O. I. 10-K 2009
Documents found in this filing:
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
þ Annual report pursuant to Section 13 or 15(d) of The Securities Exchange Act of 1934
For the fiscal year ended: December 31, 2008
¨ Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
Commission file number: 0-6511
(Exact name of registrant as specified in its charter)
Registrant's Telephone Number, including area code: (979) 690-1711
Securities Registered Pursuant to Section 12(b) of the Act:
Securities Registered Pursuant to Section 12(g) of the Act: NONE
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨ No þ
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. Yes ¨ No þ
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 þ No ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨
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 definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (check one):
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No þ
The aggregate market value, as of June 30, 2008, of the common stock (based on the average of bid and asked prices of these shares on NASDAQ) of O.I. Corporation held by non-affiliates (assuming, for this purpose, that all directors, officers and owners of 5% or more of the registrant's common stock are deemed affiliates) was approximately $16,976,151.
The number of outstanding shares of the common stock as of March 23, 2009 was 2,351,480.
DOCUMENTS INCORPORATED BY REFERENCE
Proxy Statement for the 2009 Annual Meeting of Shareholders
Part III information is incorporated by reference from the Proxy Statement
TABLE OF CONTENTS
This Annual Report on Form 10-K contains forward-looking statements within the meaning of United States securities laws, including the United States Private Securities Litigation Reform Act of 1995. Forward-looking information is often, but not always identified by the use of words such as “anticipate”, “believe”, “expect”, “plan”, “intend”, “forecast”, “target”, “project”, “may”, “will”, “should”, “could”, “estimate”, “predict” or similar words suggesting future outcomes or language suggesting an outlook. Forward-looking statements in this Annual Report on Form 10-K include, but are not limited to, statements with respect to expectations of our prospects, future revenues, earnings, activities and technical results. You are cautioned that any such forward-looking statements are not guarantees of future performance and involve a number of risks and uncertainties such as: the stability of the economic markets, technological change which could cause our products to become non-competitive or obsolete, the success of research and development efforts, prosecution and defense of our intellectual property, potential parts shortages, consolidation in the marketplace, changes in environmental regulations, economic and political factors affecting international sales, and risks associated with being a microcap public company. Actual results could differ materially from those indicated by such forward-looking statements. Factors that could cause or contribute to such differences include those discussed under “Risk Factors” in this report and in our Quarterly Reports on Form 10-Q. O.I. Corporation disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
Item 1. Business
O.I. Corporation (referred to as “the Company,” “OI,” “we,” “our” or “us,”) provides innovative products for chemical analysis and monitoring. Our products perform detection, analysis, measurement and monitoring applications in a wide variety of industries, including environmental testing, food and flavors, pharmaceutical, semiconductor, power generation, chemical, petrochemical and security. We sell our products throughout the world utilizing a direct sales force as well as a network of independent sales representatives and distributors. Our primary strategy is to identify market niches we can penetrate using our product development capabilities, manufacturing processes and marketing skills with the goal of assuming a market leadership position. Management continually emphasizes product innovation, quality improvement, performance enhancement and on-time delivery while striving for product cost improvements to promote added value for our products. We seek growth opportunities through: 1) the development of new applications for existing products, 2) technological and product improvement to develop new products for both new and existing markets and 3) the acquisition and development of new products and competencies.
OI was organized in 1963, in accordance with the Business Corporation Act of the State of Oklahoma, as Clinical Development Corporation, a builder of medical and research laboratories. In 1969, we moved our headquarters from Oklahoma City, Oklahoma, to College Station, Texas, and changed our name to Oceanography International Corporation. To better reflect current business operations, we again changed our name to O.I. Corporation in July 1980, and in January 1989 we began doing business as OI Analytical.
Our principal executive offices are located at 151 Graham Road, College Station, Texas, 77842, our telephone number is (979) 690-1711 and our website address is http://www.oico.com. Our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 are available through the investor relations page of our internet website free of charge as soon as reasonably practicable after we electronically file such material with, or furnish it to, the Securities and Exchange Commission (the “SEC”). Our internet website and the information contained therein or connected thereto are not intended to be incorporated into this Annual Report on Form 10-K. Our common stock is traded on the NASDAQ Global Market under the symbol “OICO”.
We design, manufacture, market and service products in two segments: Laboratory Products and Air Monitoring Systems. The Laboratory Products segment may be further broken down into the following primary areas: 1) Gas Chromatograph (or “GC”) Instruments and Systems, 2) Total Organic Carbon Analyzer (or “TOC”) Systems, 3) Automated Chemistry Analyzers (or “ACA”), and 4) Other Products. Our products in each of these areas are further described below.
Gas Chromatography Instruments and Systems > Gas chromatography is an analytical technique that separates organic compounds based on their unique physical and chemical properties. We manufacture Purge and Trap Sample Concentrators (or “P&T”) used for sample introduction into GCs. In addition, we manufacture a broad range of specialized GC detector devices. We also purchase analytical instruments including GCs and GC mass spectrometers (or “GC/MS”) manufactured by GC companies. Many of these purchases occur under our Value Added Reseller (“VAR”) agreement with Agilent Technologies, Inc. We typically integrate GC components with GCs and GC/MS to configure customized GC analyzer systems, including volatile organic compound analyzers and pesticide analyzers. These systems are typically used for testing water to ensure compliance with applicable regulations, such as the US Environmental Protection Agency standards. Sales of GC Laboratory Products totaled 42% and 36% of sales in 2008 and 2007, respectively.
Total Organic Carbon Analyzer Systems > TOC analyzers and related accessories are used to measure organic and inorganic carbon levels in ultrapure water, drinking water, natural water, groundwater, wastewater, process waters, soils and solids. Our TOC analyzers can be employed to comply with methods and testing required by the United States Environmental Protection Agency, or EPA, and other world-wide regulatory agency requirements; to ensure compliance with pharmacopoeia testing standards for ultrapure water used in manufacturing pharmaceuticals; to monitor pure water used in semiconductor manufacturing and power generation; and to provide data for oceanographic research. Customers often select TOC products based on the method of oxidation of a sample. Our TOC analyzers oxidize samples by High Temperature Persulfate and combustion; the two most widely recognized methods in the industry. We also produce a TOC Solids Analyzer designed to analyze samples with very high particulates and solids. The electrochemical oxidation process we developed for NASA was launched to the International Space Station in November. We are working to finalize a commercial version of this technology which should allow us to sell this product into new industries, including the process industry, in the second half of 2009. Sales of TOC Analyzer Systems totaled 13% and 11% of sales in 2008 and 2007, respectively.
Automated Chemistry Analyzers> Our products in this area include Segmented Flow Analyzers (or “SFA”) and Flow Injection Analyzers (or “FIA”) such as the Flow Solution® IV, Flow Solution 3100, and Model DA-3500 Discrete Analyzer. These instruments perform a wide range of ion analyses, including the measurement of nitrate, nitrite, phosphate, ammonia, chloride, alkalinity, and sulfate in liquids. Our CN Analyzer can perform total cyanide analysis in a number of industrial and environmental applications including cyanide testing in gold and silver mining, electroplating, metal finishing, and semiconductor operations. Sales of Automated Chemistry Analyzers totaled 9% and 10% of sales in 2008 and 2007, respectively.
Sample Preparation Products and Systems> Our sample preparation instrumentation products are used to prepare sample matrices for analysis. Sample preparation typically represents the most time-consuming aspect of chemical analysis. We strive to provide procedures, techniques, and instruments to reduce total sample preparation time, a highly desired goal for our customers in the analysis of chemical compounds. Our sample preparation products and systems consist primarily of Gel Permeation Chromatography (or “GPC”) Systems.
Refrigerant Monitors >Refrigerant monitors employ infrared (or “IR”) based analyzers to continuously monitor and detect low-level refrigerant leaks. These monitors are used in the chiller/refrigerant industry to detect all refrigerants including CFCs (chlorofluorocarbons), HFCs (hydrofluorocarbons), and HCFCs (hydrochloro-fluorocarbons) in accordance with ASHRAE (American Society of Heating, Refrigerating, and Air-conditioning Engineers) 15-2004 Safety Code Requirements. In addition, these monitors can be utilized to detect carbon monoxide gas in parking garage applications.
Sales of our other product lines totaled 4% of sales in both 2008 and 2007.
For continuous air-monitoring applications, we produce our MINICAMSâ product line of configured GC systems in standard and custom configurations to meet customers’ needs in the field. Our customers use MINICAMS to monitor air for toxic chemical compounds including gaseous chemical-warfare agents such as mustard, sarin, Lewisite, and others to address air-monitoring levels as promulgated by the Centers for Disease Control and Prevention. Sales of Air-Monitoring Systems totaled 20% and 27% of sales in 2008 and 2007, respectively.
Sales by Location
We generally transact all sales in U.S. Dollars. Estimated net revenues attributable to the United States, export revenues as a group, and the number of countries in which export revenues were generated, are as follows:
The following regions had sales in excess of 10% of net revenues: sales to the Asia-Pacific region were approximately 12% of net revenues in 2008 and 12% for 2007; and sales to the European region were approximately 14% of net revenues for 2008 and 13% for 2007.
For additional financial information, including financial information for the last two years on total assets, please see Item 8 “Financial Statements and Supplementary Data” and the notes to the consolidated financial statements included in this annual report.
We manufacture products in ISO 9001 certified facilities located in College Station, Texas, and Pelham, Alabama, a suburb of Birmingham, using similar techniques and methods at both locations. Our manufacturing capabilities include electro-mechanical assembly, testing and integration of components and systems, as well as calibration and validation of configured systems. Our products are generally certified pursuant to safety standards established by one or more of the following agencies: Underwriters Laboratories; Canadian Standards Association; and/or the European Committee for Electrotechnical Standardization. These agencies and others also certify the accuracy of advertised product specifications and compliance with certain manufacturing standards.
Sales and Marketing
We market, sell, and support analytical components and systems. In addition, we provide on-site installation and support services, distribute consumables, and provide accessories required to support the operation of our products in the field. Domestically, we sell our products to end users through a direct sales channel, manufacturers’ representatives, and resellers; while internationally we primarily sell through independent manufacturers' representatives and distributors. Our marketing initiatives include advertising, direct mail, seminars, trade shows, telemarketing, and promotion on our internet web site at www.oico.com.
We employ a technical support staff that provides on-site installation, service and after-sale support of our products with a goal of maximizing customer satisfaction. We also offer training courses and publish technical bulletins that contain product repair information, parts lists, and application support information for customers. Our products generally include a warranty ranging from ninety days to one year. Customers may also purchase extended warranties or service contracts that provide coverage after the expiration of the initial warranty. We install and service products using our field service personnel or third party contractors in North America while utilizing distributors with factory certified service personnel in international locations.
Research and Development
The analytical instrumentation industry is subject to rapid changes in technology. Our future success relies heavily on continued product enhancement. To accomplish this objective, we seek to advance and broaden employed technologies, improve product reliability, boost product performance, augment analytical data handling, reduce product size, and cut analytical cycle time while maintaining or reducing product cost. In addition, we actively pursue development of potential new products. Our efforts to enhance existing products and develop new products require an extensive investment in research and development. We expense research and development costs relating to both present and potential future products as incurred. These expenses totaled $3,851,000 during 2008 and $3,316,000 during 2007.
We have a dynamic portfolio of intellectual property, including both domestic and international patents and patent applications pending, primarily in the fields of gas chromatography, TOC, and mass spectrometry or “MS”. As of December 31, 2008, we own or have rights under license to 41 issued patents and 32 pending patent applications which expire between the years 2009 and 2026, compared to 43 issued patents in the prior year. As a matter of policy, we vigorously pursue and protect our proprietary technology positions and seek patent coverage on technology developments where appropriate. We also actively seek to license technology in fields of interest from third parties, provided such licenses are available on reasonable terms. While we believe that all of our patents and applications have value, our future success is not dependent on any single patent, application or group of patents soon to expire.
We encounter aggressive competition in all aspects of our business activity. OI competes with many firms in the design, manufacture, and sale of analytical instruments, principally on the basis of product technology, performance, quality, and reliability as well as product support, delivery, and price. Additional competitive factors include sales and marketing capability and access to channels of distribution. In OI’s major product lines, our primary competitors include, but are not limited to: EST Analytical, Lachat Instruments, Seal Analytical, Shimadzu Scientific Instruments, Teledyne Tekmar, and Westco Scientific Instruments. Many of our competitors have significantly greater resources than OI, thereby offering greater global market coverage, more extensive product offerings, broader access to human and technical resources, greater buying power with suppliers, superior brand recognition, larger market share, and greater financial resources. Our past success in niche market penetration is not necessarily an indication of future results.
As of December 31, 2008, our workforce consisted of 153 full-time employees. We employ scientists and engineers who conduct research and develop potential new products. To protect our proprietary information, we generally have confidentiality agreements in place with employees. None of our employees are covered by a collective bargaining agreement. We believe that relations between management and our employees are satisfactory.
To the best of our knowledge, we are in compliance with federal, state, and local laws and regulations involving the protection of the environment. In the normal course of business, we often handle small quantities of materials that could be deemed hazardous. However, hazardous materials are primarily introduced into our products by end users rather than by OI employees. Our compliance with federal, state, or local provisions regulating the discharge of materials into the environment or relating to the protection of the environment should have no material effect upon planned capital expenditures, future earnings, or competitive position. However, to the extent that customers purchase our analytical instruments for environmental analysis to assist in their compliance with environmental regulations, changes to these regulations could affect demand for certain of our products.
Sources of Raw Materials
We manufacture our products from raw materials, component parts and other supplies generally available from a number of different sources with few long-term supplier contracts. For certain purchased materials, we utilize preferred sources established on the basis of quality and service. Single source suppliers provide several purchased components. We can provide no assurance that these preferred or single source suppliers will continue to make materials available in sufficient quantities, at prices and on other terms and conditions that are adequate for our needs. However, we have no indication that any of these preferred or single source suppliers will cease to do business with us. Should we experience a cessation in our relationship with a preferred or single source supplier, we believe adequate alternate sources can be located without a material disruption to our customers, though at potentially increased cost. We use sub-contractors to manufacture certain product components. In some cases, these sub-contractors are small businesses that can be materially affected by national as well as local economic conditions and other business factors that could impact their ability to be reliable suppliers. Substitute suppliers and/or components may require reconfiguration of products, which might result in significant product changes in the view of customers and could ultimately result in our discontinuing such products.
Backlog of Open Orders
Our backlog of orders on December 31, 2008 was approximately $1,909,000, compared to $3,943,000 in 2007. This 51.6% decrease in our backlog was attributable to the slowing economy which began to impact our bookings during the fourth quarter of 2008. We generally include in the backlog only purchase orders or production releases that have firm delivery dates in the twelve-month period following our fiscal year-end. However, recorded backlog may not result in sales because of purchase order changes, cancellations, or other factors. We anticipate that substantially all of our present backlog of orders will be shipped or completed during 2009.
Demand for our products has not historically exhibited significant seasonal variation with regard to our consolidated net revenues. However, environmental markets tend to be weaker in the first and fourth quarters of the calendar year while U.S. Federal governmental markets are often slightly stronger in the third quarter of the calendar year.
Our customers include environmental testing laboratories, various military agencies of the U.S. Government, industrial businesses, semiconductor manufacturers, engineering and consulting firms, municipalities, and chiller-refrigerant companies. Sales to the U.S. Government accounted for approximately 21% of revenues in 2008 and 26% of revenues in 2007. A decrease in sales to the U.S. Government could have a material adverse impact on our results of operations. International sales accounted for approximately 30% of revenues over each of the past two years.
Item 1A. Risk Factors
Current economic conditions may adversely affect our business and we do not expect these conditions to improve in the near future.
Our business is materially affected by conditions in the global economy. The capital and credit markets worldwide have experienced extreme volatility and disruption for more than twelve months, and we cannot predict how long this economic downturn may last. Because of current economic conditions, capital expenditures, such as purchases of analytical instrumentation, are being delayed. We cannot predict when consumer confidence in the economy may increase and when customers may resume purchases of capital equipment. If economic conditions do not improve, we may experience a significant decrease in demand for our goods and services. Additionally, some of our customers may have difficulties obtaining access to sufficient credit, which could impair their ability to make timely payments to us. Some of our suppliers may also face issues gaining access to sufficient credit to maintain their business which could reduce the availability of some components we incorporate in our products. To the extent such suppliers are single source suppliers, our ability to continue to manufacture and sell our products could be affected.
The market for our products and services is characterized by rapid and significant technological change and quickly evolving industry standards. New product introductions responsive to these factors require significant planning, design, development, and testing. We can provide no assurance that our products will remain competitive in this rapidly changing environment. In addition, industry acceptance of new technologies we seek to introduce may be slow to develop.
We could incur substantial costs in protecting and defending our intellectual property and loss of patent rights could have a material adverse effect on our business.
We hold patents relating to various aspects of our products and believe that proprietary technical know-how is critical to many of our products. Proprietary rights relating to our products are protected from unauthorized use by third parties only to the extent that they are covered by valid and enforceable patents or are maintained in confidence as trade secrets. There can be no assurance that patents will issue from any pending or future patent applications owned by or licensed to us or that the claims allowed under any issued patents will be sufficiently broad to protect our technology. In the absence of patent protection, we may be vulnerable to competitors who attempt to copy our products or gain access to our trade secrets and technical know-how. Our competitors could also initiate litigation to challenge the validity of our patents or may use their resources to design comparable products that do not infringe upon our patents. We could incur substantial costs in defending OI in suits brought against us or in suits in which we may assert our patent rights against others. If the outcome of any such litigation is unfavorable to us, our business and results of operations could be materially and adversely affected. In addition, we rely on trade secrets and proprietary technical know-how that we seek to protect, in part, by confidentiality agreements with our collaborators, employees, and consultants. We can provide no assurance that these agreements will not be breached, that we would have adequate remedies for any breach, or that our trade secrets will not otherwise become known or be independently developed by competitors.
To maintain our market share for existing products and to gain market share in new markets such as homeland security, we must invest heavily each year in R&D spending. This R&D spending often involves new technologies or updates to existing technology. We can provide no assurance that our R&D efforts to develop new technology or efforts to acquire new technology from third parties will be successful or that new products we may develop through such efforts will be successful in the marketplace.
Consolidation in the environmental instrument market and changes in environmental regulations could adversely affect our business.>
Environmental analysis, which represents a significant market for our products, has exhibited a trend of contraction and consolidation in recent years. Continuation of this trend could have an adverse impact on our business. In addition, most air, water and soil analyses are conducted to comply with federal, state, local, and foreign environmental regulations. These regulations are frequently specific as to the type of technology required for a particular analysis and the level of detection required for that analysis. We develop, configure, and market our products to meet customer needs created by existing and expected environmental regulations. These regulations may be amended or eliminated in response to new scientific evidence or political or economic considerations. Any significant change in environmental regulations could result in a reduction in demand for our products.
Our results of operations are dependent on our relationship with Agilent.
We currently operate under a Value Added Reseller (or “VAR”) agreement with Agilent, which was entered into in 2008. Our VAR agreement provides for certain sales and marketing cooperation between us and Agilent. We can provide no assurance that Agilent will renew our VAR agreement, which is renewable annually in June, or that we will sustain current sales levels or increase sales levels in the future under the Agilent VAR agreement. A cessation of our relationship with Agilent would place at risk a substantial part of our GC systems sales and could have a material adverse effect on our financial condition and results of operations.
Economic, political and other risks associated with international sales could adversely affect our results of operations.
Sales outside the U.S. accounted for approximately 30% of our revenues in 2008. We expect international sales to account for a significant portion of our future revenues. Sales to international customers are subject to a number of risks including interruption to transportation flows for delivery of finished goods to customers; changes in foreign currency exchange rates; changes in political or economic conditions in a specific country or region; trade protection measures and import or export licensing requirements; negative consequences from changes in tax laws; differing protection of intellectual property; and unexpected changes in regulatory requirements. Unfavorable developments in these areas could have a material adverse effect on our business, results of operations, and financial position.
We rely on various component parts to meet production demands. Should we encounter a shortage due to loss of a single source supplier or group of suppliers, for example, we may suffer a loss in sales, which could detrimentally impact our earnings. In certain cases, we enter into non-cancelable purchase commitments with vendors to secure components at the best available price. Should market demand for our products decline unexpectedly, we may develop excess parts inventory which could result in inventory write-downs that would negatively impact our results of operations and financial position.
We are a small organization and we face many risks inherent in operating a microcap public company.
Because we are a relatively small organization, we have limited resources both in terms of our physical facilities and human resources. Should we suffer a catastrophic loss in either of our primary facilities, we could face a significant disruption in our business. To be successful, we rely on the performance of our employees including key executives such as our CEO/CFO who serves in a dual capacity, sales and marketing professionals, technical staff, managers, and production personnel. In addition, we have a small accounting and finance group charged with the responsibility of public reporting issues and the increasingly complex requirements of generally accepted accounting principles in the United States in addition to normal day to day accounting operations. Our ability to meet customer demand could be negatively impacted if we are unable to attract, hire, train, retain, and motivate qualified employees.
As a small company, the cost of compliance with governmental regulations, including the Sarbanes-Oxley Act of 2002, or SOX, continues to escalate and represents a significant expenditure of funds.
We are considered a microcap company and have a relatively small number of shares of common stock outstanding, with insiders and holders of 5% or more shares owning a significant portion of our stock. Because of this concentration of ownership, our common stock is thinly traded and experiences some periods with no transactions. This lack of public float adversely affects the liquidity of an investment in our shares.
We are a small company with a strong financial position and innovative new technologies. Our small size could make us the target of a takeover attempt by a larger instrumentation company, the defense of which could cause us to incur significant legal and advisory fees and could serve as a distraction to our regular business.
Investments we pursue may be subject to a high risk of loss.
We plan to evaluate alternative investment options for excess funds to improve our returns. These investments may include less than investment grade bonds or other securities that we feel are likely to increase in value and/or provide a higher interest return. Any such investments are likely to subject us to a higher risk of loss than our current insured or government backed investments.
Potential acquisitions, strategic alliances, joint ventures and divestitures could result in financial results that do not meet expectations.
We plan to consider a growth strategy that could potentially include strategic alliances, joint ventures, or acquisitions. Certain business acquisitions and strategic alliances in past years, including the acquisition of General Analysis Corporation and the strategic alliance with and subsequent purchase of the assets of Intelligent Ion, Inc., have not produced profitability meeting our expectations. Businesses we may seek to acquire in the future may also fall short of our profit objectives. To finance potential acquisitions, we may need to raise additional funds either through public or private financing. We may have difficulty in obtaining debt financing on terms we find attractive, while equity financing can result in significant dilution to our shareholders.
Should we complete such a transaction, our financial results may differ from the investment community’s expectations. We could potentially experience difficulty developing, manufacturing, and marketing the products of a newly acquired company in a way that enhances performance of the combined businesses or product lines to realize the value from expected synergies. Depending on the size and complexity of an acquisition, our successful integration of the entity depends on a variety of factors including: retention of key employees; management of facilities and employees in separate geographic areas; retention of key customers; and the integration or coordination of different research and development, product manufacturing, sales programs, and facilities. All of these efforts require varying levels of management resources that may divert our attention from other business operations. If we do not realize the expected benefits or synergies of such transactions, our consolidated financial position, results of operations and stock price could be negatively impacted.
Item 1B. Unresolved Staff Comments
Item 2. Properties
OI owns a facility with space of approximately 68,650 sq. ft. located on 10.86 acres of land in College Station, Texas, and has good title, free of any encumbrances. We lease approximately 20,000 sq. ft. of office, engineering, laboratory, production, and warehouse space in Pelham, Alabama, a suburb of Birmingham, under a lease expiring at the end of November 2009 with an option to extend for two additional one-year renewal periods. We also lease 500 sq. ft. of office space in Edgewood, Maryland, renewable annually with an option to extend for two more one-year renewal periods. We believe that the facilities we occupy are in good condition and are suitable for our present operations and that suitable space is readily available for expansion or to accommodate our operations should any of our leases not be extended.
Item 3. Legal Proceedings
We are not subject to any material legal proceedings. From time to time, in the ordinary course of business, we have received, and in the future may receive, notice of claims against us, which in some instances have developed, or may develop, into lawsuits. For all claims, in the opinion of our management, based upon presently available information, either adequate provision for anticipated costs has been made by insurance, accruals or otherwise, or the ultimate anticipated costs resulting will not materially affect our consolidated financial position, results of operations, or cash flows.
Item 4. Submission of Matters to a Vote of Security Holders>
No matters were submitted to a vote of our security holders, through solicitation of proxies or otherwise, during the fourth quarter of 2008.
Item 5. Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Common Stock Market Information Our common stock trades on the NASDAQ Global Market under the symbol “OICO.” The ranges of high and low trade prices per share of our common stock for each quarterly period during fiscal 2008 and 2007 were as follows:
Number of Holders of Common Stock As of March 23, 2009 there were 675 holders of record of OI common stock.
Dividends> During 2006, our Board of Directors established an annual cash dividend of $0.20 per share, payable $0.05 per quarter. We have continued this dividend policy through 2008. The payment of future cash dividends under the policy is subject to the continuing determination by the Board of Directors that this policy remains in the best interest of shareholders, complies with the law and does not violate any applicable agreements into which we may enter. We may discontinue our dividend policy at any time.
We declared cash dividends on shares of our common stock in the amount of:
We paid a cash dividend of $0.05 per share of common stock in the first quarter of 2009 and anticipate paying a dividend in each quarter of 2009.
The following table provides information about our purchases of equity securities that are registered by us pursuant to section 12 of the Exchange Act during the quarter ended December 31, 2008.
(1) Through four separate authorizations in May, June, August and October 2008, the Board of Directors authorized a plan to repurchase up to an additional 265,000 shares of OI common stock with no specified expiration date. As of December 31, 2008, we may purchase up to an additional 37,007 shares pursuant to this plan.
Item 6. Selected Financial Data
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
This item of the annual report on Form 10-K is divided into the following sections:
We provide innovative products for chemical analysis and monitoring. Our products perform detection, analysis, measurement, and monitoring applications in a wide variety of industries including environmental testing, food, pharmaceutical, semiconductor, power generation, chemical, petrochemical, and security. Headquartered in College Station, Texas, we sell our products throughout the world utilizing a direct sales force as well as a network of independent sales representatives and distributors. Our primary strategy is to identify market niches we can penetrate using our product development capabilities, manufacturing processes and marketing skills with the goal of assuming a market leadership position. Management continually emphasizes product innovation, quality improvement, performance enhancement, and on-time delivery while striving for product cost improvements to promote added value for our products.
Our 2008 results were much improved compared to 2007 despite the challenges of a tumultuous economy, investment portfolio losses, and a significant decline in Air Monitoring Systems segment revenues. We were very pleased to achieve an increase in overall sales of 7%, due in large part to the strength of growth in certain product lines within our Laboratory Products segment. Going into 2008, we anticipated a decline in Air Monitoring Systems segment sales due to a temporary lull in governmental projects. Our objective was to overcome this revenue shortfall through an increased emphasis on our Laboratory Products segment product lines, particularly our GC and TOC products. We accomplished this objective despite a slowing economy which began to impact our sales during the fourth quarter.
Margins for the year were down slightly from 2007 due largely to the lower volume of Air Monitoring Systems segment sales. Gross profit was up because of sales growth described above. Our 2008 SG&A expenses declined significantly as compared to 2007 when we incurred above normal legal and consulting expenses associated with our 2007 stock option investigation. R&D expenses increased in 2008 due in large part to the purchase of materials we will use in building our prototype, beta versions of the new process TOC and miniaturized mass spectrometer products.
Operating earnings were much improved from 2007 because of our sales growth and lower SG&A expenses. However, our improved operating results were partially offset by the impact of losses on our preferred stock holdings during the year. Because of the continued instability in financial markets, we liquidated our investment portfolio during the third quarter. Our tax expense was lower than normal in 2008 due to a tax benefit recorded during the third quarter in connection with uncertain tax positions which are no longer at risk. Despite our investment losses, we recorded net income of $1,020,000 in 2008, a significant improvement from 2007.
We continued to return value to OI shareholders during 2008 through both dividend payments and share repurchases. Our total return of value to shareholders exceeded $3,500,000.
To promote future sales growth and expand our product offerings, we entered into several strategic alliances in 2008. During the second quarter, we entered into an agreement with DANI Instruments, S.p.A., a well-established Italian analytical instrument company, under which we will sell certain gas chromatography (“GC”)-related products to broaden our largest product line. We also signed a VAR agreement with Agilent Technologies, Inc., the industry leader in GC solutions, during the second quarter. Earlier in the year, we announced that we would be working with Picarro Inc., to develop a solution combining our TOC technology with Picarro’s cavity ring-down spectroscopy technology. This new technology won a major new product innovation award at the 2009 Pittsburgh Conference, our industry’s largest exhibition. These alliances have not yet impacted our sales but should begin to do so before the end of 2009.
Looking ahead, we face a very serious challenge as we are impacted by the overall economic downturn in 2009. Our backlog at the end of 2008 declined approximately 50% and we are experiencing a substantial slowdown in orders at the outset of 2009, as are other suppliers of capital equipment in all industries. Our visibility going forward is limited, but we will weigh cost control options to reduce our break-even point and maintain cash. While we are confident our new products and strategic alliances will result in longer term sales growth, we believe that the short-term sales outlook is not favorable.
Our financial position remains strong despite our investment portfolio losses and the return of capital to shareholders during the year. We ended the year with cash and liquid investments of $3,434,000 and have not borrowed against our bank line of credit. We believe that our strong financial position should provide us stability during the current economic downturn while we continue to build the foundation for future growth.
Results of Operations
The following table summarizes the results of our operations for each of the past two years. All percentage amounts were calculated using the underlying data in thousands.
Net Revenues.> Total net revenues for the year ended December 31, 2008 increased $1,836,000, or 6.8%, compared to 2007. The bulk of our sales growth was attributable to the Laboratory Products segment. Air-Monitoring System sales decreased significantly due to a temporary lull in governmental projects which utilize our MINICAMS products.
In the Laboratory Products segment, 2008 sales increased 18.6% compared to 2007. This growth was driven largely by domestic product sales, which increased 23%, while our international sales were up by 8%. The strong domestic sales growth was attributable to our GC product line as we gained market share in the domestic market and expanded our sales efforts in the governmental and educational areas. Our international sales growth was primarily attributable to Europe as our distributors were successful in promoting our GC products, particularly our purge and trap product line. TOC product sales also exhibited solid growth due largely to international sales, with improved sales volume in the Asia Pacific region. We experienced a slight decline in ACA product line sales during the year, but have recently obtained regulatory approval for a new cyanide-analysis method that should enhance future sales.
Service revenue increased $189,000, or 6%, during 2008 in comparison to 2007. This increase was largely attributable to increased billings under our contract with the U.S. Army. During 2007, we were awarded a contract from the U.S. Army to further refine the technology initially developed under the Wyle contract, with revenues under this contract continuing through 2008. We are confident the innovative TOC analyzer technology developed pursuant to these contracts will provide commercial sales opportunities in the future.
Because of the global economic climate, we anticipate a significant slowing of sales during 2009, particularly in the Laboratory Products segment.
Gross Profit.> Our overall margins decreased 1.6% during 2008 compared to 2007 because of lower sales in our Air-Monitoring Systems segment. Margins in our Laboratory Products segment increased slightly due to increased volume which reduced manufacturing variances. Margins in the Air-Monitoring Systems segment declined because of lower product revenues, with service margins down due to increased billings under lower margin government contracts. Though margin percentages were lower than 2007, our gross profit increased $488,000 in 2008 because of higher overall sales. We anticipate further pressure on margins during the coming year due to aggressive competition with orders for capital equipment likely to decline in 2009.
Selling, General and Administrative, (or “SG&A”) Expenses. >SG&A expenses for 2008 decreased $1,524,000, or 15%, compared to 2007. Our 2008 SG&A expenses declined significantly as compared to 2007 when we incurred above normal legal and consulting expenses associated with our 2007 stock option investigation. SG&A expense decreased to 30.9% of revenues during 2008, compared to 38.6% in 2007. We continue to explore cost cutting initiatives such as reductions in payroll expenses, board of director expenses, and travel & entertainment expenses.
Research and Development Expenses>. R&D expenses increased $535,000 during 2008, or 16%, compared to 2007. The increase in R&D expenses was largely attributable to the purchase of materials that will be used in the construction of prototype, beta units for our new ion-CCD based miniaturized mass spectrometer and our new TOC product based on technology originally developed for NASA. We expect to complete the initial build of beta units during the first quarter of 2009 and anticipate that products will be available for sale during the third quarter. R&D expenditures should begin to decline in 2009 as we complete the development of these new products. R&D expenses represented 13.3% of revenues for 2008 and 12.2% of revenues in 2007.
Operating Income/(Loss).> Our consolidated operating income improved significantly in 2008 due to higher earnings in our Laboratory Products segment, which were largely attributable to increased sales and reduced SG&A expenses. Although Laboratory Products produced improved results, the Air-Monitoring segment generated significantly lower operating earnings because of lower sales volume.
Interest and Other (loss)/income.> In 2008 we had a non-operating loss of $464,000 compared to non-operating income of $471,000 in 2007. This decrease of $935,000 was primarily due to losses recognized when we liquidated our preferred stock holdings during the second and third quarters of 2008 as well as reduced interest and dividend income, which resulted from reduced investment holdings and lower interest rates. Our total loss recognized on the sale of investments in 2008 was $713,000. These losses were partially offset by dividend and interest income. We anticipate lower interest income in the future because of lower cash holdings and continued low interest rates.
Provision For Income Taxes.> Effective January 1, 2007, we adopted the provisions of FIN 48 and established certain unrecognized tax benefits related to uncertain tax positions. As of September 30, 2008, we were no longer subject to U.S. Federal income tax examination on a portion of these uncertain tax positions and accordingly recorded a tax benefit of $285,000 during the third quarter of 2008. Because of the impact of this tax benefit, as well as certain permanent differences between our book and taxable income that reduce our tax liability, our effective tax rate for 2008 totaled (2.4)%. In 2007, our effective tax rate was (22.7)% due primarily to permanent differences between our book and taxable income that reduce our tax liability. These permanent differences include R&D tax credits as well as the dividends received deduction and the domestic production activities deduction.
Liquidity and Capital Resources
We consider a number of liquidity and working capital performance ratios in evaluating our financial condition. The following table includes certain ratios, working capital information, and summarized cash flows for use in understanding our current liquidity and recent trends in this area:
Cash provided by operating activities during 2008 totaled $1,331,000, a significant improvement from 2007, due largely to higher operating income and a decline in accounts receivable, which resulted from enhanced collection efforts. In addition, accounts payable declined during 2008 due to lower purchase commitments as the economy slowed in the fourth quarter.
Cash provided by investing activities totaled $1,959,000 in 2008, compared to $7,025,000 in 2007. During both years we liquidated a significant portion of our investment holdings to fund repurchases of our stock. The reduction in investment holdings was considerably larger in 2007 due to our Modified Dutch Auction Self-Tender and to pay costs associated with the stock option investigation. Purchases of property, plant and equipment totaled $348,000 in 2008, a decrease of $428,000 from 2007, with the bulk of this decrease due to the higher level of funds expended in 2007 related to our ERP system implementation that year. Our 2008 capital expenditures primarily include the purchase of equipment used in our laboratory products and Air Monitoring Systems segment manufacturing areas. We had no material commitments for the purchase of property, plant and equipment outstanding as of December 31, 2008.
Cash used in financing activities totaled $3,512,000 in 2008 compared to $4,965,000 in 2007. During 2008, we repurchased 284,569 shares of OI common stock under our stock repurchase program at an average price of $10.85. In 2007, we purchased 301,080 shares of OI common stock pursuant to our Modified Dutch Auction Self-Tender, for an aggregate cost of $4,365,660, exclusive of legal and administrative expenses associated with this transaction. We repurchased an additional 21,115 shares during 2007 under our stock repurchase program at an average price of $12.16 per share. We may purchase up to an additional 37,007 shares under the current stock repurchase program as of December 31, 2008.
Though down from the prior year, we continue to have a high level of liquidity and a strong financial position as demonstrated by our current ratio, liability to equity ratio, and high level of working capital. While the current economic environment is likely to further erode our liquidity and financial position, we continue to believe that our liquid assets and availability under our revolving line of credit are sufficient to fund working capital, R&D, and capital expenditures for the near term. As the economy improves, we anticipate that cash flows from operations will generate sufficient cash flow to meet our long term liquidity needs.
Since liquidating our investment portfolio during the third quarter of 2008, we have invested a portion of our excess funds generated from operations in short-term securities, including money market funds invested in government backed securities, and FDIC insured certificates of deposit. Our primary goal has been preservation of capital with a secondary goal of return on invested cash. Because interest rates are historically low, we have established an investment committee consisting of two independent directors and our CEO/CFO to evaluate alternative investment options for excess funds to improve our returns. These investments may include less than investment grade bonds or other securities that the committee feels are likely to increase in value and/or provide a higher interest return. Any such investments made by the Investment Committee are likely to subject us to a higher risk of loss than our current insured or government backed investments.
Critical Accounting Estimates
Our preparation of financial statements in accordance with accounting principles generally accepted in the United States of America requires that we utilize key accounting policies and make certain estimates that could significantly influence the results of operations and financial position. The most critical of these accounting policies and estimates include revenue recognition policies and related warranty reserves, the valuation allowance for inventories, and uncollectible accounts receivable and intangible asset valuation.
Revenue Recognition and Warranty Reserves> We derive revenue from three sources: system sales, part sales and services. For system and parts sales, we generally recognize revenue when persuasive evidence of an arrangement exists, delivery has occurred, the contract price is fixed or determinable, title and risk of loss has passed to the customer, and collection is reasonably assured. Our sales are typically not subject to rights of return, and historically we have not experienced significant sales returns. We generally record system sales that include installation services as multiple-element arrangements. In these situations, we recognize product revenue upon shipment but defer the installation service revenue until the installation is complete. We defer revenue recognition for the fair value of any undelivered elements, such as accessories ordered by customers, until the completion of delivery to the customer. For certain system sales that involve unique customer acceptance terms or new specifications or technology with customer acceptance provisions, we do not recognize revenue until we receive customer acceptance. We record any deferred revenue from such system sales as an accrued liability.
Our products generally have a warranty ranging from 90 days to one year. Upon expiration of the warranty period, the customer may purchase an extended product warranty typically covering an additional period of one year. We generally invoice extended warranty billings to the customer at the beginning of the contract term and recognize the related revenue ratably over the duration of the contract. Unearned extended warranty revenue is treated as an accrued liability.
We record a reserve for warranty expenditures and periodically adjust the amount of the reserve as required to reflect actual warranty experience. In determining the warranty reserve, we consider our historical experience and various additional factors including expected product failure rates, material usage, and service delivery costs incurred in correcting a product failure. Should actual product failure rates, material usage, or service delivery costs differ from our estimates, the estimated warranty liability could prove to be significantly over or understated. As of December 31, 2008 and 2007, our warranty liability totaled $317,000 and $496,000, respectively.
Accounts Receivable> We maintain an allowance for doubtful accounts representing our estimate of that portion of accounts receivable which we may be unable to collect from customers. Customer receivables may prove uncollectible for a variety of reasons including deterioration of customer financial condition, or dissatisfaction with product performance. We regularly assess potential doubtful accounts and use the best information available, including customer correspondence and credit reports. Though our bad debts have not historically been significant, we could experience increased bad debt expense should a major customer or market segment experience a financial downturn or our estimate of uncollectible accounts, which is based on our historical experience, prove to be inaccurate.
Inventories> Our inventories consist primarily of electronic equipment and various components. We operate in a fast-paced industry with frequent technological advances and new product introductions. Such occurrences can significantly impair customer demand for our products and the related inventory we have on hand. We regularly evaluate our inventory and maintain a reserve for excess or obsolete inventory. Generally, we record an impairment allowance for products with no movement in over twelve months that we believe to be either unsalable or salable only at a reduced selling price. We further use our judgment in evaluating the recoverability of all inventory based upon known and expected market conditions as well as future product plans. Should our competitors introduce a new technology or product that renders our current products obsolete, our allowance for inventory impairment may be inadequate.
Our inventory obsolescence charges totaled $18,000 and ($11,000) in fiscal 2008 and 2007 respectively. The inventory impairment allowance totaled approximately $654,000 and $732,000 at December 31, 2008 and 2007, respectively.
Intangible Assets >Our intangible assets consist primarily of intellectual property, including patents and patent applications. In accordance with Statement of Financial Accounting Standards (SFAS) No. 142, we review the recoverability and estimated useful lives of our intangible assets for impairment whenever events or changes in circumstances indicate that the carrying amount may not be fully recoverable. As a result of our reviews, we have not recorded any material impairment charges during 2008 or 2007.
Historically, neither inflation nor changing prices have had a material impact on our net revenues or results of operations. However, future inflationary trends could potentially impact our sales and earnings.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Item 8. Financial Statements and Supplementary Data
Management Responsibility for Financial Reporting.> Management is responsible for the integrity and objectivity of the data included in this report. Management believes it has provided financial information (both audited and unaudited) that is representative of our operations, reliable on a consistent basis throughout the periods presented and relevant for a meaningful appraisal of our business. The financial statements have been prepared in accordance with generally accepted accounting principles. Where necessary, they reflect estimates based on management's judgment.
Established accounting procedures and related systems of internal control provide reasonable assurance that assets are safeguarded, that the books and records properly reflect all transactions and that qualified personnel implement policies and procedures. Management periodically reviews our accounting and control systems.
Our Audit Committee, composed of at least three independent members of the Board of Directors who are not our employees, meets regularly with representatives of management and the independent registered public accountants to monitor the functioning of the accounting and control systems and to review the results of the audit performed by the independent registered public accountants. The independent registered public accountants and our employees have full and free access to the Audit Committee without the presence of management.
The Audit Committee has full authority and responsibility to oversee the appointment, termination, funding, evaluation and independence of the independent registered public accountants engaged by the Company.
The independent registered public accountants conduct an objective, independent examination of the financial statements. Their report appears as a part of this Annual Report on Form 10-K.
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Stockholders
We have audited the consolidated balance sheets of O. I. Corporation and subsidiary as of December 31, 2008 and 2007, and the related consolidated statements of income, stockholders' equity and cash flows for the years then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of O. I. Corporation and subsidiary as of December 31, 2008 and 2007, and the results of their operations and their cash flows for the years then ended, in conformity with U.S. generally accepted accounting principles.
We were not engaged to examine management's assertion about the effectiveness of O. I. Corporation's internal control over financial reporting as of December 31, 2008 included in the accompanying item 9A(T) Controls and Procedures and, accordingly, we do not express an opinion thereon.
As described in Note 11 to the consolidated financial statements, effective January 1, 2007, the Company adopted the provisions of FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes.
/s/McGLADREY & PULLEN, LLP
March 30, 2009
Consolidated Balance Sheets
The accompanying notes are an integral part of these consolidated financial statements.
Consolidated Statements of Income
The accompanying notes are an integral part of these consolidated financial statements.
Consolidated Statements of Cash Flows
The accompanying notes are an integral part of these consolidated financial statements.
Consolidated Statements of Stockholders' Equity
The accompanying notes are an integral part of these consolidated financial statements.
Notes to Consolidated Financial Statements
Note 1. Organization and Summary of Significant Accounting Policies
O.I. Corporation, an Oklahoma corporation, was organized in 1963. O.I. Corporation designs, manufactures, markets and services analytical, monitoring and sample preparation products, components and systems used to detect, measure and analyze chemical compounds in air and water.
Summary of Significant Accounting Policies
Principles of Consolidation> The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America and include the accounts of O.I. Corporation and its wholly owned subsidiary (collectively, the “Company” or “OI”). All significant intercompany transactions and balances have been eliminated in the consolidated financial statements.
Revenue Recognition and Warranty Reserve> The Company derives revenues from three sources—system sales, parts sales and services. For system sales and parts sales, revenue is generally recognized when persuasive evidence of an arrangement exists, delivery has occurred, the contract price is fixed or determinable, title and risk of loss has passed to the customer and collection is reasonably assured. The Company’s sales are typically not subject to rights of return and, historically, sales returns have not been significant. System sales that do not involve unique customer acceptance terms or new specifications or technology with customer acceptance provisions and that involve installation services, are accounted for as multiple-element arrangements, where the fair value of the installation service is deferred when the product is delivered and recognized when the installation is complete. In all cases, the fair value of undelivered elements, such as accessories ordered by customers, is deferred until the related items are delivered to the customer. For certain other system sales that do involve unique customer acceptance terms or new specifications or technology with customer acceptance provisions, all revenue is generally deferred until customer acceptance. Deferred revenue from such system sales is presented as unearned revenues in accrued liabilities in the accompanying consolidated balance sheets.
Our products generally carry a warranty ranging from 90 days to one year. Once the warranty period has expired, the customer may purchase an extended product warranty typically covering an additional period of one year. Extended warranty billings are generally invoiced to the customer at the beginning of the contract term. Revenue from extended warranties is deferred and recognized ratably over the duration of the contract. Unearned extended warranty revenue is included in unearned revenues in accrued liabilities in the accompanying consolidated balance sheets.
Taxes collected from customers and remitted to government agencies for specific revenue producing transactions are recorded net with no effect on the income statement.
Shipping and Handling Costs Shipping and handling costs are included in products cost of revenues.
Cash and Cash Equivalents> The Company considers all highly liquid cash investment instruments with an original maturity of three months or less to be cash equivalents. Included in cash and cash equivalents at December 31, 2008 and 2007 are temporary cash investments in money market funds of $2,874,000 and $928,000 of which $0 and $288,000, respectively was uninsured. Additionally, the Company had at December 31, 2008 and 2007, $27,000 and $38,000, respectively, of cash balances in excess of the Federal Deposit Insurance Corporation limits.
Accounts Receivable> The Company maintains allowances for doubtful accounts for estimated losses resulting from the failure of its customers to make required payments and for estimated sales returns. Customers may not make payments due to a variety of reasons including deterioration of their financial condition or dissatisfaction with the Company’s products. Management makes regular assessments of doubtful accounts and uses the best information available including correspondence with customers and credit reports. The Company periodically accrues for bad debt and management regularly compares uncollectible accounts with period end accounts receivable balances to determine its adequacy. For the years ended December 31, 2008 and 2007 we recognized approximately $78,000 and $6,000 of bad debt expense, respectively.
Investments> The Company accounts for its investments (including auction-rate securities) using Statement of Financial Accounting Standards (SFAS) No. 115, Accounting for Certain Investments in Debt and Equity Securities. This standard requires that certain debt and equity securities be adjusted to market value at the end of each accounting period. The Company’s investments as of December 31, 2008 consisted of highly liquid, government backed or government insured instruments. As of December 31, 2007, the Company’s investments included preferred stock investments, medium-term commercial notes, short-term commercial paper, Treasury bills, and Federal Agency Discount Notes. These investments were classified as available-for-sale and are stated at fair value at December 31, 2008 and 2007. The unrealized gain (loss) on investments is reported net of tax as accumulated other comprehensive income (loss) in the accompanying consolidated statement of stockholders’ equity. Realized gains and losses on sales of investments are determined on a specific identification basis and included in the consolidated statements of income. Declines in the fair value of individual available-for-sale securities below their carrying value that are deemed other than temporary, result in write-downs of the individual securities to their fair value with the resulting loss charged to current period income. During 2008, we liquidated our investment holdings of preferred stock and corporate bonds and recognized a loss of $713,000.
Investment in Sales-Type Leases> The Company’s leasing operations consist of leasing analytical instruments. All of the Company’s leases are classified as sales-type leases. These leases typically expire over a four-year period. The Company recognizes as revenues the principal portion of sales-type leases upon initiation of the lease. Interest is deferred and recognized as revenues over the initial term of the lease. Security deposits are deferred until the lease expires and either recognized as revenues or returned to the customer, as appropriate.
Inventories> Inventories consist of electronic equipment and various components and are stated at the lower of cost or market. Cost is determined on a standard cost basis, which approximates the first-in first-out basis. The Company maintains a reserve for inventory obsolescence and regularly evaluates its inventory. Items with no movement in twelve months or more are generally reserved or written off. The Company also provides impairments for items that have realizable value below cost.
Property, Plant, and Equipment> Property, plant, and equipment is recorded at cost and depreciated over the estimated useful lives of 3 to 40 years using the straight-line method. Improvements of leased properties are amortized over the shorter of the life of the applicable lease term or the estimated useful life. Repairs and maintenance are expensed as incurred.
Intangible Assets> Intangible assets primarily consist of patent applications and issued patents. Patent applications are capitalized upon issuance of a final patent or expensed upon abandonment or withdrawal. Upon issuance, patents are amortized on a straight-line basis over their estimated useful lives, seventeen years. U.S. GAAP requires that long-lived assets to be held and used, including intangible assets, be reviewed for impairment whenever changes in circumstances indicate that the carrying value may not be recoverable. The carrying value is considered impaired when the anticipated separately identifiable undiscounted cash flows from such an asset are less than the carrying value of the asset. In that event, a loss is recognized based on the amount by which the carrying value exceeds the fair value of the long-lived asset.
Product Warranties> Products are sold with warranties ranging from 90 days to one year, and extended warranties may be purchased for some products. The Company establishes a reserve for warranty expenditures and then periodically adjusts the amount of reserve as required based on actual warranty experience. The Company makes estimates of these costs based on historical experience and on various other assumptions including historical and expected product failure rates, material usage, and service delivery costs incurred in correcting a product failure. Should actual product failure rates, material usage, or service delivery costs differ from estimates, revisions to the estimated warranty liability would be required.
Research and Development Costs Research and development costs are expensed as incurred.
Advertising Costs> All advertising costs are expensed as incurred and included in selling and administrative expenses in the consolidated statements of income. Advertising expenses for 2008, and 2007 were $180,679, and $164,217, respectively.
Income Taxes> The Company provides for deferred taxes in accordance with SFAS No. 109, Accounting for Income Taxes, which requires the Company to use the asset and liability approach to account for income taxes. This approach requires the recognition of deferred income tax liabilities and assets for the expected future tax consequences of temporary differences between the carrying amounts and the tax bases of assets and liabilities. The provision for income taxes is based on income before income taxes as reported in the accompanying consolidated statements of income. Effective January 1, 2007, the Company adopted FIN No. 48, “Accounting for Uncertainty in Income Taxes.” In accordance with FIN No. 48, the Company recognizes tax benefits that satisfy a greater than 50% probability threshold and provides for the estimated impact of interest and penalties for such tax benefits.
Financial Instruments> SFAS No. 107, Disclosure About Fair Value of Financial Instruments defines the fair value of financial instruments as the amount at which the instrument could be exchanged in a current transaction between willing parties. Due to their near-term maturities, the carrying amounts of cash and cash equivalents, accounts receivable and accounts payable are considered equivalent to fair value. Certain short-term investments, including preferred stock and corporate notes, are considered available-for-sale, and are adjusted at the end of each accounting period to their current market value. The Company does not have any off-balance sheet financial instruments.
Concentrations of Credit Risk> Financial instruments, which potentially subject the Company to concentrations of credit risk, consist principally of investments and trade receivables. The Company places its available cash in money market funds, investment grade domestic corporate bonds and highly rated corporate preferred stocks. The Company’s investments are subject to fluctuations based on interest rates and trading conditions prevailing in the marketplace. The Company sells its products primarily to large corporations, environmental testing laboratories and governmental agencies. The majority of its customers are located in the U. S. and all sales are denominated in U.S. dollars. The Company performs ongoing credit evaluations of its customers to minimize credit risk. However, agencies of the U.S. Government constitute a significant percentage of the Company’s revenues (See Note 14). Any federal budget cuts or changes in regulations affecting the U.S. chemical warfare programs or the U.S. Environmental Protection Agency may have a negative impact on the Company's future revenues.
Earnings Per Share> The Company reports both basic earnings per share, which is based on the weighted average number of common shares outstanding, and diluted earnings per share, which is based on the weighted average number of common shares outstanding and all dilutive potential common shares outstanding. Stock options are the only dilutive potential shares the Company has outstanding. At December 31, 2008 and 2007 options to acquire 88,000 and 80,000 shares at the weighted average exercise prices of $12.88 and $12.96, respectively, were not included in the computations of dilutive earnings per share as their effect would be anti-dilutive. The following table sets forth the computation of basic and diluted earnings per share:
Comprehensive (Loss) Income> Effective January 1, 1998, the Company adopted SFAS No. 130, Reporting Comprehensive Income. This Statement established standards for reporting and display of comprehensive income and its components. Net income and unrealized gains and losses on available-for-sale investments, net of taxes, are the Company’s only components of comprehensive (loss) income.
Stock-Based Compensation> On January 1, 2006, we adopted the provisions of Statement 123 (revised 2004) (Statement 123(R)), Share-Based Payment, which revises Statement 123, Accounting for Stock-Based Compensation, and supersedes APB Opinion 25, Accounting for Stock Issued to Employees. Statement 123(R) requires us to recognize expense related to the fair value of our stock-based compensation awards, including employee stock options.
Prior to the adoption of Statement 123(R), we accounted for stock-based compensation awards using the intrinsic value method of Opinion 25. Accordingly, we did not recognize compensation expense in our consolidated statements of income for options we granted that had an exercise price equal to the market value of the underlying common stock on the date of grant. As required by Statement 123, we also provided certain pro forma disclosures for stock-based awards as if the fair-value-based approach of Statement 123 had been applied.
Use of Estimates> The preparation of the consolidated financial statements in accordance with accounting principles generally accepted in the United States of America requires the use of management’s estimates. These estimates are subjective in nature and involve judgments that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at year-end and the reported amounts of revenues and expenses during the year. Actual results could differ from those estimates.
We record a reserve for warranty expenditures and periodically adjust the amount of the reserve as required to reflect actual warranty experience. In determining the warranty reserve, we consider our historical experience and various additional factors including expected product failure rates, material usage and service delivery costs incurred in correcting a product failure.
We maintain an allowance for doubtful accounts representing our estimate of that portion of accounts receivable which we may be unable to collect from customers. Customer receivables may prove uncollectible for a variety of reasons including deterioration of customer financial condition, damage during shipment, or dissatisfaction with product performance. We regularly assess potential doubtful accounts and use the best information available, including customer correspondence and credit reports.
We regularly evaluate our inventory and maintain a reserve for excess or obsolete inventory. Generally, we record an impairment allowance for products with no movement in over twelve months that we believe to be either unsalable, or salable only at a reduced selling price. We further use our judgment in evaluating the recoverability of all inventory based upon known and expected market conditions as well as future product plans.
In September 2006 the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards No. 157, Fair Value Measurements (SFAS No. 157). SFAS No. 157 defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurement. SFAS No. 157 also emphasizes that fair value is a market-based measurement, not an entity-specific measurement, and sets out a fair value hierarchy with the highest priority being quoted prices in active markets. Under SFAS No. 157, fair value measurements are disclosed by level within that hierarchy. In February 2008, the FASB issued FASB Staff Position No. 157-2, Effective Date of FASB Statement No. 157, which permits a one-year deferral for the implementation of SFAS No. 157 with regard to nonfinancial assets and liabilities that are not recognized or disclosed at fair value in the financial statements on a recurring basis. The Company adopted SFAS No. 157 for the fiscal year beginning January 1, 2008, except for nonfinancial assets and nonfinancial liabilities that are recognized or disclosed at fair value in the financial statements on a nonrecurring basis for which delayed application is permitted until our fiscal year beginning January 1, 2009. The Company is currently assessing the potential effect of the adoption of the remaining provisions of SFAS No. 157 on its financial position and results of operations.
In December 2007, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 141(R), Business Combinations (SFAS No. 141(R)), and Statement of Financial Accounting Standards No. 160, Noncontrolling Interests in Consolidated Financial Statements, an amendment of ARB No. 51 (SFAS No. 160). These new standards significantly change the accounting for and reporting of business combination transactions and noncontrolling interests (previously referred to as minority interests) in consolidated financial statements. Both standards are effective for fiscal years beginning on or after December 15, 2008, with early adoption prohibited. The effects of SFAS No. 141(R) on the Company’s financial statements will depend on the nature and significance of any future acquisitions subject to SFAS No. 141(R).
In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities - an amendment of FASB Statement No. 133 (SFAS No. 161). SFAS No. 161 requires additional disclosures about the objectives of using derivative instruments, the method by which the derivative instruments and related hedged items are accounted for under Statement No. 133 and its related interpretations, and the effect of derivative instruments and related hedged items on financial position, financial performance, and cash flows. SFAS No. 161 also requires disclosure of the fair values of derivative instruments and their gains and losses in a tabular format. SFAS No. 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. The Company has no derivative instruments or hedging activities and this pronouncement is only disclosure-related; accordingly, SFAS 161 has no impact on the Company’s financial position, consolidated results of operations or cash flows.
In April 2008, the FASB issued Staff Position (FSP) No. FAS 142-3, Determination of the Useful Life of Intangible Assets (FSP FAS 142-3). FSP FAS 142-3 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under SFAS No. 142, Goodwill and Other Intangible Assets. It is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years and should be applied prospectively to intangible assets acquired after the effective date. Early adoption is not permitted. FSP FAS 142-3 also requires expanded disclosure related to the determination of intangible asset useful lives for intangible assets and should be applied to all intangible assets recognized as of, and subsequent to the effective date. The impact of FSP FAS 142-3 will depend on the size and nature of acquisitions on or after January 1, 2009.
Note 2. Net Investment in Sales-Type Leases
The following lists the components of the net investment in sales-type leases as of December 31:
At December 31, 2008, minimum lease payments for each of the five succeeding fiscal years are as follows: $240,682 in 2009, $120,041 in 2010, $107,496 in 2011 $89,743 in 2012 and $40,490 in 2013.
Note 3. Inventories
Inventories, which include material, labor and manufacturing overhead, on December 31, 2008 and 2007, consisted of the following:
A provision for obsolete inventory was determined in 2008 and 2007 by taking the total of the inventory related to discontinued products, and consistent with the Company’s policy relating to obsolete inventory, the total of other inventory with no movement in twelve months including excess which the Company determined is no longer saleable based on available market information. The provision for obsolete inventory totaled approximately $18,000 in 2008 and approximately ($11,000) in 2007. These provisions are included in cost of revenues in the consolidated statements of income.
Note 4. Property, Plant and Equipment
Property, plant and equipment at cost on December 31, 2008 and 2007, consisted of the following:
Depreciation expense totaled $593,601 and $599,029 for the years ended December 31, 2008 and 2007, respectively.
Note 5. Investments
Investments considered available-for-sale at December 31, 2008 and 2007, consisted of the following:
At December 31, 2008 all investments were due within one year.
For the years ended December 31, 2008 and 2007, proceeds from sales of securities available for sale amounted to $5,506,886 and $16,051,469, respectively. Gross realized gains amounted to $24,026 and $45,855 in 2008 and 2007, respectively. Gross recognized losses amounted to $737,275 and $352,926 in 2008 and 2007, respectively. For the years ended December 31, 2008 and 2007, dividend income amounted to $104,086 and $208,932, respectively.
Information pertaining to securities with gross unrealized losses at December 31, 2007, aggregated by investment category and length of time that individual securities have been in a continuous loss position follows:
All investments are at market values based upon quoted market prices as of December 31. During 2007, the Company recorded a loss of $352,926 on certain marketable equity securities to reflect losses deemed “other than temporary”.
Note 6. Intangible Assets
Intangible assets on December 31, 2008 and 2007 consisted of the following:
Our intangible assets consist primarily of intellectual property, including patents and patent applications. When a new patent is granted, we begin amortizing the cost over the life of the patent. Amortization expense charged to operations amounted to $18,618 and $14,800, for the years ended December 31, 2008 and 2007, respectively.
Estimated future amortization expense on rights to licenses and existing patents issued:
Each year, the Company performs an annual evaluation of the future prospects of certain products and their related inventory and intangible assets. The Company evaluated its remaining intangible assets in 2008 and in 2007 and determined that no impairment charge was necessary.
Note 7. Accrued Liabilities
Accrued liabilities on December 31, 2008 and 2007, consisted of the following:
Note 8. Product Warranty Liabilities
The changes in the Company’s product warranty liability for the years ended December 31, 2008 and 2007 are as follows: