Annual Reports

 
Quarterly Reports

  • 10-Q (Aug 6, 2014)
  • 10-Q (Apr 30, 2014)
  • 10-Q (Oct 30, 2013)
  • 10-Q (Jul 31, 2013)
  • 10-Q (May 6, 2013)
  • 10-Q (Nov 5, 2012)

 
8-K

 
Other

Exactech 10-Q 2012

Documents found in this filing:

  1. 10-Q
  2. Ex-31.1
  3. Ex-31.2
  4. Ex-32.1
  5. Ex-32.2
  6. Ex-32.2
10-Q

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

 

(Mark One)

 

x    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
   For the quarterly period ended March 31, 2012

¨

   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 0-28240

 

EXACTECH, INC.

(Exact name of registrant as specified in its charter)

 

 

FLORIDA   59-2603930
(State or other jurisdiction of   (I.R.S. Employer
incorporation or organization)   Identification No.)

2320 NW 66TH COURT

GAINESVILLE, FL 32653

(Address of principal executive offices)

(352) 377-1140

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes x   No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes x   No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer”, “accelerated filer”, and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large Accelerated Filer  ¨   Accelerated Filer  x   Non-Accelerated Filer  ¨   Smaller Reporting Company  ¨  

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes ¨   No x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

                Class                 

 

                Outstanding at April 30, 2012                

Common Stock, $.01 par value   13,174,329

 

 


EXACTECH, INC.

INDEX

 

       

 

Page

Number

  

  

PART 1.

           FINANCIAL INFORMATION   

    Item 1.

   Condensed Consolidated Financial Statements   
   Condensed Consolidated Balance Sheets as of March 31, 2012 (unaudited) and December 31, 2011      2       
   Condensed Consolidated Statements of Income (unaudited) for the Three Month Periods Ended March 31, 2012 and March 31, 2011      3       
   Condensed Consolidated Statements of Comprehensive Income (unaudited) for the Three Month Periods Ended March 31, 2012 and March 31, 2011      4       
   Condensed Consolidated Statements of Cash Flows (unaudited) for the Three Month Periods Ended March 31, 2012 and March 31, 2011      5       
   Notes to Condensed Consolidated Financial Statements (unaudited) for the Three Month Periods Ended March 31, 2012 and March 31, 2011      6       
    Item 2.    Management’s Discussion and Analysis of Financial Condition and Results of Operations      18       
    Item 3.    Quantitative and Qualitative Disclosures About Market Risk      26       

    Item 4.

   Controls and Procedures      27       

PART II.

           OTHER INFORMATION   

    Item 1.

   Legal Proceedings      28       

    Item 1A.

   Risk Factors      29       

    Item 6.

   Exhibits      29       
    Signatures      30       


Item 1. Financial Statements

EXACTECH, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands)

 

     (unaudited)
  March  31,
    (audited)
       December 31,    
 
      
     2012     2011  

ASSETS

    

CURRENT ASSETS:

    

Cash and cash equivalents

   $ 3,472      $ 4,663   

Accounts receivable, net of allowances of $3,429 and $3,186

     53,866        45,856   

Prepaid expenses and other assets, net

     3,901        3,948   

Income taxes receivable

     155        171   

Inventories – current

     63,526        61,724   

Deferred tax assets – current

     2,782        2,869   
  

 

 

   

 

 

 

Total current assets

     127,702        119,231   

PROPERTY AND EQUIPMENT:

    

Land

     2,212        2,209   

Machinery and equipment

     31,202        30,164   

Surgical instruments

     80,555        77,105   

Furniture and fixtures

     3,766        3,753   

Facilities

     17,964        17,930   

Projects in process

     1,917        2,141   
  

 

 

   

 

 

 

Total property and equipment

     137,616        133,302   

Accumulated depreciation

     (59,277     (56,061
  

 

 

   

 

 

 

Net property and equipment

     78,339        77,241   

OTHER ASSETS:

    

Deferred financing and deposits, net

     1,504        1,016   

Non-current inventories

     7,265        7,334   

Product licenses and designs, net

     11,515        11,380   

Patents and trademarks, net

     1,518        1,589   

Customer relationships, net

     1,450        1,545   

Goodwill

     13,382        13,276   
  

 

 

   

 

 

 

Total other assets

     36,634        36,140   
  

 

 

   

 

 

 

TOTAL ASSETS

   $ 242,675        232,612   
  

 

 

   

 

 

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

    

CURRENT LIABILITIES:

    

Accounts payable

   $ 16,699      $ 12,909   

Income taxes payable

     1,570        4,210   

Accrued expenses and other liabilities

     9,793        8,957   

Other current liabilities

     250        344   

Current portion of long-term debt

     1,500        648   
  

 

 

   

 

 

 

Total current liabilities

     29,812        27,068   

LONG-TERM LIABILITIES:

    

Deferred tax liabilities

     3,867        3,520   

Line of credit

     19,509        42,410   

Long-term debt, net of current portion

     28,500        3,507   

Other long-term liabilities

     740        780   
  

 

 

   

 

 

 

Total long-term liabilities

     52,616        50,217   

Total liabilities

     82,428        77,285   

SHAREHOLDERS’ EQUITY:

    

Common stock

     132        132   

Additional paid-in capital

     61,381        60,565   

Accumulated other comprehensive loss

     (3,453     (4,272

Retained earnings

     102,187        98,902   

Total shareholders’ equity

     160,247        155,327   
  

 

 

   

 

 

 

TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY

   $ 242,675      $ 232,612   
  

 

 

   

 

 

 

See notes to condensed consolidated financial statements

 

2


EXACTECH, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share amounts)
(Unaudited)

 

     Three Month Periods  
     Ended March 31,  
     2012     2011  

NET SALES

   $ 58,628      $ 53,369   

COST OF GOODS SOLD

     18,096        16,720   
  

 

 

   

 

 

 

Gross profit

     40,532        36,649   

OPERATING EXPENSES:

    

Sales and marketing

     21,820        20,106   

General and administrative

     5,648        5,666   

Research and development

     4,104        3,466   

Depreciation and amortization

     3,792        3,409   
  

 

 

   

 

 

 

Total operating expenses

     35,364        32,647   
  

 

 

   

 

 

 

INCOME FROM OPERATIONS

     5,168        4,002   

OTHER INCOME (EXPENSE):

    

Interest income

     —          1   

Other income

     17        23   

Interest expense

     (452     (249

Foreign currency exchange gain

     223        505   
  

 

 

   

 

 

 

Total other income (expense)

     (212     280   
  

 

 

   

 

 

 

INCOME BEFORE INCOME TAXES

     4,956        4,282   

PROVISION FOR INCOME TAXES

     1,671        1,311   
  

 

 

   

 

 

 

NET INCOME

   $ 3,285      $ 2,971   
  

 

 

   

 

 

 

BASIC EARNINGS PER SHARE

   $ 0.25      $ 0.23   
  

 

 

   

 

 

 

DILUTED EARNINGS PER SHARE

   $ 0.25      $ 0.22   
  

 

 

   

 

 

 

See notes to condensed consolidated financial statements

 

3


EXACTECH, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(in thousands)

(Unaudited)

 

     Three Month Periods  
     Ended March 31,  
           2012                  2011        

Net Income

   $ 3,285       $ 2,971   

Other comprehensive income (loss), net of tax:

     

Change in fair value of cash flow hedge

     9         17   

Change in currency translation

     810         2,000   
  

 

 

    

 

 

 

Other comprehensive income (loss), net of tax

     819         2,017   
  

 

 

    

 

 

 

Comprehensive income

   $ 4,104       $ 4,988   
  

 

 

    

 

 

 

See notes to condensed consolidated financial statements

 

4


EXACTECH, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(Unaudited)

 

     Three Month Periods
Ended March 31,
 
     2012     2011  

OPERATING ACTIVITIES:

    

Net income

   $ 3,285      $ 2,971   

Adjustments to reconcile net income to net cash provided by (used in) operating activities:

    

Provision for allowance for doubtful accounts and sales returns

     243        337   

Inventory allowance

     605        219   

Depreciation and amortization

     4,217        3,815   

Restricted common stock issued for services

     75        75   

Compensation cost of stock awards

     551        467   

Loss on disposal of equipment

     54        311   

Foreign currency exchange gain

     (223     (505

Deferred income taxes

     425        664   

Changes in assets and liabilities which provided (used) cash:

    

Accounts receivable

     (7,813     (2,640

Prepaids and other assets

     138        (2,306

Inventories

     (2,220     (2,505

Accounts payable

     3,726        2,369   

Income taxes receivable/payable

     (2,609     433   

Accrued expense & other liabilities

     630        (170
  

 

 

   

 

 

 

Net cash provided by operating activities

     1,084        3,535   
  

 

 

   

 

 

 

INVESTING ACTIVITIES:

    

Purchases of property and equipment

     (4,469     (7,624

Proceeds from sale of property and equipment

     —          1   

Purchase of product licenses and designs

     (436     (199
  

 

 

   

 

 

 

Net cash used in investing activities

     (4,905     (7,822
  

 

 

   

 

 

 

FINANCING ACTIVITIES:

    

Net (repayments) borrowings on line of credit

     (22,900     5,002   

Principal payments on debt

     (4,156     (301

Proceeds on term loan

     30,000        —     

Payments on capital leases

     (15     —     

Debt issuance costs

     (563     (2

Excess tax benefit from exercise of stock options

     —          37   

Proceeds from issuance of common stock

     190        306   
  

 

 

   

 

 

 

Net cash provided by financing activities

     2,556        5,042   
  

 

 

   

 

 

 

Effect of foreign currency translation on cash and cash equivalents

     74        82   

NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS

     (1,191     837   

CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD

     4,663        3,935   
  

 

 

   

 

 

 

CASH AND CASH EQUIVALENTS, END OF PERIOD

   $ 3,472      $ 4,772   
  

 

 

   

 

 

 

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:

    

Cash paid during the period for:

    

Interest

   $ 240      $ 230   

Income taxes

     3,850        157   

Non-cash investing and financing activities:

    

Cash flow hedge gain, net of tax

     9        17   

Estimated sales and use tax liability

     16        79   

Capitalized lease additions

     51        —     

See notes to condensed consolidated financial statements

 

5


EXACTECH, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH PERIODS ENDED MARCH 31, 2012 AND 2011

(Unaudited)

1.   BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements of Exactech, Inc. and its subsidiaries, which are for interim periods, have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission relating to interim financial statements. These unaudited condensed consolidated financial statements do not include all disclosures provided in the annual financial statements. The condensed financial statements should be read in conjunction with the financial statements and notes contained in the Annual Report on Form 10-K for the year ended December 31, 2011 of Exactech, Inc. (the “Company” or “Exactech”), as filed with the Securities and Exchange Commission.

In the opinion of management, all adjustments considered necessary for a fair presentation have been included, consisting of normal recurring adjustments. Our subsidiaries, Exactech Asia, Exactech UK, Exactech Japan, France Medica, Exactech Taiwan, Exactech Deutschland, Exactech Ibérica, and Exactech International Operations are consolidated for financial reporting purposes, and all intercompany balances and transactions have been eliminated. Results of operations for the three month period ended March 31, 2012 are not necessarily indicative of the results to be expected for the full year.

Certain amounts reported for prior periods have been reclassified to be consistent with the current period presentation.

2.   NEW ACCOUNTING PRONOUNCEMENTS AND STANDARDS

In September 2011, the Financial Accounting Standards Board (“FASB”) amended its goodwill guidance that provides companies the option to first perform a qualitative assessment whether it is more likely than not that the fair value of a reporting unit is less than its carrying value. If the company determines that this is the case, it is required to perform the currently prescribed two step goodwill impairment test. The amendment is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011, with early adoption permitted. The adoption of this updated authoritative guidance did not have a significant impact on our Condensed Consolidated Financial Statements.

In June 2011, the FASB amended its guidance on the presentation of comprehensive income in financial statements. This new guidance will require companies to present the components of net income and other comprehensive income either as one continuous statement or as two consecutive statements, eliminating the option to present components of other comprehensive income as part of the statement of changes in stockholders' equity. The new guidance is required retroactively, effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. The adoption of this updated authoritative guidance did not have a significant impact on our Condensed Consolidated Financial Statements.

3.   FAIR VALUE MEASURES

Our financial instruments include cash and cash equivalents, trade receivables, debt and cash flow hedges. The carrying amounts of cash and cash equivalents, and trade receivables approximate fair value due to their short maturities. The carrying amount of debt approximates fair value due to the variable rate associated with the debt. The fair values of cash flow hedges are based on dealer quotes.

Certain financial assets and liabilities are accounted for at fair value, which is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The following fair value hierarchy prioritizes the inputs used to measure fair value:

 

6


Level 1 – Quoted prices are available in active markets for identical assets or liabilities as of the reporting date. Active markets are those in which transactions for the asset or liability occur in sufficient frequency and volume to provide pricing information on an ongoing basis.

Level 2 – Pricing inputs are other than quoted prices in active markets included in level 1, which are either directly or indirectly observable as of the reporting date. Level 2 includes those financial instruments that are valued using models or other valuation methodologies.

Level 3 – Pricing inputs include significant inputs that are generally less observable from objective sources. These inputs may be used with internally developed methodologies that result in management’s best estimate of fair value from the perspective of a market participant.

The table below provides information on our liabilities that are measured at fair value on a recurring basis:

 

 

 

    (In Thousands)        Total Fair Value  at
    March 31, 2012
     Quoted Prices in
Active Markets

          (Level 1)            
         Significant Other
    Observable

    Inputs
          (Level 2)           
     Significant
Unobservable
Inputs

           (Level 3)            
 

Interest Rate Swap

   $ 152       $ —         $ 152       $ —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 152       $ —         $ 152       $ —     
  

 

 

    

 

 

    

 

 

    

 

 

 

 

 

The fair value of our interest rate swap agreement is based on dealer quotes, and is recorded as accumulated other comprehensive loss in the consolidated balance sheets. We analyze the effectiveness of our interest rate swap on a quarterly basis, and, for the period ended March 31, 2012, we have determined the interest rate swap to be effective.

4.   GOODWILL AND OTHER INTANGIBLE ASSETS

Goodwill – The following table provides the changes to the carrying value of goodwill for the period ended March 31, 2012 (in thousands):

 

 

 

     Knee      Hip      Biologics
and Spine
     Extremities      Other      Total  

Balance as of December 31, 2011

   $     3,723       $     629       $     7,553       $         432       $     939       $   13,276   

Foreign currency translation effects

     48         18         —           12         28         106   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Balance as of March 31, 2012

   $ 3,771       $ 647       $ 7,553       $ 444       $ 967       $ 13,382   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

 

We test goodwill for impairment annually as of the 1st of October. Our impairment analysis as of October 1, 2011 indicated no impairment to goodwill.

 

7


Other Intangible Assets – The following tables summarize our carrying values of our other intangible assets at March 31, 2012 and December 31, 2011 (in thousands):

 

 

 

         Carrying    
Value
     Accumulated
    Amortization    
         Net Carrying    
Value
     Weighted Avg
    Amortization    
Period
 

Balance at March 31, 2012

           

Product licenses and designs

   $ 15,298       $ 3,783       $ 11,515         10.4   

Customer relationships

     3,126         1,676         1,450         7.0   

Patents and trademarks

     4,055         2,537         1,518         13.0   

Balance at December 31, 2011

           

Product licenses and designs

   $ 14,838       $ 3,458       $ 11,380         10.6   

Customer relationships

     3,092         1,547         1,545         7.0   

Patents and trademarks

     4,045         2,456         1,589         13.0   

 

 

5.     FOREIGN CURRENCY TRANSLATION AND HEDGING ACTIVITIES

Foreign Currency Translation – We are exposed to market risk related to changes in foreign currency exchange rates. The functional currency of substantially all of our international subsidiaries is the local currency. Transactions are translated into U.S. dollars and exchange gains and losses arising from translation are recognized in “Other comprehensive income (loss)”. Fluctuations in exchange rates affect our financial position and results of operations. The majority of our foreign currency exposure is to the Euro (EUR), British Pound (GBP), and Japanese Yen (JPY). During the quarter ended March 31, 2012, translation gains were $810,000, which were primarily due to the strengthening of the EUR and GBP. During the quarter ended March 31, 2011, translation gains were $2.0 million, which were also due to the strengthening of the EUR and GBP. We may experience translation gains and losses during the year ending December 31, 2012; however, these gains and losses are not expected to have a material effect on our financial position, results of operations, or cash flows. Gains and losses resulting from our transactions and our subsidiaries’ transactions, which are made in currencies different from their own, are included in income as they occur and as other income (expense) in the Consolidated Statements of Income. We recognized currency transaction gains of $223,000 and $505,000 for the quarters ended March 31, 2012 and 2011, respectively.

Other Comprehensive Income (Loss) – Other comprehensive income (loss) is composed of unrealized gains or losses from the change in fair value of certain derivative instruments that qualify for hedge accounting, and for foreign currency translation effects. The following table provides information on the components of our other comprehensive loss (in thousands):

 

 

 

     Cash Flow
Hedge
    Foreign
Currency
Translation
    Total  

Balance December 31, 2011

   $ (103   $ (4,169   $ (4,272

2012 Adjustments

     9        810        819   
  

 

 

   

 

 

   

 

 

 

Balance March 31, 2012

   $ (94   $ (3,359   $ (3,453
  

 

 

   

 

 

   

 

 

 

 

 

We do not enter into or hold derivative instruments for trading or speculative purposes. We entered into our interest rate swap to eliminate variability in future cash flows by converting LIBOR-based variable-rate interest payments into fixed-rate interest payments. The fair value of our interest rate swap agreement is based on dealer quotes, and the change in fair value is recorded as accumulated other comprehensive loss in the consolidated balance sheets. We do not expect the change in our interest rate swap to have a material impact on our results of operations, financial position or cash flows.

 

8


6.      INVENTORIES

Inventories are valued at the lower of cost or market and include implants consigned to customers and agents. We also provide significant loaned implant inventory to non-distributor customers. The consigned or loaned inventory remains our inventory until we are notified of the implantation. We are also required to maintain substantial levels of inventory as it is necessary to maintain all sizes of each component to fill customer orders. The size of the component to be used for a specific patient is typically not known with certainty until the time of surgery. Due to this uncertainty, a minimum of one of each size of each component in the system to be used must be available to each sales representative at the time of surgery. As a result of the need to maintain substantial levels of inventory, we are subject to the risk of inventory obsolescence. In the event that a substantial portion of our inventory becomes obsolete, it would have a material adverse effect on the Company. Allowance charges for obsolete and slow moving inventories are recorded based upon an analysis of specific identification of obsolete inventory items and quantification of slow moving inventory items. For slow moving inventory, this analysis compares the quantity of inventory on hand to the projected sales of such inventory items. As a result of this analysis, we record an estimated allowance for slow moving inventory. Due to the nature of the slow moving inventory, this allowance may fluctuate up or down, as a charge or recovery. Allowance charges for the three months ended March 31, 2012 and 2011 were $605,000 and $219,000, respectively. We also test our inventory levels for the amount of inventory that would be sold within one year. At certain times, as we stock new subsidiaries, add consignment locations, and launch new products, the level of inventory can exceed the forecasted level of cost of goods sold for the next twelve months. As of March 31, 2012 and December 31, 2011, we determined that $7.3 million of inventory should be classified as non-current.

The following table summarizes our classifications of inventory as of March 31, 2012 and December 31, 2011 (in thousands):

 

 

 

                     2012                                   2011               

Raw materials

   $ 16,759       $ 17,269   

Work in process

     1,489         1,443   

Finished goods on hand

     19,200         19,565   

Finished goods on loan/consignment

     33,343         30,781   
  

 

 

    

 

 

 

Inventory total

     70,791         69,058   

Non-current inventories

     7,265         7,334   
  

 

 

    

 

 

 

Inventories, current

   $ 63,526       $ 61,724   
  

 

 

    

 

 

 

 

 

7.     DISTRIBUTION SUBSIDIARY START-UPS

International Operations Center

During 2010, we established an international sales office in Switzerland, to manage the international sales and marketing efforts for our foreign subsidiaries. In January 2011, we renamed our international sales office to Exactech International Operations, AG (“EIO”), and relocated the office to Bern, Switzerland, as part of our realignment of our foreign subsidiaries and operations. The equity ownership of our foreign subsidiaries, with the exception of our Chinese operations, was transferred to EIO. EIO also acquired certain licenses to our intangibles to allow the use of our intellectual property outside the U.S. These actions have been undertaken to streamline and consolidate our international operations with the expectation of achieving improved customer service, cost savings, and international tax efficiency.

Distribution Subsidiary - Exactech Ibérica

During the first quarter of 2010, we established a distribution subsidiary in Spain, Exactech Ibérica, S.A.. (“Exactech Ibérica”), and obtained our import registration, allowing Exactech Ibérica to import our products for sale in Spain. Exactech Ibérica actively commenced distribution activities during the third quarter of 2010. The sales distribution subsidiary, based in Gijon, enables us to directly control our Spanish marketing and distribution operations. During the first quarter of 2010, we notified our previous independent distributor in Spain of the non-renewal of our distribution agreement. As a result of that non-renewal, our

 

9


relationship with this independent distributor terminated during the third quarter of 2010. We expect a return of product from the former distributor, and, as a result, we have a sales return allowance of $1.5 million recorded against accounts receivable for this distributor on the consolidated balance sheet.

8.     INCOME TAX

At December 31, 2011, net operating loss carry forwards of our foreign and domestic subsidiaries totaled $35.8 million, some of which begin to expire in 2013. For accounting purposes, the estimated tax effect of this net operating loss carry forward results in a deferred tax asset. This deferred tax asset was $9.2 million at December 31, 2011; however, a valuation allowance of $6.0 million was charged against this deferred tax asset assuming these losses will not be fully realized. At March 31, 2012, these loss carry forwards totaled $36.4 million, and the deferred tax asset associated with these losses was $9.3 million with a valuation allowance of $6.2 million charged against this deferred tax asset assuming these losses will not be fully realized.

We are subject to examination of our income tax returns in numerous state, federal and foreign jurisdictions due to the multiple income tax jurisdictions we operate in. On March 28, 2012, the United States Internal Revenue Service, or IRS, notified us of an income tax audit for the 2009 and 2010 tax years. As of March 31, 2012, we have a $244,000 liability recorded as an uncertain tax benefit. We expect changes in the balance of this unrecognized tax benefit during 2012 as a result of the IRS audit. Currently, we cannot reasonably estimate the ultimate outcome of the IRS audit, however, we believe that we have followed applicable U.S. tax laws and will defend our income tax positions.

9.     DEBT

Debt consists of the following at March 31, 2012 and December 31, 2011 (in thousands):

 

 

 

             2012                   2011        

Commercial construction loan payable in monthly principal installments of $17.5, plus interest based on adjustable rate as determined by one month LIBOR.

   $ —        $ 2,305   

Commercial real estate loan payable in monthly installments of $46.4, including principal and interest based on an adjustable rate as determined by one month LIBOR.

     —          1,850   

Term loan payable in quarterly principal installment of $375, from June 2012 to March 2013, and quarterly principal installments of $750, from June 2013 to December 2016. Interest based on adjustable rate as determined by one month LIBOR (2.24% as of March 31, 2012).

     30,000        —     

Business line of credit payable on a revolving basis, plus interest based on adjustable rate as determined by one month LIBOR based on our ratio of funded debt to EBITDA (2.24% as of March 31, 2012), a portion of which is fixed by an existing swap agreement with the lender at 6.61% as a cash flow hedge.

     19,509        —     

Business line of credit payable on a revolving basis, plus interest based on adjustable rate as determined by one month LIBOR based on our ratio of funded debt to EBITDA.

     —          42,410   
  

 

 

   

 

 

 

          Total debt

     49,509        46,565   

          Less current portion

     (1,500     (648
  

 

 

   

 

 

 
   $ 48,009      $ 45,917   
  

 

 

   

 

 

 

 

 

 

10


The following is a schedule of debt maturities as of March 31, 2012, for the years ended December 31(in thousands):

 

 

 

2012

   $ 1,125   

2013

     2,625   

2014

     3,000   

2015

     3,000   

2016

     3,000   

Thereafter

     36,759   
  

 

 

 
   $           49,509   
  

 

 

 

 

 

On February 24, 2012, we entered into a revolving credit and term loan agreement for a maximum aggregate principal amount of $100 million, referred to as the New Credit Agreement, with SunTrust Bank, as Administrative Agent, issuing bank and swingline lender, and a syndicate of other lenders. The New Credit Agreement is composed of a $30 million term loan facility and revolving credit line in an aggregate principal amount of up to $70 million, of which, a portion is a swingline note for $5 million. The swingline note is used for short-term cash management needs, and excess bank account cash balances are swept into the swingline to reduce any outstanding balance. Additionally, the New Credit Agreement provides for the issuance of letters of credit in an aggregate face amount of up to $5 million. Proceeds from the New Credit Agreement were used to pay all amounts outstanding under our previous line of credit and other loan balances outstanding as of the closing date.

Interest on loans outstanding under the New Credit Agreement is based, at our election, on a base rate, a Eurodollar Rate or an index rate, in each case plus an applicable margin. The base rate is the highest of (i) the rate which the Administrative Agent announces from time to time as its prime lending rate, (ii) the Federal Funds rate, as in effect from time to time, plus one-half of one percent ( 1/2%) per annum and (iii) the Eurodollar Rate determined on a daily basis for an Interest Period of one (1) month, plus one percent (1.00%) per annum. The Eurodollar Rate is the London interbank offered rate for deposits in U.S. Dollars for approximately a term comparable to the applicable interest period (one, two, three or six months, at our election), subject to adjustment for any applicable reserve percentages. The index rate is the rate equal to the offered rate for deposits in U.S. Dollars for a one (1) month interest period, as appears on the Bloomberg reporting service, or such similar service as determined by the Administrative Agent that displays British Bankers’ Association interest settlement rates for deposits in Dollars, subject to adjustment for any applicable reserve percentages. The applicable margin is based upon our leverage ratio, as defined in the New Credit Agreement, and ranges from 0.50% to 1.25% in the case of base rate loans and 1.50% to 2.25% in the case of index rate loans and Eurodollar loans. We must also pay a commitment fee to the Administrative Agent for the account of each lender, which, based on our leverage ratio, accrues at a rate of 0.20% or 0.25% per annum on the daily amount of the unused portion of the revolving loan. The New Credit Agreement has a five year term expiring on February 24, 2017.

The $30 million term loan is subject to amortization and is payable in quarterly principal installments of $375,000 during the first year of the five-year term and quarterly principal installments of $750,000 during the remaining years of the term, with any outstanding unpaid principal balance, together with accrued and unpaid interest, due at the expiration of the term. The New Credit Agreement requires that, within one-year after entering into the New Credit Agreement (or such later date as agreed to by the Administrative Agent), we fix or limit our interest exposure to at least fifty percent (50%) of the term loan pursuant to one or more hedging arrangements reasonably satisfactory to the Administrative Agent. All long-term debt instruments that had been outstanding as of December 31, 2011, including our previous line of credit, our commercial construction loan and commercial real estate loan, have been repaid and terminated using proceeds from the New Credit Agreement.

The obligations under the New Credit Agreement have been guaranteed by all of our domestic subsidiaries and are secured by substantially all of our and our domestic subsidiaries’ assets (other than real property), together with a pledge of 100% of the equity in our domestic subsidiaries and 65% of the equity in certain of our non-U.S. subsidiaries. The outstanding balance under the New Credit Agreement may be prepaid at any time without premium or penalty. The New Credit Agreement contains customary

 

11


events of default and remedies upon an event of default, including the acceleration of repayment of outstanding amounts and other remedies with respect to the collateral securing the New Credit Agreement obligations. The New Credit Agreement includes covenants and terms that place certain restrictions on our ability to incur additional debt, incur additional liens, make investments, effect mergers, declare or pay dividends, sell assets, engage in transactions with affiliates, effect sale and leaseback transactions, enter into hedging agreements or make capital expenditures. Certain of the foregoing restrictions limit our ability to fund our foreign subsidiaries in excess of certain limits. Additionally, the New Credit Agreement contains financial covenants requiring that we maintain a leverage ratio of not greater than 2.50 to 1.00 and a fixed charge coverage ratio (as defined in the New Credit Agreement) of not less than 2.00 to 1.00.

10.     COMMITMENTS AND CONTINGENCIES

Litigation

There are various claims, lawsuits, and disputes with third parties and pending actions involving various allegations against us incident to the operation of our business, principally product liability cases. We are currently a party to several product liability suits related to the products distributed by us on behalf of RTI Biologics, Inc., or RTI. Pursuant to our license and distribution agreement with RTI, we will tender all cases to RTI. While we believe that the various claims are without merit, we are unable to predict the ultimate outcome of such litigation. We therefore maintain insurance, subject to self-insured retention limits, for all such claims, and establish accruals for product liability and other claims based upon our experience with similar past claims, advice of counsel and the best information available. At March 31, 2012, we had $50,000 accrued for product liability claims, and, as of December 31, 2011, we had $65,000 accrued for product liability claims. These matters are subject to various uncertainties, and it is possible that they may be resolved unfavorably to us. However, while it is not possible to predict with certainty the outcome of the various cases, it is the opinion of management that, upon ultimate resolution, the cases will not have a material adverse effect on our consolidated financial position, results of operations or cash flows.

Our insurance policies covering product liability claims must be renewed annually. Although we have been able to obtain insurance coverage concerning product liability claims at a cost and on other terms and conditions that are acceptable to us, we may not be able to procure acceptable policies in the future.

On March 8, 2012, upon the recommendation of our monitor and the agreement of the USAO, we successfully concluded the Deferred Prosecution Agreement, or DPA, with the United States Attorney’s Office for the District of New Jersey, or the USAO, which was entered into on December 7, 2010. We continue to comply with the five year Corporate Integrity Agreement, or CIA, with the Office of the Inspector General of the United States Department of Health and Human Services. Pursuant to a related Civil Settlement Agreement, or CSA, we settled civil and administrative claims relating to the matter for a payment of $3.0 million, without any admission by the Company. The foregoing agreements, together with a related settlement agreement, resolve the investigation commenced by the USAO in December 2007 into our consulting arrangements with orthopaedic surgeons relating to our hip and knee products in the United States, which we refer to as the Subject Matter. As set forth in the DPA, the USAO specifically acknowledged that it did not allege that our conduct adversely affected patient health or patient care. Pursuant to the DPA, an independent monitor reviewed and evaluated our compliance with our obligations under the DPA. The CIA acknowledges the existence of our corporate compliance program and provides us with certain other compliance-related obligations during the CIA’s term. See “Item 1A — Risk Factors” of our Annual Report on Form 10-K for the year ended December 31, 2011 for more information about our obligations under these agreements. We continue to enhance and apply our corporate compliance program, and we monitor our practices on an ongoing basis to ensure that we have in place proper controls necessary to comply with applicable laws in the jurisdictions in which we do business. Our failure to maintain compliance with U.S. healthcare and regulatory laws could expose us to significant liability including, but not limited to, exclusion from federal healthcare program participation, including Medicaid and Medicare, civil and criminal fines or penalties, and additional litigation cost and expense.

 

12


On October 18, 2010, MBA Incorporado, S.L., or MBA, our former distributor in Spain filed an action against Exactech, Inc. and Exactech Ibérica, S.A.U. in the Court of First Instance No. 10 of Gijon, Spain in connection with our termination of the distribution agreement with MBA in July 2010. In the lawsuit (“Complaint 1”), MBA alleged, (i) wrongful solicitation of certain employees of MBA subsequent to the termination of the distribution agreement, (ii) breach of contract with respect to the termination date established by Exactech and Exactech’s alleged failure to follow the termination transitioning protocols set forth in the distribution agreement, and (iii) commercial damages and lost sales and customers due to Exactech’s alleged failure to supply products requested by MBA during the transition period of the distribution agreement termination. In the Complaint 1 filing MBA seeks damages of forty-four million (44,000,000) Euros compensation for all benefits alleged to be owed by Exactech under the distribution agreement, including alleged loss of clientele, alleged loss of prestige and credibility, alleged loss of client confidence and alleged illegitimate business practices. On December 1, 2010, MBA filed a second action (“Complaint 2”) against Exactech Ibérica and two of the former principals of MBA, in the Mercantile Court No. 3 of Gijon, Spain, also in connection with our termination of the distribution agreement with MBA in July 2010, seeking among other things injunctive relief. In March 2011, the court dismissed MBA’s action for injunctive relief contained in Complaint 2. In November 2011, the trial in respect of Complaint 1 was held and, in December 2011, the judge ruled in favor of Exactech on all counts.

In January 2012, MBA appealed the judge’s decision, and Exactech has submitted its written response opposing the appeal. While it is not possible to predict with certainty the outcome of the appeal, we believe that MBA’s appeal is without merit. We intend to vigorously defend ourselves against this appeal. On March 20, 2012, we were notified that MBA had submitted a new complaint (“Complaint 3”) related to inventory return alleging our obligation to repurchase inventory in MBA’s possession valued by MBA at $6.2 million. MBA states in this latest Complaint 3 that under certain circumstances it is willing to compensate us for the recognized outstanding debt to Exactech of $2.5 million. While it is not possible to predict with certainty the outcome of this matter, we believe that Complaint 3 is without merit. We intend to vigorously defend ourselves against this lawsuit.

As of March 31, 2012, we recorded a contingent liability of $1.1 million based on the estimated weighted probability of the outcome of a claim by the State of Florida for sales and use tax, based on the State’s audit of such tax dating back to May 2005, which was assessed by the State of Florida for the value of surgical instruments removed from inventory and capitalized as property and equipment worldwide. In consultation with counsel, management is challenging the assessment. In evaluating the liability, management followed the FASB guidance on contingencies, and concluded that the contingent liability was probable, based on assertions by Florida Department of Revenue personnel, and could be reasonably estimated, however if we are unsuccessful in our challenge against the State of Florida, we could have a maximum potential liability of $3.1 million for the tax period audited through March 31, 2012. Any use tax determined to be due and payable to the Florida Department of Revenue will increase the basis of the surgical instruments and this amount will be amortized over the remaining useful life of the instruments. During March 2012, we received an unfavorable decision on our protest of the assessment for $1.4 million for use tax and interest through the year 2008. On April 2, 2012, we filed a lawsuit against the Florida Department of Revenue in the Circuit Court of the Eighth Circuit in Alachua County, Florida, requesting that the Court cancel the Department of Revenue’s assessment; however, there can be no assurances that we will ultimately prevail in our lawsuit.

Purchase Commitments

At March 31, 2012, we had outstanding commitments for the purchase of inventory, raw materials and supplies of $16.7 million and outstanding commitments for the purchase of capital equipment of $3.6 million. Purchases under our distribution agreements were $2.2 million during the three months ended March 31, 2012.

Our Taiwanese subsidiary, Exactech Taiwan, has entered into a license agreement with the Industrial Technology Research Institute (ITRI) and the National Taiwan University Hospital (NTUH) for the rights to technology and patents related to the repair of cartilage lesions. As of March 31, 2012, we have paid approximately $1.8 million for the licenses, patents, and equipment related to this license agreement, and

 

13


we will make royalty payments when the technology becomes marketable. Using the technology, we plan to launch a cartilage repair program that will include a device and method for the treatment and repair of cartilage in the knee joint. It is expected that the project will require us to complete human clinical trials under the guidance of the Food & Drug Administration in order to obtain pre-market approval for the device in the United States. The agreement terms include a license fee based on the achievement of specific, regulatory milestones and a royalty arrangement based on sales once regulatory clearances are established.

11. SEGMENT INFORMATION

We evaluate our operating segments by our major product lines: knee implants, hip implants, biologics and spine, extremity implants and other products. The “other products” segment includes miscellaneous sales categories, such as surgical instruments held for sale, bone cement, instrument rental fees, shipping charges, and other implant product lines. Evaluation of the performance of operating segments is based on their respective income from operations before taxes, interest income and expense, and nonrecurring items. Intersegment sales and transfers are not significant. The accounting policies of the reportable segments are the same as those described in Note 2 of the notes to our consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2011.

Total assets not identified with a specific segment are listed as “corporate” and include cash and cash equivalents, accounts receivable, income taxes receivable, deposits and prepaid expenses, deferred tax assets, land, facilities, office furniture and computer equipment, notes receivable, and other investments. Depreciation and amortization on corporate assets is allocated to the product segments for purposes of evaluating the income (loss) from operations, and capitalized surgical instruments are allocated to the appropriate product line supported by those assets.

Total gross assets held outside the United States as of March 31, 2012, was $36.3 million. Included in these assets is $24.5 million in surgical instrumentation, stated gross as it is impracticable to account for depreciation on these assets by region.

Summarized information concerning our reportable segments is shown in the following table (in thousands):

 

 

 

Three Months ended March 31,    Knee      Hip      Biologics
& Spine
    Extremity      Other     Corporate     Total  

2012

                 

Net sales

   $ 21,456       $ 10,954       $ 6,161      $ 12,977       $ 7,080      $ —        $ 58,628   

Segment profit (loss)

     2,520         829         (194     2,981         (968     (212     4,956   

Total assets, net

     66,569         30,166         21,552        18,007         7,322        99,059        242,675   

Capital expenditures

     1,752         563         218        1,013         162        1,264        4,972   

Depreciation and Amortization

     1,706         641         347        348         145        1,030        4,217   

2011

                 

Net sales

   $ 21,338       $ 8,012       $ 7,045      $ 9,439       $ 7,535      $ —        $ 53,369   

Segment profit (loss)

     2,183         773         29        1,734         (717     280        4,282   

Total assets, net

     66,259         29,925         19,318        14,620         9,611        94,121        233,854   

Capital expenditures

     2,831         1,230         1,036        832         464        1,509        7,902   

Depreciation and Amortization

     1,507         508         357        254         110        1,079        3,815   

 

 

Geographic distribution of our sales is summarized in the following table (in thousands):

 

 

 

Three months ended March 31,                2012                  2011  

Domestic sales

   $ 36,773       $ 34,979   

International sales

     21,855         18,390   
  

 

 

    

 

 

 

Total sales

   $ 58,628       $ 53,369   
  

 

 

    

 

 

 

 

 

 

 

14


12. SHAREHOLDERS’ EQUITY

The following is a reconciliation of the numerators and denominators of the basic and diluted EPS computations for net income and net income available to common shareholders (in thousands, except per share amounts):

 

 

 

     Income
(Numer-
ator)
     Shares
(Denom-
inator)
     Per
Share
         Income
(Numer-
ator)
     Shares
(Denom-
inator)
     Per
Share
 
  

 

 

      

 

 

 
     Three Months Ended
March 31, 2012
         Three Months Ended
March 31, 2011
 

Net income

   $         3,285               $         2,971         

Basic EPS:

                   
Net income available to common shareholders    $ 3,285         13,156       $     0.25         $ 2,971         13,034       $     0.23   
        

 

 

            

 

 

 

Effect of dilutive securities:

                   

Stock options

        103                 180      
     

 

 

            

 

 

    

Diluted EPS:

                   
Net income available to common shareholders plus assumed conversions    $ 3,285         13,259       $ 0.25         $ 2,971         13,214       $ 0.22   
        

 

 

            

 

 

 

 

 

For the three months ended March 31, 2012, weighted average options to purchase 783,544 shares of common stock at exercise prices ranging from $16.69 to $26.43 per share were outstanding but were not included in the computation of diluted EPS because the options were antidilutive under the treasury stock method. For the three months ended March 31, 2011, weighted average options to purchase 485,635 shares of common stock at exercise prices ranging from $18.10 to $26.43 per share were outstanding but were not included in the computation of diluted EPS because the options were antidilutive under the treasury stock method.

Changes in Stockholders’ Equity:

The following is a summary of the changes in stockholders’ equity for the three months ended March 31, 2012:

 

 

 

     Common Stock     Additional
Paid-In
Capital
     Retained
Earnings
     Accumulated
Other
Comprehensive
Income (Loss)
    Total  
  

 

           
     Shares      Amount            

Balance, December 31, 2011

        13,153       $ 132      $ 60,565       $ 98,902       $ (4,272   $ 155,327   

Net income

                               3,285                3,285   
Comprehensive income                                        819        819   

Exercise of stock options

        4                36                        36   

Issuance of restricted common stock for services

        5                75                        75   

Issuance of common stock under Employee Stock Purchase Plan

        11                154                        154   

Compensation cost of stock options

                       551                        551   
  

 

  

 

 

    

 

 

   

 

 

    

 

 

    

 

 

   

 

 

 
Balance March 31, 2012         13,173       $ 132      $ 61,381       $ 102,187       $ (3,453   $ 160,247   

 

 

 

15


Stock-based Compensation Awards:

We sponsor an Executive Incentive Compensation Plan, which provides for the award of stock-based compensation, including options, stock appreciation rights, restricted stock and other stock-based incentive compensation awards to key employees, directors and independent agents and consultants. We implemented a comprehensive, consolidated incentive compensation plan upon shareholder approval at our Annual Meeting of Shareholders on May 7, 2009, referred to as the 2009 Plan, which replaced the 2003 incentive compensation plan. The maximum number of common shares issuable under the 2009 Plan is 500,000 shares plus any remaining shares issuable under the 2003 plan. The terms of the 2009 Plan are substantially similar to the terms of the 2003 Plan. Common stock issued upon exercise of stock options is settled with authorized but unissued shares available. Under the plans, the exercise price of option awards equals the market price of our stock on the date of grant, and each award has a maximum term of ten years. As of March 31, 2012, there were 531,150 total remaining shares issuable under the 2009 Plan.

The aggregate compensation cost that has been charged against income for the Plan and 2009 Employee Stock Purchase Plan, referred to as the 2009 ESPP, was $551,000 and $467,000 and income tax benefit of $119,000 and $121,000 for the three months ended March 31, 2012 and 2011, respectively. Included in the above compensation cost for the three months ended March 31, 2011 is non-employee stock compensation expense of approximately $2,000, net of taxes. No non-employee stock compensation expense was recognized for the three months ended March 31, 2012. As of March 31, 2012, total unrecognized compensation cost related to unvested awards was $1.7 million and is expected to be recognized over a weighted-average period of 2.26 years.

Stock Options:

A summary of the status of stock option activity under our stock-based compensation plans as of March 31, 2012 and changes during the quarter is presented below:

 

 

 

 

 
     2012  
         Options         Weighted
  Avg Exercise  
Price
       Weighted Avg  
Remaining
Contractual
Term
     Aggregate
  Intrinsic Value  
(In thousands)
 

Outstanding – January 1

     1,339,485      $ 16.41         

Granted

     289,200        16.33            —     

Exercised

     (4,000     9.08            29   

Forfeited or Expired

     (940     17.76         
  

 

 

   

 

 

    

 

 

    

 

 

 

Outstanding – March 31

     1,623,745      $ 16.41         3.42       $ 1,418   
  

 

 

   

 

 

    

 

 

    

 

 

 

Exercisable – March 31

     1,183,825      $ 16.26         2.49       $ 1,413   
  

 

 

   

 

 

    

 

 

    

 

 

 

Weighted average fair value per share of options vested during the quarter

     $ 7.75         
    

 

 

       

Weighted average fair value per share of options granted during the quarter

     $ 7.56         
    

 

 

       

 

 

Outstanding options, consisting of five-year to ten-year incentive stock options, vest and become exercisable ratably over a three to five year period from the date of grant. The outstanding options expire from five to ten years from the date of grant or upon separation from Exactech, and are contingent upon continued employment during the applicable option term. Certain non-qualified stock options are granted to non-employee sales agents and consultants, and they typically vest ratably over a period of three to four years from the date of grant and expire in five years or less from the date of grant, or upon termination of the agent or consultant’s contract with Exactech. Stock options exercisable for 289,200 and 73,200 shares of common stock were granted during the three months ended March 31, 2012 and 2011, respectively.

 

16


Restricted Stock Awards:

Under the plans, we may grant restricted stock awards to eligible employees, directors, and independent agents and consultants. Restrictions on transferability, risk of forfeiture and other restrictions are determined by the Compensation Committee of the Board of Directors, or the Committee, at the time of the award. During February 2012, the Committee approved equity compensation to the five outside members of the Board of Directors for their service on the Board of Directors. The compensation for each director was for the grant of stock awards with an annual market value of $60,000, payable in the form of four equal quarterly grants of common stock based on the market price at the respective dates of grant. The summary information of the restricted stock grants for the first quarter of 2012 is presented below:

 

 

 

Grant date    February 29, 2012  

Aggregate shares of restricted stock granted

     4,715   

Grant date fair value

     75,000   

Weighted average fair value per share

     15.89   

 

 

During March 2011, the Committee approved equity compensation to the six outside members of the Board of Directors for their service on the Board of Directors. The compensation for each director was for the grant of stock awards with an annual market value of $50,000, payable in the form of four equal quarterly grants of common stock based on the market price at the respective dates of grant. The summary information of the restricted stock grants for the first quarter of 2011 is presented below:

 

 

 

Grant date    March 4, 2011  

Aggregate shares of restricted stock granted

     4,044   

Grant date fair value

   $  75,000   

Weighted average fair value per share

   $  18.53   

 

 

All of the restricted stock awards in 2012 and 2011 were fully vested at each of the grant dates. The restricted stock awards require no service period and thus contain no risk or provision for forfeiture.

Employee Stock Purchase Plan:

On February 18, 2009, our board of directors adopted the 2009 ESPP, and our shareholders approved the 2009 ESPP at our Annual Meeting of Shareholders on May 7, 2009. Under the 2009 ESPP, employees are allowed to purchase shares of our common stock at a fifteen percent (15%) discount via payroll deduction. There are four offering periods during an annual period. There are 150,000 shares reserved for issuance under the plan. As of March 31, 2012, 38,729 shares remain available to purchase under this 2009 ESPP. The fair value of the employee’s purchase rights is estimated using the Black-Scholes model. Purchase information and fair value assumptions are presented in the following table:

 

 

 

Three months ended March 31,    2012     2011  

Shares purchased

     11,396        9,193   

Dividend yield

              

Expected life

     1 year        1 year   

Expected volatility

     52     40

Risk free interest rates

     1.2     2.9

Weighted average per share fair value

   $ 4.22      $ 4.39   

 

 

13. SUBSEQUENT EVENT

On April 2, 2012, we filed a lawsuit against the Florida Department of Revenue, requesting cancellation of the Florida Department of Revenue use tax assessment. See Note 8 for further discussion.

 

17


Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion should be read in conjunction with the unaudited condensed consolidated financial statements and related notes appearing elsewhere in this report.

Overview of the Company

We develop, manufacture, market and sell orthopaedic implant devices, related surgical instrumentation, supplies and biologic materials to hospitals and physicians in the United States and internationally. Our revenues are principally derived from sales of knee, hip, and extremity joint replacement systems and spinal fusion products. Our continuing research and development projects will enable us to continue the introduction of new, advanced biologic materials and other products and services. Revenue from sales of other products, including surgical instrumentation, Cemex® bone cement, the InterSpace™ pre-formed, antibiotic cement hip, knee and shoulder spacers have contributed to revenue growth and are expected to continue to be an important part of our anticipated future revenue growth.

Our operating expenses consist of sales and marketing expenses, general and administrative expenses, research and development expenses, and depreciation expenses. The largest component of operating expenses, sales and marketing expenses, primarily consists of payments made to independent sales representatives for their services to hospitals and surgical facilities on our behalf. These expenses tend to be variable in nature and related to sales growth. Research and development expenses primarily consist of expenditures on projects concerning knee, extremities, spine and hip implant product lines and biologic materials and services.

In marketing our products, we use a combination of traditional targeted media marketing together with our primary marketing focus, direct customer contact and service to orthopaedic surgeons. Because surgeons are the primary decision maker when it comes to the choice of products and services that best meet the needs of their patients, our marketing strategy is focused on meeting the needs of the orthopaedic surgeon community. In addition to surgeon’s preference, hospitals and buying groups, as the economic customer, are actively participating with physicians in the choice of implants and services.

Overview of the Three Months Ended March 31, 2012

During the quarter ended March 31, 2012, sales increased 10% to $58.6 million from $53.4 million in the comparable quarter ended March 31, 2011, as we continued to expand our customer base and product offerings. Gross margins increased to 69.1% from 68.7% as we continued to see positive results from our international direct sales distribution areas. Operating expenses increased 8% from the quarter ended March 31, 2011, and as a percentage of sales, operating expenses decreased to 60% during the first quarter of 2012 as compared to 61% for the same quarter in 2011. This decrease, as a percentage of sales, was primarily due to the reduction in legal and compliance costs to $611,000 in the first quarter of 2012 from $1.3 million in first quarter 2011, related to the Deferred Prosecution Agreement, or DPA, entered into with the Department of Justice, or DOJ. Net income for the quarter ended March 31, 2012 increased 11% and diluted earnings per share were $0.25 as compared to $0.22 last year.

During the three months ended March 31, 2012, we acquired $4.5 million in property and equipment, including new production equipment and surgical instrumentation. Cash flow from operations was $1.1 million for the three months ended March 31, 2012 as compared to a net cash flow from operations of $3.5 million during the three months ended March 31, 2011.

 

18


The following table includes the net sales and percentage of net sales for each of our product lines for the three month periods ended March 31, 2012 and March 31, 2011:

 

 

Sales by Product Line

($ in 000’s)

 
     Three Months Ended      2012- 2011  
     March 31, 2012      March 31, 2011      Inc (decr)  

Knee

   $         21,456         36.6%       $         21,338         40.0%         0.6%   

Hip

     10,954         18.7            8,012         15.0            36.7      

Biologics and Spine

     6,161         10.5            7,045         13.2            (12.5)     

Extremity

     12,977         22.1            9,439         17.7            37.5      

Other

     7,080                     12.1            7,535         14.1            (6.0)      
  

 

 

    

 

 

    

 

 

    

 

 

    

Total

   $ 58,628         100.0%       $ 53,369         100.0%         9.9%   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

The following table includes items from the unaudited Condensed Statements of Income for the three months ended March 31, 2012 as compared to the three months ended March 31, 2011, the dollar and percentage change from period to period and the percentage relationship to net sales (dollars in thousands):

 

Comparative Statement of Income Data

 

     Three Months Ended
March 31,
          2012 – 2011
Inc (decr)
         % of Sales  
     2012     2011           $     %          2012     2011  

Net sales

   $     58,628      $     53,369            5,259        9.9           100.0     100.0

Cost of goods sold

     18,096        16,720            1,376        8.2           30.9        31.3   

Gross profit

     40,532        36,649            3,883        10.6           69.1        68.7   

Operating expenses:

                         

Sales and marketing

     21,820        20,106            1,714        8.5           37.2        37.7   

General and administrative

     5,648        5,666            (18     (0.3        9.6        10.6   

Research and development

     4,104        3,466            638        18.4           7.0        6.5   

Depreciation and amortization

     3,792        3,409            383        11.2           6.5        6.4   

Total operating expenses

     35,364        32,647            2,717        8.3           60.3        61.2   

Income from operations

     5,168        4,002            1,166        29.1           8.8        7.5   

Other income (expense), net

     (212     280            (492     (175.7        (0.4     0.5   

Income before taxes

     4,956        4,282            674        15.7           8.4        8.0   

Provision for income taxes

     1,671        1,311            360        27.5           2.8        2.4   

Net income

   $ 3,285      $ 2,971            314        10.6           5.6        5.6   

Three Months Ended March 31, 2012 Compared to Three Months Ended March 31, 2011

Sales

For the quarter ended March 31, 2012, total sales increased 10% to $58.6 million from $53.4 million in the comparable quarter ended March 31, 2011. Sales of knee implant products increased 1% to $21.5 million for the quarter ended March 31, 2012 compared to $21.3 million for the quarter ended March 31, 2011, as our Logic PS knee system continues to grow. Hip implant sales of $11.0 million during the quarter ended March 31, 2012 were an increase of 37% over the $8.0 million in sales during the quarter ended March 31, 2011, as we continued to experience market penetration with our Novation Element™ hip system. Sales from biologics and spine decreased 13% during the quarter ended March 31, 2012 to $6.2 million, from $7.0 million in the comparable quarter in 2011. Sales of our extremity products were up 37% to $13.0 million as compared to $9.4 million for the same period in 2011, as we continue to see increasing market acceptance of our Equinoxe® reverse shoulder system. Sales of all other products decreased to $7.1 million as compared to $7.5 million in the same quarter last year. Domestically, total sales increased 5% to $36.8 million, or 63% of total sales, during the quarter ended March 31, 2012, up from $35.0 million, which represented 66% of total sales, in the comparable quarter last year.

 

19


Internationally, total sales increased 19% to $21.9 million, representing 37% of total sales, for the quarter ended March 31, 2012, as compared to $18.4 million, which was 34% of total sales, for the same quarter in 2011. The international sales increase was partially attributable to market growth at our direct sales operations.

Gross Profit

Gross profit increased 11% to $40.5 million in the quarter ended March 31, 2012 from $36.6 million in the quarter ended March 31, 2011. As a percentage of sales, gross profit increased to 69.1% during the quarter ended March 31, 2012 as compared to 68.7% in the quarter ended March 31, 2011. This increase was primarily a result of transition in our international business to direct operations which produce both higher gross margins and higher operating expenses as a percentage of sales. Looking forward to remainder of the fiscal year, we expect gross profit, as a percentage of sales, to be flat to 0.5% higher than prior year quarters on a comparative quarter basis.

Operating Expenses

Total operating expenses increased 8% to $35.4 million in the quarter ended March 31, 2012 from $32.6 million in the quarter ended March 31, 2011, primarily due to an increase in sales and marketing expenses. As a percentage of sales, total operating expenses decreased to 60% for the quarter ended March 31, 2012, as compared to 61% for the same period in 2011. The decrease in operating expenses, as a percentage of sales, is primarily due to the decrease in compliance expenses related to the DPA from $1.3 million in the first quarter of 2011, to $611,000 in the first quarter of 2012.

Sales and marketing expenses, the largest component of total operating expenses, increased 9% for the quarter ended March 31, 2012 to $21.8 million from $20.1 million in the same quarter last year. The increase was primarily related to our sales growth as well as increased costs in our international direct sales operations. Sales and marketing expenses, as a percentage of sales decreased to 37% for the quarter ended March 31, 2012, from 38% for the quarter ended March 31, 2011. Looking forward, sales and marketing expenditures, as a percentage of sales, are expected to be in the range of 37% to 38% for 2012.

General and administrative expenses decreased slightly to $5.6 million in the quarter ended March 31, 2012 from $5.7 million in the quarter ended March 31, 2011, as we reduced compliance expenses due to the termination of the monitorship during the first quarter of 2012. As a percentage of sales, general and administrative expenses decreased to 10% for the quarter ended March 31, 2012, as compared to 11% in the quarter ended March 31, 2011. General and administrative expenses for the balance of the year ending December 31, 2012 are expected to be in the range of 9% to 10% of sales.

Research and development expenses increased 18% for the quarter ended March 31, 2012 to $4.1 million from $3.5 million in the same quarter last year. As a percentage of sales, research and development expenses increased to 7% for the quarter ended March 31, 2012 from 6% for the comparable quarter last year. The increase was due primarily to increased product testing and prototype costs. We anticipate growth in research and development expenditures, as a percent of sales, to outpace sales growth as increases in product development and testing expenses throughout the remainder of the year are expected, with total research and development expenses ranging from 7% to 8% of sales.

Depreciation and amortization increased 11% to $3.8 million during the quarter ended March 31, 2012 from $3.4 million in the quarter ended March 31, 2011, as a result of continuing investment in our operations and expanding surgical instrumentation deployment. We placed $3.7 million of surgical instrumentation and $820,000 of new manufacturing equipment in service during the quarter. As a percentage of sales, depreciation and amortization remained flat at 6% during each of the quarters ended March 31, 2012 and 2011.

 

20


Income from Operations

Our income from operations increased 29% to $5.2 million, or 9% of sales in the quarter ended March 31, 2012 from $4.0 million, or 8% of sales in the quarter ended March 31, 2011. Looking forward, we expect operating expenses for the remainder of the year to increase roughly equivalent to sales growth and therefore we anticipate income from operations to be in the range of 8 - 9% for the balance of 2012.

Other Income and Expenses

We had other expenses, net of other income, of $212,000 during the quarter ended March 31, 2012, as compared to other income, net of other expenses, of $280,000 in the quarter ended March 31, 2011, primarily due to increased net interest expense for the quarter ended March 31, 2012 of $452,000 as compared to $248,000 during the quarter ended March 31, 2011 due to increased borrowing under our new credit agreement. Gains related to foreign currency transactions during the first quarter of 2012 decreased to $223,000 from $505,000 for the same quarter of 2011.

Taxes and Net Income

Income before provision for income taxes increased 16% to $5.0 million in the quarter ended March 31, 2012 from $4.3 million in the quarter ended March 31, 2011. The effective tax rate, as a percentage of income before taxes, was 34% for the quarter ended March 31, 2012 and 31% for the quarter ended March 31, 2011. The increase in the effective tax rate for the first quarter was primarily due to the tax impact of the research and development tax credit that was effective in the first quarter of 2011 as opposed to having expired during the first quarter of 2012. We expect our effective tax rates to range from 32% to 34% for the balance of 2012. As a result of the foregoing, we realized net income of $3.3 million in the quarter ended March 31, 2012, an increase of 11% from $3.0 million in the quarter ended March 31, 2011. As a percentage of sales, net income remained at 6% for each of the quarters ended March 31, 2012 and 2011. Earnings per share, on a diluted basis, increased to $0.25 for quarter ended March 31, 2012, from $0.22 for the quarter ended March 31, 2011.

Liquidity and Capital Resources

We have financed our operations through a combination of commercial debt financing, equity issuances and cash flows from our operating activities. At March 31, 2012, we had working capital of $97.9 million, an increase of 6% from $92.2 million at the end of 2011. Working capital in 2012 increased primarily as a result of an increase in accounts receivable as well as our inventory build associated with the product line and market expansions. We experienced increases overall in our current assets and liabilities due to our continued growth. We project that cash flows from operating activities, borrowing under our new line of credit, and the issuance of equity securities, in connection with both stock purchases under the 2009 ESPP and stock option exercises will be sufficient to meet our commitments and cash requirements in the next twelve months. If not, we will seek additional funding options with any number of possible combinations of additional debt, additional equity or convertible debt.

Operating Activities – Operating activities provided net cash of $1.1 million in the three months ended March 31, 2012, as compared to net cash from operations of $3.5 million during the three months ended March 31, 2011. A primary contributor to this change related to increases in accounts receivable offset partially by our increase in accounts payable during the first quarter of 2012. Our allowance for doubtful accounts and sales returns increased to $3.4 million at March 31, 2012 from $3.2 million at December 31, 2011, principally as a result of an increase in estimated sales return, net of cost of goods sold, to $1.5 million from $1.4 million as of the end of 2011, related to the nonrenewal of our agreement with our Spanish independent distributor. We cannot give assurances that our transition to direct sales outside the U.S. or the outstanding legal claims from our former Spanish distributor will not result in a larger amount of returned products with a corresponding increase in this allowance. The total days sales outstanding (DSO) ratio, based on average accounts receivable balances, was 78 for the three months ended March 31, 2012, up from a ratio of 70 for the three months ended March 31, 2011, primarily as a result of our growth outside the U.S. As we continue to expand our operations internationally, our DSO ratio could

 

21


continue to increase, due to the fact that credit terms outside the U.S. tend to be relatively longer than those in the U.S. Inventory increased by $2.2 million during the first three months ended March 31, 2012, compared to an increase of $2.5 million during the same period ended March 31, 2011. The net change in accounts payable and income tax payable for the three months ended March 31, 2012 provided aggregate net cash of $1.1 million, in contrast to net cash provided of $2.8 million for the three months ended March 31, 2011.

Investing Activities - Investing activities used net cash of $4.9 million in the three months ended March 31, 2012, as compared to $7.8 million in the three months ended March 31, 2011. The decrease was due to a reduction of purchases of property and equipment. Our cash outlays for surgical instrumentation, manufacturing equipment, and facility expansion was $4.5 million, and $436,000 for purchases of product licenses during the period ended March 31, 2012, as compared to cash outlays of $7.6 million for purchases of surgical instrumentation and manufacturing equipment, and $199,000 for purchases of product licenses during the same period of 2011.

Distribution Subsidiary - Exactech Ibérica

During the first quarter of 2010, we established a distribution subsidiary in Spain, Exactech Ibérica, S.A.. (“Exactech Ibérica”), and obtained our import registration allowing Exactech Ibérica to import our products for sale in Spain. Exactech Ibérica actively commenced distribution activities during the third quarter of 2010. The sales distribution subsidiary, based in Gijon, enables us to directly control our Spanish marketing and distribution operations. During the first quarter of 2010, we notified our previous independent distributor in Spain of the non-renewal of our distribution agreement. As a result of that non-renewal, our relationship with this independent distributor terminated during the third quarter of 2010. We expect a return of product from the former distributor, and as a result we have a sales return allowance of $1.5 million recorded against accounts receivable for this distributor on the consolidated balance sheet.

License technology

Our Taiwanese subsidiary, Exactech Taiwan, has entered into a license agreement with the Industrial Technology Research Institute (ITRI) and the National Taiwan University Hospital (NTUH) for the rights to technology and patents related to the repair of cartilage lesions. As of March 31, 2012, we have paid approximately $1.8 million for the licenses, patents, equipment related to this license agreement, and prepaid expenses, and we will make royalty payments when the technology becomes marketable. Using the technology, we plan to launch a cartilage repair program that will include a device and method for the treatment and repair of cartilage in the knee joint. It is expected that the project will require us to complete human clinical trials under the guidance of the Food & Drug Administration in order to obtain pre-market approval for the device in the United States. The agreement terms include a license fee based on the achievement of specific, regulatory milestones and a royalty arrangement based on sales once regulatory clearances are established.

Financing Activities - Financing activities provided net cash of $2.6 million in the three months ended March 31, 2012, as compared to $5.0 million in net cash for the three months ended March 31, 2011. In the first three months of 2012, we had net borrowings under our new credit agreement of $2.9 million as compared to net borrowings of $4.7 million in the first three months of 2011. Proceeds from the exercise of stock options provided cash of $190,000 in the three months ended March 31, 2012, as compared to $306,000 in the three months ended March 31, 2011, with the proceeds used to fund capital expenditures.

Long-term Debt

On February 24, 2012, we entered into a revolving credit and term loan agreement for a maximum aggregate principal amount of $100 million, referred to as the New Credit Agreement, with SunTrust Bank, as Administrative Agent, issuing bank and swingline lender, and a syndicate of other lenders. The New Credit Agreement is composed of a $30 million term loan facility and revolving credit line in an aggregate principal amount of up to $70 million, of which, a portion is a swingline note for $5 million. The swingline note is used for short-term cash management needs, and excess bank account cash balances are swept into the swingline to reduce any outstanding balance. Additionally, the New Credit Agreement provides for the issuance of letters of credit in an aggregate face amount of up to $5 million. Proceeds from the New Credit Agreement were used to pay all amounts outstanding under our previous line of credit and other loan balances outstanding as of the closing date.

 

22


Interest on loans outstanding under the New Credit Agreement is based, at our election, on a base rate, a Eurodollar Rate or an index rate, in each case plus an applicable margin. The base rate is the highest of (i) the rate which the Administrative Agent announces from time to time as its prime lending rate, (ii) the Federal Funds rate, as in effect from time to time, plus one-half of one percent ( 1/2%) per annum and (iii) the Eurodollar Rate determined on a daily basis for an Interest Period of one (1) month, plus one percent (1.00%) per annum. The Eurodollar Rate is the London interbank offered rate for deposits in U.S. Dollars for approximately a term comparable to the applicable interest period (one, two, three or six months, at our election), subject to adjustment for any applicable reserve percentages. The index rate is the rate equal to the offered rate for deposits in U.S. Dollars for a one (1) month interest period, as appears on the Bloomberg reporting service, or such similar service as determined by the Administrative Agent that displays British Bankers’ Association interest settlement rates for deposits in Dollars, subject to adjustment for any applicable reserve percentages. The applicable margin is based upon our leverage ratio, as defined in the New Credit Agreement, and ranges from 0.50% to 1.25% in the case of base rate loans and 1.50% to 2.25% in the case of index rate loans and Eurodollar loans. We must also pay a commitment fee to the Administrative Agent for the account of each lender, which, based on our leverage ratio, accrues at a rate of 0.20% or 0.25% per annum on the daily amount of the unused portion of the revolving loan. The New Credit Agreement has a five year term expiring on February 24, 2017.

The $30 million term loan is subject to amortization and is payable in quarterly principal installments of $375,000 during the first year of the five-year term and quarterly principal installments of $750,000 during the remaining years of the term, with any outstanding unpaid principal balance, together with accrued and unpaid interest, due at the expiration of the term. The New Credit Agreement requires that, within one-year after entering into the New Credit Agreement (or such later date as agreed to by the Administrative Agent), we fix or limit our interest exposure to at least fifty percent (50%) of the term loan pursuant to one or more hedging arrangements reasonably satisfactory to the Administrative Agent. All long-term debt instruments outstanding, including our previous line of credit, our commercial construction loan and commercial real estate loan, have been repaid and terminated using proceeds from the New Credit Agreement.

The obligations under the New Credit Agreement have been guaranteed by all of our domestic subsidiaries and are secured by substantially all of our and our domestic subsidiaries’ assets (other than real property), together with a pledge of 100% of the equity in our domestic subsidiaries and 65% of the equity in certain of our non-U.S. subsidiaries. The outstanding balance under the New Credit Agreement may be prepaid at any time without premium or penalty. The New Credit Agreement contains customary events of default and remedies upon an event of default, including the acceleration of repayment of outstanding amounts and other remedies with respect to the collateral securing the New Credit Agreement obligations. The New Credit Agreement includes covenants and terms that place certain restrictions on our ability to incur additional debt, incur additional liens, make investments, effect mergers, declare or pay dividends, sell assets, engage in transactions with affiliates, effect sale and leaseback transactions, enter into hedging agreements or make capital expenditures. Certain of the foregoing restrictions limit our ability to fund our foreign subsidiaries in excess of certain limits. Additionally, the New Credit Agreement contains financial covenants requiring that we maintain a leverage ratio of not greater than 2.50 to 1.00 and a fixed charge coverage ratio (as defined in the New Credit Agreement) of not less than 2.00 to 1.00. We were in compliance with such covenants at March 31, 2012.

Other Commitments and Contingencies

At March 31, 2012, we had outstanding commitments for the purchase of inventory, raw materials and supplies of $16.7 million and outstanding commitments for the purchase of capital equipment of $3.6 million. Purchases under our distribution agreements were $2.2 million during the three months ended March 31, 2012.

As of March 31, 2012, we recorded a contingent liability of $1.1 million based on the estimated weighted probability of the outcome of a claim by the State of Florida for sales and use tax, based on the State’s

 

23


audit of such tax dating back to May 2005, which was assessed by the State of Florida for the value of surgical instruments removed from inventory and capitalized as property and equipment worldwide. In consultation with counsel, management is challenging the assessment. In evaluating the liability, management followed the FASB guidance on contingencies, and concluded that the contingent liability was probable, based on assertions by Florida Department of Revenue personnel, and could be reasonably estimated, however if we are unsuccessful in our challenge against the State of Florida, we could have a maximum potential liability of $3.1 million for the tax period audited through March 31, 2012. Any use tax determined to be due and payable to the Florida Department of Revenue will increase the basis of the surgical instruments and this amount will be amortized over the remaining useful life of the instruments. During March 2012 we received an unfavorable decision on our protest of the assessment for $1.4 million for use tax and interest through the year 2008. On April 2, 2012, we filed a lawsuit against the Florida Department of Revenue in the Circuit Court of the Eighth Circuit in Alachua County, Florida, requesting that the Court cancel the Department of Revenue’s assessment; however, there can be no assurances that we will ultimately prevail in our lawsuit.

 

24


CAUTIONARY STATEMENT RELATING TO FORWARD LOOKING STATEMENTS

This report contains various “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, which represent the Company’s expectations or beliefs concerning future events, including, but not limited to, statements regarding growth in sales of the Company’s products, profit margins and the sufficiency of the Company’s cash flow for its future liquidity and capital resource needs. When used in this report, the terms “anticipate,” “believe,” “estimate,” “expect” and “intend” and words or phrases of similar import, as they relate to the Company or its subsidiaries or its management, are intended to identify forward-looking statements. These forward-looking statements are further qualified by important factors that could cause actual results to differ materially from those in the forward-looking statements. These factors include, without limitation, the outcome of the State of Florida unasserted claim, the effect of competitive pricing, the Company’s dependence on the ability of its third-party suppliers to produce components on a cost-effective basis to the Company, significant expenditures of resources to maintain high levels of inventory, market acceptance of the Company’s products, the outcome of litigation, the effects of governmental regulation, potential product liability risks and risks of securing adequate levels of product liability insurance coverage, and the availability of reimbursement to patients from health care payers for procedures in which the Company’s products are used. Results actually achieved may differ materially from expected results included in these statements as a result of these or other factors, including those factors discussed under “Risk Factors” in our 2011 annual report on Form 10-K and each quarterly report on Form 10-Q we have filed after this annual report. Exactech undertakes no obligation to update, and the Company does not have a policy of updating or revising, these forward-looking statements. Except where the context otherwise requires, the terms, “we”, “us”, “our”, “the Company,” or “Exactech” refer to the business of Exactech, Inc. and its consolidated subsidiaries.

 

25


Item 3.     Quantitative and Qualitative Disclosures About Market Risk

We are exposed to market risk from interest rates. For our cash and cash equivalents, a change in interest rates affects the amount of interest income that can be earned. For our debt instruments, changes in interest rates affect the amount of interest expense incurred.

The table that follows provides information about our financial instruments that are sensitive to changes in interest rates. If our variable rates of interest experienced an upward increase of 1%, our debt service would increase approximately $371,000 for the remainder of 2012. We believe that the amounts presented approximate the financial instruments’ fair market value as of March 31, 2012, and the weighted average interest rates are those experienced during the year to date ended March 31, 2012 (in thousands, except percentages):

 

             
      2012     2013      2014      2015     

Thereafter

     Total  

Liabilities

                

Term loan at variable interest rate

   $ 1,125      $ 2,625       $ 3,000       $ 3,000       $ 20,250       $ 30,000   

Weighted average interest rate

     2.2              

Line of credit at variable interest rate

                                    19,509         19,509   

Weighted average interest rate

     2.2              

 

 

We are exposed to market risk related to changes in foreign currency exchange rates. The functional currency of substantially all of our international subsidiaries is the local currency. Transactions are translated into U.S. dollars and exchange gains and losses arising from translation are recognized in “Other comprehensive income (loss)”. Fluctuations in exchange rates affect our financial position and results of operations. The majority of our foreign currency exposure is to the Euro (EUR), Pound Sterling (GBP), and Japanese Yen (JPY). During the quarter ended March 31, 2012, translation gains were $810,000, which were primarily due to the strengthening of the EUR and GBP. During the quarter ended March 31, 2011, translation gains were $2.0 million, which were also due to the strengthening of the EUR and GBP.

In connection with some agreements we are subject to risk associated with international currency exchange rates on purchases of inventory payable in Euros. At present, we do not hedge our exposure or invest in international currency derivatives. The U.S. dollar is considered our primary currency, and transactions that are completed in an international currency are translated into U.S. dollars and recorded in the financial statements. We recognized currency transaction gains of $223,000 and $505,000 for the quarters ended March 31, 2012 and 2011, respectively, which was primarily due to the effect of our European expansion and the strengthening of the Euro as compared to the U.S. dollar. We do not believe we are currently exposed to any material risk of loss due to exchange rate risk exposure.

 

26


Item 4.   Controls and Procedures

Disclosure Controls and Procedures

As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer ("CEO") and our Chief Financial Officer ("CFO"), of the effectiveness of the design and operation of our disclosure controls and procedures, or “disclosure controls,” pursuant to Exchange Act Rule 13a-15(b). Disclosure controls are controls and procedures designed to reasonably ensure that information required to be disclosed in our reports filed under the Exchange Act, such as this quarterly report, is recorded, processed, summarized and reported within the time periods specified in the U.S. Securities and Exchange Commission’s rules and forms. Disclosure controls include, without limitation, controls and procedures designed to ensure that information required to be disclosed in our reports filed under the Exchange Act is accumulated and communicated to our management, including our CEO and CFO, or persons performing similar functions, as appropriate, to allow timely decisions regarding required disclosure. Our disclosure controls include some, but not all, components of our internal control over financial reporting. Based upon that evaluation, our CEO and CFO concluded that our disclosure controls and procedures were effective as of March 31, 2012.

Change in Internal Control over Financial Reporting

There have not been any changes in our internal control over financial reporting during the quarter ended March 31, 2012, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

27


PART II.   OTHER INFORMATION

 

Item 1.    Legal Proceedings

There are various claims, lawsuits, and disputes with third parties and pending actions involving various allegations against us incident to the operation of our business, principally product liability cases. We are currently a party to several product liability suits related to the products distributed by us on behalf of RTI Biologics, Inc., or RTI. Pursuant to our license and distribution agreement with RTI, we will tender all cases to RTI. While we believe that the various claims are without merit, we are unable to predict the ultimate outcome of such litigation. We therefore maintain insurance, subject to self-insured retention limits, for all such claims, and establish accruals for product liability and other claims based upon our experience with similar past claims, advice of counsel and the best information available. At March 31, 2012, we had $50,000 accrued for product liability claims and as of December 31, 2011, we had $65,000 accrued for product liability claims. These matters are subject to various uncertainties, and it is possible that they may be resolved unfavorably to us. However, while it is not possible to predict with certainty the outcome of the various cases, it is the opinion of management that, upon ultimate resolution, the cases will not have a material adverse effect on our consolidated financial position, results of operations or cash flows.

Our insurance policies covering product liability claims must be renewed annually. Although we have been able to obtain insurance coverage concerning product liability claims at a cost and on other terms and conditions that are acceptable to us, we may not be able to procure acceptable policies in the future.

On March 8, 2012, upon the recommendation of our monitor and the agreement of the USAO, we successfully concluded the Deferred Prosecution Agreement, or DPA, with the United States Attorney’s Office for the District of New Jersey, or the USAO, which was entered into on December 7, 2010. We continue to comply with the five year Corporate Integrity Agreement, or CIA, with the Office of the Inspector General of the United States Department of Health and Human Services. Pursuant to a related Civil Settlement Agreement, or CSA, we settled civil and administrative claims relating to the matter for a payment of $3.0 million, without any admission by the Company. The foregoing agreements, together with a related settlement agreement, resolve the investigation commenced by the USAO in December 2007 into our consulting arrangements with orthopaedic surgeons relating to our hip and knee products in the United States, which we refer to as the Subject Matter. As set forth in the DPA, the USAO specifically acknowledged that it did not allege that our conduct adversely affected patient health or patient care. Pursuant to the DPA, an independent monitor reviewed and evaluated our compliance with our obligations under the DPA. The CIA acknowledges the existence of our corporate compliance program and provides us with certain other compliance-related obligations during the CIA’s term. See “Item 1A — Risk Factors” of our Annual Report on Form 10-K for the year ended December 31, 2011 for more information about our obligations under these agreements. We continue to enhance and apply our corporate compliance program, and we monitor our practices on an ongoing basis to ensure that we have in place proper controls necessary to comply with applicable laws in the jurisdictions in which we do business. Our failure to maintain compliance with U.S. healthcare and regulatory laws could expose us to significant liability including, but not limited to, exclusion from federal healthcare program participation, including Medicaid and Medicare, civil and criminal fines or penalties, and additional litigation cost and expense.

On October 18, 2010, MBA Incorporado, S.L., or MBA, our former distributor in Spain filed an action against Exactech, Inc. and Exactech Ibérica, S.A.U. in the Court of First Instance No. 10 of Gijon, Spain in connection with our termination of the distribution agreement with MBA in July 2010. In the lawsuit (“Complaint 1”), MBA alleged, (i) wrongful solicitation of certain employees of MBA subsequent to the termination of the distribution agreement, (ii) breach of contract with respect to the termination date established by Exactech and Exactech’s alleged failure to follow the termination transitioning protocols set forth in the distribution agreement, and (iii) commercial damages and lost sales and customers due to Exactech’s alleged failure to supply products requested by MBA during the transition period of the distribution agreement termination. In the Complaint 1 filing MBA seeks damages of forty-four million (44,000,000) Euros compensation for all benefits alleged to be owed by Exactech under the distribution

 

28


agreement, including alleged loss of clientele, alleged loss of prestige and credibility, alleged loss of client confidence and alleged illegitimate business practices. On December 1, 2010, MBA filed a second action (“Complaint 2”) against Exactech Ibérica and two of the former principals of MBA, in the Mercantile Court No. 3 of Gijon, Spain, also in connection with our termination of the distribution agreement with MBA in July 2010, seeking among other things injunctive relief. In March 2011, the court dismissed MBA’s action for injunctive relief contained in Complaint 2. In November 2011, the trial in respect of Complaint 1 was held and, in December 2011, the judge ruled in favor of Exactech on all counts.

In January 2012, MBA appealed the judge’s decision, and Exactech has submitted its written response opposing the appeal. While it is not possible to predict with certainty the outcome of the appeal, we believe that MBA’s appeal is without merit. We intend to vigorously defend ourselves against this appeal. On March 20, 2012, we were notified that MBA had submitted a new complaint (“Complaint 3”) related to inventory return alleging our obligation to repurchase inventory in MBA’s possession valued by MBA at $6.2 million. MBA states in this latest Complaint 3 that under certain circumstances it is willing to compensate us for the recognized outstanding debt to Exactech of $2.5 million. While it is not possible to predict with certainty the outcome of this matter, we believe that Complaint 3 is without merit. We intend to vigorously defend ourselves against this lawsuit.

Item 1A.   Risk Factors

Information about risk factors for the three months ended March 31, 2012, does not differ materially from those in set forth in Part I, Item 1A, of our Annual Report on Form 10-K for the year ended December 31, 2011.

Item 6.       Exhibits

 

(a) Exhibit

  

Description

10.1   

Revolving Credit and Term Loan Agreement, dated February 24, 2012, by and among Exactech, Inc., the lenders from time to time party thereto, HSBC Bank, as Documentation Agent, Compass Bank, as Syndication Agent, and SunTrust Bank, as Administrative Agent. (1)

10.2   

Subsidiary Guaranty Agreement, dated February 24, 2012, by and among Exactech, Inc., certain of its subsidiaries, and SunTrust Bank, as administrative agent. (1)

10.3   

Security Agreement, dated February 24, 2012, by and among Exactech, Inc., certain of its subsidiaries, and SunTrust Bank, as administrative agent. (1)

10.4   

Equity Pledge Agreement, dated February 24, 2012, by and among Exactech, Inc., certain of its subsidiaries, and in favor of SunTrust Bank, as administrative agent. (1)

10.5   

Employment Agreement, dated March 7, 2012, between Exactech and William Petty, M.D.(2)

31.1   

Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2   

Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1   

Certification of Chief Executive Officer pursuant to 18 USC Section 1350.

32.2   

Certification of Chief Financial Officer pursuant to 18 USC Section 1350.

101.INS**   

XBRL Instance Document

101.SCH**   

XBRL Taxonomy Extension Schema

101.CAL**   

XBRL Taxonomy Extension Calculation Linkbase

101.LAB**   

XBRL Taxonomy Extension Label Linkbase

101.PRE**   

XBRL Taxonomy Extension Presentation Linkbase

 

  (1) Incorporated by reference to Exhibits 10.1, 10.2, 10.3, and 10.4, respectively, to the Company’s Current Report on Form 8-K, filed with the SEC on February 28, 2012.

 

  (2) Incorporated by reference to Exhibit 10.1, to the Company’s Current Report on Form 8-K, filed with the SEC on March 13, 2012.

 

  ** Pursuant to Rule 406T of Regulation S-T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933 or Section 18 of the Securities Exchange Act of 1934 and otherwise are not subject to liability.

 

29


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.

 

           Exactech, Inc.
Date: May 4, 2012   By:   /s/ William Petty                                               
    William Petty, M.D.
    Chief Executive Officer (principal executive officer), President and
    Chairman of the Board
Date: May 4, 2012   By:   /s/ Joel C. Phillips                                             
    Joel C. Phillips
    Chief Financial Officer (principal financial officer and principal accounting officer) and Treasurer

 

30

Wikinvest © 2006, 2007, 2008, 2009, 2010, 2011, 2012. Use of this site is subject to express Terms of Service, Privacy Policy, and Disclaimer. By continuing past this page, you agree to abide by these terms. Any information provided by Wikinvest, including but not limited to company data, competitors, business analysis, market share, sales revenues and other operating metrics, earnings call analysis, conference call transcripts, industry information, or price targets should not be construed as research, trading tips or recommendations, or investment advice and is provided with no warrants as to its accuracy. Stock market data, including US and International equity symbols, stock quotes, share prices, earnings ratios, and other fundamental data is provided by data partners. Stock market quotes delayed at least 15 minutes for NASDAQ, 20 mins for NYSE and AMEX. Market data by Xignite. See data providers for more details. Company names, products, services and branding cited herein may be trademarks or registered trademarks of their respective owners. The use of trademarks or service marks of another is not a representation that the other is affiliated with, sponsors, is sponsored by, endorses, or is endorsed by Wikinvest.
Powered by MediaWiki