-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, FVBgjeg0vzmLHWNyVUo9hb+bPSTrcy1mvNjLFAZyjSgR2CVDdRzw0sV5cUj99hXJ BQTpdptS1715I8ePjweddw== 0001019687-99-000631.txt : 19991018 0001019687-99-000631.hdr.sgml : 19991018 ACCESSION NUMBER: 0001019687-99-000631 CONFORMED SUBMISSION TYPE: 10KSB/A PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990531 FILED AS OF DATE: 19991008 FILER: COMPANY DATA: COMPANY CONFORMED NAME: BIOMERICA INC CENTRAL INDEX KEY: 0000073290 STANDARD INDUSTRIAL CLASSIFICATION: DENTAL EQUIPMENT & SUPPLIES [3843] IRS NUMBER: 952645573 STATE OF INCORPORATION: DE FISCAL YEAR END: 0531 FILING VALUES: FORM TYPE: 10KSB/A SEC ACT: SEC FILE NUMBER: 000-08765 FILM NUMBER: 99725364 BUSINESS ADDRESS: STREET 1: 1533 MONROVIA AVENUE CITY: NEWPORT BEACH STATE: CA ZIP: 92663 BUSINESS PHONE: 9496452111 MAIL ADDRESS: STREET 1: 1533 MONROVIA AVENUE CITY: NEWPORT BEACH STATE: CA ZIP: 92663 FORMER COMPANY: FORMER CONFORMED NAME: NMS PHARMACEUTICALS INC DATE OF NAME CHANGE: 19871130 FORMER COMPANY: FORMER CONFORMED NAME: NUCLEAR MEDICAL SYSTEMS INC DATE OF NAME CHANGE: 19830216 FORMER COMPANY: FORMER CONFORMED NAME: NUCLEAR INSTRUMENTS INC DATE OF NAME CHANGE: 19720508 10KSB/A 1 BIOMERICA, INC., AMENDMENT NO. 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 --------------- FORM 10-KSB/A (X) ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED MAY 31, 1999 COMMISSION FILE NUMBER: 0-8765 - -------------------------------------- ------------------------------ BIOMERICA, INC. -------------------------------------- (Small Business Issuer in its Charter) DELAWARE 95-2645573 - ------------------------------- ------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 1533 MONROVIA AVENUE, NEWPORT BEACH, CA 92663 - ---------------------------------------- ---------- (Address of principal executive offices) (Zip Code) Issuer's Telephone Number: (949) 645-2111 -------------------------- -------------- Securities registered under Section 12(b) of the Exchange Act: (Title of each class) (Name of each exchange on which registered) --------------------- ------------------------------------------- NONE NASDAQ Securities registered under Section 12(g) of the Exchange Act: (Title of each class) ---------------------------- COMMON STOCK, PAR VALUE $.08 Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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( ) ------------ Check if disclosure of delinquent filers in response to Item 405 of Regulation S-B is not contained herein, and will not be contained, to the best of issuer's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-KSB or any amendment to this Form 10-KSB. (X) - --- State issuer's revenues for its most recent fiscal year: $8,688,106. State the aggregate market value of the voting stock held by non-affiliates of the issuer (based upon 3,619,487 shares held by non-affiliates and the closing price of $2.0625 per share for Common Stock in the over-the-counter market as of August 15, 1999): $7,949,415. Number of shares of the issuer's common stock, par value $.08, outstanding as of August 15, 1999: 4,520,945 shares. DOCUMENTS INCORPORATED BY REFERENCE: The issuer's proxy statement for its 1999 Annual Meeting of Stockholders is incorporated into Part III hereof. Also incorporated by reference are the Annual Reports on Form 10-KSB for the fiscal year ended May 31, 1999, for Lancer Orthodontics, Inc. and Allergy Immuno Technologies, Inc. Transitional Small Business Disclosure Format YES ( ) NO (X) - ------------------------------------------------------------------------------ PART I* ITEM 1. DESCRIPTION OF BUSINESS ----------------------- THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 PROVIDES A "SAFE HARBOR" FOR FORWARD-LOOKING STATEMENTS. CERTAIN INFORMATION CONTAINED HEREIN (AS WELL AS INFORMATION INCLUDED IN ORAL STATEMENTS OR OTHER WRITTEN STATEMENTS MADE OR TO BE MADE BY BIOMERICA) CONTAINS STATEMENTS THAT ARE FORWARD-LOOKING, SUCH AS STATEMENTS RELATING TO CONSUMMATION OF THE TRANSACTION, ANTICIPATED FUTURE REVENUES OF THE COMPANY AND SUCCESS OF CURRENT PRODUCT OFFERINGS. SUCH FORWARD-LOOKING INFORMATION INVOLVES IMPORTANT RISKS AND UNCERTAINTIES THAT COULD SIGNIFICANTLY AFFECT ANTICIPATED RESULTS IN THE FUTURE, AND ACCORDINGLY, SUCH RESULTS MAY DIFFER MATERIALLY FROM THOSE EXPRESSED IN ANY FORWARD-LOOKING STATEMENTS MADE BY OR ON BEHALF OF BIOMERICA. THE POTENTIAL RISKS AND UNCERTAINTIES INCLUDE, AMONG OTHERS, FLUCTUATIONS IN THE COMPANY'S OPERATING RESULTS DUE TO ITS NEW BUSINESS MODEL AND EXPANSION PLANS AND THE COMPETITIVE ENVIRONMENT IN WHICH THE COMPANY WILL BE COMPETING. THESE RISKS AND UNCERTAINTIES ALSO INCLUDE THE CONTINUAL DEMAND FOR THE COMPANY'S PRODUCTS, COMPETITIVE AND ECONOMIC FACTORS OF THE MARKETPLACE, AVAILABILITY OF RAW MATERIALS, YEAR 2000 ISSUES, HEALTH CARE REGULATIONS AND THE STATE OF THE ECONOMY. BUSINESS OVERVIEW THE COMPANY Biomerica ("Biomerica", the "Company", "we" or "our") was incorporated in Delaware in September 1971. We changed our corporate name in February 1983 to NMS Pharmaceuticals, Inc., and in November 1987 to Biomerica, Inc. Historically we have operated as a global biomedical company primarily engaged in developing, manufacturing and distributing medical diagnostic products for early detection and monitoring of chronic diseases to facilitate prevention and cure. We use our expertise to manufacture products in the areas of diabetes, allergy, cancer, gastroenterology, cardiology and endocrinology. Our customers include medical schools and universities, pharmaceutical companies, health maintenance organizations, hospitals, clinics, commercial laboratories, physician's offices, drugstores and individual customers. We also derive revenues and other benefits from two subsidiaries, Lancer Orthodontics, Inc. ("Lancer"), an international manufacturer of orthodontics products, and Allergy Immuno Technologies, Inc. ("AIT"), which is engaged in developing new allergy treatment therapies and providing specialized services to pharmaceutical companies and physicians. With a change in management of the Company in 1997, we embarked upon a strategic commitment to e-commerce as a venue to broaden our corporate vision and build upon our core competence in chronic diseases. We designed a business-to-business e-commerce model to automate the prescribing and dispensing of pharmaceuticals that will increase efficiency, reduce the potential for dispensing errors, and help improve clinical outcomes. In June 1999, we raised $2 million in equity to develop the infrastructure of our new Internet division. We intend to use the net proceeds of this offering for working capital and general corporate purposes relating to the continued development of our Internet division. While we will continue to develop products for our existing business, we anticipate that our future growth will depend on our new e-commerce operations. -2- OUR NEW BUSINESS THE NEXT-GENERATION ONLINE PHARMACY Our Internet division was established in November 1998 to capitalize on the emerging market for online pharmacy services. We have formed alliances with TheBigStore.com, an Internet and technology partner, and TheBigHub.com, an Internet marketing partner. We have also fortified our management with a team of executives possessing extensive healthcare industry and technology-based experience. Our products and services comprise two key components: 1) ReadyScript, a medication management system, and 2) TheBigRX.com, a retail online pharmacy. Together, we believe these products and services are the next generation of online pharmacy. We will implement our next-generation online pharmacy in two phases. The first phase includes development and implementation of the retail online pharmacy for consumer drugstore product needs. We plan to open TheBigRX.com by the end of 1999. In the second phase, we will beta-test and launch our ReadyScript online medication management system. We plan to complete this phase during the year 2000. ReadyScript, a proprietary web-enabled system, will automate the prescribing process at the point of care -- in the physician's office. It is intended that physicians will be able to increase efficiency and make better prescribing decisions using a handheld or desktop computer that allows immediate online access to formulary and preferred drug therapy options based on insurer, best practice guidelines for medication by chronic disease state, and, as available, patient medication history. When fully developed, ReadyScript will automatically transmit these prescriptions to an online pharmacy, traditional neighborhood pharmacy, or pharmacy designated by the participating insurer or pharmacy benefit manager ("PBM"). The automatic process will substantially reduce the potential for medication errors inherent in the current system of handwritten and oral prescriptions. Additionally, we believe the integration of best practices will help to improve clinical outcomes and lower overall healthcare costs. TheBigRX.com will be our retail online pharmacy offering prescription drugs, personal care and beauty products, non-prescription drugs, vitamins and nutrition products. The site will offer individuals the convenience of shopping for products 24 hours a day from home or office. Prescription orders can be combined with additional purchases, all delivered to the customer's home within a few days, reducing the need to visit a brick-and-mortar drugstore. DIFFERENTIATION THROUGH MEDICATION MANAGEMENT We believe medication management, the basis of ReadyScript, will differentiate us from the first generation of online pharmacies by modernizing the practice of prescribing and dispensing medications. We define medication management as a series of systems and processes to improve healthcare outcomes through: (1) the integration of scientifically-proven best practices; (2) appropriate and optimal drug therapy; and (3) the reduction or avoidance of adverse drug reactions. Simply stated, medication management is ensuring that the right drug is prescribed for the right patient, in the right dose, at the right cost, and at the right time. The first-generation online pharmacies tout increased patient convenience, but have been unable to deliver on this promise. In fact, they actually create more steps in the prescription fulfillment process. Also, these first-generation online pharmacies do not address the fundamental issues of prescribing inefficiencies and sub-optimal drug use in their systems. Our ReadyScript technology will be designed to utilize medication management at the point of care to provide physicians, pharmacists, insurers and patients significant value - -- improved healthcare outcomes and decreased costs. -3- THE DILEMMA THE INEFFICIENT PRESCRIBING SYSTEM For decades, prescriptions have been handled in basically the same way: (1) the physician writes a prescription on a prescription pad and gives it to the patient; (2) the patient takes the handwritten prescription to the pharmacist; and (3) the pharmacist fills the order. Mail-order fulfillment options and first-generation online pharmacies were developed as attempts to make the process more convenient. However, neither of these attempts to increase convenience has significantly changed the prevailing prescribing practice. The fundamental flaws inherent in the system are the inefficiencies and costs of handling handwritten and/or verbal prescriptions, and the sub-optimal drug therapies many patients are receiving. Handwritten and verbal prescriptions are inefficient and costly because: o Verbal and illegible handwritten prescriptions can be misinterpreted, leading to dispensing errors. o Illegible prescriptions require physicians to use their time inefficiently in clarifying orders to pharmacists trying to decipher the handwriting. o Dispensing errors can produce adverse drug reactions that can seriously jeopardize a patient's health and be costly to treat. o Patients are inconvenienced by having to travel to a pharmacy or other dispensing location to get the prescription filled, or go through a series of steps to have the prescription processed by a mail-order fulfillment source or online pharmacy. Sub-optimal drug therapy is the result of significant variations in physician practices. Because it is virtually impossible to keep abreast of all new medical developments and treatment standards, physicians' treatment decisions often deviate from the established best practices. This can compromise a patient's health and lead to higher healthcare costs. For example, national medical organizations recommend that beta-blockers be given to heart attack survivors to improve in-hospital and post-discharge mortality. However, beta-blockers are only prescribed about one-third of the time, leaving the other two-thirds at higher risk of suffering a second heart attack. To address the sizeable impact of sub-optimal drug therapy and escalating healthcare costs, physicians are increasingly turning to disease management. Disease management is a comprehensive solution that combines clinically proven best practices with non-clinical interventions to improve patient outcomes and lower costs. The key to addressing the inefficiency of the prescribing process and the risks of sub-optimal drug therapy is to effect change at the beginning of the process, namely when the physician writes a prescription. We believe our ReadyScript automated prescription technology is unique in that it focuses on the physician at this pivotal point, and creates efficiencies and enhancements throughout the prescribing and dispensing process. Automated prescriptions through ReadyScript will be accurate and legible, minimizing the potential for misinterpretation and dispensing errors, thereby reducing time spent by pharmacists and physicians clarifying orders. We anticipate that because the physician will be able to electronically route the prescription directly to a participating drugstore, including an online pharmacy such as TheBigRX.com, the patient can receive his or her prescription without any inconvenience, delays or misinterpretations. -4- THE PHARMACY BENEFIT MANAGER DILEMMA The first generation of online pharmacies assumed they would have ready access to insurer- and PBM-reimbursed business. In reality, however, many of the first-generation online pharmacies found themselves excluded from insurers' and PBMs' pharmacy networks. This has compelled several of the first-generation online pharmacies to form exclusive alliances with a single PBM or retail pharmacy chain, which we believe significantly limits future market opportunity for these companies. Our solution is designed to work in concert with multiple insurers and PBMs. Our ReadyScript software will ultimately support efficient and appropriate formulary selection. Moreover, it is being designed to facilitate the electronic routing of prescriptions to any pharmacy designated by the insurer or PBM, including their own online or mail-order fulfillment sites. Through the coupling of our ReadyScript medication management technology and TheBigRX.com retail online pharmacy, we intend to provide an end-to-end solution that addresses all of the elements of pharmaceutical prescribing and dispensing in one comprehensive, cost-effective manner to benefit patients, physicians, and participating insurers and PBMs. MARKET CONDITIONS THE HEALTHCARE ENVIRONMENT CHRONIC MEDICAL CONDITIONS According to Advanstar Communications, approximately 73% of the $102 billion annual U.S. prescription drug market is spent on chronic medical conditions. These include, among others, hypertension, diabetes, allergy, arthritis, asthma, chronic obstructive pulmonary disease, osteoporosis, congestive heart failure and depression. This expenditure is expected to grow as the baby boom population ages and as the importance of pharmaceuticals in disease state management increases. Pharmaceuticals for chronic medical conditions are primarily dispensed through traditional retail pharmacy outlets. Since many chronic conditions require the recurring, long-term use of medications, mail-order pharmacies are becoming an increasingly important source of pharmaceutical fulfillment. ESCALATING HEALTHCARE COSTS According to the Health Care Financing Administration, healthcare expenditures in the United States totaled approximately $1 trillion in 1996, or 14% of the country's gross domestic product, making it the largest sector of the economy. Of this $1 trillion, 60% of expenditures were related to treating chronic conditions. Centers for Disease Control and Prevention studies have demonstrated that proper medication use can significantly impact mortality and morbidity in certain disease states, reducing overall healthcare costs. To maintain profitability, managed care organizations and physicians are under pressure to improve the process of managing physician prescribing as a means of controlling pharmacy and other healthcare costs. ESCALATING PHARMACEUTICAL COSTS Pharmaceutical costs are among the fastest growing components of healthcare expenditures, increasing $42.7 billion or 84% over the past 5 years, according to the National Institute for Health Care Management's Research and Education Foundation. Future increases in drug spending will be fueled by an aging population, a faster FDA drug approval process, direct-to-consumer advertising, greater reliance on pharmaceuticals as a substitute for other therapies, and potential for expanded insurance coverage for drugs. -5- Insurers are seeing prescription drug outlays rising 15% to 20% a year, with prescription drugs accounting for as much as 15% of their total medical costs. The inability to manage these costs successfully and the errors associated with an inefficient manual prescription process make it exceedingly difficult for insurers to maintain profitability without raising premiums. Physicians have also been affected by rising drug costs as insurers continue to transfer to them a significant portion of the financial risk for this cost without a corresponding increase in reimbursement. Contributing to the continued increase in pharmaceutical costs is the prescribing process, which has remained largely unchanged over the past 50 years. Virtually all of the 2.8 billion prescriptions written in this country each year are handwritten or verbally transmitted to the dispensing pharmacy. These modes of prescription transmission are inherently inefficient, and prone to misinterpretation and potentially harmful or fatal medication errors. PHARMACEUTICAL FULFILLMENT CHANNELS RETAIL DRUGSTORE MARKET The retail drugstore market, consisting of prescription drugs, personal care and beauty products, non-prescription drugs, vitamins and nutrition products, totaled $165 billion in 1998, according to estimates by Information Resources, Inc. and Frost & Sullivan. The majority of drugstore products are sold through highly fragmented traditional distribution channels such as chain drugstores (e.g., CVS, Eckerd, RiteAid and Walgreen's), mass market retailers (e.g., Kmart, Target and Wal-Mart), supermarkets, warehouse clubs, mail-order companies, and independent drugstores and pharmacies. These distribution sources offer limited selection, impersonal and limited service, lack of privacy, and insufficient information and access to pharmacists. ONLINE PHARMACIES The unique capabilities of the Internet helped make possible the creation of online pharmacies in 1999. The first-generation entrants to the market include Soma.com, drugstore.com and planetRx.com, among others. These first-generation online pharmacies are all based on the business-to-consumer e-commerce model, which in our opinion has limited potential for prescription drug fulfillment. First-generation online pharmacies allow customers to receive products delivered through the mail, but we believe they ignore the key issues causing customer inconvenience inherent in the traditional fulfillment system. To use these online pharmacies, customers must have Internet access and must fax or mail their prescriptions to the online pharmacy. Physicians are also inconvenienced because they receive calls from pharmacists once the online request is processed. Additionally, these first-generation online systems have not eliminated the potential for errors or misinterpretation of handwritten prescriptions, nor have they addressed any insurer formulary and prescription approval issues. Instead, these first-generation systems perpetuate the same inaccuracies and cost. MAIL-ORDER PRESCRIPTION FULFILLMENT Mail-order prescription dispensing currently represents about 11% of the prescription fulfillment market and is primarily used to provide medication for chronic medical conditions. Yet, medication for chronic illnesses represents over 73% of prescriptions dispensed. We believe this indicates a vastly underutilized fulfillment opportunity. -6- EMERGING TECHNOLOGIES THE INTERNET International Data Corporation estimates there were 142 million Internet users worldwide at the end of 1998. This number is expected to increase to 502 million worldwide by the end of 2002. The Internet is a powerful communication and commerce medium, enabling individuals and organizations to efficiently interact and conduct transactions over great distances. Without the physical constraints faced by traditional retailers, online retailers are able to carry a larger number of products, at a lower cost, with greater merchandising flexibility. The Internet also offers the added conveniences of privacy, 24-hour access, readily accessible product data information, and auto-delivery to consumers. All of the first-generation online pharmacies are based on a business-to-consumer e-commerce model. Total business-to-consumer e-commerce is expected to increase from $7.8 billion in 1998 to $108 billion in 2003, according to Forrester Research. This growth is projected to be greatly outpaced by business-to-business e-commerce, which is expected to increase from $43 billion in 1998 to $1.3 trillion in 2003. HEALTHCARE INFORMATION TECHNOLOGY Though traditional desktop and laptop computers can bring enhanced efficiencies to physician offices, handheld computers are much better suited to meet the needs of highly mobile physicians, since they are lightweight, fit easily into a lab coat, turn on instantly, and have long battery lives. Early corporate users of handheld computers integrated into network environments, such as FedEx and UPS, have seen tremendous benefits from this form of computing. Only recently has handheld technology become advanced enough to support the complex information needs of physician practices, and begun to experience wider physician acceptance. Harvard Medical School, for example, began acclimatizing physicians to handheld technology in 1995 by requiring its students to have a handheld computer. With technology becoming more powerful and more affordable, we believe physicians will increasingly use these tools in their practices. OUR END-TO-END SOLUTION We believe our next-generation online pharmacy creates a comprehensive, compelling healthcare management solution that meets the needs of physicians, insurers and patients. We plan to incorporate our experience with chronic medical conditions and leverage our management team's expertise in the areas of medical management, pharmacy management, e-commerce and Internet technology. More than just another e-commerce venue geared toward retail merchandising, ours will be an end-to-end solution that improves the prescribing and dispensing process from start to finish. THE READYSCRIPT AND THEBIGRX.COM INTEGRATED SOLUTION We believe that the ReadyScript and TheBigRX.com integrated solution is the only automated prescribing and dispensing system that manages a prescription from beginning to end. Our next-generation online pharmacy will be developed to combine a proprietary system with a retail online pharmacy to add value beyond the first-generation online pharmacies to increase physician efficiency, improve clinical outcomes and decrease healthcare costs. ReadyScript's benefits are designed to begin at the point of care -- in the physician's office. As planned, before ordering a prescription, the physician will access ReadyScript using a handheld or desktop computer linked into our information network. The ReadyScript web-enabled software program will be developed to allow the physician to view electronically best practice guidelines -7- for medication based on diagnosis, preferred drug recommendations, formulary guidelines based on the patient's insurance coverage, and ultimately patient medication history. The physician will be able to make the best prescribing decision based on this data, and electronically transmit a prescription. ReadyScript will be designed to route the prescription electronically to a participating pharmacy of the patient's choice, such as an online pharmacy like TheBigRX.com, a mail-order pharmacy offered by the patient's insurance, or a neighborhood pharmacy. Once the prescription is transmitted, the pharmacist should receive a legible and accurate prescription instead of a handwritten prescription that can be difficult to interpret. The clarity of the ReadyScript prescription should significantly reduce the possibility of dispensing the wrong medication, and reduce delays associated with the pharmacist having to call the physician to verify an illegibly written order. The prescription can be processed and, when appropriate, the medication delivered to the patient's home, eliminating a trip to the neighborhood pharmacy. As an option, we plan to allow the patient to choose to have the prescription routed to a neighborhood pharmacy where it will be waiting for pick-up on their arrival. MEETING THE NEEDS OF THREE KEY AUDIENCES THE PHYSICIAN We plan to develop our ReadyScript technology to streamline the prescribing of pharmaceuticals through automation and provide physicians immediate access to critical information. We believe ReadyScript's benefits to physicians include: o PROMOTING RATIONAL, COST-EFFECTIVE AND OPTIMAL DRUG THERAPIES. We plan to give physicians immediate access to up-to-date best practice guidelines for medications and formulary preferred drug information when making their prescribing decisions. We believe this will save physicians and insurers money on overall healthcare costs, and save patients money spent out-of-pocket for non-preferred drugs. o STREAMLINING THE PRESCRIBING PROCESS. Electronically transmitted prescriptions do not need to be handwritten, phoned or faxed into the pharmacy. Likewise, pharmacists do not need to phone physician offices to verify prescriptions. We believe this will save time and increase productivity for physicians and pharmacies alike. o EMPOWERS PHYSICIANS. We believe our ReadyScript technology will provide physicians greater confidence in their patient management decisions, as they will have immediate access to pertinent patient information and current best practice standards. They will also be able to reference up-to-date chronic disease management information amassed from various health information sources to help educate their patients and increase patient compliance. o INCREASING PATIENT SATISFACTION. Physicians should be able to build patient satisfaction by providing patients the convenience of having prescriptions ready for pick up or mailed directly to them. o MINIMIZING DANGEROUS AND COSTLY ADVERSE DRUG REACTIONS. Online patient medication histories should allow physicians to make the best prescribing decisions. We expect this will dramatically reduce the potential for adverse reactions and lower the costs of resources and physician time associated with treating them. -8- Facing increasing economic pressures, physicians are seeking tools to help them save time, increase productivity, lower the cost of service delivery, manage pharmacy risk, and improve their practice of medicine. We believe our technology solutions will help physicians achieve these benefits and maximize their practice revenues. THE INSURER The benefits of our ReadyScript technology to the insurer overlap with many of the same benefits for physicians. We believe additional benefits to insurers include: o IMPROVED FORMULARY COMPLIANCE. We believe physicians will be able to make more compliant prescribing decisions with the benefit of immediate online access to the insurer's formulary preferences. o REDUCED ADMINISTRATIVE BURDEN AND IMPROVED CUSTOMER SATISFACTION. We expect insurers will realize a reduction in phone calls to their customer service departments regarding formulary guidelines and prescription approvals. This should result in increased physician and patient satisfaction, which can help reduce the number of patients who may consider changing insurance plans. o INCREASED MAIL-ORDER PHARMACEUTICAL FULFILLMENT. Electronic prescriptions routed directly to the insurer's designated mail-order pharmacy should contribute to lower overall pharmacy costs. o IMPROVED CLINICAL OUTCOMES. We expect insurers will benefit from lower overall healthcare costs associated with following best practice guidelines for medication, improving clinical outcomes, and minimizing adverse drug reactions. We anticipate insurers will support our technology to address their escalating healthcare and pharmacy costs, improve their medical-loss ratios, and assure their financial viability. THE PATIENT For patients, our next-generation online pharmacy is planned to provide many value-added services and benefits, including: o IMPROVED CLINICAL OUTCOMES. We expect patients will benefit from the improved health and reduced adverse reactions resulting from their physicians' appropriate and optimal drug prescribing practices. o GREATER CONVENIENCE. Patients will be able to have their prescriptions for chronic conditions automatically filled and mailed to their homes. There will be no need to wait at a neighborhood pharmacy to have the prescription filled, to fill out paperwork to use an insurer's mail-order pharmacy, or to fax or phone in the prescription to a first-generation online pharmacy. Even patients without Internet access will be able to enjoy the benefit of our services. o CHRONIC DISEASE MANAGEMENT INFORMATION. TheBigRX.com online web site offer useful tools and information to empower patients to better understand and manage their chronic medical conditions. o CONVENIENT, QUALITY SHOPPING. Patients will have 24-hour shopping access to TheBigRX.com, our retail online pharmacy, and its wide selection of products at everyday low prices. Patients will also enjoy additional discounts for repeat purchases. -9- We anticipate that patients will be empowered to be more active in managing their health, and be more secure in the care they are receiving. COMPETITIVE ADVANTAGES We believe our innovative ReadyScript medication management technology, working in concert with TheBigRX.com online pharmacy, is a superior business model compared to other online pharmacies. Our competitive advantages will be designed to include: o NON-EXCLUSIVE INSURER AND PBM RELATIONSHIPS. Our next-generation online pharmacy solution is being designed to provide benefits not available through first-generation online pharmacies. Many first-generation online pharmacies that have aligned exclusively with an insurer or PBM and are limited to filling prescriptions for patients covered within those plans. Our next-generation online pharmacy will not be as limited because it will not rely on exclusive contracts. In fact, our technology will actually help multiple insurers and PBMs promote compliance with their formularies and direct prescriptions to their mail-order pharmacies as appropriate. o DIRECT INTEGRATION WITH PHYSICIANS. We plan to work directly with physicians to capture the prescription at the point of care. Our medication-management influence at the beginning of the prescribing process is not available with first-generation online pharmacies. o PRESCRIPTION CAPTURED AT THE POINT OF CARE PRODUCING TOTAL CUSTOMER SATISFACTION. Capturing the prescription at the point of care creates conveniences, enhanced efficiency and improved outcomes for physicians and patients. The increased patient satisfaction should help physicians in their patient retention efforts. o BROAD AND DIVERSIFIED REVENUE BASE. Due to the comprehensive nature of our business model, and our non-competitive business design, we will seek derive revenue from a broad and diversified client base comprising all benefactors of the system: physician groups, health maintenance organizations, PBMs, insurers, traditional neighborhood pharmacies, and hospitals. Our multi-source revenue model should allow us to generate earnings from sales and service agreements for our ReadyScript software, transaction fees for electronic prescription routing, prescriptions filled through our retail online pharmacy, and consumer product sales from our retail online pharmacy. o FOCUS ON PATIENTS WITH CHRONIC MEDICAL CONDITIONS. Our integrated solution is intended to go beyond other online pharmacies in providing useful information and tools designed specifically to help physicians and patients manage chronic medical conditions. o STRATEGIC TECHNOLOGY PARTNER. We have formed a strategic relationship with a technology partner, TheBigStore.com, and an Internet portal, TheBigHub.com. This alliance will provide back-end processing and is expected to increase future Internet traffic to TheBigRX.com. o EXPERIENCED MANAGEMENT TEAM. Our management team has extensive medical management, pharmacy management, healthcare administration, retail sales and technology applications experience. -10- KEY STRATEGIES To most effectively capitalize on our competitive advantages and the revenue opportunities, we intend to: o ENHANCE AND FORM KEY RELATIONSHIPS TO FURTHER REVENUE OPPORTUNITIES. We plan to target strategic relationships in order to increase our revenue opportunities and build our reputation as a leading online healthcare destination. We will emphasize the non-competitive nature of our technology as a cost-savings complement to insurers' and PBMs' dispensing networks. We intend to seek to enhance existing relationships and develop new relationships with: o PBMs; o managed care organizations; o insurance companies; o pharmaceutical manufacturers; o content and commerce portals; and o medical groups and physicians. o TARGET-MARKET OUR READYSCRIPT MEDICATION MANAGEMENT SOLUTION. We plan to target, penetrate and rapidly expand the market for our ReadyScript medication management solution through a vigorous marketing effort to large physician groups, hospitals and health maintenance organizations. We intend to market ReadyScript as a solution that provides secure, authorized and instant access to insurer formulary information, drug interaction and drug/disease incompatibility alerts at the point of care. o DEVELOP A UNIVERSAL INSURER-SAVINGS REIMBURSEMENT MODEL. We intend to develop fee-based and drug cost-savings sharing models for insurers. We intend to create demand for products by demonstrating to insurers the universal benefit of lower costs associated with prescriptions ordered through our ReadyScript technology and filled at TheBigRX.com online pharmacy or their designated mail-order pharmacies, if applicable. o BUILD PREMIER CONTENT TO FOCUS ON CHRONIC MEDICAL CONDITION. We plan to build TheBigRX.com as a trusted resource for individuals seeking a wide product selection and helpful expert information about chronic conditions. We plan to establish relationships with leading online healthcare information providers to enhance the information provided on our web site. We intend to aggressively implement marketing strategies that target and reach these chronic disease patients using traditional media and the Internet. o BUILD CONCURRENT ONLINE BEST PRACTICE DATABANK. We plan to continuously provide up-to-date best practice information as it relates to pharmaceutical use in chronic disease management in an easy-to-use format for physicians to integrate the highest standard of care into their prescribing decisions. We intend to establish relationships with leading online healthcare information providers to ensure the integrity of the information provided on our web site. o PROVIDE EXCELLENT CUSTOMER SUPPORT TO BUILD LOYALTY. We intend to maximize repeat purchases by our customers by providing excellent customer service; convenient, secure and easy ordering; helpful information; and reliable delivery that exceeds our customers' expectations. We believe that our focus on catering to those with chronic conditions requiring regularly-replenished products will allow us to benefit from repeat-purchase patterns (e.g., vitamins, diabetic supplies, incontinence products). -11- o UTILIZE TECHNOLOGY TO IMPROVE THE CUSTOMER SHOPPING EXPERIENCE. We plan to leverage and continue to enhance the scalable architecture, transaction processing and fulfillment verification of our technology partner's systems. Our aim is to utilize technology to continually enhance, simplify and personalize the consumers' experience in using our site. PRODUCTS AND SERVICES READYSCRIPT MEDICATION MANAGEMENT SYSTEM Our ReadyScript medication management system is being designed to integrate client/ server and Internet-enabled technology. It is intended to enable physicians to prescribe online, and either print the prescription or electronically route it to a participating pharmacy of the patient's choice, including TheBigRX.com. ReadyScript is being developed to give physicians immediate access to drug interaction review, optimal disease-specific drug preferences, formulary drug preference matching, and ultimately patient medication history. With this information, physicians will be able to make the best prescribing decisions. Prescriptions generated with ReadyScript will be accurate and legible, substantially reducing unnecessary time and energy spent by pharmacists, physician's offices and health plans verifying plan coverage and deciphering illegible prescriptions. We plan to provide comprehensive and up-to-date drug and disease state management information through a dynamic link between ReadyScript and our web site. This capability will promote optimal drug therapy decisions within the context of the diseases for which the drugs are being used. ReadyScript is being developed as a proprietary software program designed to operate with off-the-shelf hardware utilizing various platforms such as Windows CE, Windows 98 and Windows NT. Ultimately, we plan to incorporate the following features: o industry standard prescription transmission specifications; o Internet enabled; o desktop or handheld technology platform; o eligibility interface; o insurer formulary management; o insurer drugs of choice; o automated drug utilization review and prior authorization; and o immediate access to drug information and disease state knowledge tools. TheBigRX.com RETAIL ONLINE PHARMACY SERVICES We anticipate that we will attract retail customers to TheBigRX.com retail online pharmacy from multiple channels to purchase pharmaceuticals and/or non-prescription health and beauty aid products. Some consumers will be drawn from the growing population of online Internet shoppers interested in taking full advantage of our convenient online pharmacy. Other consumers, who do not have Internet access, may have a prescription transmitted by their physician's office, and will call or mail their purchase orders. -12- Consumers routinely shop for other products such as health and beauty aids or vitamins while waiting at their neighborhood pharmacy for prescriptions to be filled. We anticipate patients receiving prescriptions from TheBigRX.com may want to combine their non-prescription product orders with their prescriptions. We also anticipate that some consumers will utilize our retail online pharmacy for many of their health and beauty aid product needs because of the convenience, product selection and favorable pricing of our products. For customers visiting our online web site at http://www.thebigrx.com, TheBigStore.com is developing a "one-checkout" Universal Shopping Cart to provide our online retail customers the convenience of entering their credit and shipping information one time only for hassle-free shopping of products and services throughout the "Big" stores. We anticipate we will attract many new and repeat customers to our online retail pharmacy by our large selection of merchandise, everyday low prices, the convenience of a Universal Shopping Cart, 24-hour shopping, useful product information, and merchandising tailored to the consumer's needs. Our pharmacy will only accept prescriptions that can be verified as being written by duly licensed healthcare providers. RELATIONSHIP WITH TheBigStore.com AND TheBigHub.com We have acquired the online domain name of "TheBigRX.com," and entered into a strategic alliance with TheBigStore.com, Inc. and a strategic marketing agreement with TheBigHub.com. TheBigHub.com's search engine was recently named among the web's top ten search engines by the NEW YORK TIMES and the MIAMI HERALD. By uniting a diverse portfolio of "Big" companies within a web-based network, TheBigHub.com seeks to create a powerful consumer destination with an emphasis on commerce, content and community. These agreements allow us to leverage: (1) their technical expertise, (2) the developmental and operational cost of the transactional system, (3) the traffic and attraction of TheBigHub.com metasearch engine, and (4) the Internet traffic draw of the planned affiliated Internet store sites. However, we will maintain exclusive control over our business operations, development of our web sites, and content found on our sites. TheBigStore.com will provide a back-end system that is comprehensive, user-friendly, easy to navigate, and fully scalable to accommodate transactional growth. TheBigStore.com back-end services will include web site hosting, web site design and development, customer order processing, debit/credit card validation, fraud detection, data encryption, order tracking, transaction accounting and record retention. In exchange for these back-end services, TheBigStore.com received an option to buy 410,000 shares of our common stock at an exercise price of $5.00 per share. Our strategic marketing agreement with TheBigHub.com provides for continuous free advertising on TheBigHub.com. In exchange for these services, TheBigHub.com has an option to buy 250,000 share of our common stock at an exercise price of $5.00 per share. -13- MARKETING AND PROMOTION We are targeting the marketing of our ReadyScript technology directly to large physician groups, integrated healthcare networks, physician practice management organizations, managed care companies, PBMs and hospital networks. We intend to use a variety of marketing tools -- including direct mail, editorials, articles, professional seminars, and advertisements in trade and medical journals -- to build brand awareness for the ReadyScript solution and its link to TheBigRX.com retail online pharmacy. At the same time, we intend to drive customer traffic to TheBigRX.com by targeting consumers with chronic medical conditions. We plan to use traditional and Internet media, promote our affiliation with the "Big" stores, develop online alliances with leading healthcare information providers, and place ads in magazines read by targeted chronic disease patients. RETAIL MERCHANDISING For TheBigRX.com retail online pharmacy, we believe that the depth and breadth of our product selection, focus on chronic medical conditions, and range of helpful and useful shopping services, will enable us to establish an effective merchandising strategy. Key elements of our strategy include: o easy access to a wide variety of products; o specific product orientation for individuals with chronic medical conditions; o useful product information; o targeted promotions; and o product samples including diagnostic screening tests. RETAIL DISTRIBUTION AND ORDER FULFILLMENT We intend to outsource our distribution and order fulfillment operations through one or more vendors. The designated vendors will package for shipment all consumer non-prescription orders, including any of our inventory purchased directly from other vendors. We plan to carry minimal inventory and rely to a large extent on rapid shipping from our distributors. We plan to offer a variety of shipping options, including next-day delivery for orders received during the business week. We plan to ship to anywhere in the United States served by the United Parcel Service or the U.S. Postal Service. Priority orders will be flagged and expedited through our fulfillment processes. CUSTOMER SERVICE Excellent client service and customer service support are key to maintaining physician, insurer and consumer satisfaction with the ReadyScript prescription automation technology and TheBigRX.com retail online pharmacy. We plan to establish physician support services to ensure smooth implementation and on-going support of ReadyScript. We plan to provide workflow analyses, system installation, and usage recommendations to the physicians and their staff. Once ReadyScript is developed and installed, our client support services staff will work closely with physicians to assure maximum benefit from the system. -14- Our customer service representatives will service customers of TheBigRX.com. They will answer questions about orders, how to use our software and web site, assist customers in finding desired products, and register customers' credit card information over the telephone. Our representatives will be a valuable source of feedback regarding user satisfaction. Our web site will also contain a customer service page that outlines our policies and provides answers to frequently asked questions. We intend to have an easy-to-use Help online function on both the TheBigRX.com and the ReadyScript.com web sites providing detailed information on frequently asked questions, how to find information, how to order, how to pay, our return policy, and our privacy and security policies. OPERATIONS AND TECHNOLOGY When completed, ReadyScript will be easy to use. It is being designed to operate on the various Microsoft platforms including desktop and handheld operating system environments. Like all of our Internet applications, built-in state-of-the-art security features are planned to prevent unauthorized access to the ReadyScript system. In conjunction with TheBigStore.com, we intend to implement a wide range of secure, scalable services and systems for TheBigRX.com. TheBigStore.com is developing proprietary technologies to augment those licensed from vendors such as Microsoft, Oracle, IBM, Sun Microsystems and EMC. To date, internal development efforts have focused on: 1) creating and enhancing proprietary software, and 2) our core merchandise catalog. TheBigStore.com system is being designed to include an open application-programming interface that provides connectivity to our distribution center systems for both pharmacy and non-pharmacy products. These systems are being developed to include a perpetual inventory system, order tracking system and decision support information system. The use of multiple web servers, application servers and database servers will allow the systems to be resilient and redundant. Our Internet servers will use SSL to help conduct secure communications and transactions over the Internet. Our systems infrastructure will be hosted at TheBigStore.com, Inc. in Newport Beach, California. COMPETITION The online commerce market is new, rapidly evolving and intensely competitive. In particular, the health and personal care categories are intensely competitive and highly fragmented, with no clear dominant leader in any of our market segments. Our competitors can be divided into several groups: MEDICATION MANAGEMENT o companies that market e-commerce based medication management systems to physicians and insurers, such as Allscripts and Healtheon. RETAIL o online pharmacy product retailers, such as planetRx.com, drugstore.com/RiteAid and Soma.com/CVS; o chain drugstores, such as Walgreen's, RiteAid, CVS and Eckerd; o mass market retailers, such as Wal-mart, Kmart and Target; -15- o supermarkets, such as Safeway, Albertson's and Vons; o warehouse clubs; o cosmetic departments at major department stores, such as Nordstrom and Macy's; o PBMs and mail-order pharmacies, such as PCS, RiteAid, Express Scripts and Merck-Medco; and o Internet portals and online service providers that feature shopping services, such as AOL, Yahoo!, MSN.com and Lycos. Most of these competitors operate within one or more of our market segments. We believe the principal competitive factors in our market are: o establishment of market awareness and trust; o ease of accessibility for customers to reach us and use our site; o ability of physician practices to easily transmit electronic prescriptions; o ability to accept mail-order prescriptions and be reimbursed by insurers; o product selection, personalized service, convenience and ease of use; o price; o quality and layout of content; and o reliability and speed of fulfillment. GOVERNMENT REGULATION OF OUR NEW BUSINESS Our business is subject to extensive federal, state and local regulations, many of which are specific to pharmacies and the sale of over-the-counter drugs. For example, pursuant to the Omnibus Budget Reconciliation Act of 1990 and related state and local regulations, pharmacists are required to offer counseling, without additional charge, to our customers about medication, dosage, delivery systems, common side effects, adverse effects or interactions and therapeutic contraindications, proper storage, prescription refill, and other information deemed significant by the pharmacists. We are also subject to federal, state and local licensing and registration regulations with respect to, among other things, our pharmacy operations. Automated prescribing and the electronic routing of prescriptions to pharmacies are governed by state and federal law. States have varying prescription format requirements, which will be incorporated into ReadyScript. All states permit electronic, faxed and/or written prescriptions. Many existing laws and regulations when enacted, did not anticipate the methods of e-commerce now being developed. The laws of several states and the U.S. Drug Enforcement Administration ("DEA"), which governs controlled substances, neither specifically permit nor specifically prohibit electronic transmission of prescription orders. Given the rapid growth of the Internet, it is anticipated that many states, as well as the DEA, will directly address these areas with regulation in the near future. -16- The U.S. House of Representatives Committee on Commerce and the General Accounting Office are currently investigating online pharmacies and online prescribing. Their main focus is on those who prescribe drugs online and on pharmacies that fill invalid prescriptions, including those that are written online. The committee requested that the General Accounting Office undertake a formal review of a number of issues pertaining to online pharmacies, including an assessment of mechanisms to ensure that online pharmacies are obeying the various state and federal regulations for the industry. Because we will be making every effort only to fulfill valid prescriptions written by duly licensed providers and we will not prescribe drugs, we believe that our business will not be negatively affected by any regulations that result from the investigations. However, we believe that any regulations resulting from the investigations will likely result in increased reporting and monitoring requirements. The National Association of Boards of Pharmacy, a coalition of state pharmacy boards, is in the process of developing the Verified Internet Pharmacy Practice Sites program as a model for self-regulation for online pharmacies. We intend to comply with its criteria for certification. Legislation and regulations currently being considered at the federal and state level could affect our business, including legislation or regulations relating to confidentiality of patient records, electronic access and storage. In addition, various state legislatures are considering new legislation related to the regulation of nonresident pharmacies. The Health Insurance Portability and Accountability Act of 1996 mandates the use of standard procedures with regard to the provision of health insurance benefits. Regulations have been proposed to implement these requirements, and we are designing our applications to comply with the proposed regulations. Although the FDA does not regulate the practice of pharmacy, other than pharmacy compounding (which we do not currently plan to engage in), FDA regulations impact some of our product and service offerings. The FDA regulates drug advertising and promotion, including direct-to-consumer advertising, done by or on behalf of drug manufacturers and marketers. As we expand our product and service offerings, more of our products and services will likely be subject to FDA regulation. We intend to ensure that our vendor(s) will dispense only FDA-approved drugs. The inclusion of prescription drugs as a Medicare benefit has been the subject of numerous bills in the U.S. Congress. Should legislation on prescription drug coverage for Medicare recipients be enacted into law, we would be subject to compliance with any corresponding rules and regulations. Until recently, Health Care Financing Administration guidelines prohibited transmission of Medicare eligibility information over the Internet. We are also subject to extensive regulation relating to the confidentiality and release of patient records. Additional legislation governing the distribution of medical records exists or has been proposed at both the state and federal level. OUR EXISTING BUSINESS Our existing business is conducted through three companies: (1) Biomerica, engaged in the diagnostic products field; (2) Lancer Orthodontics, Inc., engaged in orthodontic products; and (3) Allergy Immuno Technologies, Inc., engaged in allergy-related testing services. BIOMERICA -- DIAGNOSTIC PRODUCTS Biomerica develops, manufactures, and sells medical diagnostic products designed to detect certain medical conditions and diseases in the areas of certain cancers, heart attack, fertility, gastritis and ulcers, diabetes and candida. -17- Since 1971, our immunoassay diagnostic test kits have been used by hospitals, clinical laboratories and medical researchers to analyze blood or urine from patients in the diagnosis of various diseases and other medical complications, or to measure the level of specific hormones, antibodies, antigens or other substances which may exist in the human body in extremely small concentrations. Our over-the-counter products such as EZDetect and Fortel are rapid diagnostic test products that are used in the physician's office and by the patient at home. Our clinical laboratory diagnostic products include tests for thyroid conditions, pregnancy, H. pylori, and others. These diagnostic test kits utilize enzyme immunoassay or radioimmunoassay technology. Some of these products have not yet been cleared by the FDA for diagnostic use, but can be sold in various foreign countries. Our over-the-counter and professional rapid diagnostic products help to manage existing medical conditions care and may save lives through prompt diagnosis and early detection. Technological advances in medical diagnostics have made it possible to perform diagnostic tests within the home and the physician's office, rather than in the clinical laboratory. Our objective has been to develop rapid diagnostic tests that are accurate, employ easily obtained specimens, and are simple to perform without instrumentation. Until recently, tests of this kind required the services of medical technologists and sophisticated instrumentation. Frequently, results were not available until at least the following day. Most of our over-the-counter tests are FDA cleared. We believe that such tests are as accurate as laboratory tests when used properly, require no instrumentation, give reliable results in minutes and can be performed with confidence in the home or the physician's office. LANCER ORTHODONTICS, INC. -- ORTHODONTIC PRODUCTS Lancer is engaged in developing, manufacturing, and selling orthodontic products including, among others, ceramic brackets and wires. Lancer is well established in the field of orthodontics and its products are sold worldwide through a direct sales force and distributors. Lancer's product line includes preformed bands, direct bonding pads, various brackets, buccal tubes, arch wires, lingual attachments and related accessories. The foregoing are assembled to the orthodontists' prescriptions or the specifications of private label customers. Lancer also markets products which are purchased and resold to orthodontists, including sealants, adhesives, elastomerics, headgear cases, retainer cases, orthodontic wire, and preformed arches. Most of Lancer's manufacturing and shipping operations are located in Mexicali, Mexico, in order to reduce the cost of manufacturing and compete more effectively worldwide. Lancer maintains its headquarters in San Marcos, California where it houses administration, engineering, sales and marketing, and customer services. ALLERGY IMMUNO TECHNOLOGIES, INC. -- ALLERGY SERVICES AIT has been providing clinical testing services to doctors, clinics and drug firms in specialized areas of allergy and sensitivity determinations. AIT is also engaged in developing therapeutic methods for treatment of allergies. As a consequence of its development effort in the field of allergy treatment, AIT owns four patents covering several inventions relating to the therapeutic aspect of allergy. AIT intends to utilize these patents to develop new allergy drugs on its own and/or in conjunction with other companies. -18- AIT employs one medical technologist and two technicians, and receives substantial assistance from Biomerica whose laboratory is contiguous to that of AIT. PRODUCTION All of our diagnostic test kits are processed and assembled at our facilities in Newport Beach, California. Production of diagnostic tests involve formulating component antibodies and antigens in specified concentrations, attaching a tracer to the antigen, filling components into vials, packaging and labeling. We continually engage in quality control procedures to assure the consistency and quality of our products and to comply with applicable FDA regulations. All manufacturing production is regulated by the FDA Good Manufacturing Practices for medical devices. We have an internal quality control unit that monitors and evaluates product quality and output. In addition, we employ a qualified external quality assurance consultant who monitors procedures and provides guidance in conforming with the Good Manufacturing Practices regulations. We either produce our own antibodies and antigens or purchase these materials from qualified vendors. We have alternate, approved sources for raw materials procurement and it is surmised that material availability in the foreseeable future does not pose a primary constraint for us in our relevant ranges of production. Lancer currently utilizes a manufacturing subcontractor to provide manufacturing services to Lancer through its affiliated entities located in Mexicali, B.C., Mexico. The current agreement allows for the pass through of actual costs plus a weekly administrative fee. This gives Lancer greater control over all costs associated with the manufacturing operation. During 1999, Lancer extended the Manufacturing Agreement through December, 2003. Lancer has retained an option to convert the manufacturing operation to a wholly owned subsidiary at any time without penalty. Should Lancer discontinue operations in Mexico, it is responsible for accumulated employee seniority obligations as prescribed by Mexican law. At May 31, 1999, this obligation was approximately $287,000. Such obligation is contingent in nature and accordingly has not been accrued in the financial statements. RESEARCH AND DEVELOPMENT Biomerica is engaged in research and development to broaden its product line in specific areas. Research and development expenses include the costs of materials, supplies, personnel, facilities and equipment. Lancer is engaged in development programs to improve and expand its orthodontic products and production techniques. Lancer consults frequently with practicing orthodontists. Research and development expenses incurred by Biomerica for the years ended May 31, 1999 and 1998 aggregated $459,000 and $554,000, respectively. These expenses included approximately $165,000 and $188,000 for fiscal 1999 and 1998, respectively, for Lancer's product development. In fiscal 1999, development costs of $47,000 and equipment and leasehold costs of $32,000 were incurred by Lancer in the development of PARAGON(TM), a dental amalgam, which will be the world's first spherical dispersion system that expands when set. MARKETS AND METHODS OF DISTRIBUTION Biomerica has approximately 320 current customers for its diagnostic business, of which approximately 60 are distributors and the balance are hospital and clinical laboratories, medical research institutions, medical schools, pharmaceutical companies, chain drugstores, wholesalers and physicians' offices. -19- We rely on unaffiliated distributors, advertising in medical and trade journals, exhibitions at trade conventions, direct mailings and an internal sales staff to market our diagnostic products. We target three main markets: (a) clinical laboratories, (b) physicians' offices, and (c) over-the-counter drug stores. Separate sales forces and marketing plans are utilized in each of the three markets. Lancer sells its products directly to orthodontists through company-paid sales representatives in the United States. At the end of its fiscal year, Lancer had seven sales representatives, all in the United States, all of whom are employees of Lancer. In selected foreign countries, Lancer sells its products directly to orthodontists through its international marketing division. Lancer also sells its products through distributors in certain foreign countries and to other companies on a private label basis. Lancer has entered into a number of distributor agreements whereby it granted the marketing rights to its products in certain sales territories in Mexico, Central America, South America, Europe, Canada, Australia, and Japan. The distributors complement the international marketing department which was established in 1982 and currently employs three people. The loss of any one or a few customers would not have a material adverse effect upon our revenues. BACKLOG At May 31, 1999 and 1998 Biomerica and Allergy Immuno Technologies, Inc. had no backlog. As of May 31, 1999 and 1998, Lancer had a backlog of $213,000 and $268,000, respectively. RAW MATERIALS The principal raw materials utilized by us consist of various chemicals, serums, reagents, radioactive isotopes and packaging supplies. Almost all of our raw materials are available from several sources, and we are not dependent upon any single source of supply or a few suppliers. Many antibodies used in our immunoassay products are produced by us by injecting antigens into animals which are maintained by us. We maintain inventories of antibodies and antigens as components for our diagnostic test kits. Due to a limited shelf life on some products such as the RIA kits, which averages 60 days, finished kits are prepared as required for immediate delivery of pending and anticipated orders. Sales orders are normally processed on the day of receipt. The principal raw materials used by Lancer in the manufacture of its products include: stainless steel, which is available from several commercial sources; nickel titanium, which is available from three sources; and lucolux translucent ceramic, which is currently only available from one source, General Electric, and is purchased on open account. Ceramic material similar to General Electric's lucolux translucent ceramic is available from other sources. Lancer had no difficulty in obtaining an adequate supply of raw materials during its 1999 fiscal year, and does not anticipate that there will be any interruption or cessation of supply in the future. COMPETITION Immunodiagnostic products are currently produced by more than 100 companies, a majority of which are located within the United States. Biomerica and its subsidiaries are not a significant factor in the market. Allergy diagnostic products are currently produced by over five competitors, and there are approximately the same number producing allergy therapeutics. -20- Our competitors vary greatly in size. Many are divisions or subsidiaries of well-established medical and pharmaceutical concerns which are much larger than Biomerica and expend substantially greater amounts than we do for research and development, manufacturing, advertising and marketing. The primary competitive factors affecting the sale of diagnostic products are uniqueness, quality of product performance, price, service and marketing. The prices for our products compare favorably with those charged by most of our competitors. We believe we compete primarily on the basis of our reputation for the quality of our products, the speed of our test results, the unique niches we fill in the market, our patent position, and our prompt shipment of orders. We offer a broader range of products than many competitors of comparable size, but to date have had limited marketing capability. We are working on expanding this capability through strategic cooperations with larger companies and distributors. Lancer encounters intense competition in the sale of orthodontic products. Lancer's management believes that Lancer's seven major competitors are: Unitek, a subsidiary or division of 3M; "A" Company, a private company; Ormco, a subsidiary or division of Sybron; RMO Inc., a private company; American Orthodontics, a private company; GAC, a foreign company; and Dentaurum, a foreign company. Lancer estimates that these seven competitors account for approximately 80% of the orthodontic products manufactured and sold in the United States. Lancer's management also believes that each of these seven competitors is larger than Lancer, has more diversified product lines and has financial resources exceeding those of Lancer. While there is no assurance that Lancer will be successful in meeting the competition of these seven major competitors or other competitors, Lancer has, in the past, successfully competed in the orthodontic market and has achieved wide recognition of both its name and its products. GOVERNMENT REGULATION OF OUR EXISTING BUSINESS As part of our existing business, we sell products that are legally defined to be medical devices. As a result, we are considered to be a medical device manufacturer, and as such are subject to the regulations of numerous governmental entities. These agencies include the FDA, DEA, Environmental Protection Agency, Federal Trade Commission, Occupational Safety and Health Administration, U.S. Department of Agriculture ("USDA"), and Consumer Product Safety Commission. These activities are also regulated by various agencies of the states and localities in which our products are sold. These regulations govern the introduction of new medical devices, the observance of certain standards with respect to the manufacture and labeling of medical devices, the maintenance of certain records and the reporting of potential product problems and other matters. The Food, Drug & Cosmetic Act of 1938 (the "FDCA") regulates medical devices in the United States by classifying them into one of three classes based on the extent of regulation believed necessary to ensure safety and effectiveness. Class I devices are those devices for which safety and effectiveness can reasonably be ensured through general controls, such as device listing, adequate labeling, pre-market notification and adherence to the Quality System Regulation ("QSR") as well as Medical Device Reporting (MDR), labeling and other regulatory requirements. Some Class I medical devices are exempt from the requirement of Pre-Market Approval ("PMA") or clearance. Class II devices are those devices for which safety and effectiveness can reasonably be ensured through the use of special controls, such as performance standards, post-market surveillance and patient registries, as well as adherence to the general controls provisions applicable to Class I devices. Class III devices are devices that generally must receive pre-market approval by the FDA pursuant to a pre-market approval application to ensure their safety and effectiveness. Generally, Class III devices are limited to life-sustaining, life-supporting or implantable devices. However, this classification can also apply to novel technology or new intended uses or applications for existing devices. -21- If the FDA finds that the device is not substantially equivalent to a predicate device, the device is deemed a Class III device, and a manufacturer or seller is required to file a PMA application. Approval of a PMA application for a new medical device usually requires, among other things, extensive clinical data on the safety and effectiveness of the device. PMA applications may take years to be approved after they are filed. In addition to requiring clearance or approval for new medical devices, FDA rules also require a new 510(k) filing and review period, prior to marketing a changed or modified version of an existing legally marketed device, if such changes or modifications could significantly affect the safety or effectiveness of that device. The FDA prohibits the advertisement or promotion or any approved or cleared device for uses other than those that are stated in the device's approved or cleared application. Pursuant to FDCA requirement, we have registered our manufacturing facility with the FDA as a medical device manufacturer, and listed the medical devices we manufacture. We are also subject to inspection on a routine basis for compliance with FDA regulations. This includes the QSR, which, unless the device is a Class I exempt device, requires that we manufacture our products and maintain our documents in a prescribed manner with respect to issues such as design controls, manufacturing, testing and validation activities. Further, we are required to comply with other FDA requirements with respect to labeling, and the MDR regulation which requires that we provide information to the FDA on deaths or serious injuries alleged to have been associated with the use of our products, as well as product malfunctions that are likely to cause or contribute to death or serious injury if the malfunction were to recur. We believe that we are currently in material compliance with all relevant QSR and MDR requirements. In addition, our facility is required to have a California Medical Device Manufacturing License. The license is not transferable and must be renewed annually. Approval of the license requires that we be in compliance with QSR, labeling and MDR regulations. Our license expires on March 16, 2000. We are also registered with the Department of Health and Human Services, Public Health Service of the FDA as a Device establishment. This registration expires on February 28, 2000. We also hold two radioactive materials licenses from the State of California (both expiring on June 20, 2000), and two permits from the USDA, one expiring on January 28, 2000 and the other expiring on June 30, 2000. These licenses are renewed periodically, and to date we have never failed to obtain a renewal. We are in compliance with FDA and California regulations, and so may market our medical devices throughout the United States. International sales of medical devices are also subject to the regulatory requirements of each country. In Europe, the regulations of the European Union require that a device have a "CE mark" before it can be sold in that market. We intend to comply with new directives that have recently been instituted regarding the use of CE marks. The regulatory international review process varies from country to country. We, in general, rely upon our distributors and sales representatives in the foreign countries in which we market our products to ensure that we comply with the regulatory laws of such countries. We believe that our international sales to date have been in compliance with the laws of the foreign countries in which we have made sales. Exports of most medical devices are also subject to certain FDA regulatory controls. SEASONALITY OF BUSINESS The business of the Company and its subsidiaries has not been subject to significant seasonal fluctuations. -22- FOREIGN BUSINESS All of our fixed assets, excluding some of Lancer, are located within southern California. The following table sets forth the dollar volume of revenue attributable to sales to domestic customers and foreign customers during the last two fiscal years for the Biomerica and its consolidated subsidiaries:
YEAR ENDED MAY 31, ----------------------------------------- 1999 1998 ---------------- ---------------- Revenues from sales to: United States customers................. $4,638,000/53.4% $5,041,000/53.8% Asia.................................... 426,000/ 4.9% 878,000/ 9.4% Europe.................................. 1,710,000/19.7% 1,798,000/19.2% South America........................... 749,000/ 8.6% 810,000/ 8.6% Other foreign........................... 1,165,000/13.4% 849,000/ 9.0% ---------------- ---------------- Total revenues.................. $8,688,000/ 100% $9,376,000/ 100% ================ ================
We recognize that our foreign sales could be subject to some special or unusual risks which are not present in the ordinary course of business in the United States. Changes in economic factors, government regulations and import restrictions all could impact sales within certain foreign countries. Foreign countries have licensing requirements applicable to the sale of diagnostic products which vary substantially from domestic requirements; depending upon the product and the foreign country, these may be more or less restrictive than requirements within the United States. We cannot predict the impact that conversion to the Euro in the European countries may have on Biomerica, if any. Foreign sales are made primarily through a network of over 60 independent distributors in approximately 20 countries. INTELLECTUAL PROPERTY We regard the protection of our copyrights, service marks, trademarks and trade secrets as critical to our future success. We rely on a combination of copyright, trademark, service mark and trade secret laws and contractual restrictions to establish and protect our proprietary rights in products and services. We have entered into confidentiality and invention assignment agreements with our employees and contractors, and nondisclosure agreements with our vendors, fulfillment partners and strategic partners to limit access to and disclosure of proprietary information. We cannot be certain that these contractual arrangements or the other steps taken by us to protect our intellectual property will prevent misappropriation of our technology. We have licensed in the past, and expect that we may license in the future, certain of our proprietary rights, such as trademarks or copyrighted material, to third parties. While we attempt to ensure that the quality of our products brand is maintained by such licensees, we cannot be certain that such licensees will not take actions that might hurt the value of our proprietary rights or reputation. We also rely on technologies that we license from third-parties, such as Oracle and Microsoft, the suppliers of key database technology, the operating system and specific hardware components for our service. We cannot be certain that these third-party technology licenses will continue to be available to us on commercially reasonable terms. The loss of such technology could require us to obtain substitute technology of lower quality or performance standards or at greater cost. -23- BRANDS, TRADEMARKS, PATENTS We use the trademarks "ReadyScript" and "TheBigRX.com" as identification of our automated medication management prescribing system and online pharmacy. We will use readyscript.com and thebigrx.com in small letters as our Internet site addresses, and 1-888-LVBigRX (LoVe BigRX) as our toll-free call center number. We have filed intent-to-use applications with the U.S. Patent and Trademark Office for the registration of some of our trademarks and service marks, including ReadyScript(TM) and TheBigRX.com(TM). We have not secured registration of any of our marks to date, and may be unable to secure such registered marks. It is also possible that our competitors or others will use marks similar to ours, which could impede our ability to build brand identity and lead to customer confusion. Additionally, there could be potential trade name or a trademark infringement claim brought by owners of other registered trademarks that incorporate variations of the term ReadyScript(TM) and/or TheBigRX.com(TM). We registered the tradenames "Fortel," "Isletest," "Nimbus" and "GAP" with the Office of Patents and Trademarks on December 31, 1985. Our unregistered tradenames are "EZDetect," "CAST," "COT," "EquistiK," "FelistiK," "Tri-Level Controls," "Tru-Level Controls," "T-Marker Controls," "AllerHalt," "Candiquant," "Candigen," "EZ-H.P." and "EZ-PSA." Allergy Immuno Technologies, Inc. has four patents pertaining to its discoveries for allergy treatment. These are: 1. Immunotherapy agents for treatment of IgE mediated allergies; U.S. Patent #5,116,612, issued May 6, 1992. 2. Liposome containing immunotherapy agents for treatment of IgE medicated allergies, U.S. Patent #5,049,390, issued September 17, 1991. 3. Immunotherapy agents for treatment of IgE mediated allergies, U.S. Patent #4,946,945, issued August 7, 1990. 4. Allergen-thymic hormone conjugates for treatment of IgE mediated allergies, U.S. Patent #5,275,814, issued January 4, 1994. On April 4, 1989, Lancer was granted a patent on its CounterForce design of a nickel titanium orthodontic archwire. On August 1, 1989, Lancer was granted a patent on its bracket design used in the manufacturing of Sinterline and Intrigue orthodontic brackets. On September 17, 1996, Lancer was granted a patent on its method of laser annealing marking of orthodontic appliances. On March 4, 1997, Lancer was granted a patent on an orthodontic bracket and method of mounting. All of the patents are for a duration of 17 years. Lancer has entered into a number of license and/or royalty agreements pursuant to which it has obtained rights to certain of the products which it manufactures and/or markets. The patents and agreements have had a favorable effect on Lancer's image in the orthodontic marketplace and Lancer's sales. Lancer has entered into a number of license and/or royalty agreements pursuant to which it has obtained rights to certain of the products which it manufactures and/or markets. The laws of some foreign countries do not protect our proprietary rights to the same extent as do the laws of the U.S. Effective copyright, trademark and trade secret protection may not be available in such jurisdictions. Our efforts to protect our intellectual property rights may not prevent misappropriation of our content. -24- EMPLOYEES As of August 31, 1999, the Company and its subsidiaries employed 80 full-time employees and 4 part-time employees. Lancer, through its Mexican subcontractor, utilizes the services of approximately 134 people in Mexico. We also engage the services of various outside Ph.D. and M.D. consultants as well as medical institutions for technical support on a regular basis. We are not a party to any collective bargaining agreement and have never experienced a work stoppage. We consider our employee relations to be good. ITEM 2. DESCRIPTION OF PROPERTY ----------------------- During fiscal 1998 we leased approximately 21,000 square feet of space in Newport Beach, California for a term which expired May 31, 1998 (and which was renewed until May 31, 1999) and is currently being renegotiated. Pursuant to the lease and the current month-to-month tenancy, we pay an annual base rent, set initially at $143,880 and adjusted annually to reflect cost of living increases, plus all real estate taxes and insurance costs. In each of the last two fiscal years a portion of the rent was paid through the issuance of shares of our restricted common stock to JSJ Management. During fiscal 1999, an aggregate of 31,793 shares of our restricted common stock was issued at quoted market prices in satisfaction of accrued rent totaling $38,000. These facilities are used for diagnostic test kit research and development, manufacturing, marketing, administration, and our Internet operations. The facilities are leased from Mrs. Ilse Sultanian and JSJ Management. Ms. Janet Moore, an officer, director and shareholder of our Company, is a partner in JSJ Management. The terms of such leases cannot be considered to have been negotiated at arms-length, but in the opinion of our management are no less favorable to us than would be available from an unaffiliated party. AIT currently leases approximately 1,600 square feet at the above facility for $1,400 per month. These properties are leased by AIT on a month-to-month basis from Mrs. Sultanian and JSJ Management. Lancer leases a 9,240-square-foot manufacturing building in San Marcos, California. The term of the initial lease was for five years commencing January 1, 1994. In 1998, Lancer renegotiated the lease and extended the terms to December 31, 2003. The Mexicali facility consists of a 16,000-square-foot manufacturing and office building. The lease expires in October 2003 and requires monthly rentals of approximately $5,200. Our management believes that the properties are currently suitable and adequate for Lancer's operations. We maintain animals at a ranch in Vista, California, which are treated biologically to produce antibodies used in certain of our immunodiagnostic products. These facilities are utilized on a month-to-month basis at a charge based on the number of animals maintained at the facility. We believe that our facilities and equipment are in suitable condition and are adequate to satisfy the current requirements of our Company and our subsidiaries. ITEM 3. LEGAL PROCEEDINGS ----------------- Inapplicable. ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS ------------------------------------------------- Inapplicable. -25- PART II ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS -------------------------------------------------------- Biomerica's common stock is traded on the NASDAQ SmallCap Stock Market under the symbol "BMRA". The following table shows the high and low bid prices for Biomerica's common stock over the last two years based upon data reported by NASDAQ. Prices shown represent quotations by dealers, and do not reflect markups, markdowns or commissions. Bid Prices ------------------------------ High Low ------------ ------------- Quarter ended: May 31, 1999........................... $5.00 $0.969 February 28, 1999...................... $1.75 $0.9375 November 30, 1998...................... $2.25 $0.875 August 31, 1998........................ $2.125 $1.125 May 31, 1999........................... $2.875 $1.25 February 28, 1998...................... $3.125 $2.188 November 30, 1997...................... $2.643 $2.164 August 31, 1997........................ $3.104 $2.607 May 31, 1997.......................... $3.625 $2.125 As of August 16, 1999, the number of holders of record of Biomerica's common stock was approximately 1,741, excluding stock held in street name. No dividends have been declared or paid by Biomerica. We intend to employ all available funds for development of our business and, accordingly, do not intend to pay cash dividends in the foreseeable future. -26- ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS ------------------------------------ The following discussion of our financial condition and results of operations should be read in conjunction with our Consolidated Financial Statements and related notes contained elsewhere in this prospectus. This prospectus contains forward-looking statements that involve risks and uncertainties. Our actual results may differ significantly from the results discussed in the forward-looking statements. Operations for the past two years relate to our historic diagnostic, orthodontic and allergy product businesses. Operations for the Internet division began after we raised $2 million in equity in June 1999. Start-up costs for this division are included in administrative costs. The Internet division has generated no revenues to date. RESULTS OF OPERATIONS We currently have two subsidiaries, Lancer Orthodontics, Inc. ("Lancer"), which is engaged in manufacturing, sales and development of orthodontic products, and Allergy Immuno Technologies, Inc. ("AIT"), which is engaged in developing allergy treatment therapies and providing specialized services to pharmaceutical companies and physicians. We own 30.76% of the outstanding stock of Lancer and 74.6% of the outstanding stock of AIT. We exercise effective control of 51.32% over Lancer via voting agreements with certain shareholders. As a result of our control and ownership, our financial statements are consolidated with those of Lancer and AIT. Both Lancer and AIT are public companies. Lancer is trading on the Nasdaq SmallCap market under the symbol "LANZ," and AIT is trading in the pink sheets under the symbol "ALIM." Fiscal 1999 Compared to Fiscal 1998 Our consolidated net sales were $8,688,106 for fiscal 1999 compared to $9,376,498 for fiscal 1998. This represents a decrease of $688,392, or 7.3% for fiscal 1999. Of the total consolidated net sales for fiscal 1999, $6,159,496 is attributable to Lancer, $70,351 to AIT, and $2,458,259 to Biomerica. Lancer's sales decreased by $34,687, while Biomerica showed a sales decrease of $624,985, a 20% decrease for Biomerica. AIT had a decrease of $28,720. The decrease at Lancer was attributable to increased discounting. While the trend in increased discounting at Lancer continues, it has slowed, partially the result of orthodontic industry consolidation. Lancer continues to search for new sales representatives, distributors, private label customers, products, and product ideas, all of which, if successful, will result in increasing sales. The decrease in sales at Biomerica was in large part due to a decrease of sales to foreign distributors as well as in domestic sales at Biomerica, in particular to a domestic distributor which sells the products internationally. Cost of sales in fiscal 1999 as compared to fiscal 1998 decreased by $67,326 (1.2%). Lancer's cost of sales as a percentage of sales increased from 58.6% to 61.4% in fiscal 1999 as compared to fiscal 1998. The increase was primarily attributable to competitive pricing pressures and increased manufacturing costs. Biomerica had an increase in cost of goods as a percentage of sales from 56.7% to 63.0% in fiscal 1999 as compared to fiscal 1998 due to higher labor and other costs. AIT had an increase in cost of goods as a percentage of sales of 107% to 127% primarily due to higher wages as a percentage of sales. Except for AIT, these cost of sales trends are not expected to continue. Selling, general and administrative costs increased in fiscal 1999 as compared to fiscal 1998 by $15,591 (0.5%). Lancer had an increase of $62,033 in these costs due to increased payroll and related expenses, increases in bad debt expense, and outside commissions. Biomerica had an increase in fiscal 1999 as compared to fiscal 1998 of $14,587 due primarily to increased personnel, consulting and advertising costs. On an overall basis, AIT had decreased costs of $61,029 due to lower personnel costs. -27- Research and development expense decreased in fiscal 1999 as compared to fiscal 1998 by $95,130 (17.2%). Of this, Lancer had a decrease of $23,282, as a result of decreased payroll costs partially offset by development costs of new products. Biomerica had a decrease in research and development expenses of $72,109, and AIT had an increase of $261. Interest expense, which was incurred by Lancer, decreased in fiscal 1999 as compared to fiscal 1998 by $9,753 (38.5%) due to the payoff of certain term debt in 1998. Other income increased by $140,044 (91.8%) in fiscal 1999 as compared to fiscal 1998. An increase of $560 is attributable to Lancer, and an increase of $37,654 was attributable to Biomerica. Biomerica had greater dividend and interest income due to the funds that were raised in January 1999 and greater income from sale of marketable securities. AIT had an increase of $101,830 due to a $100,000 fee paid to it for consulting services. As of May 31, 1999, Biomerica had net tax operating loss carryforwards of approximately $4,236,000 and investment tax and research and development credits of approximately $27,525, which are available to offset future federal tax liabilities. As of May 31, 1999, Lancer had net operating loss carryforwards of approximately $1,848,000 and business tax credits of approximately $173,174 available to offset future Federal tax liabilities. As of May 31, 1999, AIT had net tax operating loss carryforwards of $1,719,000 and business tax credits of approximately $29,395 to offset future Federal tax liabilities. The carryforwards expire at varying dates from 2000 to 2012. The Company's effective tax rates for fiscal 1999 and fiscal 1998 were 8% and 13%, respectively. These differ from the statutory tax rates primarily as a result of changes in the Company's valuation allowance. Liquidity and Capital Resources As of May 31, 1999, we had cash and available for sale securities of $1,794,955 (see Note 1 of Notes to Consolidated Financial Statements) and current working capital of $5,200,345. The Company and its subsidiaries are currently expected to meet their costs of their historic operations through the collection of trade accounts receivable generated by sales and its working capital position and existing available financing. The Company's Internet division will require raising a significant amount of capital to fund its planned operations until the business can support itself through its operations. During 1999, the Company used cash in operations of $358,366, primarily as a result of increased inventories. During 1998, the Company provided cash flows from operations of $430,914, primarily from increased net income at both Biomerica and Lancer. The Company used cash in investing activities of $42,286 during 1999 as a result of increased investments in capital equipment and other assets, offset by the sales of available-for-sale securities. During 1998, the Company generated cash flow from investing activities of $26,009 by selling its available-for-sale securities, offset by investments in capital equipment and other assets. The Company generated cash from investing activities of $230,282 during 1999, primarily as a result of the exercises of stock options, a decrease in shareholder receivable and an increase in its line of credit. This compares to a use of funds of $322,499 in 1998, primarily as a result of debt repayment. During fiscal 1999, Lancer's management negotiated a renewal of Lancer's line of credit through November 3, 1999. The line of credit allows for borrowing up to $1,000,000 and is limited to specified percentages of eligible accounts receivable. The unused portion available under the line of credit at May 31, 1999, was $239,000. Borrowings bear interest at prime plus .75% per annum (8.5% at May 31, 1999). -28- In May 1998, Biomerica's board of directors approved the repurchase of up to 1% of Biomerica's outstanding common stock. Such repurchase will be made from time to time on the open market subject to market pricing and conditions. Repurchases will be made out of current cash flow and all repurchased shares will be retired. Through September 10, 1999, a total of 15,450 shares had been repurchased for an aggregate purchase price of $20,976. On June 11, 1999, we sold 400,000 shares of our common stock in a private placement for $5 per share to management and an outside investor. This increased our cash position by $2,000,000 and is primarily being utilized to increase the number of personnel for our Internet division to launch our online pharmacy. We intend to make significant investments in the Internet division to complete development of and establish a market for our medication management oriented online pharmacy and ReadyScript prescription automation software. A portion of the proceeds from this offering will be used to launch our online pharmacy. We anticipate those funds will be sufficient to maintain our current and planned operations for at least the next 12 months. YEAR 2000 COMPLIANCE TO THE FULLEST EXTENT PERMITTED BY LAW, THE FOLLOWING DISCUSSION IS A "YEAR 2000 READINESS DISCLOSURE" WITHIN THE MEANING OF THE YEAR 2000 INFORMATION AND READINESS DISCLOSURE ACT 105 P.L. 271. COMPLIANCE WITH THE YEAR 2000 INFORMATION AND READINESS DISCLOSURE ACT DOES NOT PRECLUDE CLAIMS FOR VIOLATIONS OF FEDERAL SECURITIES LAWS. The Year 2000 problem is the result of computer programs being written to recognize two digits rather than four to define the applicable year. This causes computer programs to interpret a date using "00" as the year 1900 rather than the year 2000, which could result in computer failures and miscalculations. The effects of this issue will vary from system to system and may adversely affect an entity's operations and its ability to prepare financial statements. We have undertaken certain corrective actions to ensure that our hardware and software systems used to manage our business are Year 2000 compliant and will continue to function properly in the year 2000. However, there can be no assurance that Year 2000 problems will not be encountered or that the costs incurred to resolve such problems will not be material. Additionally, there can be no assurance that the Year 2000 problem will not affect the Company by causing disruptions in the business operations of persons with whom the Company does business, such as customers or suppliers. Year 2000 problems could have a material adverse effect on the Company. We currently operate a Microsoft-based LAN system upgraded in 1999. At least 90% of the workstations, the server and the accounting software have been upgraded to be year 2000 compliant in the last 12 months. Year 2000 costs to date have been immaterial and are not expected to be material in the future. The remaining stations will be replaced or updated during calendar year 1999. This will effectively eliminate any Bios-chip hardware issues. Additionally, the accounting and record-keeping software that is employed is actively supported by the developer/vendor and is in wide use. Historically we have not placed orders electronically, nor do we make disbursements to vendors or employees in that medium. However, we anticipate establishing such orders with vendors in the future. We have no way of knowing how the Year 2000 may affect our various vendors in their ability to ship products or our customers in their ability to purchase products. We believe that the Year 2000 issue will not have a material impact on our internal data record. We have conducted a vendor and service provider compliance survey to determine which of the companies we deal with are addressing the Year 2000 issue and the progress they are making on it. No responses received by our vendors and/or service providers indicate that their Year 2000 issues will adversely affect the Company. -29- However, if the necessary providers of power, communications and other such providers of important services are not fully prepared for the year 2000, the Year 2000 could have a material impact on the Company. We have no way of knowing how the Year 2000 will affect Internet functions. AIT outsources its computer needs to Biomerica. Lancer has begun the process of upgrading its hardware and software in order to obtain Year 2000 compliance in 1999 and does not anticipate incurring significant additional costs to be Year 2000 compliant. ITEM 7. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA ------------------------------------------- Exhibit 99.1, "Biomerica, Inc. and Subsidiaries Consolidated Financial Statements" is incorporated herein by this reference. ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. --------------------------------------------------------------- Inapplicable. -30- PART III ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS OF THE REGISTRANT; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ------------------------------------------------------------------- This information is incorporated by reference to the Company's proxy statement for its 1999 Annual Meeting of Stockholders which will be filed not later than 120 days after the end of the Company's fiscal year ended May 31, 1999. ITEM 10. EXECUTIVE COMPENSATION ---------------------- This information is incorporated by reference to the Company's proxy statement for its 1999 Annual Meeting of Stockholders which will be filed not later than 120 days after the end of the Company's fiscal year ended May 31, 1999. ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT -------------------------------------------------------------- This information is incorporated by reference to the Company's proxy statement for its 1999 Annual Meeting of Stockholders which will be filed not later than 120 days after the end of the Company's fiscal year ended May 31, 1999. ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS ---------------------------------------------- This information is incorporated by reference to the Company's proxy statement for its 1999 Annual Meeting of Stockholders which will be filed not later than 120 days after the end of the Company's fiscal year ended May 31, 1999. -31- ITEM 13. EXHIBITS LIST AND REPORTS ON FORM 8-K ------------------------------------- (a) EXHIBITS -------- EXHIBIT NO. DESCRIPTION 3.1 Certificate of Incorporation of Registrant filed with the Secretary of the State of Delaware on September 22, 1971 (incorporated by reference to Exhibit 3.1 filed with Amendment No. 1 to Registration Statement on Form S-1, Commission File No. 2-83308). 3.2 Certificate of Amendment to Certificate of Incorporation of Registrant filed with the Secretary of the State of Delaware on February 6, 1978 (incorporated by reference to Exhibit 3.1 filed with Amendment No. 1 to Registration Statement on Form S-1, Commission File No. 2-83308). 3.3 Certificate of Amendment to Certificate of Incorporation of Registrant filed with the Secretary of the State of Delaware on February 4, 1983 (incorporated by reference to Exhibit 3.1 filed with Amendment No. 1 to Registration Statement on Form S-1, Commission File No. 2-83308). 3.4 Certificate of Amendment to Certificate of Incorporation of Registrant filed with the Secretary of the State of Delaware on January 19, 1987 (incorporated by reference to Exhibit 3.4 filed with Form 8 Amendment No. 1 to the Registrant's Annual Report on Form 10-K for the fiscal year ended May 31, 1987). 3.5 Certificate of Amendment of Certificate of Incorporation of Registrant filed with the Secretary of the State of Delaware on November 4, 1987 (incorporated by reference to Exhibit 3.1 filed with Amendment No. 1 to Registration Statement on Form S-1, Commission File No. 2-83308). 3.6 Bylaws of the Registrant (incorporated by reference to Exhibit 3.2 filed with Amendment No. 1 to Registration Statement on Form S-1, Commission File No. 2-83308). 3.7 Certificate of Amendment of Certificate of Incorporation of Registrant filed with the Secretary of the State of Delaware on December 20, 1994 (incorporated by reference to Exhibit 3.7 filed with Registrant's Annual Report or Form 10-KSB for the fiscal year ended May 31, 1995). 4.1 Specimen Stock Certificate of Common Stock of Registrant (incorporated by reference to Exhibit 4.1 filed with Registrant's Registration Statement on Form SB-2, Commission No. 333-87231 filed on September 16, 1999). 10.1 Office lease dated June 1, 1988 between Registrant and Redington Company covering Registrant's lease of premises at 1531/1533 Monrovia Avenue, Newport Beach, California (incorporated by reference to Exhibit 10.1 filed with Registrant's Annual Report on Form 10-K for the fiscal year ended May 31, 1989). -32- 10.2 Lancer purchase agreement and warrants (incorporated by reference to Exhibit 10.10 filed with Registrant's Annual Report on Form 10-K for the fiscal year ended May 31, 1989). 10.3 1999 Stock Incentive Plan of Registrant (incorporated by reference to Exhibit B filed with Registrant's Preliminary Proxy Statement for the 1999 Annual Meeting of Stockholders on September 13, 1999.) 10.4 1995 Stock Option and Common Stock Plan of Registrant (incorporated by reference to Exhibit 4.3 to Registration Statement on Form S-8 filed with the Securities and Exchange Commission on January 20, 1996). 10.5 1991 Stock Option and Restricted Stock Plan of Registrant (incorporated by reference to Exhibit 4.1 to Registration Statement on Form S-8 filed with the Securities and Exchange Commission on April 6, 1992). 10.6 Stock Purchase Agreement by and between Biomerica, Inc., RidgeRose Capital Partners, LLC and Zackary Irani and Janet Moore dated June 11, 1999 (incorporated by reference to Exhibit 10.10 filed with Form 8-K on July 7, 1999). 10.7 Stock Purchase Agreement by and between Biomerica, Inc. and Zackary Irani and Janet Moore dated June 11, 1999 (incorporated by reference to Exhibit 10.11 filed with Form 8-K on July 7, 1999). 10.8 Back-end Processing Agreement by and between TheBigStore.com, Inc. and Biomerica, Inc. and dated June 11, 1999 (incorporated by reference to Exhibit 10.12 filed with Form 8-K on July 7, 1999). 10.9 Common Stock Purchase Warrant granted to TheBigStore.com, Inc. dated June 11, 1999 (incorporated by reference to Exhibit 10.13 filed with Form 8-K on July 7, 1999). 10.10 Common Stock Purchase Warrant granted to RJM Consulting, LLC dated June 11, 1999 (incorporated by reference to Exhibit 10.14 filed with Form 8-K on July 7, 1999). 10.11 Non-Qualified Option Agreement by and between Zackary Irani and the Company dated June 10, 1999 (incorporated by reference to Exhibit 10.15 filed with Form 8-K on July 7, 1999). 10.12 Non-Qualified Option Agreement by and between Janet Moore and the Company dated June 10, 1999 (incorporated by reference to Exhibit 10.16 filed with Form 8-K on July 7, 1999). 10.13 Non-Qualified Option Agreement by and between Philip Kaplan, M.D. and the Company dated June 10, 1999 (incorporated by reference to Exhibit 10.17 filed with Form 8-K on July 7, 1999). 10.14 Non-Qualified Option Agreement by and between Robert A. Orlando, M.D. , Ph.D. and the Company dated June 10, 1999 (incorporated by reference to Exhibit 10.18 filed Form 8-K on July 7, 1999). -33- 10.15 Strategic Marketing Agreement entered into as of the 2nd day of September, 1999 by and between TheBigHub.com, Inc., a Florida corporation and Biomerica, Inc. (incorporated by reference to Exhibit 10.16 filed with Registrant's Registration Statement on Form SB-2, Commission No. 333-87231 filed on September 16, 1999). 10.16 First Amendment to Back-End Processing Agreement entered into as of September 2, 1999 whereby TheBigStore.com, Inc., a Delaware corporation and Biomerica amend the Back-End Agreement dated June 11, 1999 (incorporated by reference to Exhibit 10.17 filed with Registrant's Registration Statement on Form SB-2, Commission No. 333-87231 filed on September 16, 1999). 10.17 Private Placement Memorandum of Biomerica, Inc. dated June 9, 1999 offering 400,000 shares of its Common Stock at $5.00 per share (incorporated by reference to Exhibit 10.18 filed with Registrant's Registration Statement on Form SB-2, Commission No. 333-87231 filed on September 16, 1999). 10.18 Employment Agreement entered into as of August 30, 1999 by and between the Internet division of Biomerica, Inc. and Steven J. Goto (incorporated by reference to Exhibit 10.19 filed with Registrant's Registration Statement on Form SB-2, Commission No. 333-87231 filed on September 16, 1999). 10.19 Employment Offer Letter dated August 12, 1999 from Biomerica, Inc. to Pete McKinley to join the Internet division of Biomerica, Inc. (incorporated by reference to Exhibit 10.20 filed with Registrant's Registration Statement on Form SB-2, Commission No. 333-87231 filed on September 16, 1999). 10.20 Employment Offer Letter dated August 12, 1999 from Biomerica, Inc. to Richard Jay, Pharm.D. to join the Internet division of Biomerica, Inc. (incorporated by reference to Exhibit 10.21 filed with Registrant's Registration Statement on Form SB-2, Commission No. 333-87231 filed on September 16, 1999). 10.21 Amendment to Lease Extension/Lease Term effective January 1, 1999, whereby Lancer Orthodontics, Inc. and L&T Corporation, a California corporation entered into an amendment and extension to the terms of that certain lease agreement dated November 4, 1993 for the premises located at 253 Pawnee Street, Suite A, San Marcos, California 92069 (incorporated by reference to Exhibit 10.22 filed with Registrant's Registration Statement on Form SB-2, Commission No. 333-87231 filed on September 16, 1999). 10.22 Sublease Agreement entered into by and between Eagleson de California S.A. de C.V. and Lancer Orthodontics, Inc. commencing on November 1, 1998 covering approximately 16,000 square feet located in the Industrial Park at Ave. Saturno No. 20 and of certain improvements constructed on the land as detailed in that certain sublease between the parties dated April 1, 1996 (incorporated by reference to Exhibit 10.23 filed with Registrant's Registration Statement on Form SB-2, Commission No. 333-87231 filed on September 16, 1999). -34- 10.23 Fifth Revision to Manufacturing Shelter Agreement effective November 1, 1998, whereby Lancer Orthodontics, Inc. and Eagleson Industries, Inc. revised and amended that certain Manufacturing Shelter Agreement entered into on May 11, 1990, revised on June 20, 1991, December 2, 1992, July 1, 1994 and April 1, 1996 (incorporated by reference to Exhibit 10.24 filed with Registrant's Registration Statement on Form SB-2, Commission No. 333-87231 filed on September 16, 1999). 10.24 Technical Skills Consulting Agreement entered into on January 1, 1999 by and between Lancer Orthodontics, Inc. and Alejandro Carnero, a non-resident alien, independent contractor and citizen of the Republic of Mexico (incorporated by reference to Exhibit 10.25 filed with Registrant's Registration Statement on Form SB-2, Commission No. 333-87231 filed on September 16, 1999). 10.25 Product Development and Marketing Agreement entered into as of August 3, 1998 by and between Lancer Orthodontics, Inc. and AG Metals, Inc., a Nevada corporation (incorporated by reference to Exhibit 10.26 filed with Registrant's Registration Statement on Form SB-2, Commission No. 333-87231 filed on September 16, 1999). 10.26 Agreement between Lancer Orthodontics, Inc. and Gary Weikel, an individual, incorporating by reference that certain Product Development and Marketing Agreement of even date between Lancer Orthodontics, Inc. and AG Metals, Inc. (incorporated by reference to Exhibit 10.27 filed with Registrant's Registration Statement on Form SB-2, Commission No. 333-87231 filed on September 16, 1999). 16.1 Letter on Change of Certifying Accountant (incorporated by reference to Exhibit A to Form 8-K filed with the Securities and Exchange Commission on May 24, 1993). 16.2 Letter on change of certifying accountant (incorporated by reference to Exhibit A to Form 10-QSB/A filed with the Securities and Exchange Commission on April 14, 1999). 21.1 Subsidiaries of Registrant (incorporated by reference to Exhibit 21.1 to Form 10-KSB filed with the Securities and Exchange Commission on September 14, 1999). 27.1 Financial Data Schedule (incorporated by reference to Exhibit 21.1 to Form 10-KSB filed with the Securities and Exchange Commission on September 14, 1999). 99.1 Biomerica, Inc. and Subsidiaries Consolidated Financial Statements For The Years Ended May 31, 1999 and 1998 and Independent Auditors' Report. (b) Reports on Form 8-K ------------------- Biomerica filed a report on Form 8-K with the Securities and Exchange Commission on July 7, 1999. -35- SIGNATURES In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. BIOMERICA, INC. Registrant By /s/ Zackary S. Irani ----------------------------- Zackary S. Irani, President Dated: 10/08/99 -------- In accordance with the Exchange Act, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated: Signature and Capacity /s/ Zackary S. Irani Date: 10/08/99 - ------------------------------------ Zackary S. Irani President, Director, Chief Executive Officer /s/ Janet Moore Date: 10/08/99 - ------------------------------------ Janet Moore, Secretary Director, Chief Financial Officer /s/ Jagdish Sandhu Date: 10/08/99 - ------------------------------------ Jagdish Sandhu Chief Operating Officer /s/ Peter W. McKinley Date: 10/08/99 - ------------------------------------ Peter W. McKinley Executive Vice President /s/ Robert Orlando Date: 10/08/99 - ------------------------------------ Robert Orlando, M.D., Ph.D. Director /s/ Carlos St. Aubyn Beharie Date: 10/08/99 - ------------------------------------ Carlos St. Aubyn Beharie Director /s/ David Burrows Date: 10/08/99 - ------------------------------------ David Burrows Director /s/ Francis R. Cano Date: 10/08/99 - ------------------------------------ Francis R. Cano Director -36- EX-99.1 2 FINANCIAL STATEMENTS BIOMERICA, INC. AND SUBSIDIARIES CONTENTS ================================================================================ REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS, BDO SEIDMAN, LLP FS-2 INDEPENDENT AUDITORS' REPORT, CORBIN & WERTZ FS-3 CONSOLIDATED FINANCIAL STATEMENTS Consolidated Balance Sheet as of May 31, 1999 FS-4 Consolidated Statements of Operations and Comprehensive (Loss) Income for the Years Ended May 31, 1999 and 1998, respectively FS-5 - FS-6 Consolidated Statements of Shareholders' Equity for the Years Ended May 31, 1999 and 1998 FS-7 - FS-8 Consolidated Statements of Cash Flows for the Years Ended May 31, 1999 and 1998 FS-9 - FS-10 Notes to Consolidated Financial Statements FS-11 - FS-41 REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS Board of Directors Biomerica, Inc. and Subsidiaries We have audited the accompanying consolidated balance sheet of Biomerica, Inc. and Subsidiaries (the "Company") as of May 31, 1999, and the related consolidated statements of operations and comprehensive loss, shareholders' equity and cash flows for the year ended May 31, 1999. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit. We conducted our audit in accordance with generally accepted auditing standards. 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 audit provides 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 Biomerica, Inc. and subsidiaries as of May 31, 1999, and the results of their operations and their cash flows for the year ended May 31, 1999, in conformity with generally accepted accounting principles. /s/ BDO Seidman, LLP BDO SEIDMAN, LLP Costa Mesa, California July 29, 1999 FS-2 INDEPENDENT AUDITORS' REPORT The Board of Directors Biomerica, Inc. and Subsidiaries We have audited the accompanying consolidated statements of operations and comprehensive income, shareholders' equity and cash flows for the year ended May 31, 1998 of Biomerica, Inc. and subsidiaries (the "Company"). These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit. We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated 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 audit provides a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated results of the operations and cash flows of Biomerica, Inc. and subsidiaries for the year ended May 31, 1998, in conformity with generally accepted accounting principles. /s/ Corbin & Wertz CORBIN & WERTZ Irvine, California July 24, 1998 FS-3 BIOMERICA, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEET ================================================================================ May 31, 1999 - -------------------------------------------------------------------------------- ASSETS CURRENT ASSETS Cash and cash equivalents $ 1,669,205 Available for-sale securities 125,750 Accounts receivable, less allowance for doubtful accounts and sales returns of $199,628 1,603,257 Inventories 3,055,095 Notes receivable 44,485 Prepaid expenses and other 296,740 - -------------------------------------------------------------------------------- Total current assets 6,794,532 - -------------------------------------------------------------------------------- INVENTORIES, non-current 25,000 - -------------------------------------------------------------------------------- LAND HELD FOR INVESTMENT 46,000 - -------------------------------------------------------------------------------- PROPERTY AND EQUIPMENT, at cost Equipment 2,446,527 Furniture, fixtures and leasehold improvements 743,626 - -------------------------------------------------------------------------------- 3,190,153 ACCUMULATED DEPRECIATION AND AMORTIZATION (2,785,614) - -------------------------------------------------------------------------------- Net property and equipment 404,539 INTANGIBLE ASSETS, net of accumulated amortization 448,667 OTHER ASSETS 130,829 - -------------------------------------------------------------------------------- $ 7,849,567 ================================================================================ BIOMERICA, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEET ================================================================================ May 31, 1999 - -------------------------------------------------------------------------------- LIABILITIES AND SHAREHOLDERS' EQUITY CURRENT LIABILITIES Line of credit $ 180,000 Accounts payable and accrued expenses 1,014,851 Accrued compensation 399,336 - -------------------------------------------------------------------------------- Total current liabilities 1,594,187 - -------------------------------------------------------------------------------- MINORITY INTERESTS 2,437,660 SHAREHOLDERS' EQUITY Common stock, $.08 par value; 10,000,000 shares authorized; 4,110,445 shares issued and outstanding 328,835 Additional paid in capital 12,703,339 Accumulated other comprehensive loss (8,779) Shareholder loan (1,000) Accumulated deficit (9,204,675) - -------------------------------------------------------------------------------- Total shareholders' equity 3,817,720 - -------------------------------------------------------------------------------- $ 7,849,567 ================================================================================ See accompanying notes to consolidated financial statements. FS-4 BIOMERICA, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE (LOSS) INCOME ================================================================================ Years Ended May 31, 1999 1998 - -------------------------------------------------------------------------------- NET SALES $ 8,688,106 $ 9,376,498 Cost of sales 5,416,720 5,484,046 - -------------------------------------------------------------------------------- GROSS PROFIT 3,271,386 3,892,452 - -------------------------------------------------------------------------------- OPERATING EXPENSES Selling, general and administrative 3,123,740 3,108,149 Research and development 458,610 553,740 - -------------------------------------------------------------------------------- Total operating expenses 3,582,350 3,661,889 - -------------------------------------------------------------------------------- OPERATING (LOSS) PROFIT (310,964) 230,563 OTHER INCOME (EXPENSE) Interest expense (15,607) (25,360) Other income 292,667 152,623 - -------------------------------------------------------------------------------- (LOSS) INCOME, before minority interest in net profits of consolidated subsidiaries and income taxes (33,904) 357,826 MINORITY INTEREST IN NET PROFITS OF CONSOLIDATED SUBSIDIARIES (33,240) (196,169) - -------------------------------------------------------------------------------- (LOSS) INCOME, before income taxes (67,144) 161,657 INCOME TAX EXPENSE 5,404 20,225 - -------------------------------------------------------------------------------- NET (LOSS) INCOME (72,548) 141,432 - -------------------------------------------------------------------------------- FS-5 BIOMERICA, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE (LOSS) INCOME ================================================================================ Years Ended May 31, 1999 1998 - -------------------------------------------------------------------------------- OTHER COMPREHENSIVE LOSS, net of tax Unrealized loss on available-for-sale securities (66,681) (40,022) - -------------------------------------------------------------------------------- COMPREHENSIVE (LOSS) INCOME $ (139,229) $ 101,410 ================================================================================ PER SHARE DATA: Net (loss) income (basic) $ (0.02) $ 0.04 Net (loss) income (diluted) $ (0.02) $ 0.03 ================================================================================ WEIGHTED AVERAGE NUMBER OF COMMON AND COMMON EQUIVALENT SHARES Basic 4,001,755 3,951,552 ================================================================================ Diluted 4,001,755 4,061,235 ================================================================================ See accompanying notes to consolidated financial statements. FS-6
BIOMERICA, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY ================================================================================================================================== Common Stock Additional Accumulated Other --------------------- Paid-in Comprehensive Shareholder Accumulated Shares Amount Capital Income (Loss) Loan Deficit Total - ---------------------------------------------------------------------------------------------------------------------------------- Balance at June 1, 1997 3,889,802 $ 311,184 $ 12,429,673 $ 97,924 $ - $ (9,273,559) $ 3,565,222 Change in unrealized gain on available-for-sale securities - - - (40,022) - - (40,022) Exercise of stock options 93,500 7,480 73,070 - (71,000) - 9,550 Stock repurchase (5,000) (400) (8,261) - - - (8,661) Offering expenses - - (4,771) - - - (4,771) Compensation expense - - 10,471 - - - 10,471 Tax benefit from exercise of stock options - - 12,818 - - - 12,818 Net income - - - - - 141,432 141,432 - ---------------------------------------------------------------------------------------------------------------------------------- Balance, May 31, 1998 3,978,302 318,264 12,513,000 57,902 (71,000) (9,132,127) 3,686,039 FS-7 BIOMERICA, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY - CONTINUED ================================================================================================================================== Common Stock Additional Accumulated Other --------------------- Paid-in Comprehensive Shareholder Accumulated Shares Amount Capital Income (Loss) Loan Deficit Total - ---------------------------------------------------------------------------------------------------------------------------------- Change in unrealized gain (loss) on available-for- sale securities - - - (66,681) - - (66,681) Payment received on shareholder loan - - - - 70,000 - 70,000 Exercise of stock options 115,800 9,264 144,602 - - - 153,866 Stock repurchase (15,450) (1,236) (19,340) - - - (20,576) Common stock issued in satisfaction of payables 31,793 2,543 35,457 - - - 38,000 Compensation expense - - 4,581 - - - 4,581 Tax benefit from exercise of stock options - - 25,039 - - - 25,039 Net loss - - - - - (72,548) (72,548) - ---------------------------------------------------------------------------------------------------------------------------------- Balance, May 31, 1999 4,110,445 $ 328,835 $ 12,703,339 $ (8,779) $ (1,000) $ (9,204,675) $ 3,817,720 ================================================================================================================================== See accompanying notes to consolidated financial statements.
FS-8
BIOMERICA, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS ============================================================================================ For the Years Ended May 31, 1999 1998 - -------------------------------------------------------------------------------------------- CASH FLOWS FROM OPERATING ACTIVITIES Net (loss) income $ (72,548) $ 141,432 Adjustments to reconcile net (loss) income to net cash (used in) provided by operating activities: Depreciation and amortization 250,596 248,933 Provision for losses on accounts receivable 55,569 6,649 Loss on disposal of assets 2,309 7,763 Realized gain on sale of available-for-sale securities (111,885) (66,339) Options issued for services rendered 4,581 10,471 Common stock issued for rent 38,000 - Minority interest in net profits of consolidated subsidiaries 33,240 196,169 Changes in current liabilities and assets Accounts receivable (52,138) (157,690) Inventories (521,543) (91,503) Prepaid expenses and other (147,204) 4,662 Accounts payable and other accrued liabilities 208,367 153,109 Accrued compensation (45,710) (22,742) - -------------------------------------------------------------------------------------------- Net cash (used in) provided by operating activities (358,366) 430,914 - -------------------------------------------------------------------------------------------- CASH FLOWS FROM INVESTING ACTIVITIES Sales of available-for-sale securities 254,313 205,835 Increase in notes receivable (16,000) (18,900) Purchases of property and equipment (100,824) (110,428) Increase in intangible assets (73,860) (42,358) Other assets (106,915) (8,140) - -------------------------------------------------------------------------------------------- Net cash (used in) provided by investing activities (43,286) 26,009 - -------------------------------------------------------------------------------------------- CASH FLOWS FROM FINANCING ACTIVITIES Net repayments of short-term borrowings and note payable to bank - (200,000) Payments of long-term debt and capital lease obligations - (15,848) Net increase (repayments) under line of credit agreement 80,000 (100,000) Repurchase by minority interests (53,008) (2,769) Decrease in shareholder receivable 70,000 - Exercise of stock options 153,866 9,550 Offering expenses - (4,771) Stock repurchase (20,576) (8,661) - -------------------------------------------------------------------------------------------- Net cash provided by (used in) financing activities 230,282 (322,499) - --------------------------------------------------------------------------------------------
FS-9
BIOMERICA, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS ======================================================================================= For the Years Ended May 31, 1999 1998 - --------------------------------------------------------------------------------------- Net change in cash and cash equivalents (171,370) 134,424 CASH AND CASH EQUIVALENTS, beginning of year 1,840,575 1,706,151 - --------------------------------------------------------------------------------------- CASH AND CASH EQUIVALENTS, end of year $ 1,669,205 $ 1,840,575 ======================================================================================= SUPPLEMENTAL DISCLOSURE OF CASH-FLOW INFORMATION CASH PAID DURING THE YEAR FOR: Interest $ 15,607 $ 25,761 ======================================================================================= Income taxes $ 2,400 $ 2,840 ======================================================================================= SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES Change in unrealized holding gain on available-for-sale securities $ (66,681) $ (40,022) ======================================================================================= Reduction in taxes payable and increase in additional paid-in capital for exercise of non-qualified stock options $ 25,039 $ 12,818 ======================================================================================= See accompanying notes to consolidated financial statements.
FS-10 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 1. ORGANIZATION Biomerica, Inc. and subsidiaries (collectively "the Company") are primarily engaged in the development, manufacture and marketing of medical diagnostic kits, the design, manufacture and distribution of various orthodontic products, and the performance of specialized diagnostic testing services. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION The consolidated financial statements for the years ended May 31, 1999 and 1998 (see Note 3) include the accounts of Biomerica, Inc. ("Biomerica"), Lancer Orthodontics, Inc. ("Lancer") and Allergy Immuno Technologies, Inc. ("AIT"). All significant intercompany accounts and transactions have been eliminated in consolidation. ACCOUNTING ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reported period. Actual results could materially differ from those estimates. FAIR VALUE OF FINANCIAL INSTRUMENTS The Company has financial instruments whereby the fair market value of the financial instruments could be different than that recorded on a historical basis. The Company's financial instruments consist of its cash and cash equivalents, accounts receivable, notes receivable, line of credit and accounts payable. The carrying amounts of the Company's financial instruments approximate their fair values at May 31, 1999. FS-11 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) CONCENTRATION OF CREDIT RISK The Company, on occasion, maintains cash balances at certain financial institutions in excess of amounts insured by federal agencies. The Company provides credit in the normal course of business to customers throughout the United States and foreign markets. The Company's sales are not materially dependent on a single customer or a small group of customers. The Company performs ongoing credit evaluations of its customers. The Company does not obtain collateral with which to secure its accounts receivable. The Company maintains reserves for potential credit losses based upon the Company's historical experience related to credit losses. At May 31, 1999 one customer accounted for approximately 14% of accounts receivable. CASH EQUIVALENTS Cash and cash equivalents consists of demand deposits, money market accounts and mutual funds with remaining maturities of three months or less when purchased. FS-12 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) AVAILABLE-FOR-SALE SECURITIES The Company accounts for investments in accordance with Statement of Financial Accounting Standards No. 115 (SFAS 115), "ACCOUNTING FOR CERTAIN INVESTMENTS IN DEBT AND EQUITY SECURITIES." This statement addresses the accounting and reporting for investments in equity securities which have readily determinable fair values and all investments in debt securities. The Company's marketable equity securities are classified as available-for-sale under SFAS 115 and reported at fair value, with changes in the unrealized holding gain or loss included in shareholders' equity. Available-for-sale securities consist of common stock of unrelated publicly-traded companies and are stated at market value in accordance with SFAS 115. Cost for purposes of computing realized gains and losses is computed on a specific identification basis. The proceeds from the sale of available-for-sale securities during fiscal 1999 and 1998 totaled $254,313 and $205,835, respectively (see Note 8). The change in the net unrealized holding (loss) gain on available-for-sale securities that has been included as a separate component of shareholders' equity totaled $(66,681) and $(40,022) for the years ended May 31, 1999 and 1998, respectively. INVENTORIES Inventories are stated at the lower of cost (first-in, first-out method) or market and consist primarily of orthodontic products and biological chemicals. Cost includes raw materials, labor, manufacturing overhead and purchased products. Market is determined by comparison with recent purchases or net realizable value. Such net realizable value is based on forecasts for sales of the Company's products in the ensuing years. The industries in which the Company operates are characterized by technological advancement and change. Should demand for the Company's products prove to be significantly less than anticipated, the ultimate realizable value of the Company's inventories could be substantially less than the amount shown on the accompanying consolidated balance sheet. FS-13 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Inventories consist of the following: May 31, 1999 -------------------------------------------------------------- Raw materials $ 746,386 Work in progress 500,805 Finished products 1,807,904 -------------------------------------------------------------- $ 3,055,095 ============================================================== Approximately $1,649,126 of Lancer's inventory is located at its manufacturing facility in Mexico as of May 31, 1999. LAND HELD FOR INVESTMENT Land held for investment consists of a parcel of land located in the state of Utah, and is stated at the lower of cost or fair value less costs to sell. PROPERTY AND EQUIPMENT Property and equipment are stated at cost. Expenditures for additions and major improvements are capitalized. Repairs and maintenance costs are charged to operations as incurred. When property and equipment are retired or otherwise disposed of, the related cost and accumulated depreciation are removed from the accounts, and gains or losses from retirements and dispositions are credited or charged to income. FS-14 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Depreciation and amortization are provided over the estimated useful lives of the related assets, ranging from 3 to 12 years, using straight-line and declining-balance methods. Leasehold improvements are amortized over the lesser of the estimated useful life of the asset or the term of the lease. Depreciation expense amounted to $170,803 and $174,392 for the years ended May 31, 1999 and 1998, respectively. Approximately $120,000 of property and equipment, net of accumulated depreciation and amortization, is located at Lancer's manufacturing facility in Mexico. Management of the Company assesses the recoverability of property and equipment by determining whether the depreciation and amortization of such assets over their remaining lives can be recovered through projected undiscounted cash flows. The amount of impairment, if any, is measured based on fair value (projected discounted cash flows) and is charged to operations in the period in which such impairment is determined by management. Management has determined that there is no impairment of property and equipment at May 31, 1999. INTANGIBLE ASSETS Intangible assets are being amortized using the straight-line method over 18 years for marketing and distribution rights and purchased technology use rights, and over 17 years for patents. Marketing and distribution rights include repurchased sales territories. Technology use rights consists of the 1985 purchase (the "Purchase") by Lancer of the manufacturing assets and technology of Titan Research Associates, Ltd. ("Titan"). Prior to the Purchase, certain former officers of Lancer and shareholders of Lancer owned 29% of Titan. Prior to the Purchase, the Company paid royalties ranging from 15% to 20% of gross sales, as defined, to license such technology. Amortization amounted to $79,793 and $74,541 for the years ended May 31, 1999 and 1998, respectively (see Note 4). FS-15 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) The Company assesses the recoverability of these intangible assets by determining whether the amortization of the asset's balance over its remaining life can be recovered through projected undiscounted future cash flows. The amount of impairment, if any, is measured based on fair value and charged to operations in the period in which the impairment is determined by management. Management has determined that there was no impairment of intangible assets as of May 31, 1999. RISKS AND UNCERTAINTIES LICENSES - Certain of the Company's sales of products are governed by license agreements with outside third parties. All of such license agreements to which the Company currently is a party are for fixed terms which will expire after ten years or upon the expiration of the underlying patents. After the expiration of the agreements or the patents, the Company is free to use the technology that had been licensed. There can be no assurance that the Company will be able to obtain future license agreements as deemed necessary by management. The loss of some of the current licenses or the inability to obtain future licenses could have an adverse affect on the Company's financial position and operations. Historically, the Company has successfully obtained all the licenses it believed necessary to conduct its business. GOVERNMENT REGULATION - Biomerica's immunodiagnostic products are regulated in the United States as medical devices primarily by the FDA and as such, require regulatory clearance or approval prior to commercialization in the United States. Pursuant to the Federal Food, Drug and Cosmetic Act, and the regulations promulgated thereunder, the FDA regulates, among other things, the clinical testing, manufacture, labeling, promotion, distribution, sale and use of medical devices in the United States. Failure of Biomerica to comply with applicable regulatory requirements can result in, among other things, warning letters, fines, injunctions, civil penalties, recall or seizure of products, total or partial suspension of production, the government's refusal to grant premarket clearance or premarket approval of devices, withdrawal of marketing approvals, and criminal prosecution. FS-16 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Sales of medical devices outside the United States are subject to foreign regulatory requirements that vary widely from country to country. The time required to obtain registrations or approvals required by foreign countries may be longer or shorter than that required for FDA clearance or approval, and requirements for licensing may differ significantly from FDA requirements. There can be no assurance that Biomerica will be able to obtain regulatory clearances for its current or any future products in the United States or in foreign markets. Lancer's products are subject to regulation by the FDA under the Medical Device Amendments of 1976 (the "Amendments"). Lancer has registered with the FDA as required by the Amendments. There can be no assurance that Lancer will be able to obtain regulatory clearances for its current or any future products in the United States or in foreign markets. RISK OF PRODUCT LIABILITY - Testing, manufacturing and marketing of Biomerica's products entail risk of product liability. Biomerica currently has product liability insurance. There can be no assurance, however, that Biomerica will be able to maintain such insurance at a reasonable cost or in sufficient amounts to protect Biomerica against losses due to product liability. An inability could prevent or inhibit the commercialization of Biomerica's products. In addition, a product liability claim or recall could have a material adverse effect on the business or financial condition of the Company. Lancer is subject to the same risks of product liability. Lancer currently has product liability insurance. Lancer also is subject to the risk of loss of its product liability insurance and the consequent exposure to liability. FS-17 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) HAZARDOUS MATERIALS - Biomerica's research and development involves the controlled use of hazardous materials and chemicals. Although Biomerica believes that safety procedures for handling and disposing of such materials comply with the standards prescribed by state and Federal regulations, the risk of accidental contamination or injury from these materials cannot be completely eliminated. In the event of such an accident, the Company could be held liable for any damages that result and any such liability could exceed the resources of the Company. The Company may incur substantial costs to comply with environmental regulations. STOCK-BASED COMPENSATION During 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 123 ("SFAS 123"), "ACCOUNTING FOR STOCK-BASED COMPENSATION," which defines a fair value based method of accounting for stock-based compensation. However, SFAS 123 allows an entity to continue to measure compensation cost related to stock and stock options issued to employees using the intrinsic method of accounting prescribed by Accounting Principles Board Opinion No. 25 ("APB 25"), "ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES." Entities electing to remain with the accounting method of APB 25 must make pro forma disclosures of net (loss) income and (loss) earnings per share, as if the fair value method of accounting defined in SFAS 123 had been applied (see Note 6). The Company has elected to account for its stock-based compensation to employees under APB 25. MINORITY INTEREST Minority interest represents the minority shareholders' proportionate share of the equity of Lancer and AIT. At May 31, 1999, Biomerica owned 30.76% of Lancer (see Note 3) and 74.6% of AIT (see Note 3). FS-18 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Minority interest of Lancer includes $185,242, represented by 370,483 shares of Series D redeemable convertible preferred stock. Each share of Series D preferred stock is entitled to a $.04 non- cumulative dividend and is convertible at the option of the holder into common stock at the rate of seven shares of preferred stock for one share of common stock of Lancer. Lancer, at its option, can redeem outstanding shares of the preferred stock for $.50 per share after December 31, 1994. There were no dividends declared or paid in 1999 or 1998. REVENUE RECOGNITION Revenues from product sales are recognized at the time the product is shipped. Revenues from specialized diagnostic testing services are recognized when the related services are performed. INCOME TAXES The Company accounts for income taxes in accordance with Statement of Financial Accounting Standards No. 109, "ACCOUNTING FOR INCOME TAXES." Under the asset and liability method of Statement No. 109, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Under Statement No. 109, the effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is provided for certain deferred tax assets if it is more likely than not that the Company will not realize tax assets through future operations. FS-19 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Biomerica, Lancer and AIT file separate income tax returns for Federal and state income tax purposes. ADVERTISING COSTS The Company reports the cost of all advertising as expense in the period in which those costs are incurred. Advertising costs were approximately $105,000 and $77,000 for the years ended May 31, 1999 and 1998, respectively. (LOSS) EARNINGS PER SHARE In February 1997, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 128 ("SFAS 128"), "EARNINGS PER SHARE" ("EPS"). SFAS 128 requires dual presentation of basic EPS and diluted EPS on the face of all income statements issued after December 15, 1997 for all entities with complex capital structures. Basic EPS is computed as net (loss) income divided by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur from common shares issuable through stock options, warrants and other convertible securities. RECLASSIFICATIONS Certain amounts in the 1998 consolidated financial statements have been reclassified to conform to the 1999 presentation. FS-20 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) The following table illustrates the required disclosure of the reconciliation of the numerators and denominators of the basic and diluted EPS computations. FOR THE YEAR ENDED MAY 31, 1999 ---------------------------------------- Loss Shares Per Share (Numerator) (Denominator) Amount -------------------------------------------------------------- BASIC EPS - Loss available to common shareholders $ (72,548) 4,001,755 $ (0.02) ============================================================== EFFECT OF DILUTIVE SECURITIES - Options - - -------------------------------------------------------------- DILUTED EPS - Loss available to common shareholders plus assumed conversions $ (72,548) 4,001,755 $ (0.02) ============================================================== As of May 31, 1999, there was a total of 454,050 potential dilutive shares of common stock. FS-21 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) FOR THE YEAR ENDED MAY 31, 1999 ------------------------------------------ Loss Shares Per Share (Numerator) (Denominator) Amount -------------------------------------------------------------- BASIC EPS - Income available to common shareholders $ 141,432 3,951,552 $ 0.04 ============================================================== EFFECT OF DILUTIVE SECURITIES - Options - 109,683 -------------------------------------------------------------- DILUTED EPS - Income available to common shareholders plus assumed conversions $ 141,432 4,061,235 $ 0.03 ============================================================== SEGMENT REPORTING The Financial Accounting Standards Board has issued Statement of Financial Accounting Standards No. 131 "DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION" ("SFAS 131"). SFAS 131 requires public companies to report information about segments of their business in their annual financial statements and requires them to report selected segment information in their quarterly reports issued to shareholders. It also requires entity-wide disclosures about the product, services an entity provides, the material countries in which it holds assets and reports revenues, and its major customers. The Company adopted the provisions of this statement for 1999 annual reporting. These disclosure requirements had no impact on the Company's financial position or results of operations, or the Company's existing segment disclosures. FS-22 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) REPORTING COMPREHENSIVE INCOME In June 1997, the FASB issued Statement of Financial Accounting Standards ("SFAS") No. 130, "REPORTING COMPREHENSIVE INCOME." This statement establishes standards for reporting the components of comprehensive income and requires that all items that are required to be recognized under accounting standards as components of comprehensive income be included in a financial statement that is displayed with the same prominence as other financial statements. Comprehensive income includes net income as well as certain items that are reported directly within a separate component of stockholders' equity. The Company adopted the provisions of this statement in 1998. 3. CONSOLIDATED SUBSIDIARIES Lancer is engaged in the design, manufacture and distribution of orthodontic products. During 1998, Lancer repurchased 5,000 shares of its common stock for aggregate consideration of $5,220. During 1999, Lancer issued 10,625 shares of its common stock to Biomerica for certain management and consulting services valued at $8,500. During 1999, Lancer repurchased 25,372 shares of its common stock for aggregate consideration of $25,950. The result of these transactions increased Biomerica's direct ownership percentage of Lancer to 30.76% and increased its direct and indirect (via agreements with certain shareholders) voting control over Lancer to 51.32% as of May 31, 1999. Biomerica's direct ownership percentage of Lancer was 29.9% and indirect voting control over Lancer was 50.34% as of May 31, 1998. During fiscal 1994, Biomerica received warrants to purchase 72,619 shares of Lancer's common stock at $.25 per share and options to purchase 20,000 shares of Lancer's common stock at $.28 per share. Both the options and warrants expired in April 1998. FS-23 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 3. CONSOLIDATED SUBSIDIARIES (CONTINUED) AIT provides immune allergy testing and products to physicians and medical institutions. During 1998, 1,916,429 shares of AIT were subscribed to Biomerica in exchange for debt (see Note 6) and 35,000 shares of AIT were issued to two AIT employees. The net effect of these issues increased Biomerica's interest in AIT to 74.6%. Operating results for Lancer and AIT in the aggregate for the years ended May 31, 1999 and 1998, which are included in the consolidated operating results of the Company, are as follows: 1999 1998 -------------------------------------------------------------- Net sales $ 6,229,847 $ 6,293,254 Cost of sales 3,868,141 3,734,537 -------------------------------------------------------------- Gross profit 2,361,706 2,558,717 ------------------------------------------------------------- Operating expenses: Selling, general and administrative 2,206,839 2,218,890 Research and development 178,393 188,359 ------------------------------------------------------------- Total operating expenses 2,385,232 2,407,249 ------------------------------------------------------------- Other income (expense): Interest expense (15,607) (25,360) Other income, net 104,329 1,943 ------------------------------------------------------------- 88,722 (23,417) ------------------------------------------------------------- Income before income taxes 65,196 128,051 Income tax expense 5,404 1,600 ------------------------------------------------------------- Net income $ 59,792 $ 126,451 ============================================================== FS-24 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 4. INTANGIBLE ASSETS Intangible assets, net of accumulated amortization, consist of the following: May 31, 1999 ------------------------------------------------------------- Marketing and distribution rights $ 442,750 Technology use rights 858,328 Patents and other 152,080 ------------------------------------------------------------- 1,453,158 Less accumulated amortization (1,004,491) ------------------------------------------------------------- $ 448,667 ============================================================== Included in marketing and distribution rights are repurchased sales territories by Lancer which are being amortized over the estimated useful life of eighteen years. In each of the fiscal years 1999 and 1998, the Company recorded amortization expense of $24,900 related to repurchased sales territories. During fiscal 1985, Lancer purchased certain assets and technology which is being amortized over the estimated useful life of eighteen years. Lancer recorded amortization expense of $48,696 for each of the years ended May 31, 1999 and 1998 related to these assets. Amortization expense related to patents and other which is included in the accompanying consolidated statements of operations amounted to $6,197 and $945 for the years ended May 31, 1999 and 1998, respectively. FS-25 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 5. LINE OF CREDIT At May 31, 1999, Lancer had a $1,000,000 line of credit with a bank. Borrowings are made at prime plus .75% (8.5% at May 31, 1999) and are limited to specified percentages of eligible accounts receivable. The unused portion available to Lancer under the line of credit at May 31, 1999 was $239,213. The line of credit expires on November 3, 1999. As of May 31, 1999, there was $180,000 outstanding under the line of credit. Lancer was in compliance with its bank covenants as of May 31, 1999. The following summarizes information on short-term borrowings for the year ended May 31, 1999: May 31, 1999 ------------------------------------------------------------- Average month end balance $ 173,333 Maximum balance outstanding at any month end $ 200,000 Weighted average interest rate (computed by dividing interest expense by average monthly balance) 9.0% Interest rate at year end 8.5% ============================================================== 6. SHAREHOLDERS' EQUITY SHAREHOLDER LOAN During fiscal 1998, the estate of the chief executive officer exercised a stock option to purchase 25,000 common shares at $0.80 per share and 60,000 common shares at $0.85 per share for a total of $71,000 via a shareholder loan. During 1999, $70,000 of the shareholder loan was repaid. The unpaid balance has been reflected as a shareholder loan in the accompanying consolidated financial statements. The loan is interest free and is due on demand. The loan is secured by the unpaid compensation due to the estate (see Note 10) which is also non-interest bearing. FS-26 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 6. SHAREHOLDERS' EQUITY (CONTINUED) 1995 AND 1991 STOCK OPTION AND RESTRICTED STOCK PLANS In December 1991, the Company adopted a stock option and restricted stock plan (the "1991 Plan") which provides that non- qualified options and incentive stock options and restricted stock covering an aggregate of 350,000 of the Company's unissued common stock may be granted to officers, employees or consultants of the Company. Options granted under the 1991 Plan may be granted at prices not less than 85% of the then fair market value of the common stock, vest at not less than 20% per year and expire not more than 10 years after the date of grant. In January 1996, the Company adopted a stock option and restricted stock plan (the "1995 Plan") which provides that non- qualified options and incentive stock options and restricted stock covering an aggregate of 500,000 of the Company's unissued common stock may be granted to affiliates, employees or consultants of the Company. Options granted under the 1995 Plan may be granted at prices not less than 85% of the then fair market value of the common stock and expire not more than 10 years after the date of grant. During 1997, the Company granted options to purchase 72,000 and 45,000 shares of common stock at exercise prices of $1.90 and $1.92 per share, respectively, to various employees of the Company. The options vest over a period ranging from four to five years. During 1997, the Company granted options to purchase 18,000 and 5,000 shares of common stock at exercise prices of $1.90 and $3.00 per share respectively, to various consultants of the Company. Management recorded $10,471 during the year ended May 31, 1998 of expense related to the granting of these options. During 1998, the Company granted options to purchase 152,500 shares at an exercise price of $1.85 to employees and a total of 1,500 shares to non-employees, at an exercise price of $1.91. Management elected not to record any compensation expense related to the options issued to nonemployees, as such was immaterial. FS-27 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 6. SHAREHOLDERS' EQUITY (CONTINUED) During 1999, the Company granted options to purchase 2,000, 179,850 and 27,900 shares of its common stock at an exercise prices of $0.90, $0.86 and $0.85, respectively, to employees and 2,000 and 7,000 shares to non-employees, at exercise prices of $0.90 and $0.86, respectively. The Company recorded $4,581 in compensation expense related to the options issued to non- employees, calculated using the Black Scholes option model. Activity as to stock options under the 1991 and 1995 plans are as follows: Weighted Number Average of Stock Price Range Exercise Options Per Share Price -------------------------------------------------------------- Options outstanding at June 1, 1997 332,600 $ .80 - $3.00 $ 1.48 Options granted 154,000 $1.85 - $1.91 $ 1.83 Options exercised (93,500) $ .85 - $1.90 $ .86 Options canceled or expired (36,750) $1.90 - $3.00 $ 2.56 -------------------------------------------------------------- Options outstanding at May 31, 1998 356,350 $ .80 - $3.00 $ 1.69 Options granted 218,750 $ .85 - $ .90 $ .86 Options exercised (115,800) $ .80 - $3.00 $ 1.33 Options canceled or expired (5,250) $ .85 - $1.85 $ 1.80 -------------------------------------------------------------- Options outstanding at May 31, 1999 454,050 $ .80 - $3.00 $ 1.38 ============================================================== Options exercisable at May 31, 1999 237,749 $ .80 - $3.00 $ 1.38 ============================================================== The weighted average fair value of options granted during 1999 and 1998 was $0.68 and $1.18, respectively. FS-28 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 6. SHAREHOLDERS' EQUITY (CONTINUED) The following summarizes information about the Company's stock options outstanding at May 31, 1999:
Weighted Number Average Weighted Number Weighted Range of Outstanding Remaining Average Exercisable Average Exercise May 31, Contractual Exercise at May 31, Exercise Prices 1999 Life Price 1999 Price ------------------------------------------------------------------------- $ .80 - $.90 224,300 4.20 $ .85 116,174 $ .84 $1.85 - $1.92 227,000 3.25 $ 1.88 120,075 $ 1.88 $ 3.00 2,750 2.13 $ 3.00 1,500 $ 3.00 =========================================================================
SFAS 123 PRO FORMA INFORMATION Pro forma information regarding net (loss) income and (loss) earnings per share is required by SFAS 123, and has been determined as if the Company had accounted for its employee stock options under the fair value method of SFAS 123. The fair value for these options was estimated at the date of grant using the Black Scholes option pricing model with the following assumptions for the years ended May 31, 1999 and 1998; risk free interest rates of 4.9% and 5.74%, respectively; dividend yield of 0%; expected life of the options of 3 years; and volatility factors of the expected market price of the Company's common stock of 112% and 73%, respectively. The Black Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. FS-29 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 6. SHAREHOLDERS' EQUITY (CONTINUED) For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the option vesting period. Adjustments are made for options forfeited prior to vesting. The effect on compensation expense, net (loss) income, and net (loss) income per share (basic and diluted) had compensation costs for the Company's stock option plans been determined based on fair value on the date of grant consistent with the provisions of SFAS 123 are as follows: May 31, 1999 1998 -------------------------------------------------------------- Net (loss) income, as reported $ (72,548) $ 141,432 Adjustment to compensation expense under SFAS 123 (213,436) (24,688) -------------------------------------------------------------- Net (loss) income, pro forma $ (285,984) $ 116,744 ============================================================== Pro forma net (loss) income per share - basic $ (0.07) $ 0.03 ============================================================== Pro forma net (loss) income per share - diluted $ (0.07) $ 0.03 ============================================================== STOCK ACTIVITY During 1998, the Company incurred an additional $4,771 of offering costs related to a 1997 stock issuance. During 1999, the Company repurchased 15,540 shares of its common stock at an aggregate cost of $20,576. During 1999, the Company issued 31,793 shares of its common stock valued at $38,000 in satisfaction of accrued rent. FS-30 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 6. SHAREHOLDERS' EQUITY (CONTINUED) SUBSIDIARY OPTIONS AND WARRANTS During fiscal 1998, AIT granted options to purchase 1,185,000 shares of common stock to various employees and directors of AIT, including an option to purchase 250,000 shares granted to Biomerica, Inc., the parent company. The exercise price will be the fair market value AIT's common stock on the date when certain conditions are met, as defined. The options will vest 50% per year and expire over five years. During 1998, intercompany advances outstanding of $134,150 were retired by the Company, in exchange for 1,916,429 shares of AIT's previously unissued common stock. During 1999, Lancer granted options to purchase 138,500 shares of its common stock at an exercise price of $1.00 to employees and options to purchase 29,000 shares of its common stock to non- employees, at an exercise price of $1.00. 7. INCOME TAXES Income tax expense for the years ended May 31, 1999 and 1998 consists of the following current provisions: May 31, 1999 1998 ------------------------------------------------------------- U.S. Federal $ - $ - State and local 5,404 20,225 ------------------------------------------------------------- $ 5,404 $ 20,225 ============================================================== FS-31 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 7. INCOME TAXES (CONTINUED) Income tax expense differs from the amounts computed by applying the U.S. Federal income tax rate of 34 percent to pretax (loss) income as a result of the following: May 31, 1999 1998 -------------------------------------------------------------- Computed "expected" tax (benefit) expense $ (22,829) $ 54,963 Increase (reduction) in income taxes resulting from: Meals and entertainment 9,945 4,864 Change in net operating loss carryforwards 22,829 (54,963) Other, net (917) 18,840 Equity in earnings of affiliates not subject to taxation because of dividends- received deduction for tax purposes (9,028) (23,704) State income taxes 5,404 20,225 -------------------------------------------------------------- $ 5,404 $ 20,225 ============================================================== FS-32 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 7. INCOME TAXES (CONTINUED) The tax effect of temporary differences that give rise to significant portions of liabilities are presented below. May 31, 1999 -------------------------------------------------------------- Deferred tax assets: Accounts receivable, principally due to allowance for doubtful accounts and sales returns $ 79,898 Inventories, principally due to additional costs inventoried for tax purposes pursuant to the Tax Reform Act of 1986 and allowance for inventory obsolescence 116,632 Compensated absences and deferred payroll, principally due to accrual for financial reporting purposes 141,985 State net operating loss carryforwards 19,643 Federal net operating loss carryforwards 2,653,495 Tax credit carryforwards 230,094 Investment in affiliates 396,748 ------------------------------------------------------------- 3,638,495 Less valuation allowance (3,584,545) ------------------------------------------------------------- Net deferred tax asset 53,950 Deferred tax liability: Marketing rights, principally due to amortization (53,950) Net deferred tax liability $ - ============================================================= FS-33 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 7. INCOME TAXES (CONTINUED) The Company has provided a valuation allowance with respect to substantially all of its deferred tax assets as of May 31, 1999 and 1998. Management provided such allowance as it is currently more likely than not that tax-planning strategies will not generate taxable income sufficient to realize such assets in foreseeable future reporting periods. As of May 31, 1999, Biomerica had net tax operating loss carryforwards of approximately $4,236,000 and investment tax and research and development credits of approximately $27,525, which are available to offset future Federal tax liabilities. The carryforwards expire at varying dates from 2000 to 2012. As of May 31, 1999, Lancer had net tax operating loss carryforwards of approximately $1,848,000 and business tax credits of approximately $173,174 available to offset future Federal tax liabilities. The carryforwards expire at varying dates from 2000 to 2012. As of May 31, 1999, AIT had net tax operating loss carryforwards of approximately $1,719,000 and business tax credits of approximately $29,395 available to offset future Federal tax liabilities. The carryforwards expire at varying dates from 2000 to 2012. AIT also had net tax operating loss carryforwards of approximately $337,000 to offset future California taxable income, expiring at varying dates between 1997 and 2001. The Tax Reform Act of 1986 includes provisions which limit the Federal net operating loss carryforwards available for use in any given year if certain events, including a significant change in stock ownership, occur. FS-34 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 8. OTHER INCOME Other income consists of the following for the years ending May 31: May 31, 1999 1998 ------------------------------------------------------------- Realized gains on available-for- sale securities $ 111,885 $ 66,339 Dividend and interest income 76,453 84,341 Consulting 100,000 - Other 4,329 1,943 ------------------------------------------------------------- $ 292,667 $ 152,623 ============================================================= During 1999, AIT earned $100,000 as a non-recurring consulting fee from an unrelated entity. 9. BUSINESS SEGMENTS Reportable business segments for the years ended May 31, 1999 and 1998 are as follows: 1999 1998 ------------------------------------------------------------- Domestic sales: Orthodontic products $ 3,413,000 $ 3,456,000 ============================================================= Medical diagnostic products $ 868,000 $ 1,585,000 ============================================================= Foreign sales: Orthodontic products $ 2,746,000 $ 2,738,000 ============================================================= Medical diagnostic products $ 1,661,000 $ 1,597,000 ============================================================= Net sales: Orthodontic products $ 6,159,000 $ 6,194,000 Medical diagnostic products 2,529,000 3,182,000 ------------------------------------------------------------- Total $ 8,688,000 $ 9,376,000 ============================================================= FS-35 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 9. BUSINESS SEGMENTS (CONTINUED) 1999 1998 -------------------------------------------------------------- Operating profit (loss): Orthodontic products $ 60,000 $ 284,000 Medical diagnostic products (371,000) (53,000) -------------------------------------------------------------- Total $ (311,000) $ 231,000 ============================================================== Identifiable assets: Orthodontic products $ 4,018,000 $ 3,706,000 Medical diagnostic products 3,383,000 3,334,000 -------------------------------------------------------------- Total $ 7,401,000 $ 7,040,000 ============================================================== Total assets: Orthodontic products $ 4,327,000 $ 4,089,000 Medical diagnostic products 3,523,000 3,406,000 -------------------------------------------------------------- Total $ 7,850,000 $ 7,495,000 ============================================================== Depreciation and amortization expense: Orthodontic products $ 172,000 $ 180,000 Medical diagnostic products 79,000 69,000 -------------------------------------------------------------- Total $ 251,000 $ 249,000 ============================================================== Capital expenditures: Orthodontic products $ 71,000 $ 45,000 Medical diagnostic products 30,000 65,000 -------------------------------------------------------------- Total $ 101,000 $ 110,000 ============================================================== The net sales as reflected above consist of sales to unaffiliated customers only as there were no significant intersegment sales during fiscal years 1999 and 1998. No customer accounted for more than 10% of net sales during fiscal years 1999 and 1998. FS-36 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 9. BUSINESS SEGMENTS (CONTINUED) Geographic information regarding net sales and operating profits is as follows: 1999 1998 ------------------------------------------------------------- Net sales: United States $ 4,638,000 $ 5,041,000 Europe 1,710,000 1,798,000 South America 749,000 810,000 Asia 426,000 878,000 Other foreign 1,165,000 849,000 ------------------------------------------------------------- Total net sales $ 8,688,000 $ 9,376,000 ============================================================= Operating profit (loss): United States $ (267,000) $ (9,000) Europe 35,000 114,000 South America 26,000 59,000 Asia (69,000) 14,000 Other foreign (36,000) 53,000 ------------------------------------------------------------- Total operating profit $ (311,000) $ 231,000 ============================================================= Identifiable assets by business segment are those assets that are used in the Company's operations in each industry. Identifiable assets are held primarily in the United States. The Company's interests in AIT, whose operations are in the United States, are vertically integrated with the Company's operations in the medical diagnostic products industry. FS-37 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 10. COMMITMENTS AND CONTINGENCIES OPERATING LEASES Biomerica leases its primary facility under a non-cancelable operating lease which expired on May 31, 1998. The lease is currently month-to-month. AIT leases its primary facility under a month-to-month operating lease. These facilities are owned and operated by four of the Company's shareholders. The lease rate is $12,720 and $1,400 per month, respectively. Lancer leases its main facility under a non-cancelable operating lease expiring December 31, 2003, as extended, which requires monthly rentals that increase annually, from $2,900 per month (1994) to $6,317 per month (2003). The lease expense is being recognized on a straight-line basis over the term of the lease. Effective November 1, 1998, Lancer entered into a non-cancelable operating lease for its Mexico facility expiring October 31, 2003, which requires average monthly rentals of approximately $5,500. The rentals are subject to annual increases based on the United States Consumer Price Index. Prior to April 1, 1996, such was included in amounts paid under the terms of the manufacturing agreement as discussed below. Rental expense for all operating leases amounted to approximately $294,000 and $263,000 for the years ended May 31, 1999 and 1998, respectively. The future annual minimum payments are as follows: Years ending May 31, Amount ------------------------------------------------------------ 2000 $ 307,802 2001 140,994 2002 143,733 2003 146,587 2004 74,884 ------------------------------------------------------------- Minimum lease payments $ 814,000 ============================================================= FS-38 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 10. COMMITMENTS AND CONTINGENCIES (CONTINUED) MANUFACTURING AGREEMENT In May 1990, Lancer entered into a manufacturing subcontractor agreement (the "Manufacturing Agreement"), whereby the subcontractor agreed to provide manufacturing services to Lancer through its affiliated entities located in Mexicali, B.C., Mexico. Lancer moved the majority of its manufacturing operations to Mexico during fiscal 1992 and 1991. Under the terms of the original agreement, the subcontractor manufactured Lancer's products based on an hourly rate per employee based on the number of employees in the subcontractor's workforce. As the number of employees increase, the hourly rate decreases. In December 1992, Lancer renegotiated the Manufacturing Agreement changing from an hourly rate per employee cost to a pass through of actual costs plus a weekly administrative fee. The amended Manufacturing Agreement gives Lancer greater control over all costs associated with the manufacturing operation. In July 1994, Lancer again renegotiated the Manufacturing Agreement reducing the administrative fee and extending the Manufacturing Agreement through June 1998. In March 1996, Lancer agreed to extend the manufacturing agreement through October 1998, to coincide with the building lease. Effective April 1, 1996, Lancer leased the Mexicali facility under a separate agreement, as discussed above. During 1999, Lancer agreed to extend the Manufacturing Agreement through October 2003. After June 1996, either party may cancel the agreement with three months notice. Lancer has retained the option to convert the manufacturing operation to a wholly-owned subsidiary of Lancer at any time without penalty. Should Lancer discontinue operations in Mexico, it is responsible for the accumulated employee seniority obligation as prescribed by Mexican law. At May 31, 1999, this obligation was approximately $287,000. Such obligation is contingent in nature and accordingly has not been accrued in the accompanying consolidated balance sheet. FS-39 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 10. COMMITMENTS AND CONTINGENCIES (CONTINUED) EMPLOYMENT AGREEMENT In June 1986, the Company entered into an employment agreement with its then chief executive officer. In May 1996, the agreement was extended for an additional three years expiring in May 1999. This agreement was cancelled in April 1997. This agreement required minimum annual compensation payments of $169,000 and provided for periodic cost of living increases. The chief executive officer was paid approximately $81,000 during the year ended May 31, 1996. The chief executive officer and the Company agreed to amend the employment agreement for fiscal year 1995, whereby the chief executive officer would not receive any deferred compensation for the period June 1994 through November 1994 of approximately $54,500 and instead received 60,000 stock options (see Note 6). Approximately $289,000 of the total accrued compensation included in the 1999 consolidated balance sheet is due to the chief executive officer's estate. LICENSE AND ROYALTY AGREEMENT Lancer has entered into a number of license and/or royalty agreements pursuant to which it has obtained rights to manufacture and market certain products. The agreements are for various durations expiring through 2007 and they require the Company to make payments based on the sales of the individual licensed products. Lancer has entered into license agreements expiring in 2006 whereby, for cash consideration, the counter party has obtained the rights to manufacture and market certain products patented by Lancer. RETIREMENT SAVINGS PLAN Effective September 1, 1986, the Company established a 401(k) plan for the benefit of its employees. The plan permits eligible employees to contribute to the plan up to the maximum percentage of total annual compensation allowable under the limits of Internal Revenue Code Sections 415, 401(k) and 404. The Company, at the discretion of its Board of Directors, may make contributions to the plan in amounts determined by the Board each year. No contributions by the Company have been made since the plan's inception. FS-40 BIOMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED MAY 31, 1999 AND 1998 ================================================================================ 11. SUBSEQUENT EVENTS On June 11, 1999, the Company issued 1,200,000 options to purchase shares of the Company's stock to employees and non- employees. The purchase price of the options is $3.00 per share. The options are exercisable for a period of ten years. In addition, the Company issued 1,660,000 stock purchase warrants to unaffiliated entities for consulting and other services rendered and to be rendered. The holder is granted the right to purchase common stock at an exercise price of $5.00 (as to 660,000 warrants) and $3.00 (as to 1,000,000 warrants) per share through the year 2005. On June 11, 1999, the Company entered into a Back-End Processing Agreement with an unaffiliated entity. The unaffiliated entity will develop customized back-end processing to enable the Company to process customer prescription orders on-line and insurance claims and payments. In addition, the unaffiliated entity transferred and assigned to the Company the right, title and interest in and to the internet domain name "TheBigRX.com" and all rights to any trademark relating thereto. On June 11, 1999, the Company completed two private placement agreements to sell and issue a total of 400,000 (50,000 of which were sold to related parties) shares of the Company's common stock at $5.00 per share. The Company also issued 8,000 shares of common stock to a consultant for services provided. Between July 1, 1999 and September 14, 1999, the Company granted 380,000 options to purchase shares of the Company's stock to employees and non-employees. The purchase price of the options range from $2.06 to $2.75 per share. On June 16, 1999, the Company entered into a Letter of Intent with an underwriter with respect to a secondary public offering. It is anticipated the offering will consist of approximately 1,500,000 to 1,700,000 shares of the Company's previously unissued common stock. The offering price per share will be subject to market and other conditions at the time of the offering. FS-41 CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS Biomerica, Inc. and Subsidiaries Newport Beach, California We hereby consent to the use in the Prospectus constituting a part of this Registration Statement of our report dated July 29, 1999, relating to the consolidated financial statements of Biomerica, Inc. and Subsidiaries, which is contained in that Prospectus, and to the incorporation in the Prospectus by reference of our report dated July 29, 1999, relating to the consolidated financial statements of Biomerica, Inc. and Subsidiaries appearing in the Company's Annual Report on Form 10-K for the year ended May 31, 1999. We also consent to the reference to us under the caption "Experts" in the Prospectus. /S/ BDO Seidman, LLP BDO SEIDMAN, LLP Costa Mesa, California September 16, 1999 -----END PRIVACY-ENHANCED MESSAGE-----