drug products. Noncompliance
with applicable regulations can result in fines, recall and seizure of products,
total or partial suspension of production, personal and/or corporate prosecution
and debarment, and refusal of the government to approve new drug applications.
The FDA also has the authority to revoke previously approved drug products.
Generally, FDA approval is required before a prescription drug can be
marketed. The approval procedures are quite extensive. A new drug is one not
generally recognized by qualified experts as safe and effective for its intended
use. New drugs are typically developed and submitted to the FDA by companies
expecting to brand the product, and sell it as a new medical treatment. The FDA
review process for new drugs is very extensive; and it requires a substantial
investment to research and test the drug candidate. However, less burdensome
approval procedures may be used for generic equivalents. Typically, the
investment required to develop a generic drug is less costly than the brand
innovator drug. There are currently three ways to obtain FDA approval of a drug:
NEW DRUG APPLICATIONS ("NDA"): Unless one of the two procedures discussed in the
following paragraphs is available, a manufacturer must conduct and submit to the
FDA complete clinical studies to establish a drug's safety and efficacy.
ABBREVIATED NEW DRUG APPLICATIONS ("ANDA"): An ANDA is similar to an NDA, except
that the FDA waives the requirement of complete clinical studies of safety and
efficacy, although it may require bioavailability and bioequivalence studies.
The FDA has recently stated that the average review and approval time for a new
ANDA is approximately 18 months. "Bioavailability" indicates the rate of
absorption and levels of concentration of a drug in the bloodstream needed to
produce a therapeutic effect. "Bioequivalence" compares one drug product with
another, and indicates if the rate of absorption and the levels of concentration
of a generic drug in the body are within prescribed statistical limits to those
of a previously approved drug. Under the Drug Price Act, an ANDA may be
submitted for a drug on the basis that it is the equivalent of an approved drug,
regardless of when
4
such other drug was approved. The Drug Price Act, in addition to establishing a
new ANDA procedure, created statutory protections for approved brand name drugs.
Under the Drug Price Act, an ANDA for a generic drug may not be made effective
until all relevant product and use patents for the brand name drug have expired
or have been determined to be invalid. Prior to enactment of the Drug Price Act,
the FDA gave no consideration to the patent status of a previously approved
drug. Additionally, the Drug Price Act extends for up to five years the term of
a product or use patent covering a drug to compensate the patent holder for the
reduction of the effective market life of a patent due to federal regulatory
review. With respect to certain drugs not covered by patents, the Drug Price Act
sets specified time periods of two to ten years during which ANDAs for generic
drugs cannot become effective or, under certain circumstances, cannot be filed
if the brand name drug was approved after December 31, 1981.
PAPER NEW DRUG APPLICATIONS ("PAPER NDA"): For a drug that is identical to a
drug first approved after 1962, a prospective manufacturer need not go through
the full NDA procedure. Instead, it may demonstrate safety and efficacy by
relying on published literature and reports. The manufacturer must also submit,
if the FDA so requires, bioavailability or bioequivalence data illustrating that
the generic drug formulation produces the same effects, within an acceptable
range, as the previously approved innovator drug. Because published literature
to support the safety and efficacy of post-1962 drugs may not be available, this
procedure is of limited utility to generic drug manufacturers. Moreover, the
utility of Paper NDAs has been further diminished by the recently broadened
availability of the ANDA process, as described above.
Among the requirements for new drug approval is the requirement that
the prospective manufacturer's methods conform to the FDA's current good
manufacturing practices ("CGMP Regulations"). The CGMP Regulations must be
followed at all times during which the approved drug is manufactured. In
complying with the standards set forth in the CGMP Regulations, the Company must
continue to expend time, money and effort in the areas of production and quality
control to ensure full technical compliance. Failure to comply with the CGMP
Regulations risks possible FDA action such as the seizure of noncomplying drug
products or, through the Department of Justice, enjoining the manufacture of
such products.
The Company is also subject to federal, state and local laws of general
applicability, such as laws regulating working conditions, and the storage,
transportation or discharge of items that may be considered hazardous
substances, hazardous waste or environmental contaminants. The Company monitors
its compliance with all environmental laws. Compliance costs are charged against
operations when incurred. The Company incurred no monitoring costs during the
years ended June 30, 2003 and 2002.
RESEARCH AND DEVELOPMENT
During Fiscal 2003 and Fiscal 2002, the Company incurred research and
development costs of approximately $2,575,000 and $1,749,000, respectively.
EMPLOYEES
The Company currently has 160 employees, of which 158 are full-time.
5
SECURITIES EXCHANGE ACT REPORTS
The Company maintains an Internet website at the following address:
www.lannett.com. The Company makes available on or through its Internet website
certain reports and amendments to those reports that are filed with the SEC in
accordance with the Securities Exchange Act of 1934. These include annual
reports on Form 10-KSB, quarterly reports on Form 10-QSB and current reports on
Form 8-K. This information is available on the Company's website free of charge
as soon as reasonably practicable after the Company electronically files the
information with, or furnishes it to, the SEC. The contents of the Company's
website are not incorporated by reference in this Annual Report on Form 10-KSB
and shall not be deemed "filed" under the Securities Exchange Act of 1934.
ITEM 2. DESCRIPTION OF PROPERTY
The Company's headquarters, administrative offices, quality control
laboratory, and manufacturing and production facilities, consisting of
approximately 31,000 square feet, are located at 9000 State Road, Philadelphia,
Pennsylvania.
In December 1997, the Company entered into a three-year and three-month
lease for a 23,500 square foot facility located at 500 State Road, Bensalem
Bucks County, Pennsylvania. This facility houses laboratory research,
warehousing and distribution operations. The leased facility is located
approximately 1.5 miles from the Company headquarters in Philadelphia. In
January 2001, the Company extended this lease through April 30, 2004. The
Company does not expect to extend the term on this lease beyond April 30, 2004.
On July 1, 2003, the Company entered into a lease for a 62,000 square
foot facility at 9001 Torresdale Avenue, Philadelphia, Pennsylvania,
approximately 1 mile from the Company's headquarters. The lease expires on
November 30, 2003; and the Company has the contractual right and option to
purchase the facility at any time during the lease term. The Company currently
expects to exercise this purchase option prior to the lease termination date of
November 30, 2003. Prior to the expiration of the lease term at 500 State Road,
the Company is planning to move all operations currently performed at 500 State
Road to 9001 Torresdale Avenue. In addition to the laboratory research,
warehousing and distribution operations currently performed at 500 State Road,
other operational functions may be moved from the Company headquarters to 9001
Torresdale Avenue. This move will occur gradually, and will allow the Company to
maximize its FDA approved production facility at 9000 State Road for production
output.
6
ITEM 3. LEGAL PROCEEDINGS
REGULATORY PROCEEDINGS
The Company is engaged in an industry which is subject to considerable
government regulation relating to the development, manufacturing and marketing
of pharmaceutical products. Accordingly, incidental to its business, the Company
periodically responds to inquiries or engages in administrative and judicial
proceedings involving regulatory authorities, particularly the FDA and the DEA.
EMPLOYEE CLAIMS
A claim of retaliatory discrimination has been filed by a former
employee with the Pennsylvania Human Relations Commission ("PHRC") and the Equal
Employment Opportunity Commission ("EEOC"). The Company was notified of the
complaint in March 1997. The Company has denied liability in this matter. The
PHRC has made a determination that the complaint against the Company should be
dismissed because the facts do not establish probable cause of the allegations
of discrimination. The matter is still pending before the EEOC. At this time,
management is unable to estimate a range of loss, if any, related to this
action. Management believes that the outcome of this claim will not have a
material adverse impact on the financial position or results of operations of
the Company.
A claim of discrimination has been filed against the Company with the
EEOC and the PHRC. The Company was notified of the complaint in June 2001. The
Company has filed an answer with the EEOC denying the allegations. The EEOC has
made a determination that the complaint against the Company should be dismissed
because the facts do not establish probable cause of the allegations of
discrimination. The matter is still pending before the PHRC. At this time,
management is unable to estimate a range of loss, if any, related to this
action. Management believes that the outcome of this claim will not have a
material adverse impact on the financial position or results of operations of
the Company.
A claim of discrimination has been filed against the Company with the
PHRC and the EEOC. The Company was notified of the complaint in July 2001. The
Company has filed an answer with the PHRC denying the allegations. The PHRC has
made a determination that the complaint against the Company should be dismissed
because the facts do not establish probable cause of the allegations of
discrimination. The matter is still pending before the EEOC. At this time,
management is unable to estimate a range of loss, if any, related to this
action. Management believes that the outcome of this claim will not have a
material adverse impact on the financial position or results of operations of
the Company.
DES CASES
The Company is currently engaged in several civil actions as a
co-defendant with many other manufacturers of Diethylstilbestrol ("DES"), a
synthetic hormone. Prior litigation established that the Company's pro rata
share of any liability is less than one-tenth of one percent. The Company was
represented in many of these actions by the insurance company with which the
7
Company maintained coverage during the time period that damages were alleged to
have occurred. The insurance company denies coverage for actions alleging
involvement of the Company filed after January 1, 1992. With respect to these
actions, the Company paid nominal damages or stipulated to its pro rata share of
any liability. The Company has either settled or is currently defending over 500
such claims. At this time, management is unable to estimate a range of loss, if
any, related to these actions. Management believes that the outcome of these
cases will not have a material adverse impact on the financial position or
results of operations of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters have been submitted to a vote of the Company's security holders
during the quarter ended June 30, 2003.
8
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION
On April 15, 2002, the Company's common stock began trading on the
American Stock Exchange. Prior to this, the Company's common stock traded in the
over-the-counter market through the use of the inter-dealer "pink-sheets"
published by Pink Sheets LLC. The following table sets forth certain information
with respect to the high and low daily closing prices of the Company's common
stock during Fiscal 2003 and 2002, as quoted by the American Stock Exchange (on
and after April 15, 2002) and Pink Sheets LLC (prior to April 15, 2002). Such
quotations reflect inter-dealer prices without retail mark-up, markdown or
commission and may not represent actual transactions. All share and per share
amounts on this Annual Report and Form 10-KSB have been adjusted to reflect a
three-for-two stock split, which was effective on February 14, 2003.
FISCAL YEAR ENDED JUNE 30, 2003
HIGH LOW
---- ---
First quarter........................................................ $ 7.41 $ 4.63
Second quarter....................................................... $13.97 $ 5.67
Third quarter........................................................ $15.52 $11.05
Fourth quarter....................................................... $23.44 $11.36
FISCAL YEAR ENDED JUNE 30, 2002
HIGH LOW
---- ---
First quarter........................................................ $1.33 $0.69
Second quarter....................................................... $2.69 $1.13
Third quarter........................................................ $3.77 $2.13
Fourth quarter....................................................... $8.00 $3.50
HOLDERS
As of August 26, 2003, there were approximately 302 holders of record
of the Company's common stock.
9
DIVIDENDS
The Company did not pay cash dividends in Fiscal 2003 or 2002. The
Company intends to use available funds for working capital, plant and equipment
additions, and various product extension ventures. It does not anticipate paying
cash dividends in the foreseeable future.
EQUITY COMPENSATION PLAN INFORMATION
The following table summarizes the equity compensation plans as of June 30,
2003.
------------------------------------------------------------------------------------------------------------------------------
Plan Category Number of securities to be issued Weighted average exercise Number of securities
------------- upon exercise of outstanding price of outstanding remaining available for
options, warrants and rights options, warrants and rights future issuance under equity
compensation plans (excluding
(a) (b) securities reflected in
--- --- column (a)
(c)
---
------------------------------------------------------------------------------------------------------------------------------
Equity Compensation plans 411,939 $7.48 2,206,967
approved by security
holders
Equity Compensation plans - - -
not approved by security
holders
Total 411,939 $7.48 2,206,967
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
In addition to historical information, this Form 10-KSB contains
forward-looking information. The forward-looking information is subject to
certain risks and uncertainties that could cause actual results to differ
materially from those projected in the forward-looking statements. Important
factors that might cause such a difference include, but are not limited to,
those discussed in the following section entitled "Management's Discussion and
Analysis of Financial Condition and Results of Operations." Readers are
cautioned not to place undue reliance on these forward-looking statements, which
reflect management's analysis only as of the date of this Form 10-KSB. The
Company undertakes no obligation to publicly revise or update these
forward-looking statements to reflect events or circumstances, which arise
later. Readers should carefully review the risk factors described in other
documents the Company files from
10
time to time with the Securities and Exchange Commission, including the
Quarterly reports on Form 10-Q to be filed by the Company in Fiscal 2004, and
any Current Reports on Form 8-K filed by the Company. All share and per share
amounts on this Annual Report and Form 10-KSB have been adjusted to reflect a
three-for-two stock split, which was effective on February 14, 2003.
CRITICAL ACCOUNTING POLICIES
The discussion and analysis of our financial condition and results of
operations are 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 judgments that affect the reported amount of assets and
liabilities, revenues and expenses, and related disclosure of contingent assets
and liabilities at the date of our financial statements. Actual results may
differ from these estimates under different assumptions or conditions.
Critical accounting policies are defined as those that are reflective
of significant judgments and uncertainties, and potentially result in materially
different results under different assumptions and conditions. We believe that
our critical accounting policies include those described below. For a detailed
discussion on the application of these and other accounting policies, see Note 1
in the Notes to the Consolidated Financial Statements included herein.
REVENUE RECOGNITION
The Company recognizes revenue when its products are shipped. At this
point, title and risk of loss have transferred to the customer, and provisions
for estimates, including rebates, promotional adjustments, price adjustments,
returns, chargebacks, and other potential adjustments are reasonably
determinable. Accruals for these provisions are presented in the Consolidated
Financial Statements as reductions to net sales and accounts receivable.
Accounts receivable are presented net of allowances relating to these
provisions, which were approximately $2,772,000 and $630,000 at June 30, 2003
and June 30, 2002, respectively. Provisions for rebates, promotional and other
credits are estimated based on historical payment experience, estimated customer
inventory levels and contract terms. Provisions for other customer credits, such
as price adjustments, returns and chargebacks require management to make
subjective judgments. These provisions are discussed in more detail in the Notes
to the Consolidated Financial Statements. If the historical data the Company
uses, and the assumptions management makes to calculate these estimates do not
accurately approximate future activity, its net sales, gross profit, net income
and earnings per share could change. However, management believes that these
estimates are reasonable based upon historical experience and current
conditions.
ACCOUNTS RECEIVABLE
The Company performs ongoing credit evaluations of its customers and
adjusts credit limits based upon payment history and the customer's current
credit worthiness, as determined by a review of their current credit
information. The Company continuously monitors collections and payments from its
customers and maintains a provision for estimated credit losses based upon
historical experience and any specific customer collection issues that have been
identified. While such credit losses have historically been within the Company's
expectations and the provisions
11
established, the Company cannot guarantee that it will continue to experience
the same credit loss rates that it has in the past.
INVENTORIES
The Company values its inventory at the lower of cost or market and
regularly reviews inventory quantities on hand and records a provision for
excess and obsolete inventory based primarily on estimated forecasts of product
demand and production requirements. The Company's estimates of future product
demand may prove to be inaccurate, in which case it may have understated or
overstated the provision required for excess and obsolete inventory. In the
future, if the Company's inventory is determined to be overvalued, the Company
would be required to recognize such costs in cost of goods sold at the time of
such determination. Likewise, if inventory is determined to be undervalued, the
Company may have recognized excess cost of goods sold in previous periods and
would be required to recognize such additional operating income at the time of
sale.
RESULTS OF OPERATIONS -- FISCAL 2003 TO FISCAL 2002
Net sales increased by 69%, from $25,126,214 in Fiscal 2002 to
$42,486,758 in Fiscal 2003. Sales increased as a result of additions to the
Company's prescription line of products, including Prednisolone tablets, first
marketed in October 2001, Butalbital with Aspirin, Caffeine and Codeine
Phosphate capsules, first marketed in December 2001, Isoniazid tablets, first
marketed in January 2002, Digoxin tablets, first marketed in September 2002 and
Levothyroxine Sodium tablets, first marketed in April 2003. Additionally, sales
of a portion of the Company's previously marketed products increased due to new
customer accounts, increased unit sales, and increased unit revenues. The
increase in sales of a portion of the Company's products was offset by a
decrease in sales of certain other products, including pseudoephedrine
hydrochloride tablets and guaifenesin/ephedrine hydrochloride tablets. Due to
increased competition for these two products, and the Company's decision to
allocate its production capacity to higher margin prescription products, the
Company discontinued its production, marketing and distribution of these two
products in Fiscal 2003.
Cost of sales increased by 92%, from $8,452,677 in Fiscal 2002 to
$16,257,794 in Fiscal 2003. The cost of sales increase is due to an increase in
direct variable costs and certain indirect overhead costs as a result of the
increase in sales volume and related production activities. These costs include
raw materials, labor and benefits expenses, and depreciation expense. Gross
profit margins for Fiscal 2003 and Fiscal 2002 were 62% and 66%, respectively.
The decrease in the gross profit percentage is due to the product sales mix.
Incremental sales in Fiscal 2003 of some or all of the Company's new products
were at gross profit percentages less than the Company's average gross profit
percentage from Fiscal 2002. This is a result of more competition for such
drugs, and an erosion in generic market pricing for such drugs.
Research and development expenses increased by 47%, from $1,748,631 in
Fiscal 2002 to $2,575,178 in Fiscal 2003. This increase is a result of an
increase in the cost of clinical bioequivalence testing fees, outsourced product
development consulting services, payroll and benefits expenses and raw materials
used in the development and formulation of new products not yet approved by the
FDA.
12
Selling, general and administrative expenses increased by 31%, from
$3,298,564 in Fiscal 2002 to $4,337,558 in Fiscal 2003. This increase is a
result of an increase in the following expenses: payroll and benefits,
consulting services, travel and entertainment expenses, investor relations
expenses, and advertising. These increases were due to the hiring of additional
administrative employees and a general increase in administrative expenses due
to the growth of the Company in terms of employees, production volume and sales.
These increases were partially offset by a decrease in commissions expense to
outside sales representatives. In Fiscal 2002, the Company created its own
internal sales and marketing department, replacing the service previously
performed by outside sales brokers.
As a result of the foregoing, the Company increased its operating
income by 66%, from $11,626,342 in Fiscal 2002 to $19,316,228 in Fiscal 2003.
The Company's income tax expense increased from $3,984,135 in Fiscal
2002 to $7,334,740 in Fiscal 2003 as a result of the increase in taxable income.
The Company reported net income of $11,666,887 for Fiscal 2003, or
$0.58 basic and diluted income per share, compared to net income of $7,195,990
for Fiscal 2002, or $0.36 basic and diluted income per share.
LIQUIDITY AND CAPITAL RESOURCES
Net cash provided by operating activities of $6,652,406 in Fiscal 2003
was attributable to net income of $11,666,887, as adjusted for the effects of
non-cash items (primarily depreciation and amortization) of $1,399,700 and
changes in operating assets and liabilities totaling ($6,414,181). Significant
changes in operating assets and liabilities were comprised of:
1. an increase in accounts receivable of $4,050,596 due to the increase
in the Company's net sales;
2. an increase in inventories of $3,238,591 due to increases in raw
materials and finished goods inventory. Due to the Company's sales
growth, additional investments were made in raw material and finished
goods inventory. It is the Company's goal to stock an adequate
inventory of finished goods and raw materials. Such a strategy will
allow the Company to minimize stock-outs and back-orders, and to
provide a high level of customer order fulfillment. Additionally, the
Company has increased its inventory carrying amounts of certain raw
materials and finished products to ensure supply continuity;
3. an increase in accounts payable, net of the decrease in accrued
expenses, of $1,799,171 due to the growth of the Company's purchasing
activities to support the overall Company growth, and the Company's
receipt of finished goods inventories in the last quarter of Fiscal
2003. In April 2003, the Company launched its distribution campaign for
Levothyroxine Sodium tablets. Due to the timing of the Company's
receipt of finished goods inventory related to this new product launch
and beneficial credit payment terms, the Company's accounts payable
balance increased accordingly.
The net cash used in investing activities of $2,243,933 for Fiscal 2003
was attributable to $2,618,936 expended for equipment and building additions,
offset by $375,003 in proceeds received from the sale of equipment. The
Company's anticipated budget for capital expenditures
13
in Fiscal 2004 is approximately $9,300,000. The anticipated capital expenditure
requirements will support the Company's growth related to new product
introductions and increased production output due to expected higher sales
levels. As of June 30, 2003, none of the financing proceeds received from the
bonds issued during Fiscal 1999 were available for future capital expenditures;
however approximately $352,000 was paid by the Company prior to June 30, 2003
for production equipment expected to arrive, and be placed in service in Fiscal
2004. This balance is included in Other Assets, as a long-term asset, at June
30, 2003.
The Company had a $4,250,000 revolving line of credit from a
shareholder who is also the Chairman of the Board ("Shareholder Line of
Credit"). The maturity date on the Shareholder Line of Credit was December 1,
2002. The Company did not renew this line of credit because the cash available
from its current and prospective loan agreements and the cash generated from its
operations were estimated to be sufficient to support the Company's anticipated
growth, in terms of cash requirements. At June 30, 2002, the Company had no
amount outstanding and $4,250,000 available under this line of credit. There was
no accrued interest at June 30, 2003 and June 30, 2002.
In April 1999, the Company entered into a loan agreement (the
"Agreement") with a governmental authority (the "Authority") to finance future
construction and growth projects of the Company. The Authority issued $3,700,000
in tax-exempt variable rate demand and fixed rate revenue bonds to provide the
funds to finance such growth projects pursuant to a trust indenture ("the "Trust
Indenture"). A portion of the Company's proceeds from the bonds was used to pay
for bond issuance costs of approximately $170,000. The remainder of the proceeds
was deposited into a money market account, which was restricted for future plant
and equipment needs of the Company, as specified in the Agreement. The Trust
Indenture requires that the Company repay the Authority loan through installment
payments beginning in May 2003 and continuing through May 2014, the year the
bonds mature. At June 30, 2003, the Company has $3,097,802 outstanding on the
Authority loan, of which $718,333 is classified as currently due. The remainder
is classified as a long-term liability. In April 1999, an irrevocable letter of
credit of $3,770,000 was issued by a bank to secure payment of the Authority
Loan and a portion of the related accrued interest. At June 30, 2003, no portion
of the letter of credit has been utilized.
In April 1999, the Company authorized and directed the issuance of
$2,300,000 in taxable variable rate demand and fixed rate revenue bonds pursuant
to a trust indenture between the Company and a bank as trustee (the "Trust
Indenture"). From the proceeds of the bonds, $750,000 was utilized to pay
deferred interest owed to Mr. Farber, the Chairman of the Board of Directors and
Chief Executive Officer of the Company, and approximately $1,440,000 was paid to
a bank to refinance a mortgage term loan and equipment term loans. The remainder
of the proceeds was used to pay bond issuance costs of approximately $109,000.
The Trust Indenture required that the Company repay the bonds through
installment payments beginning in June 1999 and continuing through May 2003, the
year the bonds matured. At June 30, 2003, the Company has no balance outstanding
on the bonds.
The Company has a $3,000,000 line of credit from a bank. The line of
credit was renewed and extended to November 30, 2003, at which time the Company
expects to renew and extend the due date. At June 30, 2003, the Company had $0
outstanding and $3,000,000 available under the line of credit. The line of
credit is collateralized by substantially all Company assets.
14
Further, the line of credit and a related letter of credit contain certain
financial covenants (see Notes to Financial Statements, Number 6).
The Company believes that cash generated from its operations and the
balances available under the Company's existing loans and line of credit as of
June 30, 2003, are sufficient to finance its level of operations, and currently
anticipated capital expenditures. However, to benefit from the low interest
rates in the current financial markets, the Company is planning to finance some
or all of the capital expenditures in Fiscal 2004.
Except as set forth in this report, the Company is not aware of any
trends, events or uncertainties that have or are reasonably likely to have a
material adverse impact on the Company's short-term or long-term liquidity or
financial condition.
PROSPECTS FOR THE FUTURE
Additional products are currently under development. One of these
products has been redeveloped and submitted to the FDA for supplemental
approval. Another is a new ANDA submitted to the FDA for approval. The remainder
of the products in development represent previously approved ANDAs which the
Company is planning to reintroduce, or new formulations which the Company will
submit ANDAs for FDA approval. In addition to the efforts of its internal
product development group, Lannett has contracted with outside firms for the
formulation and development of new generic drug products. The products under
development are at various stages in the development cycle--formulation,
scale-up, and/or clinical testing. Since the Company has no control over the FDA
review process, management is unable to anticipate whether or when it will be
able to begin producing and shipping additional products.
15
ITEM 7. FINANCIAL STATEMENTS
The Consolidated Financial Statements for the years ended June 30, 2003
and 2002 and Independent Auditor Report filed as a part of this Form 10-KSB are
listed in the Exhibit Index filed herewith.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
ITEM 8A. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
The Company maintains disclosure controls and procedures that are designed to
ensure that information required to be disclosed in its Exchange Act reports is
recorded, processed, summarized and reported within the time periods specified
in the Securities and Exchange Commission's rules and forms, and that such
information is accumulated and communicated to management, including the Chief
Executive Officer and Chief Financial Officer, as appropriate, to allow timely
decisions regarding required disclosure. Management necessarily applies its
judgment in assessing the costs and benefits of such controls and procedures,
which, by their nature, can provide only reasonable assurance regarding
management's control objectives.
With the participation of management, the Company's Chief Executive Officer and
Chief Financial Officer evaluated the effectiveness of the design and operation
of the Company's disclosure controls and procedures at the conclusion of the
year ended June 30, 2003. Based upon this evaluation, the Chief Executive
Officer and Chief Financial Officer concluded that the Company's disclosure
controls and procedures were effective in ensuring that material information
required to be disclosed is included in the reports that it files with the
Securities and Exchange Commission.
CHANGES IN INTERNAL CONTROLS
There were no significant changes in the Company's internal controls or, to the
knowledge of management of the Company, in other factors that could
significantly affect internal controls subsequent to the date of the Company's
most recent evaluation of its disclosure controls and procedures utilized to
compile information included in this filing.
16
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
WITH SECTION 16(A) OF THE EXCHANGE ACT
DIRECTORS AND EXECUTIVE OFFICERS
The directors and executive officers of the Company are set forth
below:
--------------------------------------------------------------------------------
Age Position
--------------------------------------------------------------------------------
Directors:
William Farber 71 Chairman of the Board and Chief
Executive Officer
Marvin Novick 72 Director
Ronald A. West 69 Director
Myron Winkelman 65 Director
Executive Officers:
Arthur P. Bedrosian 57 President
Larry Dalesandro 31 Chief Financial Officer
WILLIAM FARBER was elected as Chairman of the Board of Directors and
Chief Executive Officer in August 1991. From April 1993 to the end of 1993, Mr.
Farber was the President and a director of Auburn Pharmaceutical Company. From
1990 through March 1993, Mr. Farber served as Director of Purchasing for Major
Pharmaceutical Corporation. From 1965 through 1990, Mr. Farber was the Chief
Executive Officer of Michigan Pharmacal Corporation. Mr. Farber is a registered
pharmacist in the State of Michigan.
MARVIN NOVICK was elected a Director of the Company in February 2000.
Mr. Novick has been an advisor, consultant and financial planner for multiple
companies in the past thirty-five years. He is currently President of R&M
Resources, Inc., an investment and consulting services company. From 1984 to
1987, he served as Vice Chairman of Dura Corporation, a major automotive
supplier. From 1969 to 1971, he served as Chief Financial Officer of Meadowbrook
Insurance Company. In addition to these positions, he served as Partner of
international accounting firms, J.K. Lasser & Co., and Touche Ross & Co, and
Senior Vice President of Michigan Blue Shield, a major healthcare organization.
Mr. Novick holds Bachelor's and Master's Degrees, and is a member of the
American Institute of Certified Public Accountants.
RONALD A. WEST was elected a Director of the Company in January 2002.
Mr. West is currently a Director of Beecher Associates, an industrial real
estate investment company, R&M
17
Resources, an investment and consulting services company and North East
Staffing, Inc., an employee services company. From 1983 to 1987, Mr. West served
as Chairman and Chief Executive Officer of Dura Corporation, an original
equipment manufacturer of automotive products and other engineered equipment
components. Prior to his service at Dura Corporation which began in 1969, Mr.
West served in various financial management positions with TRW, Inc., Marlin
Rockwell Corporation and National Machine Products Group, a division of Standard
Pressed Steel Company. Mr. West studied Business Administration at Michigan
State University and the University of Detroit.
MYRON WINKELMAN, R. PH. was elected a Director of the Company in June
2003. Mr. Winkelman has significant career experience in various aspects of
pharmacy and health care. He is currently President of Winkelman Management
Consulting (WMC), which provides consulting services to both commercial and
governmental clients. Mr. Winkelman has recently managed multi-state drug
purchasing initiatives for both Medicaid and state entities. Prior to creating
WMC, he was a senior executive with ValueRx, a large pharmacy benefits manager,
and served for many years as a senior executive for the Revco, Rite Aid and
Perry Drug chains. While at ValueRx, Mr. Winkelman served on the Board of
Directors of the Pharmaceutical Care Management Association. He belongs to a
number of pharmacy organizations, including the Academy of Managed Care Pharmacy
and the Michigan Pharmacy Association. Mr. Winkelman is a registered pharmacist
and holds a Bachelor of Science Degree in Pharmacy from Wayne State University.
ARTHUR P. BEDROSIAN, J.D. was elected President of the Company in May
2002. Prior to this, he served as the Company's Vice President of Business
Development from January 2002 to April 2002, and as a Director from February
2000 to January 2002. Mr. Bedrosian has operated generic drug manufacturing,
sales, and marketing businesses in the healthcare industry for many years. Prior
to joining the Company, Mr. Bedrosian served as President and Chief Executive
Officer of Trinity Laboratories, Inc., a medical device and drug manufacturer.
Mr. Bedrosian also operated Pharmaceutical Ventures Ltd, a healthcare
consultancy and Interal Corporation, a computer consultancy to Fortune 100
companies. Mr. Bedrosian holds a Bachelor of Arts Degree in Political Science
from Queens College of the City University of New York and a Juris Doctorate
from Newport University in California.
LARRY DALESANDRO was elected Chief Financial Officer of the Company in
June 2003. Prior to this, he served as the Company's Chief Operating Officer
from November 1999 to June 2003. Mr. Dalesandro joined the Company in January
1999 to manage the Company's financial operations. Previously, he was the
Controller and Director of Financial Reporting of Criterion Communications,
Inc., a technology and new media services firm, Controller of Crown Contractors,
Inc., a contract construction company, and Senior Auditor of Grant Thornton LLP,
an international professional services firm. Mr. Dalesandro graduated Magna Cum
Laude with a Bachelor's of Science Degree in Accountancy from Villanova
University, and is a Certified Public Accountant.
18
SIGNIFICANT EMPLOYEES
In addition to the directors and executive officers, the following
table identifies certain key employees of the Company.
--------------------------------------------------------------------------------
Name Age Position
--------------------------------------------------------------------------------
Kevin Smith 43 Vice President of Sales and Marketing
Bernard Sandiford 74 Vice President of Operations
KEVIN SMITH joined the Company in January 2002 as Vice President of
Sales and Marketing. Prior to this, Kevin held senior sales positions with
various generic pharmaceutical firms, including Sidmak Laboratories and Mova
Laboratories. Kevin has extensive experience in the generic sales market, and
brings to the Company a vast network of customers, including retail chain
pharmacies, wholesale distributors, mail-order wholesalers and generic
distributors. Mr. Smith has a Bachelors' Degree in Business Administration from
Gettysburg College.
BERNARD SANDIFORD joined the Company in November 2002 as Vice President
of Operations. Prior to this, he was the President of Sandiford Consultants, a
firm specializing in providing consulting services to drug manufacturers for
Good Manufacturing Practices and process validations. His previous employment
included senior operating positions with Halsey Drug Company, Barr Laboratories,
Inc., Duramed Pharmaceuticals, Inc., and Revlon Health Care Group. In addition
to these positions, Mr. Sandiford performed various consulting assignments for
the FDA regarding Good Manufacturing Practices. Mr. Sandiford has a Bachelors of
Science Degree in Chemistry from Long Island University.
To the best of the Company's knowledge, there have been no events under
any bankruptcy act, no criminal proceedings and no judgments or injunctions that
are material to the evaluation of the ability or integrity of any director,
executive officer, or significant employee during the past five years.
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16(a) of the Securities Exchange Act of 1934 requires the
Company's directors, officers, and persons who own more than 10% of a registered
class of the Company's equity securities to file with the SEC reports of
ownership and changes in ownership of common stock and other equity securities
of the Company. Officers, directors and greater-than-10% stockholders are
required by SEC regulations to furnish the Company with copies of all Section
16(a) forms they file.
Based solely on review of the copies of such reports furnished to the
Company or written representations that no other reports were required, the
Company believes that during Fiscal 2003, all filing requirements applicable to
its officers, directors and greater-than-10% beneficial owners were complied
with, except for the following:
19
On August 15, 2003, Ronald West reported a purchase of shares in May
2002, a purchase of shares in July 2002, a sale of shares in November
2002, and a purchase of shares in January 2003.
On August 15, 2003, Marvin Novick reported a sale of shares in November
2002, a bona-fide gift of shares in December 2002, a sale of shares in
January 2003, and a sale of shares in May 2003. The shares transacted
on the above dates were owned by Margaret Novick, spouse of Marvin
Novick.
20
ITEM 10. EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE
The following table summarizes all compensation paid to or earned by
the named executive officers of the Company for Fiscal 2003, Fiscal 2002 and
Fiscal 2001.
===============================================================================================================================
Long Term Compensation
----------------------------------
Annual Compensation Awards Payouts
--------------------------------------------------------------------- ----------------------- -------
(a) (b) (c) (d) (e) (f) (g) (h) (i)
Name and Restricted Securities LTIP All Other
Principal Fiscal Other Annual Stock Underlying Payouts Compensation
Position Year Salary Bonus Compensation Award(s) Options/ Amount Amounts
-------- ---- ------ ----- ------------ -------- SARs ------ -------
----
William Farber 2003 0 0 0 0 37,500 0 3,000(7)
Chairman of the 2002 0 0 0 0 0 0 3,000(7)
Board of 2001 0 0 0 0 0 0 0
Directors and
Chief Executive
Officer
Arthur P. 2003 179,175(1) 77,500 0 0 114,600 0 0
Bedrosian(2) 2002 64,385 0 0 0 0 0 0
President 2001 0 0 0 0 0 0 0
Larry Dalesandro(3) 2003 134,984(1) 59,675 0 0 74,595 0 0
Chief Financial 2002 116,698(1) 25,000 0 0 0 0 0
Officer 2001 102,049(1) 5,000 0 0 15,000 0 0
Eugene Livshits(4) 2003 67,706(1) 38,874 0 0 7,500 0 141,020(5)
Vice President of 2002 126,715(1) 25,000 0 0 0 0 0
Technical Affairs 2001 109,669(1) 5,000 0 0 18,000 0 0
Kevin Smith(6) 2003 167,187(1) 46,500 0 0 38,760 0 0
Vice President of 2002 66,769 0 0 0 15,000 0 0
Sales & Marketing 2001 0 0 0 0 0 0 0
21
(1) Includes matching contribution payments made to the Company's
401(k) Plan (3% of eligible compensation) for the benefit of
the employee noted.
(2) Mr. Bedrosian joined the Company on January 24, 2002 as Vice
President of Business Development. On May 5, 2002, he was
elected President of the Company.
(3) Mr. Dalesandro joined the Company on January 11, 1999 as
Controller. He was elected Chief Operating Officer on November
1, 1999. On June 18, 2003, he was elected Chief Financial
Officer, and voluntarily resigned the position of Chief
Operating Officer.
(4) Mr. Livshits joined the Company on February 20, 1997 as
Director of Analytical Services. He was elected Vice President
of Technical Affairs on November 1, 1999. On January 6, 2003,
his employment with the Company was terminated. The Company
agreed to pay him severance pay at his current rate through
December 31, 2003. See footnote 5.
(5) This amount represents $76,230 in severance compensation paid
from January 1, 2003 through June 30, 2003, plus $64,790 in
severance compensation accrued at June 30, 2003.
(6) Mr. Smith joined the Company on January 21, 2002 as Vice
President of Sales and Marketing.
(7) These amounts represent payments to Mr. Farber for
participation and attendance at Board of Director Meetings.
22
OPTION/SAR GRANTS IN FISCAL 2003
====================================================================================================================
(a) (b) (c) (d) (e)
NAME NUMBER OF % OF TOTAL EXERCISE OR BASE PRICE EXPIRATION DATE
SECURITIES OPTIONS/SARS ($/SHARE)
UNDERLYING GRANTED TO
OPTIONS/SARS EMPLOYEES IN
GRANTED (#) FISCAL YEAR
--------------------------------------------------------------------------------------------------------------------
William Farber $7.97 10/28/2012
Chairman of the Board of 37,500 10%
Directors and Chief
Executive Officer
--------------------------------------------------------------------------------------------------------------------
Arthur Bedrosian $4.63 7/23/2012
President 18,000 3%
--------------------------------------------------------------------------------------------------------------------
Arthur Bedrosian $7.97 10/28/2012
President 96,900 25%
--------------------------------------------------------------------------------------------------------------------
Larry Dalesandro $7.97 10/28/2012
Chief Financial Officer 74,595 19%
--------------------------------------------------------------------------------------------------------------------
Eugene Livshits $7.97 10/28/2012
Vice President of 7,500 2%
Technical Affairs
--------------------------------------------------------------------------------------------------------------------
Kevin Smith $7.97 10/28/2012
Vice President of Sales 38,760 10%
and Marketing
--------------------------------------------------------------------------------------------------------------------
23
AGGREGATED OPTIONS/SAR EXERCISES AND FISCAL YEAR-END OPTIONS/SAR VALUES
====================================================================================================================
(a) (b) (c) (d) (e)
VALUE OF
UNEXERCISED
NUMBER OF SECURITIES IN-THE-MONEY
SHARES UNEXERCISED UNDERLYING OPTIONS AT
ACQUIRED OPTIONS AT FY-END FY-END
ON VALUE EXERCISABLE/ EXERCISABLE/
NAME EXERCISE REALIZED UNEXERCISABLE UNEXERCISABLE
--------------------------------------------------------------------------------------------------------------------
William Farber 37,500/ $580,249/
Chairman of the Board of 0 $0 0 $0
Directors and Chief
Executive Officer
--------------------------------------------------------------------------------------------------------------------
Arthur Bedrosian 0/ $0/
President 0 $0 114,900 $1,833,241
--------------------------------------------------------------------------------------------------------------------
Larry Dalesandro 0/ $0/
Chief Financial Officer 5,001 $48,860 74,595 $1,154,231
--------------------------------------------------------------------------------------------------------------------
Eugene Livshits 0/ 0/
Vice President -- of 13,500 $108,520 0 0
Technical Affairs
--------------------------------------------------------------------------------------------------------------------
Kevin Smith 0/ $0/
Vice President of Sales 5,000 $46,495 48,761 $811,166
and Marketing
--------------------------------------------------------------------------------------------------------------------
COMPENSATION OF DIRECTORS
Directors received compensation of $1,000 per Board meeting attended
during Fiscal 2003. There were three Board meetings held in Fiscal 2003. Audit
Committee members received compensation of $1,000 per Audit Committee meeting
attended during Fiscal 2003. There were four Audit Committee meetings held in
Fiscal 2003. Directors are reimbursed for expenses incurred in attending Board
meetings. Directors also receive a monthly allowance of $1,350 to cover the cost
of medical benefits insurance, and automobile expenses. Directors also received
stock options during Fiscal 2003 as compensation for their services. The
following table identifies the stock options granted to directors in Fiscal
2003.
24
====================================================================================================================
(a) (b) (c) (d) (e)
NAME NUMBER OF % OF TOTAL EXERCISE OR BASE PRICE EXPIRATION DATE
SECURITIES OPTIONS/SARS ($/SHARE)
UNDERLYING GRANTED TO
OPTIONS/SARS RECIPIENTS IN
GRANTED (#) FISCAL YEAR
--------------------------------------------------------------------------------------------------------------------
William Farber $7.97 10/28/2012
Chairman of the Board of 37,500 10%
Directors and Chief
Executive Officer
--------------------------------------------------------------------------------------------------------------------
Marvin Novick $7.97 10/28/2012
Director 22,500 6%
--------------------------------------------------------------------------------------------------------------------
Ronald West $7.97 10/28/2012
Director 22,500 6%
--------------------------------------------------------------------------------------------------------------------
Myron Winkelman - -
Director - -
--------------------------------------------------------------------------------------------------------------------
EMPLOYMENT AGREEMENTS
The Company has entered into employment agreements with Arthur
Bedrosian, Larry Dalesandro and Kevin Smith (the "Named Executives"). Each of
the agreements provide for an annual base salary and eligibility to receive a
bonus. The salary and bonus amounts of the Named Executives are determined by
the Board of Directors. Additionally, the Named Executives are eligible to
receive stock options, which are granted at the discretion of the Board of
Directors, and in accordance with the Company's policies regarding stock option
grants.
The Named Executives' employment may be terminated at any time with or
without cause, or by reason of death or disability; and the Named Executives may
voluntarily resign at any time with or without good reason. In the event of
termination of employment without cause, the Company will provide the Named
Executive with: (a) severance compensation, subject to the Company's standard
payroll withholdings or deductions, for a period of no less than one year, in
the amount of the then current base salary rate, subject to certain limitations;
and (b) continued group health insurance benefits (i.e. medical, dental,
prescription insurance, etc) for the Named Executive and his eligible dependents
for a period of up to six months at no cost to the Named Executive.
In the event of a change in the control of the Company, or if the
Company sells a majority of the ANDAs it owns, the Company will provide the
Named Executives with: (a) a lump sum payment in the amount equal to six months
of the Named Executive's current salary, subject to minimum limitations. In this
scenario, if the Named Executive's employment is terminated without cause, the
Company will provide the Named Executive with severance compensation and
benefits consisting of: (a) severance compensation, subject to the Company's
standard payroll withholdings or deductions, for a period of no less than one
year, in the amount of the then current base salary rate, subject to certain
limitations; (b) continued group health insurance benefits (i.e. medical,
dental, prescription insurance, etc) for the Named Executive and his eligible
dependents
25
for a period of up to one year at no cost to the Named Executive; and (c) all
unvested stock options held by the Named Executive will become one hundred
percent (100%) vested and immediately exercisable as of the date of termination.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth, as of August 26, 2003, information
regarding the security ownership of the directors and certain executive officers
of the Company and persons known to the Company to be beneficial owners of more
than five (5%) percent of the Company's common stock:
==================================================================================================================
Excluding Options Including Options (*)
and Debentures ---------------------
--------------
Name and Address of Number Percent Number Percent of
Beneficial Owner Office of Shares of Class of Shares Class
---------------- ------ --------- -------- --------- -----
Directors/Executive Officers:
Arthur Bedrosian President 496,860(1) 2.48% 502,860(2) 2.50%
9000 State Road
Philadelphia, PA 19136
Larry Dalesandro Chief Financial 0 0.00% 0 0.00%
9000 State Road Officer
Philadelphia, PA 19136
William Farber Chairman of the 13,676,679(3) 68.23% 13,714,179(4) 68.10%
9000 State Road Board
Philadelphia, PA 19136
Marvin Novick Director 100,000 0.50% 122,500(5) 0.61%
9000 State Road
Philadelphia, PA 19136
Ronald A. West Director 12,810 0.06% 22,758(6) 0.11%
9000 State Road
Philadelphia, PA 19136
Myron Winkelman Director 1,000 0.00% 1,000 0.00%
9000 State Road
Philadelphia, PA 19136
All directors and 14,287,349 71.27% 14,363,297 71.32%
executive officers as a group
(6 persons)
(1) Includes 52,125 shares owned jointly by Arthur Bedrosian and Shari
Bedrosian, Arthur Bedrosian's spouse, and 12,000 shares owned by Talin
Bedrosian, Arthur Bedrosian's daughter.
(2) Includes 6,000 vested options to purchase common stock at an exercise price
of $4.63 per share.
26
(3) Includes 300,000 shares owned jointly by William Farber and Audrey Farber,
the Secretary of the Company and William's Farber's spouse.
(4) Includes 37,500 vested options to purchase common stock at an exercise price
of $7.97 per share.
(5) Includes 22,500 vested options to purchase common stock at an exercise price
of $7.97 per share.
(6) Includes 9,948 vested options to purchase common stock at an exercise price
of $7.97 per share.
* Assumes that all options exercisable within sixty days have been
exercised, which results in 20,139,113 shares outstanding.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
William Farber, the Chairman of the Board of Directors and Chief
Executive Officer, had provided the Company with a revolving line of credit due
December 1, 2002 of $4,250,000, which the Company used to renovate its
manufacturing facility, acquire new equipment, retain new management and provide
working capital. See MANAGEMENT'S DISCUSSION AND ANALYSIS -- Liquidity and
Capital Resources." Mr. Farber is currently the holder of 13,676,679 shares of
common stock of the Company, or approximately 68% of the Company's issued and
outstanding shares. See "SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT."
The Company had sales of approximately $348,000 and $174,000 during the
years ended June 30, 2003 and 2002, respectively, to a distributor (the "related
party") in which the owner is a relative of the Chairman of the Board of
Directors and principal shareholder of the Company. The Company also incurred
sales commissions payable to the related party of approximately $68,000 and
$221,000 during the years ended June 30, 2003 and 2002, respectively. Accounts
receivable includes amounts due from the related party of approximately $95,000
and $59,000 at June 30, 2003 and June 30, 2002, respectively. Accrued expenses
include amounts due to the related party of approximately $0 and $8,000 at June
30, 2003 and June 30, 2002, respectively.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) A list of the exhibits required by Item 601 of Regulation S-B
to be filed as a part of this Form 10-KSB is shown on the
Exhibit Index filed herewith.
(b) The Company did not file any reports on Form 8-K during the
Quarter ended June 30, 2003.
27
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Grant Thornton LLP served as the independent auditors of the Company during
Fiscal 2003; and no relationship exists other than the usual relationship
between independent public accountant and client. The following table identifies
the fees paid to Grant Thornton LLP in Fiscal 2003.
----------------------------------------------------------------------------------------------------------------------
AUDIT FEES AUDIT-RELATED FEES TAX FEES ALL OTHER FEES TOTAL FEES
(1) (2) (3)
----------------------------------------------------------------------------------------------------------------------
Fiscal 2003:
----------------------------------------------------------------------------------------------------------------------
$72,561 $7,700 $17,816 $45,343 $143,420
----------------------------------------------------------------------------------------------------------------------
----------------------------------------------------------------------------------------------------------------------
Fiscal 2002:
----------------------------------------------------------------------------------------------------------------------
$63,833 $0 $56,087 $40,378 $160,298
----------------------------------------------------------------------------------------------------------------------
(1) Audit-related fees include fees paid for preparation and participation in
Board of Director meetings, and Audit Committee meetings.
(2) Tax fees include fees paid for preparation of annual federal, state and
local income tax returns, quarterly estimated income tax payments, and various
tax planning services. Included in the Fiscal 2002 fees for this category is
$46,670 paid in connection with services rendered by Grant Thornton LLP in the
Company's application and receipt of a tax refund due to an amended state income
tax return.
(3) Other fees include:
Fiscal 2003 -- Fees paid for services rendered in connection with the
Company's application to various local and state entities for benefits
related to the Company's potential facility expansion; and services
rendered in connection with an engagement for interest expense
arbitrage calculations on certain tax exempt bond issues.
Fiscal 2002 -- Fees paid for valuation services related to the
Company's creation of its wholly-owned subsidiary, Lannett Holdings,
Inc.
The non-audit services provided to the Company by Grant Thornton LLP in Fiscal
2003 were pre-approved by the Company's audit committee. Prior to engaging its
auditor to perform non-audit services, the Company's audit committee reviews the
particular service to be provided and the fee to be paid by the Company for such
service and assesses the impact of the service on the auditor's independence.
28
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
LANNETT COMPANY, INC.
Date: September 19, 2003 By: / s /William Farber
---------------------
William Farber,
Chairman of the Board and
Chief Executive Officer
Date: September 19, 2003 By: / s /Larry Dalesandro
---------------------
Larry Dalesandro,
Chief Financial Officer
Date: September 19, 2003 By: / s /Arthur Bedrosian
---------------------
Arthur Bedrosian,
President
Date: September 19, 2003 By: / s /Marvin Novick
---------------------
Marvin Novick,
Director
Date: September 19, 2003 By: / s /Ronald West
---------------------
Ronald West,
Director
Date: September 19, 2003 By: / s /Myron Winkelman
---------------------
Myron Winkelman,
Director
In accordance with the Exchange Act, this report has been signed below
by the following persons on behalf of the registrant and in the capacities and
on the dates indicated.
Signature Date
/ s / William Farber September 19, 2003
--------------------------------------
William Farber,
Chairman of the Board of Directors and
Chief Executive Officer
/ s / Larry Dalesandro September 19, 2003
--------------------------------------
29
Larry Dalesandro,
Chief Financial Officer
/ s / Arthur Bedrosian September 19, 2003
--------------------------------------
Arthur Bedrosian,
President
/ s / Marvin Novick September 19, 2003
--------------------------------------
Marvin Novick,
Director
/ s / Ronald West September 19, 2003
--------------------------------------
Ronald West,
Director
/ s / Myron Winkelman September 19, 2003
--------------------------------------
Myron Winkelman,
Director
30
Report of Independent Certified Public Accountants
Shareholders and Board of Directors
Lannett Company, Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheets of Lannett
Company, Inc. and Subsidiaries as of June 30, 2003 and 2002, and the related
consolidated statements of operations, changes in shareholders' equity and cash
flows for each of the years then ended. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
Lannett Company, Inc. and Subsidiaries as of June 30, 2003 and 2002, and the
consolidated results of their operations and cash flows for each of the years
then ended in conformity with accounting principles generally accepted in the
United States of America.
Grant Thornton LLP
Philadelphia, Pennsylvania
August 12, 2003
31
CONSOLIDATED BALANCE SHEETS
JUNE 30,
--------------------------------------------------------------------------------
ASSETS 2003 2002
CURRENT ASSETS:
Cash $ 3,528,511 $ -
Trade accounts receivable (net of allowance for doubtful accounts of 8,516,481 4,465,885
$128,000 and $42,000, respectively)
Inventories 8,175,798 4,937,207
Prepaid expenses and other assets 367,400 106,170
Deferred tax asset 569,858 300,368
----------- -----------
Total current assets 21,158,048 9,809,630
PROPERTY, PLANT AND EQUIPMENT 11,885,728 10,144,968
Less accumulated depreciation 4,477,928 3,616,044
----------- -----------
7,407,800 6,528,924
OTHER ASSETS 496,696 369,949
----------- -----------
TOTAL ASSETS $29,062,544 $16,708,503
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Line of credit $ - $ 202,688
Current portion of long-term debt 718,333 596,517
Accounts payable 2,664,616 733,984
Accrued expenses 526,430 657,891
Income taxes payable 63,617 726,552
----------- -----------
Total current liabilities 3,972,996 2,917,632
LONG-TERM DEBT, LESS CURRENT PORTION 2,379,469 3,343,333
DEFERRED TAX LIABILITY 1,112,369 681,489
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS' EQUITY:
Common stock - authorized 50,000,000 shares, par value $0.001;
issued and outstanding, 20,025,871 and 19,894,257 shares, respectively 20,026 19,894
Additional paid-in capital 2,526,077 2,360,261
Retained earnings 19,051,607 7,385,894
----------- -----------
Total shareholders' equity 21,597,710 9,766,049
----------- -----------
TOTAL LIABILITES AND SHAREHOLDERS' EQUITY $29,062,544 $16,708,503
=========== ===========
The accompanying notes to consolidated financial statements are an integral part
of these statements.
32
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED JUNE 30,
--------------------------------------------------------------------------------
2003 2002
NET SALES $ 42,486,758 $ 25,126,214
COST OF SALES 16,257,794 8,452,677
------------ ------------
Gross profit 26,228,964 16,673,537
RESEARCH AND DEVELOPMENT EXPENSES 2,575,178 1,748,631
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES 4,337,558 3,298,564
------------ ------------
Operating profit 19,316,228 11,626,342
------------ ------------
OTHER INCOME/(EXPENSE):
Loss on sale of assets (119,279) (63,682)
Loss on impairment/abandonment of assets (136,843) (137,177)
Interest income 2,297 25,135
Interest expense, including $0 and $131,245 to shareholder (60,776) (270,493)
------------ ------------
(314,601) (446,217)
------------ ------------
INCOME BEFORE INCOME TAX EXPENSE 19,001,627 11,180,125
INCOME TAX EXPENSE 7,334,740 3,984,135
------------ ------------
NET INCOME $ 11,666,887 $ 7,195,990
============ ============
Basic earnings per common share $ 0.58 $ 0.36
============ ============
Diluted earnings per common share $ 0.58 $ 0.36
============ ============
The accompanying notes to consolidated financial statements are an integral part
of these statements.
33
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
YEARS ENDED JUNE 30, 2003 AND 2002
--------------------------------------------------------------------------------
COMMON STOCK
---------------------------- ADDITIONAL
SHARES PAID-IN RETAINED SHAREHOLDERS'
ISSUED AMOUNT CAPITAL EARNINGS EQUITY
BALANCE, JULY 1, 2001 19,809,192 19,809 $ 2,305,972 $ 189,904 $ 2,515,685
Exercise of stock options 85,065 85 54,289 - 54,374
Net income 7,195,990 7,195,990
------------ ------------
BALANCE, JUNE 30, 2002 19,894,257 19,894 2,360,261 7,385,894 9,766,049
Exercise of stock options 131,709 132 165,816 - 165,948
Stock Split-shares repurchased (95) - (1,174) (1,174)
due to odd quantity holders
Net income - - - 11,666,887 11,666,887
------------ ------------ ------------ ------------ ------------
BALANCE, JUNE 30, 2003 20,025,871 $ 20,026 $ 2,526,077 $ 19,051,607 $ 21,597,710
============ ============ ============ ============ ============
The accompanying notes to consolidated financial
statements are an integral part of these statements.
Note: All share amounts have been restated to reflect a 3 for 2 stock split,
effective February 14, 2003.
34
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED JUNE 30,
--------------------------------------------------------------------------------
2003 2002
OPERATING ACTIVITIES:
Net income $ 11,666,887 $ 7,195,990
Adjustments to reconcile net income to
net cash provided by operating activities:
Depreciation and amortization 982,188 789,304
Loss on disposal/impairment of assets 256,122 200,859
Deferred tax expense 161,390 723,239
Changes in assets and liabilities which provided (used) cash:
Trade accounts receivable (4,050,596) (99,297)
Inventories (3,238,591) (1,781,098)
Prepaid expenses and other assets (261,230) 24,863
Accounts payable 1,930,632 (183,413)
Accrued expenses (131,461) 87,972
Income taxes payable (662,935) 478,443
------------ ------------
Net cash provided by operating activities 6,652,406 7,436,861
------------ ------------
INVESTING ACTIVITIES:
Purchases of property, plant and equipment (2,618,936) (1,952,535)
Deposits paid on machinery and equipment not yet received - (187,665)
Proceeds from sale of property, plant and equipment 375,003 54,000
------------ ------------
Net cash used in investing activities (2,243,933) (2,086,200)
------------ ------------
FINANCING ACTIVITIES:
Net repayments under line of credit (202,688) (1,797,312)
Repayments under line of credit - shareholder - (4,225,000)
Repayments of debt (842,048) (608,372)
Proceeds from debt, net of restricted cash released - 1,225,649
Proceeds from issuance of stock 165,948 54,374
Payments made in lieu of stock split (1,174) -
------------ ------------
Net cash used in financing activities (879,962) (5,350,661)
------------ ------------
NET INCREASE IN CASH 3,528,511 -
CASH, BEGINNING OF YEAR - -
------------ ------------
CASH, END OF YEAR $ 3,528,511 $ -
============ ============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION -
Interest paid during year $ 57,688 $ 293,323
============ ============
Income taxes paid $ 7,436,964 $ 2,782,453
============ ============
The accompanying notes to consolidated financial statements are an integral part
of these statements.
35
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED JUNE 30, 2003 AND 2002
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Lannett Company, Inc. and subsidiaries (the "Company"), a Delaware corporation,
develops, manufactures, packages, markets and distributes pharmaceutical
products sold under generic chemical names.
The Company is engaged in an industry which is subject to considerable
government regulation related to the development, manufacturing and marketing of
pharmaceutical products. In the normal course of business, the Company
periodically responds to inquiries or engages in administrative and judicial
proceedings involving regulatory authorities, particularly the Food and Drug
Administration (FDA) and the Drug Enforcement Agency (DEA).
PRINCIPLES OF CONSOLIDATION - The consolidated financial statements include the
accounts of the operating parent company, Lannett Company, Inc., its inactive
wholly owned subsidiary, Astrochem Corporation and its wholly owned subsidiary,
Lannett Holdings, Inc. All intercompany accounts and transactions have been
eliminated.
REVENUE RECOGNITION - The Company recognizes revenue when its products are
shipped. At this point, title and risk of loss have transferred to the customer,
and provisions for estimates, including rebates, promotional adjustments, price
adjustments, returns, chargebacks, and other potential adjustments are
reasonably determinable. Accruals for these provisions are presented in the
Consolidated Financial Statements as reductions to net sales and accounts
receivable. Accounts receivable are presented net of allowances relating to
these provisions, which were approximately $2,772,000 and $630,000 at June 30,
2003 and June 30, 2002, respectively. Provisions for estimated rebates,
promotional and other credits are estimated based on historical payment
experience, estimated customer inventory levels and contract terms. Provisions
for other customer credits, such as price adjustments, returns and chargebacks
require management to make subjective judgments. These provisions are discussed
in further detail below. If the historical data the Company uses, and the
assumptions management makes to calculate these estimates do not accurately
approximate future activity, its net sales, gross profit, net income and
earnings per share could change. However, management believes that these
estimates are reasonable based upon historical experience and current
conditions.
CHARGEBACKS -- The provision for chargebacks is the most significant and complex
estimate used in the recognition of revenue. The Company sells its products
directly to wholesale distributors, generic distributors, retail pharmacy chains
and mail-order wholesalers. The Company also sells its products indirectly to
independent pharmacies, managed care organizations, hospitals, nursing homes and
group purchasing organizations, collectively referred to as "indirect
customers." Lannett enters into agreements with its indirect customers to
establish pricing for certain products. The indirect customers then
independently select a wholesaler from which to actually purchase the products
at these agreed-upon prices. Lannett will provide credit to the wholesaler for
the difference between the agreed-upon price with the indirect customer and the
wholesaler's invoice price. This credit is called a chargeback. The provision
for chargebacks is based on expected sell-through levels by the Company's
wholesale customers to the indirect customers, and estimated wholesaler
inventory levels. The Company continually monitors the reserve for
36
chargebacks and makes adjustments when it believes that actual chargebacks may
differ from estimated reserves.
REBATES -- Rebates are offered to the Company's key customers to promote
customer loyalty and encourage greater product sales. These rebate programs
provide customers with rebate credits upon attainment of pre-established volumes
or attainment of net sales milestones for a specified period. Other promotional
programs are incentive programs offered to the customers. At the time of
shipment, the Company estimates reserves for rebates and other promotional
credit programs based on the specific terms in each agreement.
RETURNS -- Consistent with industry practice, the Company has a product returns
policy that allows select customers to return product within a specified period
prior to and subsequent to the product's lot expiration date, in exchange for a
credit to be applied to future purchases. The Company's policy requires that the
customer obtain pre-approval from the Company for any qualifying return. The
Company estimates its provision for returns based on historical experience,
changes to business practices and credit terms. While such experience has
allowed for reasonable estimations in the past, history may not always be an
accurate indicator of future returns. The Company continually monitors the
provisions for returns, and makes adjustments when it believes that actual
product returns may differ from established reserves.
PRICE ADJUSTMENTS -- Price adjustments, also known as "shelf stock adjustments,"
are credits issued to reflect decreases in the selling prices of the Company's
products that customers have remaining in their inventories at the time of the
price reduction. Decreases in selling prices are discretionary decisions made by
management to reflect competitive market conditions. Amounts recorded for
estimated shelf stock adjustments are based upon specified terms with direct
customers, estimated declines in market prices and estimates of inventory held
by customers. The Company regularly monitors these and other factors and
evaluates the reserve as additional information becomes available.
INVENTORIES - Inventories are valued at the lower of cost (determined under the
first-in, first-out method) or market.
PROPERTY, PLANT AND EQUIPMENT - Property, plant and equipment are stated at
cost. Depreciation and amortization are provided for by the straight-line and
accelerated methods over estimated useful lives of the assets. Depreciation
expense for the years ended June 30, 2003 and 2002 was approximately $945,000
and $747,000, respectively.
DEFERRED DEBT ACQUISITION COSTS - Costs incurred in connection with obtaining
financing are amortized by the straight-line method over the term of the loan
arrangements. Amortization expense for the years ended June 30, 2003 and 2002
was approximately $37,000 and $42,000, respectively.
RESEARCH AND DEVELOPMENT -- Research and development expenses are charged to
operations as incurred.
ADVERTISING COSTS - The Company charges advertising costs to operations as
incurred. Advertising expense for the years ended June 30, 2003 and 2002 was
approximately $118,000 and $16,000, respectively.
37
INCOME TAXES - The Company uses the liability method specified by Statement of
Financial Accounting Standards (SFAS) No. 109, Accounting for Income Taxes.
Deferred tax assets and liabilities are determined based on the difference
between the financial statement and tax bases of assets and liabilities as
measured by the enacted tax rates which will be in effect when these differences
reverse. Deferred tax expense/(benefit) is the result of changes in deferred tax
assets and liabilities.
LONG-LIVED ASSETS - SFAS No. 121, Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of, provides guidance on when to
recognize and how to measure impairment losses of long-lived assets and certain
identifiable intangibles and how to value long-lived assets to be disposed of.
Impairment losses recognized during the years ended June 30, 2003 and 2002 were
$136,843 and $137,177, respectively (See NEW ACCOUNTING PRONOUNCEMENTS). The
impairment losses recognized during Fiscal 2003 represent a reduction in the net
book value of certain leasehold improvements at the 500 State Road facility. The
Company has made a preliminary decision to move the operations currently
performed at this facility to a new facility at 9001 Torresdale Avenue. As a
result of this decision, the Company expects to abandon certain leasehold
improvements at the 500 State Road building.
EARNINGS PER COMMON SHARE -- SFAS No. 128, Earnings Per Share, requires a dual
presentation of basic and diluted earnings per share on the face of the
Company's consolidated statement of income and a reconciliation of the
computation of basic earnings per share to diluted earnings per share. Basic
earnings per share excludes the dilutive impact of common stock equivalents and
is computed by dividing net income by the weighted-average number of shares of
common stock outstanding for the period. Diluted earnings per share includes the
effect of potential dilution from the exercise of outstanding common stock
equivalents into common stock using the treasury stock method. Earnings per
share amounts for all periods presented have been calculated in accordance with
the requirements of SFAS No. 128. A reconciliation of the Company's basic and
diluted earnings per share follows:
2003 2002
---------------------------------- --------------------------------
NET INCOME SHARES NET INCOME SHARES
(NUMERATOR) (DENOMINATOR) (NUMERATOR) (DENOMINATOR)
Basic earnings per share factors $ 11,666,887 19,968,633 $ 7,195,990 19,895,757
Effect of potentially dilutive option
plans and debentures 152,681 122,791
------------ ----------- ----------- -----------
Diluted earnings per share factors $ 11,666,887 20,121,314 $ 7,195,990 20,018,548
============ =========== =========== ===========
Basic earnings per share $ 0.58 $ 0.36
Diluted earnings per share $ 0.58 $ 0.36
The number of shares have been adjusted for the Company's 3 for 2 stock split in
February 2003.
Options to purchase 15,525 shares, 10,001 shares, 50,625 shares, 292,755 shares
and 40,815 shares of common stock at $0.75 per share, $2.30 per share, $4.63 per
share, $7.97 per share and $11.27 per share, respectively, were outstanding at
June 30, 2003. Adjusted for the effect of the Company's 3 for 2 stock split in
February 2003, options to purchase 66,533 shares, 23,753 shares, 15,000 shares,
45,000 shares and 1,575 shares of common stock at $0.75 per share, $0.53
38
per share, $2.30 per share, $0.92 per share and $2.52 per share, respectively,
were outstanding at June 30, 2002.
SEGMENT INFORMATION -- The Company reports segment information in accordance
with SFAS No. 131, Disclosures about Segments of an Enterprise and Related
Information. The Company operates one business segment--generic pharmaceuticals.
In accordance with SFAS No. 131, the Company aggregates its financial
information for all products, and reports on one operating segment.
CONCENTRATION OF CREDIT RISK AND ACCOUNTS RECEIVABLE -- One customer accounted
for approximately 13% of net sales in Fiscal 2003. Another customer accounted
for approximately 12% and 22% of net sales in Fiscal 2003 and Fiscal 2002,
respectively. Another customer accounted for 19% of net sales in Fiscal 2002.
One of the Company's products accounted for approximately 35% and 54%,
respectively, of net sales in fiscal years ended June 30, 2003 and June 30,
2002. Another product accounted for approximately 26% of net sales in fiscal
year ended June 30, 2003. The Company expects these percentages to decrease as
it continues to market additional products.
Credit terms are offered to customers based on evaluations of the customers'
financial condition. Generally, collateral is not required from customers.
Accounts receivable payment terms vary, and are stated in the financial
statements at amounts due from customers net of an allowance for doubtful
accounts. Accounts outstanding longer than the payment terms are considered past
due. The Company determines its allowance by considering a number of factors,
including the length of time trade accounts receivable are past due, the
Company's previous loss history, the customer's current ability to pay its
obligation to the Company, and the condition of the general economy and the
industry as a whole. The Company writes-off accounts receivable when they become
uncollectible, and payments subsequently received on such receivables are
credited to the allowance for doubtful accounts.
STOCK OPTIONS - At June 30, 2003, the Company had two stock-based employee
compensation plans (See Note 9). The Company accounts for stock options under
SFAS No. 123, "Accounting for Stock-Based Compensation," as amended by SFAS No.
148. Under this statement, companies may use a fair value-based method for
valuing stock-based compensation, which measures compensation cost at the grant
date, based on the fair value of the award. Compensation is then recognized over
the service period, which is usually the vesting period. Alternatively, SFAS No.
123 permits entities to continue accounting for employee stock options and
similar equity instruments under Accounting Principles Board (APB) Opinion 25,
"Accounting for Stock Issued to Employees." Entities that continue to account
for stock options using APB Opinion 25 are required to make pro forma
disclosures of net income and earnings per share, as if the fair value-based
method of accounting defined in SFAS No.123 had been applied. The following
table illustrates the effect on net income and earnings per share if the Company
had applied the fair value recognition provisions of SFAS No. 123 to stock-based
employee compensation.
39
FISCAL YEAR ENDED JUNE 30,
2003 2002
Net income, as reported $ 11,666,887 $ 7,195,990
Deduct: Total compensation expense
determined under fair value-based
method for all stock awards (539,029) (90,302)
Add: Tax savings at effective rate 208,065 32,148
----------------------------------
Pro forma net income 11,335,923 7,137,836
==================================
Earnings per share:
Basic, as reported $ 0.58 $ 0.36
==================================
Basic, pro forma $ 0.57 $ 0.36
==================================
Diluted, as reported $ 0.58 $ 0.36
==================================
Diluted, pro forma $ 0.56 $ 0.36
==================================
USE OF ESTIMATES - The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
NEW ACCOUNTING PRONOUNCEMENTS
On July 20, 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) 141, Business Combinations,
and SFAS 142, Goodwill and Intangible Assets. SFAS 141 is effective for all
business combinations completed after June 30, 2001. SFAS 142 is effective for
fiscal years beginning after December 15, 2001; however, certain provisions of
this Statement apply to goodwill and other intangible assets acquired between
July 1, 2001 and the effective date of SFAS 142. Major provisions of these
Statements and their effective dates for the Company are as follows:
- all business combinations initiated after June 30, 2001 must use the purchase
method of accounting. The pooling of interest method of accounting is prohibited
except for transactions initiated before July 1, 2001.
- intangible assets acquired in a business combination must be recorded
separately from goodwill if they arise from contractual or other legal rights or
are separable from the acquired entity and can be sold, transferred, licensed,
rented or exchanged, either individually or as part of a related contract, asset
or liability.
- goodwill, as well as intangible assets with indefinite lives, acquired after
June 30, 2001, are not amortized. Effective July 1, 2002, all previously
recognized goodwill and intangible assets with indefinite lives are no longer
subject to amortization.
- Effective July 1, 2002, goodwill and intangible assets with indefinite lives
are to be tested for impairment annually and whenever there is an impairment
indicator.
40
- all acquired goodwill must be assigned to reporting units for purposes of
impairment testing and segment reporting.
Management's assessment is that these Statements did not have a material impact
on the Company's financial position or results of operations.
In August 2001, the FASB issued SFAS 143, Accounting for Asset Retirement
Obligations. SFAS 143 applies to all entities, including rate-regulated
entities, that have legal obligations associated with the retirement of a
tangible long-lived asset that results from acquisition, construction or
development and (or) normal operations of the long-lived asset. The application
of this Statement is not limited to certain specialized industries, such as the
extractive or nuclear industries. This Statement also applies, for example, to a
company that operates a manufacturing facility and has a legal obligation to
dismantle the manufacturing plant and restore the underlying land when it cease
operation of that plant. A liability for an asset retirement obligation should
be recognized if the obligation meets the definition of a liability and can be
reasonably estimated. The initial recording should be at fair value. SFAS 143 is
effective for financial statements issued for fiscal years beginning after June
15, 2002, with earlier application encouraged. The provisions of this Statement
do not have a material impact on the financial condition or results of
operations of the Company.
The Company adopted the provisions of SFAS 144, Accounting for the Impairment or
Disposal of Long-Lived Assets. SFAS No. 144 retains the existing requirements to
recognize and measure the impairment of long-lived assets to be held and used or
to be disposed of by sale. However, SFAS 144 makes changes to the scope and
certain measurement requirements of existing accounting guidance. SFAS 144 also
changes the requirements relating to reporting the effects of a disposal or
discontinuation of a segment of a business. SFAS 144 is effective for financial
statements issued for fiscal years beginning after December 15, 2001 and interim
periods within those fiscal years. The adoption of this statement did not have a
significant impact on the financial condition or results of operations of the
Company.
The Company adopted SFAS 145, Rescission of FASB Statements No. 4, 44 and 64,
Amendment of FASB No. 13, and Technical Corrections. SFAS No. 145 changes the
accounting principles governing extraordinary items by clarifying and, to some
extent, modifying the existing definition and criteria, specifying disclosure
for extraordinary items and specifying disclosure requirements for other unusual
or infrequently occurring events and transactions that are not extraordinary
items. SFAS 145 is effective for financial statements issued for fiscal years
beginning after June 15, 2002, with early adoption encouraged. The adoption of
this statement did not have a significant impact on the financial condition or
results of operations of the Company.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities" (SFAS 146). SFAS 146 requires companies to
recognize costs associated with exit or disposal activities when they are
incurred rather than at the date of a commitment to an exit or disposal plan.
SFAS 146 is effective prospectively for exit and disposal activities initiated
after December 31, 2002. The adoption of this statement did not have a
significant impact on the financial condition or results of operations of the
Company.
41
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation--Transition and Disclosure, an amendment of FASB Statement No.
123." SFAS No. 148 amends SFAS No. 123, "Accounting for Stock-Based
Compensation," to provide alternative methods of transition for a voluntary
change to the fair value based method of accounting for stock-based employee
compensation. In addition, SFAS No. 148 amends the disclosure requirements of
SFAS No. 123 to require prominent disclosures in both annual and interim
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported results. The
disclosure provisions of SFAS No. 148 have been adopted by the Company during
the quarter ended March 31, 2003. See Note 9.
In November 2002, FASB Interpretation 45, Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of
Others (FIN 45), was issued. FIN 45 requires a guarantor entity, at the
inception of a guarantee covered by the measurement provisions of the
interpretation, to record a liability for the fair value of the obligation
undertaken in issuing the guarantee. The Company previously did not record a
liability when guaranteeing obligations unless it became probable that the
Company would have to perform under the guarantee. FIN 45 applies prospectively
to guarantees the Company issues or modifies subsequent to December 31, 2002,
but has certain disclosure requirements effective for interim and annual periods
ending after December 15, 2002. The Company has not historically issued
guarantees and does not anticipate FIN 45 will have a material effect on its
fiscal 2004 consolidated financial statements.
In January 2002, the FASB issued FASB Interpretation 46 (FIN 46),Consolidation
of Variable Interest Entities. FIN 46 clarifies the application of Accounting
Research Bulletin 51, Consolidated Financial Statements, for certain entities
that do not have sufficient equity at risk for the entity to finance its
activities without additional subordinated financial support from other parties
or in which equity investors do not have the characteristics of a controlling
financial interest ("variable interest entities"). Variable interest entities
within the scope of FIN 46 will be required to be consolidated by their primary
beneficiary. The primary beneficiary of a variable interest entity is determined
to be the party that absorbs a majority of the entity's expected losses,
receives a majority of its expected returns, or both. FIN 46 applies immediately
to variable interest entities created after January 31, 2002, and to variable
interest entities in which an enterprise obtains an interest after that date. It
applies in the first fiscal year or interim period beginning after June 15,
2002, to variable interest entities in which an enterprise holds a variable
interest that it acquired before February 1, 2002. The adoption of FIN 46 did
not have a material effect on the Company's consolidated financial position,
results of operations, or cash flows.
On May 15, 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity. SFAS No. 150
establishes standards for how an issuer classifies and measures certain
financial instruments with characteristics of both liabilities and equity. It
requires that an issuer classify a financial instrument that is within its scope
as a liability (or an asset in some circumstances). Many of those instruments
were previously classified as equity. SFAS No. 150 affects the issuer's
accounting for three types of freestanding financial instruments:
42
- mandatorily redeemable shares, which the issuing company is
obligated to buy back in exchange for cash or other assets;
- instruments that do or may require the issuer to buy back some of
its shares in exchange for cash or other assets, including put
options and forward purchase contracts; and
- obligations that can be settled with shares, the monetary value
of which is fixed, tied solely or predominantly to a variable
such as a market index, or varies inversely with the value of the
issuers' shares.
SFAS No. 150 does not apply to features embedded in a financial instrument that
is not a derivative in its entirety.
Most of the guidance in SFAS No. 150 is effective for all 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
adoption of SFAS No. 150 is not expected to have a material effect on the
Company's consolidated financial position, results of operations or cash flows.
RECLASSIFICATIONS - Certain reclassifications were made to the 2002 consolidated
financial statements to conform to the 2003 presentation.
2. INVENTORIES
Inventories at June 30, 2003 and 2002 consist of the following:
2003 2002
Raw materials $2,625,463 $2,479,344
Work-in-process 992,330 691,346
Finished goods 4,363,432 1,560,029
Packaging supplies 194,573 206,488
---------- ----------
$8,175,798 $4,937,207
========== ==========
3. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment at June 30, 2003 and 2002 consist of the
following:
43
USEFUL LIVES 2003 2002
Land - $ 33,414 $ 33,414
Building and improvements 10 - 39 years 3,487,261 3,124,268
Machinery and equipment 5 - 10 years 7,896,058 6,877,429
Furniture and fixtures 5 - 7 years 146,570 109,857
Construction in Progress - 322,425 -
----------- ------------
$11,885,728 $ 10,144,968
=========== ============
4. BANK LINE OF CREDIT
The Company has a $3,000,000 line of credit with a bank that bears interest at
the prime interest rate minus 0.25% per annum (4.00% at June 30, 2003). The line
of credit is due November 30, 2003. The Company expects to extend the maturity
date before the scheduled due date. At June 30, 2003, the Company had $0
outstanding, and $3,000,000 available under the line of credit. The line of
credit is collateralized by substantially all Company assets. Further, the line
of credit and a related letter of credit contain certain financial covenants
(see Note 5).
5. LONG-TERM DEBT
Long-term debt at June 30, 2003 and 2002 consists of the following:
2003 2002
Tax-exempt Bond Loan $3,097,802 $ 3,700,000
Taxable Bond Loan 239,850
---------- -----------
3,097,802 3,939,850
Less current portion 718,333 596,517
---------- -----------
$2,379,469 $ 3,343,333
========== ===========
In April 1999, the Company entered into a loan agreement (the "Agreement") with
a governmental authority (the "Authority") to finance future construction and
growth projects of the Company. The Authority has issued $3,700,000 in
tax-exempt variable rate demand and fixed rate revenue bonds to provide the
funds to finance such growth projects pursuant to a trust indenture (the "Trust
Indenture"). The bonds were issued under and secured by a Trust Indenture
between the Authority and a bank, as trustee. A portion of the Company's
proceeds from the bonds was used to pay for bond issuance costs of approximately
$170,000. The remainder of the proceeds was deposited into a money market
account, which was restricted to future plant and equipment needs of the Company
as specified in the Agreement. The Agreement requires the Company to repay the
Authority loan through installment payments beginning in May 2003 and continuing
through May 2014, the year the bonds mature. Such payments will be deposited
into an interest-bearing debt service money market account. The bonds bear
interest at the floating variable rate determined by the organization
responsible for selling the bonds (the "remarketing agent"). The interest rate
fluctuates on a weekly basis. The effective interest rate at June 30,
44
2003 was 1.2%. The Company has an option to convert the bonds to a fixed rate of
interest under certain conditions. At June 30, 2003, the Company has $3,097,802
outstanding on the Authority loan, of which $718,333 is classified as currently
due. The remainder is classified as a long-term liability. In April 1999, an
irrevocable letter of credit of $3,770,000 was issued by a bank to secure
payment of the Authority loan and a portion of the related accrued interest. At
June 30, 2003, no portion of the letter of credit has been utilized.
In April 1999, the Company authorized and directed the issuance of $2,300,000 in
taxable variable rate demand and fixed rate revenue bonds pursuant to a trust
indenture between the Company and a bank, as trustee (the "Trust Indenture
(Taxable)"). From the proceeds of the bonds, $750,000 was utilized to pay
deferred interest owed to the principal shareholder of the Company and
approximately $1,440,000 was paid to a bank to refinance a mortgage term loan
and equipment term loans. The remainder of the proceeds was used to pay bond
issuance costs of approximately $109,000. The Trust Indenture (Taxable) required
the Company to repay the bonds through installment payments beginning in May
2000 and continuing through May 2003, the year the bonds matured.
Annual repayments of debt, including sinking fund requirements, as of June 30,
2003 are as follows:
YEAR ENDING AMOUNTS PAYABLE
JUNE 30, TO INSTITUTIONS
2004 $ 718,333
2005 706,667
2006 678,333
2007 300,000
2008 108,333
Thereafter 586,136
-----------
$ 3,097,802
===========
6. LINE OF CREDIT PAYABLE TO SHAREHOLDER
On October 1, 2001, a debt modification agreement was consummated, by and
between, the Company and its principal shareholder relating to the line of
credit agreement described below. The Company and its principal shareholder had
previously modified the debt agreement relating to the line of credit as of
March 15, 1993, August 1, 1994, May 15, 1995, December 31, 1995, June 30, 1996,
November 1, 1996, September 9, 1997, June 30, 1998, December 30, 1998, December
31, 1999 and October 1, 2000. In each of the modifications, the maturity date of
the debt was extended.
The Company had a $4,250,000 revolving line of credit from a shareholder who is
also the Chairman of the Board ("Shareholder Line of Credit"). The maturity date
on the Shareholder Line of Credit was December 1, 2002. The Company did not
renew this line of credit because the cash available from its current and
prospective loan agreements, and the cash generated from its operations were
estimated to be sufficient to support the Company's anticipated growth, in terms
of cash requirements. At June 30, 2002, the Company had no amount outstanding
and $4,250,000 available under this line of credit.
45
The interest rate on the line of credit was the prime rate published by Michigan
National Bank plus 1% per annum. Interest expense during the years ended June
30, 2003 and 2002 was approximately $0, and $131,245, respectively. Accrued
interest at June 30, 2003 and June 30, 2002 was $0. The line of credit was
collateralized by substantially all Company assets, and was subordinated to the
bank letters of credit and line of credit.
7. INCOME TAXES
The provision for income taxes consists of the following for the years ended
June 30.
2003 2002
Current Income Taxes $7,173,350 $ 3,260,896
Deferred Income Taxes 161,390 723,239
---------- -----------
$7,334,740 $ 3,984,135
========== ===========
A reconciliation of the differences between the effective rates and statutory
rates is as follows:
2003 2002
Federal income tax at statutory rate 35.0% 34.0%
State and local income tax, net 6.5% 3.1%
Other -2.9% -1.5%
----- -----
Income taxes expense/(benefit) 38.6% 35.6%
===== =====
The principal types of differences between assets and liabilities for financial
statement and tax return purposes are net operating loss carryforwards and
accumulated depreciation. As of June 30, 2003, the Company has utilized all of
its available federal net operating loss carryforwards of approximately
$2,457,000. A deferred tax liability is recorded for the future liability
created by different depreciation methods for financial statement and tax return
purposes. As of June 30, 2003 and 2002, temporary differences which give rise to
deferred tax assets and liabilities are as follows:
46
2003 2002
Deferred tax assets:
Accrued expenses $ 30,077 $ 38,370
Reserves for Accounts Receivable and Inventory 539,781 261,998
---------- ----------
569,858 300,368
Valuation allowance - -
---------- ----------
Total 569,858 300,368
Deferred tax liability - Accumulated Depreciation on
Property, Plant and Equipment 1,112,369 681,489
-----------------------------
Net deferred tax liability $ (542,511) $ (381,121)
========== ==========
8. STOCK OPTIONS
In Fiscal 1993, the Company adopted the 1993 Long-Term Incentive Plan (the "1993
Plan"). Pursuant to the 1993 Plan and its amendments, employees and
non-employees of the Company may be granted stock options, which qualify as
incentive stock options, as well as stock options which are nonqualified. The
exercise price of the options granted were at least equal to the fair market
value of the common stock on the date of grant. There were 2,000,000 shares
originally reserved for under the 1993 Plan. Of this amount, options for 390,419
shares were granted, and were either exercised by the recipient, or are
currently outstanding. Pursuant to the plan provisions, the 1993 Plan terminated
on February 13, 2003. No additional shares were granted under this Plan after
this date.
In February 2003, the Company adopted the 2003 Incentive Stock Option Plan (the
"2003 Plan"). Pursuant to the 2003 Plan, employees and non-employees of the
Company may be granted stock options which may qualify as incentive stock
options, as well as stock options which are nonqualified. The exercise price of
the incentive stock options is at least the fair market value of the common
stock on the date of grant. The exercise price of nonqualified options may be
above or below the fair market value of the common stock on the date of the
grant. The options generally vest over a three-year period and expire no later
than 10 years from the date of grant. There are 1,125,000 shares reserved for
under the 2003 Plan. Of this amount, options for 40,815 shares were granted in
Fiscal 2003, and were either exercised by the recipient, or are currently
outstanding. Options for 1,084,185 shares remain available for grants under the
Plan.
A summary of the status of the combined options for both the 1993 Plan and the
2003 Plan, as of June 30, 2003 and 2002, and the changes during the years then
ended is represented below:
47
2003 2002
----------------------------- -----------------------------
WEIGHTED AVG. WEIGHTED AVG.
EXERCISE EXERCISE
SHARES PRICE SHARES PRICE
Outstanding, beginning of year 151,860 $ 0.94 226,875 $ 0.73
Granted 398,820 7.82 15,000 2.30
Exercised (131,709) 1.26 (85,014) 0.63
Terminated (9,250) 3.74 (5,001) 0.53
-------- --------
Outstanding, end of year 409,721 $ 7.47 151,860 $ 0.94
======== ====== ======== ======
Options exercisable at year-end 98,025 $ 6.82 95,933 $ 0.77
======== ====== ======== ======
Weighted average fair value of options
granted during the year $ 7.82 $ 2.30
====== ======
Note: The number of shares and the prices per share in the above table have been
adjusted proportionately, based on the Company's 3 for 2 stock split in February
2003.
OPTIONS OUTSTANDING AT JUNE 30, 2003 OPTIONS EXERCISABLE AT JUNE 30, 2003
--------------------------------------- ---------------------------------------
EXERCISE # OF AVERAGE AVERAGE # OF AVERAGE AVERAGE
PRICE SHARES LIFE PRICE SHARES LIFE PRICE
$0.75 15,525 6.4 $ 0.75 15,525 6.4 $ 0.75
$2.30 10,001 8.5 $ 2.30 0 8.5 $ 2.30
$4.63 50,625 9.0 $ 4.63 0 9.0 $ 4.63
$7.97 292,755 9.3 $ 7.97 82,500 9.3 $ 7.97
$11.27 40,815 9.7 $11.27 0 9.7 $11.27
----------------- --------------
409,721 98,025
================= ==============
The fair value of the options granted were estimated on the date of grant using
the Black-Scholes option-pricing model with the following assumptions for grants
during the years ended June 30, 2003 and 2002: risk-free interest rates ranging
from 3.89% to 5.15%, expected volatility of 79.1% and 70.6%, dividend yield of
0%, and expected life of 10 years.
The Company accounts for stock options under SFAS No. 123, "Accounting for
Stock-Based Compensation," as amended by SFAS No. 148. Under this statement,
companies may use a fair value-based method for valuing stock-based
compensation, which measures compensation cost at the grant date, based on the
fair value of the award. Compensation is then recognized over the
48
service period, which is usually the vesting period. Alternatively, SFAS No. 123
permits entities to continue accounting for employee stock options and similar
equity instruments under Accounting Principles Board (APB) Opinion 25,
"Accounting for Stock Issued to Employees." Entities that continue to account
for stock options using APB Opinion 25 are required to make pro forma
disclosures of net income and earnings per share, as if the fair value-based
method of accounting defined in SFAS No.123 had been applied. This disclosure is
presented in Note 2.
9. EMPLOYEE STOCK PURCHASE PLAN
In February 2003, the Company's shareholders approved an Employee Stock Purchase
Plan ("ESPP"). Employees eligible to participate in the ESPP may purchase shares
of the Company's stock at 85% of the lower of the fair market value of the
common stock on the first day of the calendar quarter, or the last day of the
calendar quarter. Under the ESPP, employees can authorize the Company to
withhold up to 10% of their compensation during any quarterly offering period,
subject to certain limitations. The ESPP was implemented on April 1, 2003 and is
qualified under Section 423 of the Internal Revenue Code. The Board of Directors
authorized an aggregate total of 1,125,000 shares (adjusted for the Company's 3
for 2 stock split in February 2003) of the Company's common stock for issuance
under the ESPP. As of June 30, 2003, no shares have been issued under the ESPP.
As of June 30, 2003, employees participating in the ESPP have been granted
options to purchase 2,218 shares.
10. EMPLOYEE BENEFIT PLAN
The Company has a defined contribution 401(k) plan (the "Plan") covering
substantially all employees. Pursuant to the Plan provisions, the Company is
required to make matching contributions equal to each employee's contribution,
but not to exceed 3% of the employee's compensation for the Plan year.
Contributions to the Plan during the years ended June 30, 2003 and 2002 were
$103,077 and $86,222, respectively.
11. CONTINGENCIES
The Company monitors its compliance with all environmental laws. Any compliance
costs which may be incurred are contingent upon the results of future site
monitoring and will be charged to operations when incurred. No monitoring costs
were incurred during the years ended June 30, 2003 and 2002.
The Company is currently engaged in several civil actions as a co-defendant with
many other manufacturers of Diethylstilbestrol ("DES"), a synthetic hormone.
Prior litigation established that the Company's pro rata share of any liability
is less than one-tenth of one percent. The Company was represented in many of
these actions by the insurance company with which the Company maintained
coverage (subject to limits of liability) during the time period that damages
were alleged to have occurred. The Company has either settled or is currently
defending over 500 such claims. Management believes that the outcome will not
have a material adverse impact on the consolidated financial position or results
of operations of the Company.
49
In addition to the matters reported herein, the Company is involved in
litigation which arises in the normal course of business. In the opinion of
management, the resolution of these lawsuits will not have a material adverse
effect on the consolidated financial position or results of operations.
12. COMMITMENTS
In January 1997, the Company entered into an operating lease for
additional space at 500 State Road, in Bensalem, Pennsylvania. Currently, this
leased facility houses the shipping and receiving department, warehousing, and
the research and development laboratory. The lease was extended through April
30, 2004. On July 1, 2003, the Company entered into another lease for a 62,000
square foot facility at 9001 Torresdale Avenue, Philadelphia, Pennsylvania,
approximately 1 mile from the Company's headquarters. The lease expires on
November 30, 2003; and the Company has the contractual right and option to
purchase the facility at any time during the lease term. The Company currently
expects to exercise this purchase option prior to the lease termination date of
November 30, 2003. The purchase price of this facility is included in the
Company's estimate of $9.3 million in capital expenditures in Fiscal 2004 (See
LIQUIDITY AND CAPITAL RESOURCES). Prior to the expiration of the lease term at
500 State Road, the Company is planning to move all operations currently
performed at 500 State Road to 9001 Torresdale Avenue. In addition to the
laboratory research, warehousing and distribution operations currently performed
at 500 State Road, other operational functions may be moved from the Company
headquarters to 9001 Torresdale Avenue. This move will occur gradually, and will
allow the Company to maximize its FDA approved production facility at 9000 State
Road for production output. In addition to these two facility leases, the
Company also has an operating lease, expiring in 2005, for office equipment.
Future minimum lease payments under these agreements are as follows:
YEAR ENDING JUNE 30, AMOUNT
2004 248,382
2005 11,935
---------
$ 260,317
=========
Rental expense for the years ended June 30, 2003 and 2002 was $138,000 and
$124,000, respectively.
13. RELATED PARTY TRANSACTIONS
The Company had sales of approximately $348,000 and $174,000 during the years
ended June 30, 2003 and 2002, respectively, to a distributor (the "related
party") in which the owner is a relative of the Chairman of the Board of
Directors and principal shareholder of the Company. The Company also incurred
sales commissions payable to the related party of approximately $68,000 and
$221,000 during the years ended June 30, 2003 and 2002, respectively. Accounts
receivable includes amounts due from the related party of approximately $95,000
and $59,000 at June 30, 2003 and June 30, 2002, respectively. Accrued expenses
include amounts due to the related party of approximately $0 and $8,000 at June
30, 2003 and June 30, 2002, respectively.
50
LANNETT COMPANY, INC.
SUPPLEMENTARY QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
Lannett's unaudited quarterly consolidated results of operations, and market
price information are shown below:
FOURTH THIRD SECOND FIRST
QUARTER QUARTER QUARTER QUARTER
FISCAL 2003
Net Sales $ 12,157,035 $ 11,019,906 $ 10,183,161 $ 9,126,656
Cost of goods sold 4,479,690 3,976,519 3,965,474 3,836,110
------------ ------------ ------------ ------------
Gross Profit 7,677,345 7,043,387 6,217,687 5,290,546
Other Operating Expenses 2,020,151 1,750,420 1,791,829 1,350,336
------------ ------------ ------------ ------------
Operating Income 5,657,194 5,292,967 4,425,858 3,940,210
Other Income/(Expense) (154,087) (123,253) (13,321) (23,940)
Income Taxes 2,406,418 1,914,081 1,649,624 1,364,617
------------ ------------ ------------ ------------
Net Income 3,096,689 3,255,633 2,762,913 2,551,653
============ ============ ============ ============
Basic earnings per share $ 0.15 $ 0.16 $ 0.14 $ 0.13
============ ============ ============ ============
Diluted Earnings per share $ 0.15 $ 0.16 $ 0.14 $ 0.13
============ ============ ============ ============
Market Price per share
High $ 23.44 $ 15.52 $ 13.97 $ 7.41
============ ============ ============ ============
Low $ 11.36 $ 11.05 $ 5.67 $ 4.63
============ ============ ============ ============
FISCAL 2002
Net Sales $ 7,023,812 $ 8,638,229 $ 5,391,341 $ 4,072,832
Cost of goods sold 2,593,663 2,075,856 2,236,715 1,546,444
------------ ------------ ------------ ------------
Gross Profit 4,430,149 6,562,373 3,154,626 2,526,388
Other Operating Expenses 1,275,188 1,623,557 1,136,340 1,012,108
------------ ------------ ------------ ------------
Operating Income 3,154,961 4,938,816 2,018,286 1,514,280
Other Income/(Expense) (220,166) (32,252) (84,404) (109,395)
Income Taxes 952,854 1,862,281 677,290 491,710
------------ ------------ ------------ ------------
Net Income 1,981,941 3,044,283 1,256,592 913,175
============ ============ ============ ============
Basic earnings per share $ 0.10 $ 0.15 $ 0.06 $ 0.05
============ ============ ============ ============
Diluted Earnings per share $ 0.10 $ 0.15 $ 0.06 $ 0.05
============ ============ ============ ============
Market Price per share
High $ 8.00 $ 3.77 $ 2.69 $ 1.33
============ ============ ============ ============
Low $ 3.50 $ 2.13 $ 1.13 $ 0.69
------------ ------------ ------------ ------------
51
EXHIBIT INDEX
Exhibit
Number Description Method of Filing Page
------ ----------- ---------------- ----
3.1 Articles of Incorporation Incorporated by reference to the Proxy Statement -
filed with respect to the Annual Meeting of
Shareholders held on December 6, 1991 (the "1991
Proxy Statement").
3.2 By-Laws, as amended Incorporated by reference to the 1991 Proxy -
Statement.
4 Specimen Certificate for Common Incorporated by reference to Exhibit 4(a) to -
Stock Form 8 dated April 23, 1993 (Amendment No. 3 to
Form 10-KSB for Fiscal 1992) ("Form 8")
10.1 Line of Credit Note dated March Incorporated by reference to Exhibit 10(ad) to -
11, 1999 the Annual Report on 1999 Form 10-KSB
10.2 Taxable Variable Rate Incorporated by reference to Exhibit 10(ae) to -
Demand/Fixed Rate Revenue Bonds, the Annual Report on 1999 Form 10-KSB
Series of 1999
10.3 Philadelphia Authority for Incorporated by reference to Exhibit 10(af) to -
Industrial Development the Annual Report on 1999 Form 10-KSB
Tax-Exempt Variable Rate
Demand/Fixed Revenue Bonds
(Lannett Company, Inc. Project)
Series of 1999
10.4 Letter of Credit and Agreements Incorporated by reference to Exhibit 10(ag) to -
supporting bond issues the Annual Report on 1999 Form 10-KSB
10.5 2003 Stock Option Plan Incorporated by reference to the Proxy Statement -
for Fiscal Year Ending June 30, 2002
10.6 Terms of Employment Agreement Filed Herewith 54-55
with Kevin Smith
10.7 Terms of Employment Agreement Filed Herewith 56-57
with Arthur Bedrosian
52
Exhibit
Number Description Method of Filing Page
------ ----------- ---------------- ----
10.8 Terms of Employment Agreement Filed Herewith 58
with Larry Dalesendro
11 Computation of Earnings Per Share Filed Herewith 59
13 Annual Report on Form 10-KSB Filed Herewith within the Form 10-KSB 29-51
21 Subsidiaries of the Company Filed Herewith 60
31.1 Certification of Chief Executive Filed Herewith 61-62
Officer Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Financial Filed Herewith 63-64
Officer Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
32 Certifications of Chief Filed Herewith 65
Executive Officer and Chief
Financial Officer Pursuant to
Section 906 of the
Sarbanes-Oxley Act of 2002
53