e10vq
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
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x |
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For Quarterly Period Ended: June 30, 2005 |
Or
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o |
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Transition Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 |
Commission file number: 1-12214
CHAD THERAPEUTICS, INC.
(Exact name of registrant as specified in its charter)
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California
(State of other jurisdiction of
incorporation or organization)
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95-3792700
(I.R.S. Employer
Identification No.) |
21622 Plummer Street, Chatsworth, CA 91311
(Address of principal executive offices) (Zip Code)
(818) 882-0883
(Registrants telephone number, including area code)
(Former Address)
(Former name, former address and former fiscal year, if changed since last report.)
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 o
Indicate by check whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the
Exchange Act.)
Yes o No x
As of June 30, 2005, the registrant had 10,134,000 shares of its common stock outstanding.
CHAD THERAPEUTICS, INC.
Condensed Balance Sheets
June 30, 2005 and March 31, 2005
(Unaudited)
ASSETS
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June 30, |
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March 31, |
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2005 |
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2005 |
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Current assets: |
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Cash |
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$ |
471,000 |
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$ |
177,000 |
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Accounts receivable, less allowance for
doubtful accounts of $42,000 at
June 30, 2005, and $39,000 at
March 31, 2005 |
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3,301,000 |
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3,745,000 |
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Inventories, net (Note 5) |
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8,147,000 |
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8,512,000 |
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Prepaid expenses |
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145,000 |
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264,000 |
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Deferred income taxes |
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488,000 |
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461,000 |
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Total current assets |
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12,552,000 |
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13,159,000 |
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Property and equipment, at cost |
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6,223,000 |
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6,140,000 |
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Less accumulated depreciation |
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5,057,000 |
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4,949,000 |
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Net property and equipment |
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1,166,000 |
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1,191,000 |
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Intangible assets, net |
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837,000 |
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802,000 |
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Deferred income taxes |
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568,000 |
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568,000 |
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Other assets |
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67,000 |
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70,000 |
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Total assets |
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$ |
15,190,000 |
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$ |
15,790,000 |
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LIABILITIES AND SHAREHOLDERS EQUITY
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Current liabilities: |
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Accounts payable |
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$ |
775,000 |
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$ |
1,196,000 |
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Accrued expenses |
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1,421,000 |
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1,370,000 |
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Income taxes payable |
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12,000 |
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200,000 |
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Total current liabilities |
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2,208,000 |
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2,766,000 |
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Shareholders equity: |
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Common shares, $.01 par value, authorized
40,000,000 shares; 10,134,000 and 10,134,000
shares issued and outstanding |
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13,369,000 |
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13,369,000 |
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Accumulated deficit |
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(387,000 |
) |
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(345,000 |
) |
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Total shareholders equity |
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12,982,000 |
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13,024,000 |
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Total liabilities and shareholders equity |
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$ |
15,190,000 |
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$ |
15,790,000 |
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See accompanying notes to condensed financial statements.
CHAD THERAPEUTICS, INC.
Condensed Statements of Operations
For the three months ended June 30, 2005 and 2004
(Unaudited)
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Three Months Ended |
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June 30, |
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2005 |
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2004 |
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Net sales |
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$ |
5,895,000 |
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$ |
6,099,000 |
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Cost of sales |
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3,794,000 |
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3,679,000 |
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Gross profit |
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2,101,000 |
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2,420,000 |
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Costs and expenses: |
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Selling, general, and administrative |
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1,844,000 |
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1,736,000 |
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Research and development |
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332,000 |
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410,000 |
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Total costs and expenses |
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2,176,000 |
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2,146,000 |
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Operating income (loss) |
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(75,000 |
) |
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274,000 |
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Other income |
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6,000 |
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8,000 |
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Earnings (loss) before income taxes |
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(69,000 |
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282,000 |
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Income tax expense (benefit) |
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(27,000 |
) |
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20,000 |
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Net earnings (loss) |
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$ |
(42,000 |
) |
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$ |
262,000 |
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Basic earnings per share |
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$ |
0.00 |
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$ |
0.03 |
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Diluted earnings per share |
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$ |
0.00 |
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$ |
.02 |
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Weighted shares outstanding: |
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Basic |
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10,134,000 |
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10,110,000 |
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Diluted |
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10,134,000 |
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10,617,000 |
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See accompanying notes to condensed financial statements.
CHAD THERAPEUTICS, INC.
Condensed Statement of Shareholders Equity
For the three months ended June 30, 2005
(Unaudited)
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Common Shares |
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Accumulated |
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Shares |
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Amount |
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Deficit |
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Balance as of March 31, 2005 |
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10,134,000 |
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$ |
13,369,000 |
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$ |
(345,000 |
) |
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Net loss |
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(42,000 |
) |
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Balance at June 30, 2005 |
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10,134,000 |
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13,369,000 |
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$ |
(387,000 |
) |
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See accompanying notes to consolidated financial statements.
CHAD THERAPEUTICS, INC.
Condensed Statements of Cash Flows
For the three months ended June 30, 2005 and 2004
(Unaudited)
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Three Months Ended |
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June 30, |
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2005 |
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2004 |
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Cash flows from operating activities: |
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Net earnings (loss) |
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$ |
(42,000 |
) |
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$ |
262,000 |
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Adjustments to reconcile net earnings to net cash
provided by operating activities: |
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Depreciation and amortization of property and
equipment |
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108,000 |
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95,000 |
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Amortization of intangibles |
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10,000 |
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10,000 |
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Changes in assets and liabilities: |
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Decrease (increase) in accounts receivable |
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444,000 |
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(163,000 |
) |
Decrease (increase) in inventories |
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365,000 |
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216,000 |
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Decrease (increase) in prepaid expenses |
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119,000 |
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95,000 |
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Decrease (increase) in other assets |
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3,000 |
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(25,000 |
) |
Decrease (increase) in deferred income tax |
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(27,000 |
) |
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Increase (decrease) in accounts payable |
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(421,000 |
) |
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309,000 |
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Increase (decrease) in accrued expenses |
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51,000 |
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122,000 |
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Increase (decrease) in income taxes payable |
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(188,000 |
) |
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(140,000 |
) |
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Net cash provided by operating activities |
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422,000 |
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781,000 |
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Cash flows from investing activities: |
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Additions to other assets |
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(45,000 |
) |
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Capital expenditures |
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(83,000 |
) |
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(52,000 |
) |
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Net cash used in investing activities |
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(128,000 |
) |
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(52,000 |
) |
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Cash flows from financing activities: |
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Exercise of stock options |
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38,000 |
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Net cash provided by financing activities |
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38,000 |
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Net increase in cash |
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294,000 |
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|
767,000 |
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Cash beginning of period |
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177,000 |
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2,708,000 |
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Cash end of period |
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$ |
471,000 |
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$ |
3,475,000 |
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See accompanying notes to condensed financial statements.
CHAD THERAPEUTICS, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
1. |
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Interim Reporting |
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CHAD Therapeutics, Inc. (the Company) is in the business of developing, producing, and
marketing respiratory care devices designed to improve the efficiency of oxygen delivery systems
for home health care and hospital treatment of patients suffering from pulmonary diseases. |
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In the opinion of management, all adjustments necessary, which are of a normal and recurring
nature, for a fair presentation of the results for the interim periods presented have been made.
The results for the three-month period ended June 30, 2005, are not necessarily indicative of
the results expected for the year ended March 31, 2006. The interim statements are condensed
and do not include some of the information necessary for a more complete understanding of the
financial data. Accordingly, your attention is directed to the footnote disclosures found in
the March 31, 2005, Annual Report and particularly to Note 1 which includes a summary of
significant accounting policies. |
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2. |
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Reclassifications |
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The Company reclassified royalty expense of $127,000 from selling, general, and administrative
expense to costs of sales for the three-month period ended June 30, 2004 to conform to the 2005
presentation. |
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3. |
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Major Customer |
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One national chain customer accounted 37% and 32% of net sales during the three-month periods
ended June 30, 2005 and 2004, respectively. Another national chain customer accounted for 16%
of sales for the three-month period ended June 30, 2004. The Companys customers are affected
by Medicare reimbursement policy as 80% of home oxygen patients are covered by Medicare and
other government programs |
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4. |
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Concentration of Credit Risk |
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At times the Company maintains balances of cash that exceed $100,000 per account, the maximum
insured by the Federal Deposit Insurance Corporation. The Companys right to the cash is
subject to the risk that the financial institution will not pay when cash is requested. The
potential loss is the amount in any one account over $100,000. At March 31, 2005, the amount
at risk was approximately $371,000. |
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At June 30, 2005, the outstanding accounts receivable balance from one customer was 29% of
gross accounts receivable and from a second customer was 12% of gross accounts receivable. At
March 31, 2005, the outstanding accounts receivable balance from one customer was 26% of gross
accounts receivable and from a second customer was 23% of gross accounts receivable. |
5. |
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Inventories |
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Inventories in 2005 are summarized as follows: |
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June 30 |
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March 31 |
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Finished goods |
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$ |
2,244,000 |
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$ |
2,767,000 |
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Work-in-process |
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1,918,000 |
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1,790,000 |
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Raw materials |
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4,097,000 |
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4,063,000 |
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Inventory reserve |
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(112,000 |
) |
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(108,000 |
) |
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$ |
8,147,000 |
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$ |
8,512,000 |
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6. |
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Earnings (Loss) Per Common Share |
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Following is a reconciliation of the numerators and denominators used in the calculation of
basic and diluted earnings (loss) per common share: |
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Three Months Ended June 30, |
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2005 |
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2004 |
|
Basic earnings (loss) per share: |
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Numerator-net earnings (loss) |
|
$ |
(42,000 |
) |
|
$ |
262,000 |
|
Denominator-weighted average
common shares outstanding |
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|
10,134,000 |
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|
10,110,000 |
|
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Basic earnings (loss) per share |
|
$ |
0.00 |
|
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$ |
0.03 |
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Diluted earnings (loss) per share: |
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Numerator-net earnings (loss) |
|
$ |
(42,000 |
) |
|
$ |
262,000 |
|
Denominator: |
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Weighted average common shares
outstanding |
|
|
10,134,000 |
|
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|
10,110,000 |
|
Diluted effect of common stock options |
|
|
|
|
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|
507,000 |
|
|
|
|
|
|
|
|
|
|
|
10,134,000 |
|
|
|
10,617,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
Diluted earnings (loss) per share |
|
$ |
0.00 |
|
|
$ |
0.02 |
|
|
|
|
|
|
|
|
|
|
Options to purchase 975,000 shares of common stock at prices ranging from $0.50 to $12.54
per share and 246,000 shares of common stock at prices ranging from $5.00 to $12.54 were not
included in the computation of diluted earnings per share for the three-month periods ended June
30, 2005 and 2004, respectively, because their effect would have been anti-dilutive. |
|
7. |
|
Income Tax Expense |
|
|
|
Based on managements earnings projections for the fiscal year ended 2006, the Company has
established an effective tax rate of 40%. The Company has California net operating loss
carryforwards of $1,915,00. California suspended the utilization of net operating loss
carryforwards during tax years starting in 2002 and 2003. As a result, the Company had been
unable to use its California net operating loss carryforwards until the tax year that began
April 1, 2004. The California net operating losses expire in 2008. |
8. |
|
Geographic Information |
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|
The Company has one reportable operating segment. Geographic information regarding the
Companys sales is as follows: |
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|
Three Months Ended |
|
|
|
June 30, |
|
|
|
2005 |
|
|
2004 |
|
United States |
|
$ |
5,121,000 |
|
|
$ |
5,810,000 |
|
Canada |
|
|
56,000 |
|
|
|
81,000 |
|
Japan |
|
|
188,000 |
|
|
|
83,000 |
|
Europe |
|
|
466,000 |
|
|
|
91,000 |
|
All other countries |
|
|
64,000 |
|
|
|
34,000 |
|
|
|
|
|
|
|
|
|
|
$ |
5,895,000 |
|
|
$ |
6,099,000 |
|
|
|
|
|
|
|
|
|
|
All long-lived assets are located in the United States. |
|
|
|
Sales of OXYMATIC® and CYPRESS OXYPneumatic® conservers accounted for 67% and 76% of the
Companys sales for the three-month periods ended June 30, 2005 and 2004, respectively. |
|
9. |
|
Stock Option Plan |
|
|
|
The company accounts for its stock option plan in accordance with the provisions of Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, and related
interpretations. The Company has also adopted the pro forma disclosure provisions of Statement
of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation, which
permits entities to provide pro forma net income and pro forma net earnings per share
disclosures as if the fair-value-based method defined in SFAS 123 had been applied. |
|
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|
The Company applies Accounting Principles Board Opinion No. 25 in accounting for the Plan, and
no compensation expense has been recognized for its stock options in the accompanying financial
statements. The following table illustrates the effect on net earnings and earnings per share
if the Company had applied the fair value recognition provision of FASB Statement No.123,
Accounting for Stock Based Compensation, to stock-based employee compensation: |
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
June 30, |
|
|
|
2005 |
|
|
2004 |
|
Net earnings (loss), as reported |
|
$ |
(42,000 |
) |
|
$ |
262,000 |
|
Deduct: Total stock-based employee
compensation expense determined under
fair value-based method for all awards, net
of related tax effects |
|
|
21,000 |
|
|
|
37,000 |
|
|
|
|
|
|
|
|
Pro forma net income (loss) |
|
$ |
(63,000 |
) |
|
$ |
225,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings (loss) per share: |
|
|
|
|
|
|
|
|
Basic as reported |
|
$ |
0.00 |
|
|
$ |
0.03 |
|
Basic pro forma |
|
|
(0.01 |
) |
|
|
0.02 |
|
Diluted as reported |
|
|
0.00 |
|
|
|
0.02 |
|
Diluted proforma |
|
$ |
(0.01 |
) |
|
$ |
0.02 |
|
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
Cautionary Statement
Certain statements in this report, including statements regarding our strategy, financial
performance and revenue sources, are forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995, Section 21E of the Securities Exchange Act of 1934, as
amended, and Section 27A of the Securities Act of 1933, as amended, and are subject to the safe
harbors created by those sections. These forward-looking statements are based on our current
expectations, estimates and projections about our industry, managements beliefs, and certain
assumptions made by us. Such statements are not guarantees of future performance and are subject to
certain risks, uncertainties and assumptions that are difficult to predict. Therefore, our actual
results could differ materially and adversely from those expressed in any forward-looking
statements as a result of various factors. The section entitled Outlook Issues and Risk set
forth in this Form 10-Q and similar discussions in filings with the Securities and Exchange
Commission made from time to time, including other quarterly reports on Form 10-Q, our Annual
Reports on Form 10-K, and in our other SEC filings, discuss some of the important risk factors that
may affect our business, results of operations and financial condition.
The following discussion should be read in conjunction with our condensed financial statements and
notes thereto.
Overview
CHAD Therapeutics, Inc. (the Company) develops, assembles and markets medical devices that
furnish supplementary oxygen to home health care patients. The Company was a pioneer in developing
oxygen conserving devices that enhance the quality of life for patients by increasing their
mobility and, at the same time, lower operating costs by achieving significant savings in the
amount of oxygen actually required to properly oxygenate patients. The market for oxygen
conserving devices has been and continues to be significantly affected by increased competition,
consolidation among home oxygen dealers, and revisions (and proposed revisions) in governmental
reimbursement policies. All of these factors, as described more fully below, have contributed to a
more competitive market for the Companys products, as devices that were less expensive but which
provided lower oxygen savings (or, in some cases, did not truly provide ambulatory oxygen) have
achieved some level of success.
The current procedures for reimbursement by Medicare for home oxygen services provide a prospective
flat fee monthly payment based solely on the patients prescribed oxygen requirement. Under this
system, inexpensive concentrators have grown in popularity because of low cost and less frequent
servicing requirements. At the same time, oxygen conserving devices, such as the Companys
products, have also grown in popularity due to their ability to extend the life of oxygen supplies
and reduce service calls by dealers, thereby providing improved mobility for the patient and cost
savings for dealers.
In addition, other changes in the health care delivery system, including the increase in the
acceptance and utilization of managed care, have stimulated a significant consolidation among home
oxygen dealers. Major national and regional home medical equipment chains have continued to expand
their distribution networks through the acquisition of independent dealers in strategic areas.
Margins on sales to national chains are generally lower due to quantity pricing and management
anticipates continued downward pressure on its average selling price. Four major national chains
accounted for approximately 44% and 53% of the Companys net sales, for the three-month periods
ended June 30, 2005 and 2004, respectively. One chain accounted for 37% and 32% of sales for the
three-month periods ended June 30, 2005 and 2004, respectively, and one other chain accounted for
16% of sales for the three-month period ended June 30, 2004. This increased dependence on a
limited number of large customers may result in greater volatility and unpredictability of future
operating results as changes in the purchasing decisions by one or more major customers can have a
material effect upon our financial statements.
The Company believes that price competition and continuing industry consolidation will continue to
affect the marketplace for the foreseeable future. To address the competitive nature of the oxygen
conserver marketplace, the Company has developed and introduced a number of new products in this
area in recent years. The first of these, the OXYMATIC® 401 conserver, received 510(k) clearance
from the Food and Drug Administration in June 2000, and shipments of the new product began in July
2000. The second, the OXYMATIC 411 conserver, was cleared in December 2000 and shipments began in
January 2001. The third, the OXYMATIC 401A and 411A conservers, received clearance in March 2001
with shipments beginning that month. The SEQUOIA OXYMATIC 300 series conservers began shipping in
December 2001, and the Company began shipment of the CYPRESS OXYPneumatic conserver in July 2002.
The Company received clearance from the FDA to market its newest oxygen conserving device, the
LOTUS Electronic Oxygen Conserver, in October 2004 with plans to begin shipment of the new device
in September 2005. The LOTUS Electronic Oxygen Conserver weighs less than one (1) pound and will
be offered with or without a breath-sensing alarm. It will also offer additional liter flow
settings and an extended battery life of up to four months of normal usage on two AA-size
batteries. Management believes the features and improvements in these products have enabled the
Company to regain some of the market share lost in the conserver market prior to 2001 and
reestablish the Company as a leader in the conserver market.
In May of 2004, the Company received clearance from the FDA to market its new SAGE Oxygen
Therapeutic Device. The SAGE device is the first in a planned family of oxygen therapeutic devices
that use the Companys proprietary technologies to sense a patients movements and automatically
adjust the rate of oxygen delivery to reduce the risk of desaturation as activity increases. This
device combines the industrys first, truly dynamic delivery technology with the proven oxygen
sensor technology in the OXYMATIC 400 series conservers. As a result, the new SAGE Oxygen
Therapeutic Device addresses the common problem of oxygen desaturation, which causes a patient to
feel weak and out of breath when activity increases, while it still improves patient ambulatory
capability. This new device underscores the Companys dedication to providing home care suppliers
and their patients with the widest range of home oxygen choices to suit individual needs,
preferences and disease conditions. The Company began selling the SAGE nationwide in October 2004.
No estimate can currently be made
regarding the level of success the Company may achieve with this line of products or when the
additional therapeutic devices that are now in development, and which are based on this advanced
new platform, may be introduced to the market.
In 1998 the Company introduced the TOTAL O2® Delivery System, which provides stationary oxygen for
patients at home, portable oxygen, including an oxygen conserving device for ambulatory use, and a
safe and efficient mechanism for filling portable oxygen cylinders in the home. This provides home
care dealers with a means to reduce their monthly cost of servicing patients while at the same time
providing a higher quality of service by maximizing ambulatory capability. The Company received
clearance in November 1997 from the Food and Drug Administration to sell this product. Initial
sales of the TOTAL O2 system were adversely affected by several factors, including the overall home
oxygen market climate as well as home care providers reluctance to invest in the higher cost of
the TOTAL O2 Delivery System to achieve the lower monthly operating costs. Recent changes in home
oxygen reimbursement appear to be causing home care providers to examine their operating costs more
carefully and this is improving the marketing climate for the TOTAL O2 system.
During the past three years, the Company has recovered substantial market share in the conserver
market and is using that platform to spearhead its growth strategy for the future, which includes
the following:
|
|
Development of additional oxygen conserver models, such as the LOTUS
Electronic Oxygen Conserver introduced in October 2004, that
diversify the product line in order to offer customers a range of
oxygen conservation choices; |
|
|
|
An effort to expand the Companys product lines and improve existing
products through the investment in and development of new
technologies, such as proprietary sensor technology and control
software licensed in January of 2003 and the introduction of the SAGE
Oxygen Therapeutic Device in May 2004. These new technologies should
provide the Company with an opportunity to expand its oxygen delivery
product lines and potentially enter the high-growth sleep disorder
market; and |
|
|
|
A continued promotional and education campaign with respect to the
benefits of the TOTAL O2 system. |
While the turnaround measures of the past four years have had a positive impact and management
believes the current growth strategy should continue to enhance the Companys competitive position
and future operating performance, no assurances can be given that these objectives will be
achieved. Management of the Company will continually monitor the success of these efforts and will
attempt to remain flexible in order to adjust to possible future changes in the market for
respiratory care devices. For information that may affect the outcome of forward-looking
statements in this Overview regarding the Companys business strategy and its introduction of new
products, see Outlook: Issues and Risks New Products, Consolidation of Home Care Industry,
Competition, Rapid Technological Change, and Potential Changes in the Administration of Health
Care, beginning on page [16] of this Report.
Results of Operations
Net sales for the three-month period ended June 30, 2005, decreased by $204,000 (3.3%) as compared
to the same period in the prior year. The primary reasons for the decrease in sales were price
reductions on conservers and reduced sales to a large customer. Unit sales of conservers and
therapeutic devices for the three-month period ended June 30, 2005, decreased 4% from the prior
year, while the decrease in revenues from conserver sales was 14%. As noted above, management
expects continued downward pressure on its average selling price. In addition, future operating
results may be increasingly dependent upon purchase decisions of a limited number of large
customers.
Conversely, the Company saw growth in sales of its TOTAL O2 Delivery System during the quarter
ended June 30, 2005. Upcoming changes in Medicare reimbursement have increased interest in the
TOTAL O2 system as a cost effective way to fulfill home care provider and patient needs. Revenues
from TOTAL O2 sales increased 17%, for the three-month period ended June 30, 2005, as compared to
the same period in the prior year.
Sales to foreign distributors represented 13.1% and 4.7% of total sales for the three-month periods
ended June 30, 2005 and 2004, respectively. This increase was driven by higher conserver sales
and management expects this trend to continue for the balance of the current fiscal year.
Management expects an increase in sales to foreign distributors during the upcoming twelve months;
however, quarter-to-quarter sales may fluctuate depending on the timing of shipments. All foreign
sales are denominated in US dollars.
Cost of sales as a percent of net sales increased from 60.3% to 64.4% for the three-month period
ended June 30, 2005, as compared to the same period in the prior year. This was a result of
downward price pressures in the marketplace, increased sales to certain chains, and a change in the
product mix, as the TOTAL O2 system has a lower gross profit margin than conservers. We currently
expect downward price pressure for the foreseeable future.
Selling, general, and administrative expenditures increased from 28.5% to 31.3% of net sales for
the three-month period ended June 30, 2005, as compared to the same period in the prior year
primarily due to the decrease in domestic sales. The Companys cost reduction efforts over the
past two years have helped align staffing and operating expenses more closely with current sales
expectations but were offset to some extent by growth in the Companys sales force. Research and
development expenses decreased by $78,000 for the three-month period ended June 30, 2005, as
compared to the same period in the prior year. Currently management expects research and
development expenditures to total approximately $1,512,000 in the fiscal year ending March 31,
2006, on projects to enhance and expand the Companys product line. During fiscal year 2005, the
Company spent $1,473,000 on research and development.
In assessing the realizability of deferred tax assets, management considers whether it is more
likely than not that some portion or all of the deferred tax assets will be realized. At March 31,
2005, the Company determined it was more likely than not that all off the deferred tax assets would
be realized, and accordingly, released any remaining allowance on its deferred tax assets. The
Company has California net operating loss carryforwards of $1,915,000. The California net operating
losses expire in 2008.
Financial Condition
At June 30, 2005, the Company had cash totaling $471,000 or 3.1% of total assets, as compared to
$177,000 (1.1% of total assets) at March 31, 2005. Net working capital decreased from $10,393,000
at March 31, 2005 to $10,344,000 at June 30, 2005. Net accounts receivable decreased $444,000
during the three months ended June 30, 2005, due to the Company receiving payment in full in the
first quarter of fiscal year 2005 on a significant accounts receivable balance that was present at
March 31, 2005. Future increases or decreases in accounts receivable will generally coincide with
sales volume fluctuations and the timing of shipments to foreign customers. During the same
period, inventories decreased $365,000. In the latter part of fiscal 2005, the Company had a
significant inventory build up to fill certain customer orders and anticipated customer orders.
Certain of these orders did not materialize. However, there is an active market for the products
involved, and the Company believes the inventory will be sold in due course. The Company attempts
to maintain sufficient inventories to meet its customer needs as orders are received and new
products are introduced. Thus, future inventory and related accounts payable levels will be
impacted by the ability of the Company to maintain its safety stock levels. If safety stock levels
drop to target amounts, then inventories in subsequent periods will increase more rapidly as
inventory balances are replenished.
The Company depends upon its cash flow from operations to meet its capital requirements.
Management believes cash balances and funds derived from operations should be adequate to meet the
Companys near and long-term cash requirements given the Companys recent operating performance.
Cash derived from operations will depend on the ability of the Company to maintain profitable
operations and the timing of increases in receivables and inventories. If profitable operations do
not continue, the Company may need to seek other sources of working capital. Historically, the
Company has financed its inventory requirements out of cash flow, and it has not sought to finance
its accounts receivable. It is possible the Company might seek financing arrangements for working
capital in the future. The Company has no established lines of credit or other arrangements in
place to obtain working capital, and no assurance can be given that if and when needed other
sources of working capital would be available. The Company expects capital expenditures during the
next twelve months to be approximately $800,000.
The following table aggregates all of the Companys material contractual obligations as of June 30,
2005:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payments Due by Period |
|
Contractual |
|
|
|
|
|
Less than 1 |
|
|
1 3 |
|
|
3-5 |
|
|
After 5 |
|
Cash Obligations |
|
Total |
|
|
Year |
|
|
Years |
|
|
Years |
|
|
Years |
|
Operating lease
obligations |
|
$ |
1,332,000 |
|
|
$ |
431,000 |
|
|
$ |
901,000 |
|
|
|
|
|
|
|
|
|
Minimum royalty
obligations |
|
$ |
3,285,000 |
|
|
$ |
515,000 |
|
|
$ |
1,590,000 |
|
|
$ |
1,090,000 |
|
|
$ |
90,000 |
|
Employee obligations |
|
$ |
640,000 |
|
|
$ |
160,000 |
|
|
$ |
480,000 |
|
|
|
|
|
|
|
|
|
Operating lease commitments consist primarily of a real property lease for the Companys
corporate office, as well as minor equipment leases. Payments for these lease
commitments are provided for by cash flows generated from operations. Please see Note 8 to the
financial statements in the 2005 Annual Report.
Employee obligations consist of an employment agreement (the Employment Agreement) with Thomas E.
Jones Chairman of the Board of Directors. The Employment Agreement does not have a specific term
and provides for a base salary of $160,000 per year, which amount is subject to annual review of
the Board of Directors. The Employment Agreement may be terminated at any time by the Company,
with or without cause, and may be terminated by Mr. Jones upon 90 days notice. If Mr. Jones
resigns or is terminated for cause (as defined in the Employment Agreement), he is entitled to
receive only his base salary and accrued vacation through the effective date of his resignation or
termination. If Mr. Jones is terminated without cause, he is entitled to receive a severance
benefit in accordance with the Companys Severance and Change of Control Plan, or if not
applicable, a severance benefit equial to 200% of his salary and incentive bonus for the prior
fiscal year. In estimating its contractual obligation,
The Company has assumed that Mr. Jones will voluntarily retire at the end of the year he turns 65
and that no severance benefit will be payable. This date may not represent the actual date the
Companys payment obligations under the Employment Agreement are extinguished.
The Company does not have any debt and is not subject to any covenants or contractual restrictions
limiting its operations. The Company has not adopted any programs that provide for post-employment
retirement benefits, however, it has on occasion provided such benefits to individual employees.
The Company does not have any off balance sheet arrangements with any special purpose entities or
any other parties, does not enter into any transactions in derivatives, and has no material
transactions with any related parties.
Critical Accounting Policies
The preparation of financial statements in conformity with accounting principles generally accepted
in the United States of America requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities
at the date of the financial statements and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ significantly from those estimates under
different assumptions and conditions. Management believes that the following discussion addresses
the accounting policies and estimates that are most important in the portrayal of the Companys
financial condition and results.
Allowance for doubtful accounts the Company provides a reserve against receivables for estimated
losses that may result from our customers inability to pay. The amount of the reserve is based on
an analysis of known uncollectible accounts, aged receivables, historical losses, and
credit-worthiness. Amounts later determined and specifically identified to be uncollectible are
charged or written off against this reserve. The likelihood of material losses is dependent on
general economic conditions and numerous factors that affect individual accounts.
Inventories the Company provides a reserve against inventories for excess and slow moving items.
The amount of the reserve is based on an analysis of the inventory
turnover for individual items in inventory. The likelihood of material write-downs is dependent on
customer demand and competitor product offerings.
Intangible and long-lived assets The Company assesses whether or not there has been an impairment
of intangible and long-lived assets in evaluating the carrying value of these assets. Assets are
considered impaired if the carrying value is not recoverable over the useful life of the asset. If
an asset is considered impaired, the amount by which the carrying value exceeds the fair value of
the asset is written off. The likelihood of a material change in the Companys reported results is
dependent on each assets ability to continue to generate income, loss of legal ownership or title
to an asset, and the impact of significant negative industry or economic trends.
Deferred income taxes the Company provides a valuation allowance to reduce deferred tax assets to
the amount expected to be realized. The likelihood of a material change in the expected
realization of these assets depends on the Companys ability to generate future taxable income.
Outlook: Issues & Risks
The report contains forward-looking statements, which reflect the Companys current views with
respect to future events and financial performance. These forward-looking statements are subject
to certain risks and uncertainties, which may cause actual operating results to differ materially
from currently, anticipated results. Among the factors that could cause actual results to differ
materially are the following:
Dependence Upon a Single Product Line
Although the Company currently markets a number of products, these products comprise a single
product line for patients requiring supplementary oxygen. The Companys future performance is thus
dependent upon developments affecting this segment of the health care market and the Companys
ability to remain competitive within this market sector.
New Products
The Companys future growth in the near term will depend in significant part upon its ability to
successfully introduce new products. In recent years, the Company has introduced the OXYMATIC 400
series, the SEQUOIA, CYPRESS OXYPneumatic, and LOTUS conservers, and the TOTAL O2 Delivery System
and in May 2004 introduced the SAGE Oxygen Therapeutic Device. The Company is currently developing
additional new products. The success of the Companys products will depend upon the health care
communitys perception of such products capabilities, clinical efficacy, and benefit to patients
as well as obtaining timely regulatory approval for new products. In addition, prospective sales
will be impacted by the degree of acceptance achieved among home oxygen dealers and patients
requiring supplementary oxygen. As with any product, the Companys ability to successfully promote
new products cannot be determined at this time.
Consolidation of Home Care Industry Dependence on Key Customers
The home health care industry is undergoing significant consolidation. As a result, the market for
the Companys products is increasingly influenced by major national chains. Four major national
chains accounted for 53% of the Companys net sales during the year ended March 31, 2005, and for
44% of net sales for the three months ended June 30, 2005. One major customer accounted for 36% of
net sales for the year ended March 31, 2005, and 37% for the three months ended June 30, 2005.
Future sales may be increasingly dependent upon a limited number of customers, which may reduce our
average selling price due to quantity pricing and which may result in greater volatility and less
predictability of the Companys operating results. Moreover, the loss of a major customer or a
significant decline in orders from a major customer could have a material adverse effect upon the
Companys revenues and profitability.
Competition
The Companys success in the early 1990s has drawn competition to vie for a share of the home
oxygen market. These new competitors include both small and very large companies. While the
Company believes the quality of its products and its established reputation will continue to be a
competitive advantage, some competitors have successfully introduced lower priced products that do
not provide oxygen conserving capabilities comparable to the Companys products. Most of these
competitors have greater capital resources than the Company. No assurance can be given that
increased competition in the home oxygen market will not have an adverse effect on the Companys
operations.
Rapid Technological Change
The health care industry is characterized by rapid technological change. The Companys products
may become obsolete as a result of new developments. The Companys ability to remain competitive
will depend to a large extent upon its ability to anticipate and stay abreast of new technological
developments related to oxygen therapy. The Company has limited internal research and development
capabilities. Historically, the Company has contracted with outside parties to develop new
products. Some of the Companys competitors have substantially greater funds and facilities to
pursue research and development of new products and technologies for oxygen therapy.
Potential Changes in Administration of Health Care
A number of proposals to regulate, control or alter the method of financing health care costs have
been discussed and certain such bills have been introduced in Congress and various state
legislatures. Because of the uncertain state and widely varying terms of health care proposals, it
is not meaningful at this time to predict the effect on the Company if any of these proposals is
enacted.
Approximately 80% of home oxygen patients are covered by Medicare and other government programs.
Federal law has altered the payment rates available to providers of Medicare services in various
ways during the last several years. In November of 2003, Congress enacted the Medicare Improvement
and Modernization Act, which will cause changes and reductions in home oxygen reimbursement over
the next several years. These changes in reimbursement will cause increased downward pressure on
the average selling price of the Companys products.
Protection of Intellectual Property Rights
The Company pursues a policy of protecting its intellectual property rights through a combination
of patents, trademarks, trade secret laws, and confidentiality agreements. The Company considers
the protection of its proprietary rights and the patentability of its products to be significant to
the success of the Company. To the extent that the products to be marketed by the Company do not
receive patent protection, competitors may be able to manufacture and market substantially similar
products. Such competition or claims that the Companys products infringe the patent or trademark
rights of others could have an adverse impact upon the Companys business.
Product Liability
The nature of the Companys business subjects it to potential legal actions asserting that the
Company is liable for damages for product liability claims. Although the Company maintains product
liability insurance in an amount which it believes to be customary in the industry, there is no
assurance that this insurance will be sufficient to cover the cost of defense or judgments which
might be entered against the Company. The type and frequency of these claims could have an adverse
impact on the Companys results of operations and financial position.
Availability and Reliability of Third Party Component Products
The Company tests and packages its products in its own facility. Some of its other manufacturing
processes are conducted by other firms. The Company expects to continue using outside firms for
certain manufacturing processes for the foreseeable future and is thus dependent on the reliability
and quality of parts supplied by these firms. From time to time, the Company has experienced
problems with the reliability of components produced by third party suppliers. The Companys
agreements with its suppliers are terminable at will or by notice. The Company believes that other
suppliers would be available in the event of termination of these arrangements. No assurance can
be given, however, that the company will not suffer a material disruption in the supply of parts
required for its products.
Accounting Standards
Accounting standards promulgated by the Financial Accounting Standards Board change periodically.
Changes in such standards may have an impact on the Companys future financial position.
In December 2004, the Financial Accounting Standards Board issued Statement of Financial Accounting
Standard (SFAS) No. 123R (Share-Based Payment). SFAS 123R requires the Company to recognize
compensation expense based on the fair value of equity instruments awarded to employees. We will
adopt SFAS 123R on April 1, 2006, and the Company does not anticipate a significant impact to its
financial statements.
Additional Risk Factors
Additional factors, which might affect the Companys performance, may be listed from time to time
in the reports filed by the Company with the Securities and Exchange Commission.
Item 3. Quantitative and Qualitative Disclosures about Market Risks
The Company has no significant exposure to market risk sensitive instruments or contracts .
Item 4. Controls and Procedures
The Company has evaluated the effectiveness of the design and operation of its disclosure controls
and procedures as of June 30, 2005 (the Evaluation Date). Such evaluation was conducted under
the supervision and with the participation of the Companys Chief Executive Officer (CEO) and its
Chief Financial Officer (CFO). Based upon such evaluation, the Companys CEO and CFO have
concluded that, as of the Evaluation Date, the Companys disclosure controls and procedures were
effective to ensure that the Company record, process, summarize, and report information required to
be disclosed by the Company in its quarterly reports filed under Securities Exchange Act within the
time periods specified by the Securities and Exchange Commissions rules and forms. There have
been no significant changes in the Companys internal control over financial reporting that
occurred during the Companys most recent fiscal quarter that have materially affected, or are
reasonably likely to materially affect, the Companys internal control over financial reporting.
Part II
Other Information
Item 1. Legal Proceedings
None.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None.
Item 3. Defaults Upon Senior Securities
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None.
Item 6. Exhibits
|
|
|
|
|
|
|
(a)
|
|
|
31.1 |
|
|
Certification pursuant to Section 302 of Sarbanes-Oxley Act of 2002 for CEO
|
|
|
|
|
|
|
|
(b)
|
|
|
31.2 |
|
|
Certification pursuant to Section 302 of Sarbanes-Oxley Act of 2002 for CFO |
|
|
|
|
|
|
|
(c)
|
|
|
32* |
|
|
Certification pursuant to 18 U.S.C Section 1350, as adopted pursuant to Section 906 of
Sarbanes-Oxley Act of 2002 |
The information in Exhibit 32 shall not be deemed filed for purposes of Section 18 of the
Securities Exchange Act of 1934, as amended (the Exchange Act) or otherwise subject to the
liabilities of that section, nor shall they be deemed incorporated by reference in any filing under
the Securities Act of 1933, as amended, or the Exchange Act (including this quarterly report),
unless CHAD Therapeutics specifically incorporates the foregoing information into those documents
by reference.
SIGNATURE
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.
|
|
|
|
|
|
CHAD THERAPEUTICS, Inc.
(Registrant)
|
|
Date 08/11/2005 |
/s/ Earl L. Yager
|
|
|
Earl L. Yager |
|
|
President and Chief Executive Officer |
|
|
|
|
|
Date 08/11/2005 |
/s/ Tracy A. Kern
|
|
|
Tracy A. Kern |
|
|
Chief Financial Officer |
|
INDEX TO EXHIBITS
|
|
|
Exhibit No. |
|
Description of Exhibits |
31.1
|
|
Certification pursuant to Section 302 of Sarbanes-Oxley Act of 2002 for CEO |
|
|
|
31.2
|
|
Certification pursuant to Section 302 of Sarbanes-Oxley Act of 2002 for CFO |
|
|
|
32*
|
|
Certification pursuant to 18 U.S.C Section 1350, as adopted pursuant to Section 906 of
Sarbanes-Oxley Act of 2002 |
*The information in Exhibit 32 shall not be deemed filed for purposes of Section 18 of the
Securities Exchange Act of 1934, as amended (the Exchange Act) or otherwise subject to the
liabilities of that section, nor shall they be deemed incorporated by reference in any filing under
the Securities Act of 1933, as amended, or the Exchange Act (including this quarterly report),
unless CHAD Therapeutics specifically incorporates the foregoing information into those documents
by reference.