Item 1. Business.
GENERAL
Merit Medical Systems, Inc. (the "Company") was formed in 1987 by members of its current management for the purpose of producing single-use medical products of high quality and superior value primarily for use in diagnosis and treatment of cardiovascular disease. The Company's products are designed to provide physicians and other health care professionals with devices that enable them to perform interventional and diagnostic procedures safely and effectively. Initially, the Company's expertise in product design and its proprietary technology and skills in injection and insert molding enabled it to introduce innovative new products and capture significant market share. The Company subsequently combined its plastics molding capability with the application of proprietary electronics and sensor-based technologies to develop a line of angioplasty inflation products with electronic sensing and display features. These devices are now included in a group of sensor-based products that address a broad range of needs related to diagnostic and interventional catheterization procedures performed in hospitals. Since 1997 the Company has expanded its product offerings to include catheters, guide wires, sheath introducers, needles safety products and drug infusion devices.
The Company's strategy is to offer a broad line of innovative, disposable products for diagnosis and intervention in radiology and cardiology. Merit continues to increase market acceptance and penetration for both its existing and new products in the U.S. and in international markets. Longer term, the Company's strategy is to extend the application of its sensor-based technologies, plastics molding, catheter, guide wire, and electronic capabilities and to develop products for diagnostic and interventional procedures in additional markets such as neuroradiology, nephrology, pain management and critical care. The Company's sales of both stand-alone products in combination with custom kits have increased as additions have been made to the Company's product lines. In 2001, approximately 53% of the Company's sales were made directly to U.S. hospitals and approximately 24% of sales were made to custom packagers, distributors and O.E.M. companies who also distribute to U.S. hospitals. Approximately 23% of the Company's sales in 2001 were made in international markets.
The Company was organized in July 1987 as a Utah corporation. In July 1994, the Company purchased a controlling interest in Merit Sensor Systems, Inc. (formally Sentir), a California-based manufacturer of silicon sensors, and during 1999 the Company purchased the remaining interest. The Company also has established subsidiaries in Ireland, Germany, France, the United Kingdom, Belgium, and the Netherlands to conduct its international business. On January 31, 1997, the Company purchased the operating assets and product lines of Universal Medical Instruments Corp. ("UMI"). On August 20, 1999 the Company purchased the operating assets and product lines of the Angleton, Texas division of Mallinckrodt Inc. ("Mallinckrodt"). The Company's principal offices are located in a manufacturing and office facility at 1600 West Merit Parkway, South Jordan, Utah 84095, and its telephone number is (801) 253-1600. See "Item 2.
Item 2. Properties.
The Company is the owner of approximately 26 acres of real property situated in the City of South Jordan, Utah, surrounding an additional 10-acre site which includes its 175,000 square foot principal office and manufacturing facility where it relocated and consolidated its operations in November 1994. The Company sold to the developer ten acres of land on which the facility was constructed and entered into a 25-year lease agreement to finance the new facility. Monthly lease payments are approximately $122,000. The Company also holds an option to purchase the facility, exercisable at market value after ten years and, if not exercised, after 25 years. The new facility was constructed to the Company's specifications and is presently estimated to be 80% utilized.
The Company is leasing a building of approximately 26,500 square feet in Galway, County Galway, Republic of Ireland, as its principal office and manufacturing facility for European operations. This facility is used as the administrative headquarters to support the European direct sales force. The facility also houses a research and development team, which has developed a new PTCA guide wire and a diagnostic guide wire, and is developing other new products. Beginning in the fourth quarter of 1997, the Company initiated manufacturing operations for several new and existing products at the Galway facility, including custom kits, the BASIX(R) inflation device and the Company's PTCA guide wire. In 1998 Merit began the manufacture of the hemostasis valve products in Ireland. Toward the end of 2001 the Company finished an R&D project and began manufacturing a new diagnostic guide wire. The property has been improved and equipped on terms favorable to the Company in connection with economic development incentives and grants provided by the Irish Government. This lease is for 20 years at approximately $210,000 per year. The Company also has a purchase option exercisable throughout the term of the lease.
In October 1997, the Company began manufacturing operations in a facility of approximately 25,000 square feet of manufacturing space formerly occupied by the Company in Murray, Utah and shifted production of several well-established products to this facility. In 1998 Merit added an additional 25,000 square feet of manufacturing space to its Murray location. The additional manufacturing space was obtained to create room at the Company's principal manufacturing facility for the production of new products. The leases are for a term of five years with monthly lease payments of approximately $30,000.
In August 1999, the Company purchased the operating assets of Mallinckrodt's Angleton division, including approximately 19 acres of land and a 75,000 square feet building in Angleton, Texas.
The Company believes that its facilities are generally adequate for its present level of operations and for anticipated increases in the level of operations.
Item 3.
Item 3. Legal Proceedings.
In the course of business, the Company is involved in litigation and claims which management believes will not have a materially adverse effect on the Company's operations.
Item 4.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders during the fourth quarter of the fiscal year covered by this report.
PART II
Item 5.
Item 5. Market for Registrant's Common Stock and Related Shareholder Matters.
The "Market Information" included in the Company's Annual Report to Shareholders for the year ended December 31, 2001, furnished herewith to the Commission as Exhibit 13.1 to this Report, is incorporated herein by reference.
Item 6.
Item 6. Selected Financial Data.
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
OVERVIEW
2001 was by far the most exciting and rewarding year in the history of Merit Medical, particularly on the heels of the challenging year preceding it. The Company has not only achieved a 14% top line growth but improved just about every area of its financial statements, especially the bottom line, up 715% over an albeit "troubled" 2000. Income for 2001 was also up 109% over 1999, the previous best year ever, and within 8% of exceeding the total net income of the previous four years (1997 - 2000).
2001 was a year of great accomplishments and important milestones. To start with Merit passed a major milestone of $100 million in revenues. The Company also passed important milestones in equity market capitalization of first $100 million, and now $200 million. Merit Medical surpassed the milestone of over $100,000 of sales per employee for 2001, up 54% from just two years ago. From January 2000 to February 2002, the Company's revenue has increased over 30% while inventory has dropped over 31%. The preceding two accomplishments, along with our upgraded MIS systems and our new incentive pay system, have worked together to make the Company much more productive. The productivity gains are evident in both the gross margin and SG&A improvements as a percent of sales. Maybe the best milestone of all is that since late August 2000 (in just 19 months), Merit Medical has paid off approximately $32 million in debt and as of March 27, 2002 the line of credit is paid in full. All of these accomplishments and milestones have contributed to a record year for "the bottom line".
So what made this happen and why do we believe it will continue? Higher productivity from all of our employees has come from a Company-wide incentive pay program that compensates each employee for individual, team and Company goals, the benefit from which it shares with the employees. The Company's new Oracle system, now learned, is increasing productivity. Management throughout the Company has learned important lessons from our 1999 to 2000 experiences. Continuing leverage of long-term investments in: (1) product breadth, quality and innovation (2) direct sales force in U.S. and Europe (3) quality systems and facilities.
With the Company's cash flow improving and its debt paid off, it is in the position to take advantage of the many opportunities now becoming available to a company with the market leadership and reputation of Merit Medical. The Company has recently added products to its offerings which "weren't invented here" because Merit is the best option for these products to get the focused exposure they needed. Management believes there are many more opportunities to grow the company in addition to the continued growth of the market in which the Company sells, and the continued acceptance by the market of the Company's new and existing products, namely in the form of newly acquired products, technologies and/or business that will enhance and leverage further the strong position Merit Medical has achieved.
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, certain operational data as a percentage of sales:
2001 2000 1999 ----- ----- ----- Sales 100.0% 100.0% 100.0% Gross margins 36.6 33.5 38.5 Selling, general and administrative 23.1 25.5 26.2 Research and development 4.0 4.2 4.6 Income from operations 9.6 3.4 7.7 Income before income tax expense 9.4 .8 6.1 Net Income 6.5 .9 4.1
Sales increased by $12.6 million, or 13.8%, in 2001 compared to an increase of $13.5 million, or 17.3%, in 2000, and an increase of $9.6 million, or 14.0%, in 1999. The increase in sales for 2001 came from a 19% increase in custom kits, an 18% increase in stand-alone products and a 14% increase in inflation devices. Incremental sales of $7.1 million from the August 1999, Angleton catheter line acquisition was the largest contributing factor to the sales rise in 2000. Sales growth from 1999 through 2001 was also favorably affected by the introduction of new products and increased sales of existing products sold separately and packaged in custom kits, and increased penetration of the market by Merit's inflation devices. International sales in 2001 were approximately $23.8 million, or 23%, compared to $21.8 million, or 24%, in 2000, and $18.3 million, or 24%, in 1999. These increases were primarily a result of the addition of the Angleton product lines, ongoing growth in the direct sales in Europe, as well as greater acceptance of the Company's products in other international markets. Direct sales in France, Germany, the U.K., Belgium, the Netherlands and Canada were $10.6 million, $8.6 million and $8.2 million in 2001, 2000 and 1999, respectively.
Gross profit as a percent of sales was 36.6%, 33.5%, and 38.5% in 2001, 2000, and 1999, respectively. The increase in the gross margin percentage in 2001 over 2000 was due primarily to an increase in efficiency and productivity gains by the operations group in the Utah facilities. A lower head count in both direct labor and overhead areas of production contributed to higher productivity. This margin percentage increase is expected to continue into 2002 as demonstrated by the 38.5% gross margin achieved in the fourth quarter of 2001. The Company is operating in a generally declining price market. There is also a general cost-increasing manufacturing environment. Merit has been able to battle this difficult situation with ever-increasing production volumes until 2000. Beginning in early 1999, the Company suffered through the implementation of a comprehensive new software system, which in the operations areas lead to difficulties in efficiently operating the purchasing, planning and manufacturing processes of the business. Merit also made a purposeful effort to increase its safety stock levels of inventory in preparation for higher, anticipated sales orders ahead of Y2K. The combination of these increased production demands created a build-up of capacity in labor and overhead. As the end of 1999 approached, however, the Company needed to reduce production levels to match cash-flow expectations. The reduced production volumes created higher overhead costs per unit, lower gross margins, and lower bottom-line results. Another important factor negatively affecting gross margins was the large (13.2%) drop in the Euro in relation to the Dollar during 2000. This reduced revenues and gross profit of the European operation by $1.1 million and reduced overall gross margins by 1.2%. In December 1999, the Company began the difficult process of down-sizing the labor and overhead capacities in the operation of its Utah facilities. The Company has eliminated the large excess negative production variances that were caused by the slow-down in production volumes. This was accomplished by the reduction of approximately 240 people from its high point in December of 1999, or an average reduction of 100 people in 2000 compared to 1999. This was accomplished primarily by attrition.
Selling, general and administrative expenses increased $739,945, or 3.2%, in 2001 over 2000 and $2.9 million, or 14.2%, in 2000 over 1999. These additional expenditures were related principally to increased costs of expanding the direct sales force and their management both in U.S. and Europe. Another important factor has been the costs of the development of new business opportunities such as acquisitions, product distribution agreements, national accounts and the O.E.M portion of the business. These increases in costs have grown slower than sales, causing selling, general and administrative expenses as a percent of sales to decrease to 23.1 % in 2001, from 25.5% in 2000, and 26.2% in 1999.
Research and development expenditures for 2001 were $4.1 million, an increase of 6.6%, compared to $3.9 million for 2000, which was an increase of 6.8%, compared to $3.6 million in 1999. Most of this increase was due to the addition of the R&D capabilities in Angleton, Texas with the Company's newly acquired catheter technology. Research and development costs as a percent of sales were 4.0%, 4.2% and 4.6% for 2001, 2000 and 1999, respectively.
In 2001 higher sales, better gross margins and lower selling, administrative and research costs per dollar of sales combined to increase income from operations (up 218%), income before tax (up 1,066% without the benefit of the sale of land), and net income (up 715% to record levels), compared to 2000.
In 2000, significantly lower gross margins more than offset the gains in sales as well as the efficiencies in SG&A and R&D Expenses, the net of which resulted in income from operations of $3.1 million, down 48% from 1999. The higher sales and gross margins, together with modest increases in operating expenses, positively affected income from operations in 1999 which increased to $6.0 million, up 16.4%. The income tax benefit for 2000 was $52,712, an effective rate of -6.8%. This negative tax rate was due principally to R&D tax credits which the Company was able to realize in the fourth quarter of 2000, including a portion of which related to prior years. Management expects the R&D tax credit to continue to favorably affect the Company's tax rate for 2002 year. The income tax provision for 1999 was $1.5 million, an effective rate of 30.6%. The effective tax rate improved significantly in 1999 as the Ireland facility became profitable and the 10% tax rate became a benefit.
LIQUIDITY AND CAPITAL RESOURCES
As of December 31, 2001 the Company's working capital was $26.9 million, a decrease of over 17%, representing a current ratio of 3.5 to 1. This decrease was due primarily to the reduction of almost $4.5 million in inventory. The Company had $5.1 million outstanding under its line of credit at December 31, 2001. As of March 27, 2002, the line of credit balance is $0. Merit has financed leasehold improvements and equipment acquisitions through secured notes payable and capital lease arrangements with an outstanding balance of $1.2 million at December 31, 2001. For the year ended December 31, 2001 the Company generated cash from operations in the amount of $18.4 million, the most in the history of the Company, and an increase of 158% over 2000.
The Company has certain commitments related to long-term debt, operating leases, and royalty payments as set forth in Notes 6, 7 and 12 of the Notes to Consolidated Financial Statements.
Historically, the Company has incurred significant expenses in connection with product development and introduction of new products. This was particularly true in 1999 with regard to an increase in inventory, plant and equipment associated with the Company's acquisition and new product introductions. The Company's principal source of funding for these and other expenses has been the cash generated from operations, secured loans on equipment, bank lines of credit and sales of equity. The Company believes that its present sources of liquidity and capital are adequate for its current operation.
Critical Accounting Policies and Estimates
In December 2001, the SEC requested that all registrants discuss their most critical accounting policies in their MD&A. The SEC indicated that a "critical accounting policy" is one which is both important to the representation of the 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. The Company bases estimates on past experience and on various other assumptions that are believed to be 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 the Company's most critical accounting policies:
Inventory Obsolescence Reserve: The Company writes down its inventory for estimated obsolescence for unmarketable products and slow moving products that may expire prior to being sold. If market conditions become less favorable than those projected by management, additional inventory write-downs may be required.
Allowance for Doubtful Accounts: The Company maintains allowances for doubtful accounts for estimated losses resulting from the inability of customers to make required payments. The allowance is based upon historical experience. If the financial condition of the Company's customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required.
Item 7A.
Item 7A. Quantitative and Qualitative Disclosure About Market Risk
The Company principally hedges the Euro. The Company enters into a forward foreign exchange contract to protect the Company from the risk that the eventual net dollar cash flows resulting from transactions with foreign customers and suppliers may be adversely affected by changes in currency exchange rates. Such contracts are not significant.
As of December 31, 2001 the Company had $5.1 million (2000- $ 23.0 million) of variable rate debt, all denominated in U.S. dollars. Annual interest expense would change by approximately $51,000 for every 1% change in interest rates.
Item 8.
Item 8. Financial Satements and Supplementary Data
DEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of Merit Medical Systems, Inc.:
We have audited the accompanying consolidated balance sheets of Merit Medical Systems, Inc. and subsidiaries as of December 31, 2001 and 2000, and the related consolidated statements of operations, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 2001. 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 audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. 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, such consolidated financial statements present fairly, in all material respects, the financial position of Merit Medical Systems, Inc. and subsidiaries as of December 31, 2001 and 2000, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2001 in conformity with accounting principles generally accepted in the United States of America.
By: /s/ DELOITTE & TOUCHE LLP - ----------------------------- DELOITTE & TOUCHE LLP Salt Lake City, Utah February 15, 2002 (March 27, 2002 as to the effects of the stock split described in Note 15)
MERIT MEDICAL SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS DECEMBER 31, 2001 AND 2000 - --------------------------------------------------------------------------------
Continued)
MERIT MEDICAL SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS DECEMBER 31, 2001 AND 2000 - --------------------------------------------------------------------------------
See notes to consolidated financial statements. (Concluded)
MERIT MEDICAL SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 2001, 2000, AND 1999 - --------------------------------------------------------------------------------
See notes to consolidated financial statements.
MERIT MEDICAL SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY FOR THE YEARS ENDED DECEMBER 31, 2001, 2000, AND 1999 - --------------------------------------------------------------------------------
See notes to consolidated financial statements
MERIT MEDICAL SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 2001, 2000, AND 1999 - --------------------------------------------------------------------------------
(Continued)
MERIT MEDICAL SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 2001, 2000, AND 1999 - --------------------------------------------------------------------------------
(Continued)
MERIT MEDICAL SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 2001, 2000, AND 1999 - --------------------------------------------------------------------------------
SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING AND FINANCING ACTIVITIES: o During 2001, 2000, and 1999, the Company entered into capital lease obligations and notes payable for approximately $271,000, $508,000, and $50,000, respectively, for manufacturing equipment.
o During 2001, 2000, and 1999, options to purchase 34,644, 1,339, and 330 shares of the Company's common stock were surrendered in exchange for the Company's recording of payroll tax liabilities in the amount of approximately $537,000, $9,000, and $1,600.
o During 2001, 2000, and 1999, 54,370, 7,804, and 21,018 shares of Company common stock with a value of approximately $824,000, $51,000, and $98,000, respectively, were surrendered in exchange for the exercise of stock options.
o During 1999, the Company acquired substantially all of the assets of the "Angleton Division" of Mallinckrodt Inc. (Angleton) in a purchase transaction for $7,867,699 in cash. In conjunction with the acquisition, liabilities were assumed as follows:
Fair value of assets acquired (including goodwekk of $1,949,383) $8,132,194 Cash paid 7,867,699 ---------- Liabilities assumed $ 264,495 ==========
o Additionally, during 1999, the Company acquired the minority interest in its subsidiary, Merit Sensor Systems, Inc. (formerly Sentir) in a purchase transaction for $3,455,217 in cash. The minority interest carried by the Company at the date of acquisition was $629,577. In conjunction with the acquisition, liabilities were assumed as follows:
Fair value of assets acquired (including goodwill of $2,825,640) $3,574,016 Cash paid 3,455,217 ---------- Liabilities assumed $ 118,799 ==========
See notes to consolidated financial statements. (Concluded)
MERIT MEDICAL SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2001, 2000, AND 1999 - --------------------------------------------------------------------------------
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization - Merit Medical Systems, Inc. (Merit) and its wholly-owned subsidiaries, Merit Holdings, Inc. (MHI), and Merit Sensor Systems, Inc. collectively own 100% of Merit Medical Systems LP (MMSLP). Combined with its other wholly-owned subsidiary, Merit Medical International, Inc. (MMI), Merit, MHI, and Merit Sensor Systems, Inc. collectively own 100% of Merit Services, Inc. (MSI) (collectively, the Company). The Company develops, manufactures, and markets disposable medical products primarily for use in the diagnosis and treatment of cardiovascular disease which is considered to be one segment line of business. The Company manufactures its products in plants located in the United States and in Ireland. The Company has export sales to dealers and has direct sales forces in the United States, and Western Europe (see Note 10).
The consolidated financial statements of the Company have been prepared in accordance with accounting principles generally accepted in the United States of America. The following is a summary of the more significant of such policies.
Use of Estimates in Preparing Financial Statements - 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.
Principles of Consolidation - The consolidated financial statements include those of Merit, MMI, MHI, MSI, MMSLP and Merit Sensor systems, Inc. All material intercompany balances and transactions have been eliminated in consolidation.
Receivables - The allowance for uncollectible accounts receivable is based on the Company's historical bad debt experience and on management's evaluation of collectibility of the individual outstanding balances.
Revenue Recognition - The Company recognizes revenues when the product is shipped which meets the criteria required by Staff Accounting Bulletin (SAB) No. 101, Revenue Recognition in Financial Statements, which was issued by the Securities and Exchange Commission in December 1999. The adoption of SAB No. 101, which provides guidance on the recognition, presentation and disclosure of revenue in financial statements, during 2000 was not significant to the Company's financial statements.
Inventories - Inventories are stated at the lower of cost (computed on a first-in, first-out basis) or market.
Income Taxes - The Company utilizes an asset and liability approach for financial accounting and reporting for income taxes. Deferred income taxes are provided for temporary differences in the bases of assets and liabilities as reported for financial statement and income tax purposes.
Long-Lived Assets - The Company evaluates the carrying value of long-term assets based on current and anticipated undiscounted cash flows and recognizes impairment when such cash flows will be less than the carrying values. There were no impairments as of December 31, 2001 or 2000.
Property and Equipment - Property and equipment are recorded at cost. Depreciation and amortization are computed using the straight-line method over estimated useful lives as follows:
Building 20 years Automobiles 4 years Manufacturing equipment 5 to 12 years Furniture and fixtures 3 to 10 years Leasehold improvements 4 to 25 years
Intangible Assets - Costs associated with obtaining patents, issued and pending, and trademarks have been capitalized and are amortized over the patent or trademark period or charged to expense if not approved. Cost in excess of fair value of assets acquired has been allocated to goodwill, which is amortized over twelve to twenty years. Amortization of intangibles is done on a straight-line basis.
Accrued Expenses - Accrued expenses consist of the following at December 31, 2001 and 2000:
December 31, ----------------------- 2001 2000 ---------- ---------- Accrued payroll taxes $ 377,254 $ 213,322 Accrued payroll 706,538 724,764 Accrued bonuses 883,056 34,502 Accrued commissions 278,675 230,857 Accrued vacation 836,380 713,225 Other accrued expenses 1,735,692 1,554,369 ---------- ----------
Total $4,817,595 $3,471,039 ========== ==========
Research and Development - Research and development costs are expensed as incurred.
Stockholders' Equity - On August 14, 2001, the Company's Board of Directors approved a five-for-four split of the Company's common stock effective August 27, 2001 for stockholders of record as of August 24, 2001. All historical share and per share amounts have been restated to reflect the stock split.
Earnings per Common Share - Net income per common share is computed by both the basic method, which uses the weighted average number of the Company's common shares outstanding, and the diluted method, which includes the dilutive common shares from stock options and warrants, as calculated using the treasury stock method.
Financial Instruments - The Company's financial instruments, when valued using market interest rates, would not be materially different from the amounts presented in the consolidated financial statements.
Stock-Based Compensation - The Company accounts for its stock compensation arrangements under the provisions of Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, (APB 25) and intends to continue to do so. The Company has adopted the disclosure-only provisions of Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation.
Statements of Cash Flows - For purposes of the statements of cash flows, the Company considers interest bearing deposits with an original maturity date of three months or less to be cash equivalents.
Concentration of Credit Risk - Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of temporary cash and cash equivalents and accounts receivable. The Company provides credit, in the normal course of business, primarily to hospitals and independent third-party packers and distributors. The Company performs ongoing credit evaluations of its customers and maintains allowances for potential credit losses.
Foreign Currency Translation Adjustment - The financial statements of the Company's foreign subsidiaries are generally measured using local currencies as the functional currency. Assets and liabilities are translated into U.S. dollars at year-end rates of exchange and results of operations are translated at average rates for the year. Gains and losses resulting from these translations are included in accumulated other comprehensive loss as a separate component of stockholders' equity.
Comprehensive Loss - Accumulated other comprehensive loss consists entirely of foreign currency translation adjustments.
Recently Issued Financial Accounting Standards - SFAS 133, Accounting for Derivative Instruments and Hedging Activities, as amended, requires that all derivative instruments be recognized as either assets or liabilities at fair market value. The Company adopted this statement beginning January 1, 2001. The effect on the Company's financial statements of adopting this statement was not significant.
In June 2001, SFAS No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible Assets were issued. Statement 141 requires all business combinations initiated after June 30, 2001 to be accounted for using the purchase method. Statement 142 became effective January 1, 2002 and eliminates the amortization of goodwill relating to past and future acquisitions. Instead, goodwill is subject to an impairment assessment that must be performed upon adoption of Statement 142 and at least annually thereafter.
The initial application of Statements 141 and 142 will not have a material impact on the results of operations or financial condition of the Company. However, the adoption of Statements 141 and 142 will eliminate approximately $300,000 of goodwill amortization expense on an annual basis.
In August of 2001, SFAS No. 144, Accounting for the Impairment or Disposal of Long-lived Assets, was issued which addresses accounting and financial reporting for the impairment or disposal of long-lived assets. This statement was effective for the Company beginning January 1, 2002. The effect on the Company's financial statements of adopting this statement was not significant.
Short-term Investments - Trading securities are recorded at estimated fair value with unrealized gains and losses included in income. The basis of cost used in determining realized gains and losses is specific identification. The estimated fair value of all securities is determined by quoted market prices.
Deferred Compensation - During 2001, the Company established certain deferred compensation plans (the "deferred compensation plans") for eligible participants. The deferred compensation plans permit each participant to defer a portion of their salary until the future. As permitted by the deferred compensation plans, the deferred salary may be invested on behalf of the participant in marketable securities, money market funds or the company's own stock. However, as the Company is the owner of the invested assets, such assets are reflected in the consolidated balance sheet at December 31, 2001. Short-term investments in marketable securities are classified as trading and recorded at fair value with unrealized gains and losses included in income. Common stock of the Company held for the deferred compensation plans is reported as a contra-equity account and is recorded at original cost. The deferred compensation obligation is classified as an accrued expense and adjusted, with a corresponding charge (or credit) to compensation cost, to reflect changes in the fair value of the underlying assets. Because the deferred compensation obligation may be settled by delivery of cash, shares of Company stock, or diversified assets, Company shares acquired are not included in basic earnings per share but are included in the calculation of diluted earnings per share.
2. SEVERANCE COSTS
During the year ended December 31, 2000, the Company terminated approximately 30 employees and correspondingly accrued a termination cost of approximately $331,000. This amount is included in operating expenses as severance costs.
3. ACQUISITIONS
On July 27, 1999, the Company acquired the 28% minority interest in its subsidiary, Merit Sensor Systems, Inc., for a purchase price of $3,574,016 consisting of $3,455,217 in cash and the assumption of
liabilities in the amount of $118,799. Of the $3,574,016 purchase price, $226,463 was paid to related parties. The acquisition has been accounted for using the purchase method of accounting; as such, 100 percent of Merit Sensor Systems, Inc.'s results of operations have been included in the accompanying consolidated financial statements from the date of acquisition. Previous to the acquisition date, the minority interest's share of operations was excluded from net income in the consolidated statements of operations. The cost of this acquisition exceeded the estimated fair value of the acquired net assets by $2,825,640. Such excess has been allocated to goodwill and is being amortized on a straight-line basis over 20 years.
On August 20, 1999, the Company acquired substantially all of the assets and assumed certain liabilities of the Angleton Division of Mallinckrodt, Inc. (Angleton) for a purchase price of $8,132,194 consisting of $7,867,699 in cash and the assumption of liabilities in the amount of $264,495. Angleton is a manufacturer of medical catheters. The acquisition has been accounted for using the purchase method of accounting; as such, Angleton's results of operations have been included in the accompanying consolidated financial statements from the date of acquisition. The cost of this acquisition exceeded the estimated fair value of the acquired net assets by $1,949,383. Such excess has been allocated to goodwill and is being amortized on a straight-line basis over 20 years.
The unaudited pro forma results of operations of the Company for the year ended December 31, 1999 (assuming the acquisition of Angleton had occurred as of January 1, 1999) are as follows:
Net Sales $87,606,126 Net Income 3,944,207 Net income per share (basic and diluted) 0.52
On May 18, 2000, the Company acquired certain assets of Electro-Catheter Corporation (Elecath) for a purchase price of $607,129 in cash. Elecath develops, manufactures and sells a broad range of cardiovascular catheters for use primarily in the Electro physiology, Cath Lab and Critical Care departments of hospitals. The cost of this acquisition exceeded the estimated fair value of the acquired assets by $533,793. Such excess has been allocated to goodwill and is being amortized on a straight-line basis over 12 years.
4. INVENTORIES
Inventories consist of the following at December 31, 2001 and 2000:
2001 2000 ------------ ------------
Finished goods $ 13,716,474 $ 15,255,622 Work-in-process 3,001,250 3,678,807 Raw materials 7,501,253 8,325,314 Less reserve for obsolete inventory (3,395,361) (1,986,315) ------------ ------------
Total $ 20,823,616 $ 25,273,428 ============ ============
5. INCOME TAXES
Deferred income tax assets and liabilities at December 31, 2001 and 2000 consist of the following temporary differences and carry forward items:
The components of the provision for income taxes are as follows:
2001 2000 1999 ----------- ----------- ----------- Current expense (benefit): Federal $ 2,608,391 $ (423,470) $ 735,293 State 370,707 (29,922) 196,642 Foreign 118,471 11,045 72,093 ----------- ----------- ----------- 3,097,569 (442,347) 1,004,028 ----------- ----------- -----------
Deferred expense (benefit): Federal (57,070) 196,470 509,077 State (124,908) 132,281 (8,230) Foreign 136,826 60,884 (50,113) ----------- ----------- ----------- (45,152) 389,635 450,734 ----------- ----------- -----------
Total $ 3,052,417 $ (52,712) $ 1,454,762 =========== =========== ===========
6. REVOLVING CREDIT FACILITY AND LONG-TERM DEBT
Revolving Credit Facility - The Company maintains a long-term revolving credit facility (the Facility) with a bank, which enables the Company to borrow funds at variable interest rates. In March 2000, the Company amended the Facility by increasing the amount of borrowings available to $35 million. Then, during September 2001, the Company voluntarily reduced the facility to $8 million. The Facility is fully due and payable on June 30, 2006. Additionally, the facility is reduced by $375,000 on the last day of each quarter commencing with the quarter ending September 30, 2001. The weighted average interest rates applied to the outstanding balances at December 31, 2001 and 2000 were 3.42% and 8.20%, respectively. Under the terms of the Facility, among other things, the Company is required to maintain a ratio of total liabilities to tangible net worth not to exceed 2.0 to 1.0, maintain a ratio of current assets to current liabilities of at least 1.5 to 1.0, maintain minimum working capital of $25,000,000, and is restricted from paying dividends to shareholders. For the years ended December 31, 2001 and 2000, management of the Company believes the Company was in compliance with all debt covenants. As of December 31, 2001 and 2000, the Company owed $5,115,239 and $23,000,000 under the Facility, respectively. The Facility is collateralized by trade receivables, inventories, property and equipment, and intangible assets.
Long-term Debt - Long-term debt consists of the following at December 31, 2001 and 2000:
Scheduled maturities of long-term debt at December 31, 2001 are as follows:
Year ending December 31:
2002 $ 598,086 2003 457,508 2004 78,266 2005 66,137 2006 5,125,470 ----------
Total $6,325,467 ==========
7. COMMITMENTS AND CONTINGENCIES
Leases - The Company has noncancelable operating lease agreements for off-site office and production facilities and equipment. The leases for the off-site office and production facilities are for five years and have renewal options of one to five years. Total rental expense on these operating leases and on the Company's new manufacturing and office building (see below) for the years ended December 31, 2001, 2000, and 1999 approximated $2,539,000, $2,539,000, and $3,094,000, respectively.
In June 1993, the Company entered into a 25 year lease agreement with a developer for a new manufacturing and office building. Under the agreement, the Company was granted an option to purchase the building at fair market value after 10 years and, if not exercised, after 25 years. In connection with this lease agreement, the Company in 1993 sold to the developer 10 acres of land on which the building was constructed. The $166,136 gain on the sale of the land has been recorded as a deferred credit and is being amortized as a reduction of rent expense over ten years. In connection with the lease agreement, the Company issued to the developer warrants to purchase 194,326 shares of the Company's common stock at $3.96 per share subject to carrying cost increases of 3% per year ($4.73 as of December 31, 2001). The warrants expire in 2005.
On December 22, 2000, the Company sold certain of its manufacturing equipment with a net carrying value of approximately $1,210,000 to a financial institution. The Company then entered into a six-year operating lease agreement for the same equipment. The approximate $70,000 gain on sale has been recorded as a deferred credit and is being amortized as a reduction of rental expense over six years.
The future minimum lease payments for operating leases as of December 31, 2001, are as follows:
Operating Leases
Year ending December 31: 2002 $ 2,490,777 2003 2,226,808 2004 2,167,641 2005 2,101,241 2006 2,096,110 Thereafter 21,566,087 -----------
Total minimum lease payments $32,648,664 ===========
Irish Government Development Agency Grants - Through December 31, 2001, the Company has entered into several grant agreements with the Irish Government Development Agency of which approximately $98,000 and $177,000 remained in receivables at December 31, 2001 and 2000, respectively. The grant agreements reimburse the Company for a portion of the cost of property and equipment purchased in Ireland, specific research and development projects in Ireland, and costs of hiring and training employees located in Ireland. The Company has recorded the grants related to research and development projects and costs of hiring
and training employees as a reduction of operating expenses in 2001, 2000, and 1999 in the amounts of approximately $36,000, $67,000, and $154,000, respectively. Grants related to the acquisition of property and equipment purchased in Ireland are recorded as deferred credits and are amortized to income over lives corresponding to the depreciable lives of such property. During 2001, 2000, and 1999, approximately $175,000, $149,000, and $142,000, respectively, of the deferred credit was amortized as a reduction of operating expenses. There is a commitment to repay the government grants if Merit Medical were to cease production in Ireland within 10 years of the receipt of the last grant payment.
Preferred Share Purchase Rights - In August 1997, the Company declared a dividend of one preferred share purchase right (a "Right") for each outstanding share of Common Stock which entitles the holder of a Right to purchase one one-hundredth of a share of Series A Junior Participating Preferred Stock at an exercise price of $40 in the event a person or group acquires, or announces an intention to acquire, 15% or more of the Company's common stock. Until such an event, the Rights are not exercisable and are transferable with the common stock and may be redeemed at a price of $.0001 per Right.
Litigation - In the ordinary course of business, the Company is involved in litigation and claims which management believes will not have a materially adverse effect on the Company's operations.
8. EARNINGS PER COMMON SHARE (EPS)
The following table sets forth the computation of basic diluted earnings per common share:
For the years ended December 31, 2001, 2000, and 1999, approximately 486,000, 928,000, and 960,000 respectively, of stock options were not included in the computation of diluted earnings per share because they would have been antidilutive. See Note 15.
9. EMPLOYEE STOCK PURCHASE PLAN AND STOCK OPTIONS AND WARRANTS
The Company offers to its employees an Employee Stock Purchase Plan which allows the employee on a quarterly basis to purchase shares of the Company's common stock at the lesser of 85% of the market value on the offering commencement date or offering termination date. The total number of shares available to employees to purchase under this plan is 625,000 of which 281,400 have been purchased as of December 31, 2001.
The Company has a long-term incentive plan which provides for the issuance of incentive stock options, non-statutory stock options, and certain corresponding stock appreciation rights. The maximum number of shares of common stock for which options may be granted is 3,000,000. Options may be granted to directors, officers, outside consultants, and key employees of the Company and may be granted upon such terms and such conditions as the Compensation Committee in its sole discretion shall determine. In no event, however, shall the exercise price be less than the fair market value on the date of grant.
Changes in stock options and warrants for the years ended December 31, 2001, 2000, and 1999 are as follows:
The following table summarizes information about stock options and warrants outstanding at December 31, 2001:
The Company accounts for stock options granted using APB 25. Accordingly, no compensation cost has been recognized for its fixed stock option plans. Had compensation cost for the Company's stock-based compensation plans been determined based on the fair value at the grant dates for awards under those plans consistent with SFAS No. 123, the Company's net income and net income per common and common equivalent share would have changed to the pro forma amounts indicated below:
2001 2000 19999
Net income: As reported $ 6,735,978 $ 826,557 $ 3,225,590 Pro forma 5,379,236 140,145 2,480,928
Net income per common share: Basic: As reported $ 0.66 $ 0.09 $ 0.34 Pro forma 0.53 0.00 0.24
Diluted: As reported 0.63 0.08 0.34 Pro forma 0.50 (0.01) 0.24
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 2001, 2000, and 1999: dividend yield of 0%; expected volatility of 63.48%, 61.04%, and 56.0% for 2001, 2000, and 1999, respectively; risk-free interest rates ranging from 4.58% to 6.71%; and expected lives ranging from 2.33 to 4.58 years.
10. SEGMENT REPORTING AND FOREIGN OPERATIONS
During the years ended December 31, 2001, 2000, and 1999, the Company had foreign sales of approximately $23,801,000, $21,773,000, and $18,336,000 or approximately 23%, 24%, and 24%, respectively, of total sales, primarily in Japan, Germany, France, and the United Kingdom.
The Company operates primarily in one segment in which it develops, manufactures, and markets disposable medical products, principally for use in the diagnosis and treatment of cardiovascular disease. Major operations outside the United States include a leased manufacturing and distribution facility in Ireland and sales subsidiaries in Europe. The following is a summary of the Company's foreign operations by geographic area for fiscal years 2001, 2000, and 1999:
Transfers between geographic areas are accounted for at amounts which are generally above cost and consistent with the rules and regulations of governing tax authorities. Such transfers are eliminated in the consolidated financial statements. Net income by geographic areas reflects foreign earnings reported by the foreign entities. Identifiable assets are those assets that can be directly associated with a particular foreign entity and thus do not include assets used for general corporate purposes.
11. RELATED PARTY TRANSACTIONS
Receivables from employees and related parties at December 31, 2001 and 2000 totaled approximately $267,000 and $441,000, respectively, (including approximately $15,000 and $208,000, respectively, from officers of the Company). During 2001, approximately 19,427 shares of Company stock were surrendered in exchange for the extinguishment of a related party receivable in the amount of approximately $215,000.
12. ROYALTY AGREEMENT
In 1992, the Company settled litigation involving, among other things, allegations that certain of the Company's inflation device products infringed patents issued to another medical product manufacturing company (the Licensor). Pursuant to the settlement, the Company entered into a license agreement with the Licensor, whereby the Licensor granted to the Company a nonexclusive right and license to manufacture and sell products which are subject to the patents issued to the Licensor. For the rights and license granted under the agreement, the Company paid the Licensor a nonrefundable prepaid royalty in the amount of $600,000. In addition to the prepaid royalty, the Company agreed to pay the Licensor a continuing royalty beginning January 1, 1992 of 5.75% of sales (which will not exceed $450,000 for any calendar year) made in the United States, of products covered by the license agreement. Royalties of $450,000 were paid or accrued in each of the years ended December 31, 2001, 2000, and 1999.
13. EMPLOYEE BENEFIT PLAN
The Company has a contributory 401(k) savings and profit sharing plan (the Plan) covering all full-time employees who are at least 18 years of age. The Plan has no minimum service requirement. The Company may contribute at its discretion matching contributions based on the employees' compensation. Contributions made by the Company to the Plan for the years ended December 31, 2001, 2000, and 1999 totaled approximately $361,000, $258,000, and $88,000, respectively.
The Plan purchased unissued shares of the Company's common stock at market value during each of the three years ended December 31, 2001 as follows:
Market Shares Value Years ended December 31: 2001 None None 2000 None None 1999 13,819 $81,850
14. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
Quarterly data (unaudited) for the years ended December 31, 2001, 2000, and 1999 is as follows:
15. SUBSEQUENT EVENT
On March 27, 2002, the Company's Board of Directors approved a five-for-four stock split of the Company's common stock which is expected to be effective April 11, 2002 for stockholders of record as of April 8, 2002. Average dilutive common stock shares outstanding, giving retroactive effect to the stock split, at December 31, 2001, 2000, and 1999 are 13,429,585, 12,282,664, and 11,821,364. Proforma earnings per dilutive common stock share, giving retroactive effect to the stock split, at December 31, 2001, 2000, and 1999 are $0.50, $0.07, and $0.27. ................................................................................
Item 9.
Item 9. Changes and Disagreements with Accountants on Accounting and Financial Disclosure
None
PART III
Item 10, 11, 12 and 13
These items are incorporated by reference to the Company's definitive Proxy Statement relating to the Annual Meeting of Shareholders scheduled for May 23, 2002. The definitive Proxy Statement will be filled with the Commission not later than 120 days after December 31, 2001, pursuant to Regulation 14A of the Securities Exchange Act of 1934, as amended.
PART IV
Item 14.
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.
(a) Documents filed as part of this report:
(1) Financial Statements. The following financial statements are incorporated by reference as provided in Item 8 of this report:
-- Independent Auditors' Report
-- Consolidated Balance Sheets as of December 31, 2000 and 1999
-- Consolidated Statements of Operations for the Years Ended December 31, 2000, 1999 and 1998
-- Consolidated Statements of Stockholders' Equity for the Years Ended December 31, 2000, 1999 and 1998
-- Consolidated Statements of Cash Flows for the Years Ended December 31, 2000, 1999 and 1998
-- Notes to Consolidated Financial Statements
(2) Financial Statement Schedule
-- Schedule II - Valuation and qualifying account
VALUATION AND QUALIFYING ACCOUNTS
All other schedules have been omitted because they are not required, not applicable, or the information is otherwise set forth in the financial statements or notes thereto.
(b) Reports on Form 8-K:
None.
(c) Exhibits:
The following exhibits required by Item 601 of Regulation S-K are filed herewith or have been filed previously with the Commission as indicated below:
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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, on March 29, 2002.
MERIT MEDICAL SYSTEMS, INC.
By: /s/ FRED P. LAMPROPOULOS, PRESIDENT --------------------------------------- Fred P. Lampropoulos, President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated on March 29, 2002.
Signature Capacity in Which Signed --------- ------------------------ /s/: FRED P. LAMPROPOULOS President, Chief Executive Officer and - ------------------------- Director Fred P. Lampropoulos
/s/: KENT W.STANGER Chief Financial Officer, Secretary, - ------------------- Treasurer and Director (Principal financial Kent W. Stanger and accounting officer)
/s/: RICHARD W. EDELMAN Director - ----------------------- Richard W. Edelman
/s/: REX C. BEAN Director - ---------------- Rex C. Bean
/s/: JAMES J. ELLIS Director - ------------------- James J. Ellis
/s/: MICHAEL E. STILLABOWER Director - --------------------------- Michael E. Stillabower