SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003.
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE TRANSITION PERIOD FROM _____ TO _____.
Commission File Number 0-18592
MERIT MEDICAL SYSTEMS, INC.
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(Exact name of Registrant as specified in its charter)
Utah 87-0447695
- -------------------------------- ---------------------------
(State or other jurisdiction (I.R.S. Identification No.)
of incorporation or organization)
1600 West Merit Parkway, South Jordan Utah, 84095
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(Address of Principal Executive Offices)
(801) 253-1600
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(Registrant's telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [x] No [ ]
Indicate the number of shares outstanding of each of the Registrant's
classes of common stock, as of the latest practicable date.
Common Stock 19,311,127
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TITLE OR CLASS Number of Shares Outstanding at
November 13, 2003
MERIT MEDICAL SYSTEMS, INC.
INDEX TO FORM 10-Q
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PART I. FINANCIAL INFORMATION PAGE
----
Item 1. Financial Statements
Consolidated Balance Sheets as of September 30, 2003
and December 31, 2002 .........................................................1
Consolidated Statements of Operations for the three and nine months
ended September 30, 2003 and 2002..............................................3
Consolidated Statements of Cash Flows for the nine months
ended September 30, 2003 and 2002..............................................4
Notes to Consolidated Financial Statements.....................................6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations......................................................8
Item 3. Quantitative and Qualitative Disclosure About Market Risk.....................13
Item 4. Controls and Procedures.......................................................14
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K.............................................14
SIGNATURES................................................................................15
CERTIFICATIONS............................................................................16
MERIT MEDICAL SYSTEMS, INC.
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 2003 AND DECEMBER 31, 2002 (Unaudited)
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PART I - FINANCIAL INFORMATION
ITEM 1: Financial Statements
September 30, December 31,
ASSETS 2003 2002
- ------ ------------ ------------
CURRENT ASSETS:
Cash and cash equivalents $ 26,322,717 $ 9,683,578
Short-term investments 503,038 217,451
Trade receivables - net 16,881,910 15,247,892
Other receivables 42,857 1,209,804
Employee and related party receivables 168,463 299,751
Inventories 20,019,013 18,699,217
Prepaid expenses and other assets 904,390 667,151
Deferred income tax assets 153,150 143,265
------------ ------------
Total current assets 64,995,538 46,168,109
------------ ------------
PROPERTY AND EQUIPMENT:
Land 2,740,394 2,034,522
Building 5,120,410 5,118,683
Automobiles 87,536 87,536
Manufacturing equipment 27,150,529 25,577,837
Furniture and fixtures 11,631,401 10,823,852
Leasehold improvements 4,573,150 4,345,620
Construction-in-progress 5,718,587 3,008,734
------------ ------------
Total 57,022,007 50,996,784
Less accumulated depreciation
and amortization (28,785,421) (25,584,648)
------------ ------------
Property and equipment - net 28,236,586 25,412,136
------------ ------------
OTHER ASSETS:
Intangible assets - net 1,824,403 1,927,160
Goodwill - net 4,764,596 4,764,596
Deposits 32,163 33,213
------------ ------------
Total other assets 6,621,162 6,724,969
------------ ------------
TOTAL ASSETS $ 99,853,286 $ 78,305,214
============ ============
Continued on Page 2
See Notes to Consolidated Financial Statements
1
MERIT MEDICAL SYSTEMS, INC.
CONSOLIDATED BALANCE SHEETS (Continued)
SEPTEMBER 30, 2003 AND DECEMBER 31, 2002 (Unaudited)
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LIABILITIES AND STOCKHOLDERS' EQUITY
September 30, December 31,
2003 2002
-------------- -------------
CURRENT LIABILITIES:
Current portion of long-term debt $ 87,431 $ 400,182
Trade payables 5,705,358 4,121,577
Accrued expenses 9,210,768 6,618,407
Advances from employees 191,093 161,529
Income taxes payable 1,209,951 284,148
------------ ------------
Total current liabilities 16,404,601 11,585,843
DEFERRED INCOME TAX LIABILITIES 2,487,147 2,443,156
LONG-TERM DEBT -- 16,693
DEFERRED CREDITS 672,692 860,931
------------ ------------
Total liabilities 19,564,440 14,906,623
------------ ------------
STOCKHOLDERS' EQUITY:
Preferred stock-5,000,000 shares authorized;
no shares issued Common stock - no par value;
50,000,000 and 20,000,000 shares authorized,
respectively 19,266,455 and 18,485,403 shares issued
at September 30, 2003 and December 31, 2002, respectively 34,492,315 30,265,963
Retained earnings 46,272,713 33,663,083
Accumulated other comprehensive loss (476,182) (530,455)
------------ ------------
Total stockholder's equity 80,288,846 63,398,591
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 99,853,286 $ 78,305,214
============ ============
See Notes to Consolidated Financial Statements
2
MERIT MEDICAL SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2003 and 2002 (Unaudited)
- --------------------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------ ------------------------------
2003 2002 2003 2002
------------- ------------- ------------- -------------
NET SALES $ 34,506,889 $ 29,341,129 $ 100,825,767 $ 86,802,667
COST OF SALES 18,529,448 16,784,463 56,396,216 51,061,143
------------- ------------- ------------- -------------
GROSS PROFIT 15,977,441 12,556,666 44,429,551 35,741,524
------------- ------------- ------------- -------------
OPERATING EXPENSES:
Selling, general and administrative 7,766,160 6,965,367 22,606,684 20,654,795
Research and development 1,126,960 967,248 3,421,853 2,875,416
------------- ------------- ------------- -------------
Total operating expenses 8,893,120 7,932,615 26,028,537 23,530,211
------------- ------------- ------------- -------------
INCOME FROM OPERATIONS 7,084,321 4,624,051 18,401,014 12,211,313
------------- ------------- ------------- -------------
OTHER (INCOME) EXPENSE:
Other (income) expense (124,873) (10,764) (268,670) 75,696
Litigation settlement -- -- (475,000) --
Gains on sale of land -- -- (507,928) --
------------- ------------- ------------- -------------
Total other (income) expense (124,873) 10,764 (1,251,598) 75,696
------------- ------------- ------------- -------------
INCOME BEFORE INCOME TAXES 7,209,194 4,634,815 19,652,612 12,135,617
INCOME TAX EXPENSE 2,557,307 1,509,412 7,042,982 3,981,493
------------- ------------- ------------- -------------
NET INCOME $ 4,651,887 $ 3,125,403 $ 12,609,630 8,154,124
============= ============= ============= =============
EARNINGS PER COMMON SHARE:
Basic $ .24 $ .17 $ .67 $ .45
============= ============= ============= =============
Diluted $ .23 $ .16 $ .63 $ .42
============= ============= ============= =============
AVERAGE COMMON SHARES:
Basic 19,137,692 18,272,080 18,939,243 18,069,404
============= ============= ============= =============
Diluted 20,429,190 19,753,535 20,128,926 19,544,367
============= ============= ============= =============
See Notes to Consolidated Financial Statements
3
MERIT MEDICAL SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002 (Unaudited)
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September 30, September 30,
2003 2002
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $12,609,630 $8,154,124
----------- -----------
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 3,360,963 3,380,893
Bad debt expense 232,191 190,837
(Gains) losses on sales and abandonment of
property and equipment (508,100) 543
Amortization of deferred credits (119,795) (117,507)
Abandonment of certain patents and trademarks 10,113 198,511
Deferred income taxes 34,106 171,851
Tax benefit attributable to appreciation of common stock
options exercised 2,666,469 1,926,121
Changes in operating assets and liabilities net of
effects from acquisitions:
Short-term investments (285,587) (35,860)
Trade receivables (1,866,209) 335,414
Other receivables 1,166,947
Employee and related party receivables 131,288 86,956
Irish Development Agency grant receivable -- 153,813
Inventories (1,319,796) 664,266
Prepaid expenses and other assets (237,239) (156,524)
Deposits 1,050 (480)
Trade payables 1,583,781 (71,433)
Accrued expenses 2,514,158 2,142,630
Advances from employees 29,564 25,968
Income taxes payable 925,803 394,691
----------- -----------
Total adjustments 8,319,707 9,290,690
----------- -----------
Net cash provided by operating activities 20,929,337 17,444,814
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures for:
Property and equipment (6,130,356) (6,581,837)
Intangible assets (14,322) --
Proceeds from the sale of property and equipment 569,768 2,498
----------- -----------
Net cash used in investing activities (5,574,910) (6,579,339)
----------- -----------
Continued on page 5
See Notes to Consolidated Financial Statements
4
MERIT MEDICAL SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002 (Unaudited)
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September 30, September 30,
2003 2002
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock 1,559,883 903,295
Principal payments on long-term debt (329,444) (5,781,407)
------------ ------------
Net cash provided by (used in) financing activities 1,230,439 (4,878,112)
------------ ------------
EFFECT OF EXCHANGE RATES ON CASH 54,273 91,605
------------ ------------
NET INCREASE IN CASH 16,639,139 6,078,968
CASH AT BEGINNING OF PERIOD 9,683,578 341,690
------------ ------------
CASH AND AT END OF PERIOD $ 26,322,717 $ 6,420,658
============ ============
SUPPLEMENTAL DISCLOSURES OF CASH
FLOW INFORMATION:
Cash paid during the period for:
Interest (including capitalized interest
of $0 and $17,282, respectively) $ 19,616 $ 103,578
============ ============
Income taxes $ 2,754,257 $ 1,488,830
============ ============
See Notes to Consolidated Financial Statement
5
MERIT MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
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1. Basis of Presentation. The interim financial statements of Merit Medical
Systems, Inc. ("Merit," "we" or "us") for the three and nine months ended
September 30, 2003 and 2002 are not audited. The financial statements are
prepared in accordance with the requirements for unaudited interim periods, and
consequently, do not include all disclosures required to be in conformity with
accounting principles generally accepted in the United States of America. In the
opinion of management, the accompanying consolidated financial statements
contain all adjustments, except for the true-up of deferred tax balances,
consisting only of normal recurring accruals, necessary for a fair presentation
of our financial position as of September 30, 2003, and the results of our
operations and cash flows for the three and nine months ended September 30, 2003
and 2002. The results of operations for the three and nine months ended
September 30, 2003 and 2002 are not necessarily indicative of the results for a
full-year period. The information included in this Form 10-Q should be read in
conjunction with Management's Discussion and Analysis and financial statements
and notes thereto included in our Annual Report on Form 10-K for the year ended
December 31, 2002.
Stock-Based Compensation. We account for stock compensation arrangements under
the provisions of Accounting Principles Board Opinion No. 25, Accounting for
Stock Issued to Employees, (APB 25) and intend to continue to do so.
Accordingly, no compensation cost has been recognized for our stock compensation
arrangements. If the compensation cost for our compensation plans had been
determined consistent with Statement of Financial Accounting Standards (SFAS)
No. 123, Accounting for Stock-Based Compensation, our net income and net income
per common and common share equivalent would have changed to the pro forma
amounts indicated below:
Three Months Ended September 30, Nine Months Ended September 30,
--------------------------------- -------------------------------
2003 2002 2003 2002
--------------- --------------- -------------- --------------
Net income:
As reported $ 4,651,887 $ 3,125,403 $ 12,609,630 $ 8,154,124
Pro forma 4,228,658 2,830,572 10,984,407 6,991,100
Net income per common share:
Basic:
As reported $.24 $ .17 $.67 $.45
Pro forma .22 .15 .58 .39
Diluted:
As reported .23 .16 .63 .42
Pro forma .21 .14 .55 .36
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option-pricing model with the following weighted-average
assumptions used for grants in 2003 and 2002: dividend yield of 0%; expected
volatility of 62.60% and 63.24% for 2003 and 2002, respectively; risk-free
interest rates ranging from 3.97% to 6.71%; and expected lives ranging from 2.33
to 4.80 years.
2. Inventories. Inventories at September 30, 2003 and December 31, 2002
consisted of the following:
September 30, December 31,
2003 2002
------------ ------------
Raw materials $ 8,879,871 $ 10,223,180
Work-in-process 4,421,757 2,343,500
Finished goods 9,739,459 8,900,959
Less reserve for obsolete inventory (3,022,074) (2,768,422)
------------ ------------
Total $ 20,019,013 $ 18,699,217
============ ============
6
MERIT MEDICAL SYSTEMS, INC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued)
- ---------------------------------------------------------------------
3. Reporting Comprehensive Income. Comprehensive income for the three and nine
months ended September 30, 2003 and 2002 consisted of net income and foreign
currency translation adjustments. As of September 30, 2003 and December 31,
2002, the cumulative effect of such adjustments reduced stockholders' equity by
$476,182 and $530,455, respectively. Comprehensive income for the three and nine
months ended September 30, 2003 and 2002 has been computed as follows:
Three Months Ended Nine Months Ended
September 30, September 30
-------------------------- -------------------------
2003 2002 2003 2002
----------- ----------- ----------- -----------
Net income $ 4,651,887 $ 3,125,403 $12,609,630 $ 8,154,124
Foreign currency translation (12,291) 1,544 54,273 91,605
----------- ----------- ----------- -----------
Comprehensive income $ 4,639,596 $ 3,126,947 $12,663,903 $ 8,245,729
=========== =========== =========== ===========
4. Recently Issued Accounting Standards. In November 2002, the Financial
Accounting Standards Board (FASB) issued Financial Accounting Standards Board
Interpretation No. ("FIN") 45, Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of
Others, which require the guarantor to recognize as a liability the fair value
of the obligation at the inception of the guarantee. The disclosure requirements
in FIN 45 were effective for financial statements of interim or annual periods
ending after December 15, 2002. We adopted the initial recognition and
measurement provisions in FIN 45, effective January 1, 2003. As of September 30,
2003, there were no guarantees required to be disclosed or recorded in the
financial statements under FIN 45.
In January 2003, the Financial Accounting Standards Board issued FASB
Interpretation No. (FIN) 46, "Consolidation of Variable Interest Entities." FIN
46 addresses the requirements for business enterprises to consolidate related
entities, for which they do not have controlling interests through voting or
other rights, if they are determined to be the primary beneficiary as a result
of variable economic interests. The Company adopted FIN 46 in the third quarter
of 2003. The adoption of FIN 46 did not impact at all our consolidated earnings,
financial position, or cash flows.
5. Stock Splits. On July 31, 2003, the Company's Board of Directors approved a
four-for-three forward stock split of the Company's outstanding shares of common
stock, which was effective August 15, 2003, for shareholders of record as of
August 11, 2003. All earnings per share and share data have been adjusted to
reflect this split.
7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
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Disclosure Regarding Forward-Looking Statements
- -----------------------------------------------
This Report includes "forward-looking statements" within the meaning of Section
27A of the Securities Act of 1933, as amended and Section 21E of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"). All statements in this
Report other than statements of historical fact, are "forward-looking
statements" for purposes of these provisions, including any projections of
earnings, revenues or other financial items, any statements of the plans or
objectives of management for future operations, any statements concerning
proposed new products or services, any statements regarding future economic
conditions or performance, and any statements of assumptions underlying any of
the foregoing. All forward-looking statements included in this Report are made
as of the date hereof and are based on information available to us as of such
date. We assume no obligation to update any forward-looking statement. In some
cases, forward-looking statements can be identified by the use of terminology
such as "may," "will," "expects," "plans," "anticipates," "intends" or
"believes," "estimates," "potential," or "continue," or the negative thereof or
other comparable terminology. Although we believe that the expectations
reflected in the forward-looking statements contained herein are reasonable,
there can be no assurance that such expectations or any of the forward-looking
statements will prove to be correct, and actual results will vary, and may vary
materially, from those projected or assumed in the forward-looking statements.
Future financial condition and results of operations, as well as any
forward-looking statements, are subject to inherent risks and uncertainties,
including market acceptance of our products, product introductions, potential
product recalls, delays in obtaining regulatory approvals, or the failure to
maintain such approvals, cost increases, fluctuations in and obsolescence of
inventory, price and product competition, availability of labor and materials,
development of new products and technology that could render our products
obsolete, product liability claims, modification or limitation of governmental
or private insurance reimbursement procedures, infringement of our technology or
the assertion that our technology infringes the rights of other parties, foreign
currency fluctuations, challenges associated with our growth strategy, changes
in health care markets related to health care reform initiatives and other
factors referred to in our press releases and reports filed with the Securities
and Exchange Commission (the "SEC"). All subsequent forward-looking statements
attributable to Merit or persons acting on our behalf are expressly qualified in
their entirety by these cautionary statements. Additional factors that may have
a direct bearing on our operating results are described under "Factors That May
Affect Future Results" beginning on page 10.
Overview
During the three months ended September 30, 2003, we experienced the best
quarterly earnings performance in our history. We reported net income of $4.7
million, or $.23 per share, on revenues of $34.5 million, for the three months
ended September 30, 2003. For the comparable period of 2002, we reported net
income of $3.1 million, or $.16 per share, on revenues of $29.3 million. For the
nine months ended September 30, 2003, net income was $12.6 million, or $.63 per
share, on revenues of $100.8 million, compared to net income for the nine months
ended September 30, 2002 of $8.2 million, or $.42 per share, on revenues of
$86.8 million.
8
The rise in net income for the three and nine months ended September 30, 2003,
was favorably affected by increased sales, higher gross margins and lower
selling, general and administrative expenses as a percentage of sales, when
compared to comparable periods in 2002.
Inventory turns improved during the twelve months preceding September 30, 2003
to 3.64 times per year from 3.17 times per year for the twelve months preceding
September 30, 2002. The improvement contributed to lower inventory carrying
costs for the three months ended September 30, 2003. Our cash flow from
operations was strong at $20.9 million for the first nine months of 2003,
compared to $17.4 million for the same period of 2002. Our cash position was
$26.3 million at September 30, 2003, compared to $6.4 million at September 30,
2002.
Results of Operations
The following table sets forth certain operational data as a percentage of sales
for the three and nine month periods ended September 30, 2003 and 2002:
Three Months Nine Months
Ended September 30, Ended September 30,
-------------------- --------------------
2003 2002 2003 2002
------- ------- ------- -------
Sales 100.0% 100.0% 100.0% 100.0%
Gross profit 6.3 42.8 44.1 41.2
Selling, general and administrative expenses 22.5 23.7 22.4 23.8
Research and development expenses 3.3 3.3 3.4 3.3
Income from operations 20.5 15.8 18.3 14.1
Other (income) expense (.4) (.04) (1.2) .1
Net income 13.5 10.7 12.5 9.4
Sales. Sales for the three months ended September 30, 2003 increased by 18%, or
$5.2 million, compared to the same period of 2002. All product categories of our
business contributed to our sales growth during third quarter of 2003: custom
kit sales rose 21%, stand alone device sales grew by 21%, inflation device sales
rose 15% and catheter sales rose by 8%. For the nine month period ended
September 30, 2003 compared to the same period in 2002, stand alone device sales
grew by 20%, inflation devices sales grew by 16%; custom kit sales rose 16%; and
catheter sales increased 6%. Growth in sales for the three and nine months ended
September 30, 2003, when compared to the same periods in 2002, benefited from
procedural growth, increase in our market share, OEM product sales and group
purchasing contracts. The increase in the exchange rate between the Euro and the
U.S. Dollar increased sales by 1.2% and 1.8%, respectively, for the three and
nine months ended September 30, 2003, when compared to prior periods for 2002.
Gross Profit. For the three months ended September 30, 2003, gross margin as a
percentage of sales was 46.3%, compared to 42.8% for the same period in 2002.
For the nine months ended September 30, 2003, gross margin was 44.1%, as
compared to 41.2% for the same period in 2002. Gross profit improvement for both
the three and nine months ended September 30, 2003 was due primarily to an
increase in efficiency and productivity gains achieved by the operations group.
These productivity gains included increases in finished goods inventories of $2
million from June 30, 2003 through September 30, 2003. The Company does not
anticipate similar increases in finished goods inventories for future periods.
Gross profit was also favorably impacted during the three and nine months ended
September 30, 2003 from an increase in the exchange rate of the Euro against the
U.S. Dollar when compared to the same periods of 2002, resulting in an increase
in gross profit of 1.2% and 1.7%, respectively, for both the three and
nine-month periods ended September 30, 2003.
9
Operating Expenses. Operating expenses decreased as a percentage of sales to
25.8% for the three months ended September 30, 2003, compared to 27.0% for the
same period of 2002. For the nine months ended September 30, 2003, operating
expenses decreased as a percentage of sales to 25.8%, compared to 27.1% for the
same period in 2002. Selling, general and administrative expenses decreased as a
percentage of sales to 22.5% and 22.4% for three and nine months ended September
30, 2003, respectively, compared to 23.7% and 23.8%, respectively, for the same
period of 2002. The decrease in operating expenses as a percentage of sales
during the three and nine months ended September 30, 2003 was due primarily to
our increased revenues. Research and development expenses were 3.3% of sales
during the three months ended June 30, 2003 and 2002. For the nine months ended
September 30, 2003, research and development expenditures were 3.4% of sales,
compared to 3.3% for the same period 2002.
Other (Income) Expense. Other income for the three months ended September 30,
2003 was $124,873, compared to $10,764 for the same period in 2002. The
generation of other income during the third quarter of 2003 was primarily due to
an increase in interest income from the Company's strong cash position, when
compared to the comparable period in 2002. For the nine months ended September
30, 2003, other income was $1.3 million, compared to other expense of $75,696
for the same period in 2002. The generation of other income during the first
nine months of 2003 was principally the result of a gain from the settlement of
a legal dispute of $475,000 and a gain on sale of land adjacent to our South
Jordan, Utah facility of $507,928. Other income for the nine months ended
September 30, 2003 was also affected by an increase in interest income of
$209,065 and a decrease in interest expense of $66,283, when compared to the
same period in 2002.
Income Taxes. The effective tax rate for the three months ended Septmeber 30,
2003 was 35.5% compared to 32.6% for 2002. For the nine months ended September
30, 2003, the effective tax rate was 35.8%, compared to 32.8% for 2002. The
increase in the effective tax rate for the three and nine months ended September
30, 2003, as compared to the same periods of the prior year, was principally the
result of an increase in the incremental corporate tax rate of 3% on taxable
income from $15 million to $18.3 million and a dilution of the impact of our
Extra Territorial Income Exclusion and research and development tax credits on
higher income before tax expense. Also, taxable income from our Galway, Ireland
operations, which is taxed at a lower rate than U.S. operations, was lower in
the three and nine months ended September 30, 2003 compared to the 2002
comparable periods, which helped contribute to our increased effective tax rate
for these periods.
Income. During the three months ended September 30, 2003, we reported income
from operations of $7.1 million, an increase of 53%, compared to income from
operations of $4.6 million for the comparable period in 2002. Operating income
for the first nine months of 2003 was $18.4 million, compared to $12.2 million
for the first nine months of 2002, an increase of 51%. The increase in income
from operations for the three and nine months ended September 30, 2003, was
attributable primarily to increased sales, higher gross margins, and lower
selling, general and administrative expenses as a percentage of sales. These
factors also contributed to our net income of $4.7 million for the three months
ended September 30, 2003, compared to net income of $3.1 million for the same
period of 2002, and net income for the nine months ended September 30, 2003 was
$12.6 million, compared to $8.2 million for the nine months of 2002.
Liquidity and Capital Resources.
At September 30, 2003, our working capital was $48.6 million, which represented
a current ratio of 4.0 to 1. Our cash balance at September 30, 2003 was $26.3
million. Historically, we have incurred significant expenses in connection with
10
product development and introduction of new products. Substantial capital has
also been required to finance the increase in our receivables and inventories
associated with our increased sales. During the next 15 months, substantial
funds will be needed to construct additional facilities in Galway, Ireland and
South Jordan, Utah. Construction of these facilities is needed to expand our
manufacturing capacity to meet current and future demand of the Company's
products. The construction of the facilities in South Jordan, Utah will also be
used to consolidate our Murray, Utah facility and our Merit Sensor System, Inc.
wafer fab facility from Santa Clara, California to South Jordan, Utah. We
currently expect to spend approximately $21 million dollars to build these
facilities. It is anticipated that an additional $4 million, in excess of the
Company's current annual capital expenditures, will be spent on a finished goods
handling system and other production equipment for these new facilities. Our
principal source of funding for these and other expenses has been cash generated
from operations, sale of equity and cash secured from loans on equipment and
bank lines of credit. Management believes that Merit's present sources of
liquidity and capital are adequate for our current operations.
Critical Accounting Policies
The SEC has requested that all registrants discuss their most critical
accounting policies. We understand that a "critical accounting policy" is one
which is both important to the representation of the subject company's financial
condition and results and requires management's most difficult, subjective or
complex judgments, often as a result of the need to make estimates about the
effect of matters that are inherently uncertain. We base our estimates on past
experience and on various other assumptions that we believe are reasonable under
the circumstances, the results of which form the basis for making judgments
about carrying values of assets and liabilities that are not readily apparent
from other sources. Actual results may differ from these estimates under
different assumptions or conditions. The following are our most critical
accounting policies:
Inventory Obsolescence Reserve. We write down our inventory for estimated
obsolescence for unmarketable and/or slow-moving products that may expire prior
to being sold. If market conditions become less favorable than those projected
by our management, additional inventory write-downs may be required. Our
obsolescence reserve was $3 million on September 30, 2003.
Allowance for Doubtful Accounts. We maintain allowances for doubtful accounts
for estimated losses resulting from the inability of customers to make required
payments. The allowance is based upon historical experience and a review of
individual customer balances. If the financial condition of our customers were
to deteriorate, resulting in an impairment of their ability to make payments,
additional allowances may be required. Our bad debt reserve was $744,911 at
September 30, 2003, which is generally consistent with our historical experience
with collection of receivables.
Factors that May Affect Future Results
Our business, operations and financial condition are subject to certain risks
and uncertainties. Should one or more of these risks or uncertainties
materialize, or should any underlying assumptions prove incorrect, actual
results will vary, and may vary materially, from those anticipated, estimated,
projected or expected. The following are among the key factors that may have a
direct bearing on our business, operations and financial condition:
Our products may be subject to recall or product liability claims. Our products
are used in connection with surgical procedures and in other medical contexts in
which it is important that those products function with precision and accuracy.
If our products do not function as designed, or are designed improperly, we may
11
be forced by regulatory agencies to withdraw such products from the market. In
addition, if medical personnel or their patients suffer injury as a result of
any failure of our products to function as designed, or an inappropriate design,
we may be subject to lawsuits seeking significant compensatory and punitive
damages. Any product recall or lawsuit seeking significant monetary damages may
have a material adverse effect on our business and financial condition.
Substantially all of our products are backed by a limited warranty for returns
due to defects in quality and workmanship. We maintain a reserve for these
future returned products, but the actual costs of such returns may significantly
exceed the reserve, which could have a material adverse effect on our
operations.
Termination of relationships with our suppliers, or failure of such suppliers to
perform, could disrupt our business. We rely on raw materials, component parts,
finished products, and services supplied by outside third parties in connection
with our business. For example, substantially all of our products are sterilized
by two entities. In addition, some of our products are manufactured or assembled
by third parties. If a supplier of significant raw materials, component parts,
finished goods or services were to terminate its relationship with Merit, or
otherwise cease supplying raw materials, component parts, finished goods or
services consistent with past practice, our ability to meet our obligations to
our end customers may be disrupted. A disruption with respect to numerous
products, or with respect to a few significant products, could have a material
adverse effect on our business and financial condition.
We may be unable to compete in our markets, particularly if there is a
significant change in relevant practices and technology. The market for each of
our existing and potential products is highly competitive. We face competition
from several companies, many of which are larger, better established and have
greater financial, technical and other resources and greater market presence
than does Merit. Such resources and market presence may enable our competitors
to more effectively market competing products or to market competing products at
reduced prices in order to gain market share.
In addition, our ability to compete successfully is dependent, in part, upon our
ability to respond effectively to changes in technology and to develop and
market new products which achieve significant market acceptance. Competing
companies with substantially greater resources than Merit are actively engaged
in research and development of diagnostic and interventional methods, treatments
and procedures that could limit the market for our products and eventually make
certain of our products obsolete. A reduction in the demand for a significant
number of our products, or a few key products, could have a material adverse
effect on our business and financial condition.
A significant adverse change in, or failure to comply with, governing
regulations could adversely affect our business. Substantially all of our
products are "devices," as defined in the Federal Food, Drug and Cosmetic Act,
and the manufacture, distribution, record keeping, labeling and advertisement of
our products is subject to regulation by the Food and Drug Administration (the
"FDA") in the United States and equivalent regulatory agencies in various
foreign countries in which our products are manufactured, distributed, labeled,
offered or sold. Further, we are subject to continual review and periodic
inspections at our current facilities with respect to the FDA Good Manufacturing
Practices and similar requirements of foreign countries. Our business and
financial condition could be adversely affected if we are found to be out of
compliance with governing regulations. In addition, if such regulations are
amended to become more restrictive and costly to comply with, the costs of
compliance could adversely affect our business and financial condition.
12
Limits on reimbursement imposed by governmental and other programs may adversely
affect our business. The cost of a significant portion of medical care is funded
by governmental, social security or other insurance programs. Limits on
reimbursement imposed by such programs may adversely affect the ability of
hospitals and others to purchase Merit products. In addition, limitations on
reimbursement for procedures which utilize Merit products could adversely affect
our sales.
We are subject to work stoppage, transportation and related risks. We
manufacture our products at various locations in the United States and in
Ireland and sell our products throughout the United States, Europe and other
parts of the world. We depend on third-party transportation companies to deliver
supplies necessary to manufacture Merit products from vendors to our various
facilities and to move Merit products to customers, operating divisions and
other subsidiaries located within and outside the United States. Our
manufacturing operations, and the operations of the transportation companies on
which our operations depend, may be adversely affected by natural disasters and
significant human events, such as a war, terrorist attack, riot, strike,
slowdown or similar event. Any disruption in our manufacturing or transportation
could materially adversely affect our ability to meet customer demands or
conduct our operations.
We may be unable to protect our proprietary technology or our technology may
infringe on the proprietary technology of others. Our ability to remain
competitive is dependent, in part, upon our ability to prevent other companies
from using proprietary technology incorporated into our products. We seek to
protect our technology through a combination of patents and trade secrets, as
well as license, proprietary know-how and confidentiality agreements. We may be
unable, however, to prevent others from using our proprietary information, or
continue to use such information ourselves, for numerous reasons, including the
following:
o Our issued patents may not be sufficiently broad to prevent others
from copying our proprietary technologies;
o Our issued patents may be challenged by third parties and deemed
to be overbroad or unenforceable;
o Our products may infringe on the patents of others, requiring us
to alter or discontinue our manufacture or sale of such products;
o Costs associated with seeking enforcement of our patents against
infringement, or defending ourselves against allegations of
infringement, may be significant;
o Our pending patent applications may not be granted for various
reasons, including overbreadth or conflict with an existing
patent; and
o Other persons may independently develop, or have developed,
similar or superior technologies.
A significant portion of our revenues are derived from a few products and
procedures. A significant portion of our revenues are attributable to sales of
our inflation devices. During the year ended December 31, 2002, sales of our
inflation devices (including inflation devices sold in custom kits) accounted
for approximately 33% of our total revenues. During the three and nine months
ended September 30, 2003, sales of our inflation devices (including inflation
devices sold in custom kits) accounted for approximately 31.8% and 32.7%,
respectively, of our total revenues. Any material decline in market demand for
our inflation devices could have an adverse effect on our business and financial
condition.
13
In addition, the products that have accounted for a majority of our historical
revenues are designed for use in connection with a few related medical
procedures, including angiography, angioplasty and stent placement procedures.
If subsequent developments in medical technology or drug therapy make such
procedures obsolete, or alter the methodology of such procedures so as to
eliminate the usefulness of our products, we may experience a material decrease
in demand for our products and experience deteriorating financial performance.
Fluctuations in Euro exchange rates may negatively impact our financial results.
Fluctuations in the rate of exchange between the Euro and the U.S. Dollar could
have a negative impact on our margins and financial results. For example, for
the year ended December 31, 2000, the exchange rate between the Euro and the U.
S. Dollar dropped by approximately 13.2%, resulting in a reduction in our gross
revenues of $1,076,695 and approximately 1.2% in gross profit. For the year
ended December 31, 2001, the exchange rate between the Euro and the U. S. Dollar
resulted in a reduction of our gross revenues of $467,283 and approximately 0.4%
in gross profit. However, for the year ended December 31, 2002, the exchange
rate resulted in an increase of gross revenues of $497,644 and approximately
0.4% in gross profit. For the three and nine months ended September 30, 2003,
the exchange rate resulted in an increase of gross revenues of $406,315 and $1.8
million, respectively, and approximately 1.2% and 1.7%, respectively, of an
increase in gross profit.
For the year ended December 31, 2002, approximately $10.1 million, or 8.7%, of
our sales were denominated in Euros. If the rate of exchange between the Euro
and the U.S. Dollar declines, we may not be able to increase the prices that we
charge our European customers for products whose prices are denominated in
Euros. Furthermore, we may be unable or elect not to enter into hedging
transactions which could mitigate the effect of declining exchange rates. As a
result, as the rate of exchange between Euros and the U.S. Dollars declines, our
financial results may be negatively impacted.
We may be unable to successfully manage growth, particularly if accomplished
through acquisitions. Successful implementation of our business strategy will
require that we effectively manage any associated growth. To manage growth
effectively, our management will need to continue to implement changes in
certain aspects of our business, to enhance our information systems and
operations to respond to increased demand, to attract and retain qualified
personnel and to develop, train and manage an increasing number of
management-level and other employees. Growth could place an increasing strain on
our management, financial, product design, marketing, distribution and other
resources, and we could experience operating difficulties. Any failure to manage
growth effectively could have a material adverse effect on our results of
operations and financial condition.
To the extent that we grow through acquisition, we will face the additional
challenges of integrating our current operations, culture, informational
management systems and other characteristics with that of the acquired entity.
We may incur significant expenses in connection with negotiating and
consummating one or more transactions, and we may inherit certain liabilities in
connection with the acquisition as a result of our failure to conduct adequate
due diligence or otherwise. In addition, we may not realize competitive
advantages, synergies or other benefits anticipated in connection with such
acquisition(s). If we do not adequately identify targets for, or manage issues
related to our future acquisitions, such acquisitions may have a negative
adverse effect on our business and financial results.
The market price of our common stock has been, and may continue to be, volatile.
The market price of our common stock has been, and may continue to be, highly
volatile for various reasons, including the following:
14
o Our announcement of new products or technical innovations, or
similar announcements by our competitors;
o Development of new procedures that use, or do not use, our
technology;
o Quarter-to-quarter fluctuations in our financial results;
o Claims involving potential infringement of patents and other
intellectual property rights;
o Analyst and other projections or recommendations regarding our
common stock or medical technology stocks generally;
o Any restatement of our financial statements or any investigation
into Merit by the SEC or another regulatory authority; and
o A general decline, or rise, of stock prices in the capital
markets.
We are dependent upon key personnel Our continued success is dependent on key
management personnel, including Fred P. Lampropoulos, our Chairman of the Board,
President and Chief Executive Officer. Mr. Lampropoulos is not subject to any
agreement prohibiting his departure, and we do not maintain key man life
insurance with his life. The loss of Mr. Lampropoulos, or of certain other key
management personnel, could materially adversely affect our business and
operations. Our success also depends, among other factors, on the successful
recruitment and retention of key operations, manufacturing, sales and other
personnel.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our principal market risk relates to changes in the value of the Euro relative
to the value of the U.S. Dollar. Our consolidated financial statements are
denominated in, and our principal currency is, the U.S. Dollar. A portion of our
revenues during the three months ended September 30, 2003 ($3.3 million,
representing approximately 9.5% of aggregate revenues) came from sales that were
denominated in Euros. Certain of our expenses are also denominated in Euros,
partially offsetting any risk associated with fluctuations of the Euro/Dollar
exchange rate. As a result of our Euro-denominated revenues and expenses, in a
year in which our Euro-denominated revenues exceed our Euro-based expenses, the
value of such Euro-denominated net income increases if the value of the Euro
increases relative to the value of the U.S. Dollar, and decreases if the value
of the Euro decreases relative to the value of the U. S. Dollar. For example, in
2000, a 13.2% drop in the value of the Euro in relation to the U.S. Dollar led
to reduced revenues and gross profit of $1.1 million. By contrast, in 2002, an
increase in the value of the Euro relative to the U.S. Dollar led to increased
revenue and gross profit of approximately $500,000.
At September 30, 2003, we had a net exchange rate exposure (representing the
difference between Euro-denominated receivables and Euro-denominated payables)
of approximately $2.6 million. In order to partially offset such risk, on August
29, 2003, we entered into a 30-day Euro hedge contract. We enter into similar
hedging transactions at various times during the year in an effort to partially
offset exchange rate risks we bear throughout the year. We do not purchase or
hold derivative financial instruments for speculative or trading purposes. This
economic hedge does not qualify for hedge accounting. During the three and nine
months ended September 30, 2003, we experienced a net gain of $11,074 and a net
loss of $50,071, respectively, on hedging transactions we executed during the
three and nine months ended September 30, 2003 in an effort to limit our
exposure to fluctuations in the Euro/Dollar exchange rate.
15
As of September 30, 2003, we had no variable rate debt. As long as we do not
have variable rate debt, our interest expense would not be affected by changes
in interest rates.
ITEM 4: CONTROLS AND PROCEDURES
Under the supervision and with the participation of our management, including
our principal executive officer and principal financial officer, we conducted an
evaluation of our disclosure controls and procedures, as such term is defined
under Rules 13a-14(c) and 15d-14(c) promulgated under the Exchange Act, within
90 days of the filing date of this Report. Based on this evaluation, our
principal executive officer and principal financial officer concluded that our
disclosure controls and procedures are effective in alerting them on a timely
basis to material information relating to Merit (including our consolidated
subsidiaries) required to be included in our reports filed or submitted under
the Exchange Act.
There have been no significant changes (including corrective actions with regard
to significant deficiencies or material weaknesses) in our internal controls or
in other factors that could significantly affect these controls subsequent to
the date of the evaluation referenced in the preceding paragraph.
PART II - OTHER INFORMATION
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits - None
Exhibit No. Description
----------- -----------
31.1 Certification of Principal Executive Officer
31.2 Certification of Principal Financial Officer
32.1 Certification of Principal Executive Officer
32.2 Certification of Principal Financial Officer
(b) The following Current Reports on Form 8-K were filed during the
quarter ended September 30, 2003:
Form 8-K Date of Event Description
-------- ------------- -----------
Item 7 & 9 7/23/2003 2nd quarter - 2003 results
16
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MERIT MEDICAL SYSTEMS, INC.
REGISTRANT
Date: November 13, 2003 /s/: FRED P. LAMPROPOULOS
------------------------ ------------------------------------------
FRED P. LAMPROPOULOS
PRESIDENT AND CHIEF EXECUTIVE OFFICER
Date: November 13, 2003 /s/: KENT W. STANGER
-------------------------- ------------------------------------------
KENT W. STANGER
SECRETARY AND CHIEF FINANCIAL OFFICER
17
EXHIBIT 31.1
------------
Certification of Chief Executive Officer
Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
I, Fred P. Lampropoulos, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Merit
Medial Systems, Inc.;
2. Based on my knowledge, this quarterly report does not contain
any untrue statement of a material fact or omit to state a
material fact necessary to make the statements made, in light
of the circumstances under which such statements were made,
not misleading with respect to the period covered by this
report;
3. Based on my knowledge, the financial statements, and other
financial information included in this quarterly report,
fairly present in all material respects the financial
condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this
report;
4. The registrant's other certifying officer(s) and I are
responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules
13a-15(e) and 15d-15(e)) for the registrant and we have:
a) Designed such disclosure controls and procedures, or caused
such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is
made known to us by others within those entities, particularly
during the period in which this report is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls
and procedures, as of the end of the period covered by this
report based on such evaluation; and
c) Disclosed in this report any change in the registrant's
internal control over financial reporting that occurred during
the registrant's most recent fiscal quarter (the registrant's
fourth fiscal quarter in the case of an annual report) that
has materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial
reporting; and
5. The registrant's other certifying officer(s) and I have
disclosed, based on our most recent evaluation of internal
control over financial reporting, to the registrant's auditors
and the audit committee of the registrant's board of directors
(or persons performing the equivalent function):
1
a) All significant deficiencies and material weaknesses in the
design or operation of internal control over financial
reporting which are reasonably likely to adversely affect the
registrant's ability to record, process, summarize and report
financial information; and
b) Any fraud, whether or not material, that involves
management or other employees who have a significant role in
the registrant's internal control over financial reporting.
Date: November 13, 2003 /s/: FRED P. LAMPROPOULOS
------------------------ ---------------------------------------------
Fred P. Lampropoulos, Chief Executive Officer
2
EXHIBIT 31.2
------------
Certification of Chief Financial Officer
Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
I, Kent W. Stanger, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Merit
Medial Systems, Inc.;
2. Based on my knowledge, this quarterly report does not contain
any untrue statement of a material fact or omit to state a
material fact necessary to make the statements made, in light
of the circumstances under which such statements were made,
not misleading with respect to the period covered by this
report;
3. Based on my knowledge, the financial statements, and other
financial information included in this quarterly report,
fairly present in all material respects the financial
condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this
report;
4. The registrant's other certifying officer(s) and I are
responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules
13a-15(e) and 15d-15(e)) for the registrant and we have:
a) Designed such disclosure controls and procedures, or caused
such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is
made known to us by others within those entities, particularly
during the period in which this report is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls
and procedures, as of the end of the period covered by this
report based on such evaluation; and
c) Disclosed in this report any change in the registrant's
internal control over financial reporting that occurred during
the registrant's most recent fiscal quarter (the registrant's
fourth fiscal quarter in the case of an annual report) that
has materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial
reporting; and
5. The registrant's other certifying officer(s) and I have
disclosed, based on our most recent evaluation of internal
control over financial reporting, to the registrant's auditors
and the audit committee of the registrant's board of directors
(or persons performing the equivalent function):
1
a) All significant deficiencies and material weaknesses in the
design or operation of internal control over financial
reporting which are reasonably likely to adversely affect the
registrant's ability to record, process, summarize and report
financial information; and
b) Any fraud, whether or not material, that involves
management or other employees who have a significant role in
the registrant's internal control over financial reporting.
Date: November 13, 2003 /s/:KENT W. STANGER
------------------------ --------------------------------------------
Kent W. Stanger, Chief Financial Officer
2
EXHIBIT 32.1
------------
Certification of Chief Executive Officer
Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
In connection with this quarterly report on Form 10-Q of Merit Medical Systems,
Inc. I, Fred P. Lampropoulos, Chief Executive Officer of Merit Medical Systems,
Inc., certify, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
(1) The report fully complies with the requirements of Section 13(a) or
15 (d) of the Securities Exchange Act of 1934; and
(2) The information contained in this report fairly presents, in all
material respects, the financial condition and results of operations of
Merit Medical Systems, Inc
Date: November 13, 2003 /s/ Fred P. Lampropoulos
-------------------------------------
Fred P. Lampropoulos
Chairman of the Board, President
and Chief Executive Officer
EXHIBIT 32.2
------------
Certification of Chief Financial Officer
Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
In connection with this quarterly report on Form 10-Q of Merit Medical Systems,
Inc. I, Kent W. Stanger, Chief Financial Officer of Merit Medical Systems, Inc.,
certify, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
(1) The report fully complies with the requirements of Section 13(a) or
15 (d) of the Securities Exchange Act of 1934; and
(2) The information contained in this report fairly presents, in all
material respects, the financial condition and results of operations of
Merit Medical Systems, Inc.
Date: November 13, 2003 /s/ Kent W. Stanger
---------------------------
Kent W. Stanger
Chief Financial Officer