10-K 1 tenk04.txt INVACARE 2004 10-K UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K /X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 2004 OR / / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _____________ to ________________ Commission file number 0-12938 INVACARE CORPORATION (Exact name of Registrant as specified in its charter) Ohio 95-2680965 _______________________________ ______________________ (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) One Invacare Way, P.O. Box 4028, Elyria, Ohio 44036 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (440) 329-6000 ------------------ Securities registered pursuant to Section 12(b) of the Act: Title of Each Class Name of Exchange on which Registered ------------------- ------------------------------------ Common Shares, without par value New York Stock Exchange Rights to Purchase Commons Shares, New York Stock Exchange without par value Securities registered pursuant to Section 12(g) of the Act: None ---- Indicate by check mark whether the Registrant (1) has filed all reports to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to the filing requirements for the past 90 days. Yes X No ----- ----- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the Registrant's knowledge, in definitive proxy of information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] Indicate by check mark if the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes X No ----- ----- As of June 30, 2004, the aggregate market value of the 27,329,710 Common Shares of the Registrant held by non-affiliates was $1,222,184,631 and the aggregate market value of the 31,803 Class B Common Shares of the Registrant held by non-affiliates was $1,422,230. While the Class B Common Shares are not listed for public trading on any exchange or market system, shares of that class are convertible into Common Shares at any time on a share-for-share basis. The market values indicated were calculated based upon the last sale price of the Common Shares as reported by The New York Stock Exchange on June 30, 2004, which was $44.72. For purposes of this information, the 2,724,495 Common Shares and 1,080,174 Class B Common Shares which were held by Executive Officers and Directors of the Registrant were deemed to be the Common Shares and Class B Common Shares held by affiliates. As of February 24, 2005, 30,322,573 Common Shares and 1,111,965 Class B Common Shares were outstanding. Documents Incorporated By Reference ----------------------------------- Portions of the Registrant's definitive Proxy Statement to be filed in connection with its 2005 Annual Meeting of Shareholders are incorporated by reference into Part III (Items 10, 11, 12, 13 and 14) of this report. Except as otherwise stated, the information contained in this Annual Report on Form 10-K is as of December 31, 2004. I-1 INVACARE CORPORATION 2004 ANNUAL REPORT ON FORM 10-K CONTENTS Page Item PART I: 1. Business I-3 2. Properties I-14 3. Legal Proceedings I-17 4. Submission of Matters to a Vote of Security Holders I-17 Executive Officers of the Registrant I-17 PART II: 5. Market for the Registrant's Common Equity, Related Stockholder I-19 Matters and Issuer Purchases of Equity Securities 6. Selected Financial Data I-20 7. Management's Discussion and Analysis of Financial Condition and I-21 Results of Operations 7A.Quantitative and Qualitative Disclosures About Market Risk I-29 8. Financial Statements and Supplementary Data I-29 9. Changes in and Disagreements with Accountants on Accounting and I-29 Financial Disclosure 9A. Controls and Procedures I-29 PART III: 10. Directors and Executive Officers of the Registrant I-30 11. Executive Compensation I-30 12. Security Ownership of Certain Beneficial Owners and Management I-31 13. Certain Relationships and Related Transactions I-31 14. Principal Accounting Fees and Services I-31 PART IV: 15. Exhibits and Financial Statement Schedules I-31 Signatures I-32 I-2 PART I Item 1. Business. GENERAL Invacare Corporation is the world's leading manufacturer and distributor of non-acute health care products based upon its distribution channels, the breadth of its product line and its net sales. The company designs, manufactures and distributes an extensive line of health care products for the non-acute care environment, including the home health care, retail and extended care markets. Invacare continuously revises and expands its product lines to meet changing market demands and currently offers over two dozen product lines. The company's products are sold principally to over 25,000 home health care and medical equipment provider locations in the U.S., Australia, Canada, Europe and New Zealand, with the remainder of its sales being primarily to government agencies and distributors. Invacare's products are sold through its worldwide distribution network by its sales force, telesales associates and various organizations of independent manufacturers' representatives and distributors. The company also distributes medical equipment and related supplies manufactured by others. Invacare is committed to design, manufacture and deliver the best value in medical products, which promote recovery and active lifestyles for people requiring home and other non-acute health care. Invacare pursues this vision by: * designing and developing innovative and technologically superior products; * ensuring continued focus on our primary market - the non-acute health care market; * marketing our broad range of products; * providing the industry's most professional and cost-effective sales, customer service and distribution organization; * supplying superior and innovative provider support and aggressive product line extensions; * building a strong referral base among health care professionals; * building brand preference with consumers; * continuous advancement and recruitment of top management candidates; * empowering all employees; * providing a performance-based reward environment; and * continually striving for total quality throughout the organization. When the company was acquired in December 1979 by a group of investors, including certain of our current officers and Directors, it had $19.5 million in net sales and a limited product line of standard wheelchairs and patient aids. In 2004, Invacare reached $1.403 billion in net sales, representing a 19% compound average sales growth rate since 1979, and currently is the leading company in the industry that manufactures, distributes and markets products in each of the following major, non-acute, medical equipment categories: power and manual wheelchairs, patient aids, home care beds, home respiratory products, low air loss therapy products, seating and positioning products, bathing equipment and distributed products. The company operates in a single industry, the home medical equipment (HME) industry segment. For information relating to net sales, operating income, identifiable assets and other information for this industry segment, see the Consolidated Financial Statements of the company. The company's executive offices are located at One Invacare Way, Elyria, Ohio and its telephone number is (440) 329-6000. In this report, Invacare and the company refer to Invacare Corporation and, unless the context otherwise indicates, its consolidated subsidiaries. I-3 THE HOME MEDICAL EQUIPMENT INDUSTRY North America ------------- The home medical equipment market includes home health care products, physical rehabilitation products and other non-disposable products used for the recovery and long-term care of patients. The company believes that sales of domestic home medical equipment products will continue to grow during the next decade and beyond as a result of several factors, including: Growth in population over age 65. The nation's overall life expectancy continues to increase. A recent report from the U.S. Department of Health and Human Services (DHHS) states that the average life expectancy for men and women who reach the age of 65 is now 81 and 84, respectively and life expectancy at birth is now 74 for men and almost 80 for women. The DHHS also reports that people age 65 or older represent the vast majority of home health care patients and will increase from 12% of the population in 2000 to 20% of the population by the year 2050. A significant percentage of people using home and community-based health care services are 65 years of age and older. Treatment trends. Many medical professionals and patients prefer home health care over institutional care because they believe that home health care results in greater patient independence, increased patient responsibility and improved responsiveness to treatment because familiar surroundings are conducive to improved patient outcomes. Health care professionals, public payers and private payers agree that home care is a cost effective, clinically appropriate alternative to facility-based care. Recent surveys show that approximately 70% of adults would rather recover from an accident or illness in their home, while approximately 90% of the older population showed preference for home-based, long-term care. Technological trends. Technological advances have made medical equipment increasingly adaptable for use in the home. Current hospital procedures often allow for earlier patient discharge, thereby lengthening recuperation periods outside of the traditional institutional setting. In addition, continuing medical advances prolong the lives of adults and children, thus increasing the demand for home medical care equipment. Health care cost containment trends. In 2002, health care expenditures in the U.S. totaled $1.5 trillion dollars or approximately 14.9% of the Gross Domestic Product (GDP), the highest among industrialized countries. In 2013, the nation's health care spending is projected to increase to $3.4 trillion, growing at an average annual rate of 7.3%. Over this same period, spending on health care is expected to increase to approximately 18.4% as a share of GDP. The rising cost of health care has caused many payers of health care expenses to look for ways to contain costs. Home health care has gained widespread acceptance among health care providers and public policy makers as a cost effective, clinically appropriate and patient preferred alternative to facility-based care for a variety of acute and long-term illnesses and disabilities. Thus, the company believes that home health care and home medical equipment will play a significant role in reducing health care costs. Society's mainstreaming of people with disabilities. People with disabilities are part of the fabric of society and this has increased, in large part, due to the 1991 Americans with Disabilities Act (ADA). This legislation provides mainstream opportunities to people with disabilities. The ADA imposes requirements on certain components of society to make reasonable accommodations to integrate people with disabilities into the community and the workplace. Distribution channels. The changing home health care market continues to provide new ways of reaching the end user. The distribution network for products has expanded to include not only specialized home health care providers and extended care facilities but retail drug stores, surgical supply houses, rental, hospital and HMO-based stores, home health agencies, mass merchandisers, direct sales and the Internet. Europe/Asia/Pacific ------------------- The company believes that, while many of the market factors influencing demand in the U.S. are also present in Europe and Asia/Pacific - aging of the population, technological trends and society's acceptance of people with disabilities - each of the major national markets within Europe and in Asia/Pacific have distinctive characteristics. The health care industry is more heavily socialized and, therefore, is more influenced by government regulation and fiscal policy. Variations in product specifications, regulatory approvals, distribution requirements and reimbursement policies require the company to tailor its approach to each national market. Management believes that as the European markets become more homogeneous and the company continues to refine its distribution channels, the company can more effectively penetrate these markets. Likewise, the company expects to increase its sales in the highly fragmented Australian, New Zealand and Asian markets. I-4 GEOGRAPHICAL SEGMENTS AND PRODUCT CATEGORIES -------------------------------------------- North America ------------- North American operations are aligned into five primary product groups, which manufacture and market products in all of the major home medical equipment categories. In Canada, the company primarily sells Invacare products manufactured in the U.S. REHAB PRODUCTS Power wheelchairs. Invacare manufactures a complete line of power wheelchairs for individuals who require independent powered mobility. The range includes products that can be significantly customized to meet an individual's specific needs, as well as products that are inherently versatile and meet a broad range of individual requirements. Power wheelchair lines are marketed under the Invacare(R) Storm Series(R) and Xterra(TM) brand names and include a full range of powered mobility products. The Storm Series(R) was expanded in 2004 with the introduction of the TDX(TM) line of power wheelchairs which offer an unprecedented combination of power, stability and maneuverability. The Pronto(TM) Series Power Wheelchairs with SureStep(TM), introduced in 2002, feature center-wheel drive performance for exceptional maneuverability and intuitive driving. The power tilt and recline systems are now offered also as a result of the company's acquisition of Motion Concepts, Inc. Custom manual wheelchairs. Invacare manufactures and markets a range of custom manual wheelchairs for everyday, sports and recreational uses. These lightweight chairs are marketed under the Invacare(R) and Invacare Top End(R) brand names. The chairs provide mobility for people with moderate to severe disabilities in their everyday activities as well as for use in various sports such as basketball, racing, skiing and tennis. Personal Mobility. In 2003, Invacare introduced the HMV(TM) (Highly Maneuverable Vehicle) product, which in 2004 replaced the three and four-wheeled motorized scooters, including rear-wheel drive models for both outdoor and indoor use, marketed under the Invacare(R) brand name that include scooters under the Lynx(TM) and Panther(TM) product names. Seating and positioning products. Invacare markets seat cushions, back supports and accessories under three series. Invacare(R) Essential(TM) Series provides simple seating solutions for comfort, fit and function. Invacare Infinity(TM) Series includes versatile modular seating, providing optimal rehab solutions. Invacare PinDot(R) Series offers custom seating solutions personalized for the most challenged clients. The company has also expanded its product line of seating products and wheelchairs for the pediatric market with the acquisition of Freedom Designs, Inc. STANDARD PRODUCTS Manual wheelchairs. Invacare's manual wheelchairs are sold for use inside and outside the home, institutional settings, or public places (e.g., airports, malls, etc.). Our clients include people who are chronically or temporarily disabled and require basic mobility performance with little or no frame modification. Examples of Invacare manual wheelchair lines, which are marketed under the Invacare(R) brand name, include the 9000 and Tracer(R) product lines. These lines offer wheelchairs that are designed to accommodate the diverse capabilities and unique needs of the individual from petite to bariatric sizes. Personal care. Invacare manufactures and/or distributes a full line of personal care products, including ambulatory aids such as crutches, canes, walkers and wheeled walkers. This line also features one of Invacare's latest product innovations, the Rollite(TM) Rollator, a truly unique solution in patient mobility. Also available are safety aids such as tub transfer benches, shower chairs and grab bars, and patient care products such as commodes and other toilet assist aids. Home care beds. Invacare manufactures and distributes a wide variety of manual, semi-electric and fully electric beds for home use under the Invacare(R) brand name. Home care bed accessories include bedside rails, mattresses, overbed tables, trapeze bars and traction equipment. Also available are the new bariatric beds and accompanying accessories to serve the special needs of bariatric patients. Low air loss therapy products. Invacare manufactures and markets a complete line of mattress overlays and replacement products, under the Invacare(R) brand name. These products, which use air flotation to redistribute weight and move moisture away from patients, assist in the total care of those who are immobile and spend a great deal of time in bed. Patient Transport. Invacare manufactures and markets products needed to assist in transferring individuals from surface to surface (bed to chair) or transporting from room to room. Designed for use in the home and institutional settings, these products include patient lifts and slings, and a new series of mobile, multi-functional recliners. I-5 RESPIRATORY PRODUCTS Home respiratory products. Invacare manufactures and/or distributes home respiratory products, including oxygen concentrators, nebulizer compressors and respiratory disposables, sleep therapy products and portable compressed oxygen systems. Invacare home respiratory products are marketed predominantly under the Invacare(R) brand name. The Invacare Venture HomeFill(TM) II Oxygen Compressor enables people to safely and easily make compressed oxygen in their home and store it in cylinders for future use. DISTRIBUTED PRODUCTS Distributed products. Invacare distributes numerous lines of branded medical supplies including ostomy, incontinence, diabetic, wound care and miscellaneous home medical products, as well as HME aids for daily living. In 2004, Invacare introduced its own private label brand of certain medical supplies. CONTINUING CARE Health Care Furnishings. Invacare, operating as Invacare Continuing Care Group, is a manufacturer and distributor of beds and furnishings for the long-term care markets. In addition, certain home medical equipment also is sold through this channel. OTHER PRODUCTS Accessory Products. Invacare also manufactures, markets and distributes many accessory products, including spare parts, wheelchair cushions, arm rests, wheels and respiratory parts. In some cases, Invacare's accessory items are built to be interchangeable so that they can be used to replace parts on products manufactured by others. Asia/Pacific ------------ The company's Asia/Pacific operations consist of Invacare Australia, which imports and distributes the Invacare range of products and manufactures and distributes the Rollerchair range of custom power wheelchairs and Pro Med lifts; Dynamic Controls, a New Zealand manufacturer of electronic operating components used in power wheelchairs and scooters; Invacare New Zealand, a manufacturer of wheelchairs and beds and a distributor of a wide range of home medical equipment; and Invacare Asia Sales, which imports and distributes home medical equipment to the Asia markets. Europe ------ The company's European operations operate as a "common market" company with sales throughout Europe. The European operations currently sell a line of products providing significant room for growth as Invacare continues to broaden its product line offerings to more closely resemble that of the North American operations. Most wheelchair products sold in Europe are designed locally to meet specific market requirements. The company manufactures and/or assembles both manual and power wheelchair products at the following European facilities: Invacare (UK) Ltd. in the United Kingdom, Invacare Poirier S.A.S. in France, and Invacare Deutschland GmbH in Germany. Manual wheelchair products are also manufactured and/or assembled at Invacare Lda. in Portugal, Invacare AG in Switzerland (the Kuschall Range), and Invacare Rea AB in Sweden. Beds and patient lifts are manufactured at Invacare Hong A/S in Denmark. A range of patient lifts is also assembled at Invacare (UK) Ltd. in the United Kingdom. Oxygen products are imported from Invacare U.S. operations. In addition to distributing the Invacare range of products, Invacare Mecc San SrL in Italy manufactures beds, patient lifts and commodes specifically for the local market. With the acquisition in September 2004 of WP Domus GmbH (Domus), the European product range has been enhanced and market share increased. Domus is a European-based holding company that manufactures several complementary product lines to Invacare's product lines, including power add-on products, bath lifts and walking aids. Domus has three divisions: Alber, Aquatec and Dolomite. For information relating to net sales by product group, see Business Segments in Notes to the Consolidated Financial Statements. WARRANTY -------- Generally, the company's products are covered by warranties against defects in material and workmanship for periods up to six years from the date of sale to the customer. Certain components carry a lifetime warranty. I-6 North America and Asia/Pacific ------------------------------ The home medical equipment market is highly competitive and Invacare products face significant competition from other well-established manufacturers. The company believes that its success in increasing market share is dependent on providing value to the customer based on the quality, performance and price of the company products, the range of products offered, the technical expertise of the sales force, the effectiveness of the company distribution system, the strength of the dealer and distributor network and the availability of prompt and reliable service for its products. Various manufacturers, from time to time, have instituted price-cutting programs in an effort to gain market share. There can be no assurance that other HME manufacturers will not attempt to implement such aggressive pricing in the future. Europe ------ As a result of the differences encountered in the European marketplace, competition generally varies from one country to another. The company typically encounters one or two strong competitors in each country, some of them becoming regional leaders in specific product lines. MARKETING AND DISTRIBUTION -------------------------- North America and Asia/Pacific ------------------------------ Invacare's products are marketed in the United States and Asia/Pacific primarily to providers who in turn sell or rent these products directly to consumers within the non-acute care setting. Invacare's primary customer is the home medical equipment (HME) provider. The company also employs a "pull-through" marketing strategy to medical professionals, including physical and occupational therapists, who refer their patients to HME providers to obtain specific types of home medical equipment, as well as to consumers, who express a product or brand preference. Invacare's domestic sales and marketing organization consists primarily of a home care sales force, which markets and sells Invacare(R)-branded products to HME providers. Each member of Invacare's home care sales force functions as a Territory Business Manager (TBM) and handles all product and service needs for an account, thus saving customers valuable time. The TBM also provides training and servicing information to providers, as well as product literature, point-of-sale materials and other advertising and merchandising aids. In Canada, products are sold by a sales force and distributed through regional distribution centers in British Columbia, Ontario and Quebec to health care providers throughout Canada. Manufacturers' representatives market and sell Invacare products through the company's Invacare Continuing Care Group to the non-acute care market. The Inside Sales Department provides increased sales coverage of smaller accounts and complements the efforts of the field sales force. Inside Sales offers cost-effective sales coverage through a targeted telesales effort, and has delivered excellent sales growth in each of its five years of existence. The Invacare Service and Parts Division (ISP) focuses on improving operations and enhancing overall service to its customers. Recent initiatives included the pre-packaging of parts and adding a bar code to the label, the kitting of upholstery with associated hardware, and introducing 15 new power wheelchair and scooter accessories. ISP's Technical Education department recently consolidated its Power Wheelchair and Respiratory schools into a four-day format and continued its emphasis on improving providers repair technicians' productivity. The Service Referral Network includes over 600 providers who honor Invacare's product warranties regardless of where the product was purchased. This network of servicing providers helps ensure that all consumers using Invacare products receive quality service and support that is consistent with the Invacare brand promise. The company sells distributed products, primarily soft goods and disposable medical supplies, through the Invacare Supply Group (ISG). ISG is an important component of Invacare's "Total One Stop Shopping" program, through which Invacare offers HME providers of all sizes a broader range of products and services at a lower total cost. ISG products include ostomy, incontinence, wound care and diabetic supplies, as well as other soft goods and disposables which complement other Invacare products that are purchased by many of the same customers who buy Invacare equipment. ISG markets its products through an inside telesales and customer service department, the Internet and Invacare's HME field sales force. ISG also markets a Home Delivery Program to HME providers through which ISG drop-ships supplies in the provider's name to the customer's address. Thus, providers have no products to stock, no minimum order requirements and delivery is made within 24 to 48 hours nationwide. In 2004, ISG completed the purchase and integration of ACS, a home infusion company, opening up a new market for ISG. ISG also added more than 150 SKUs to its Invacare-branded consumable line. The company opened a new state-of-the-art distribution facility in Jamesburg, New Jersey and closed its existing Edison, New Jersey facility. The move more than doubled available space, while also enhancing Invacare Supply Group's ability to effectively pick, pack and ship customer orders. I-7 In 2004, Invacare, through its co-op advertising program, continued to offer direct response television commercials designed to generate demand for Invacare Power Chairs, Scooters and the HomeFill Oxygen System sold by the HME provider. These commercials feature Arnold Palmer, Invacare's worldwide spokesperson, who has become an integral part of Invacare's "Yes, you can(TM)" promotional and marketing efforts. This program encourages consumers to achieve personal independence and participate in the activities of life, facilitated by the home health care products, which Invacare manufactures, distributes and/or markets throughout the world. The company signed an extended agreement with Arnold Palmer through the end of 2006. Mr. Palmer, serving as Invacare's spokesperson, is helping accomplish three objectives: (i) creating attention and awareness for the category of home health care products, (ii) accelerating the acceptance of these products as lifestyle enhancing so that consumers want these products and don't just need them, and (iii) establishing the Invacare brand as the consumer category-brand for home health care products. Mr. Palmer is featured throughout Invacare's marketing communications, including Invacare direct-response television commercials, print advertising, point-of-purchase displays, and other merchandising and marketing materials. Invacare continues to enhance www.invacare.com, maintaining its position as the leader in e-commerce in the HME industry. In 2004, Invacare's website utilization continued to increase. Thirty-two-percent of all standard domestic orders were placed over the web. Another 14% of orders were EDI, for a total of 46% of all orders being placed electronically, resulting in a significant cost savings. New online offerings in 2004 included online financing for Invacare providers, resulting in additional transactional cost savings for the company. A full transactional web site for Invacare Canada went live in March. Major enhancements to the administration tools for the online Product Catalog were developed. A web version of the tool makes updating the online catalog quicker and easier. Users can make faster updates to product PDF documents in the online product catalog, streamlining the content management process. The integration of Invacare's website with the new Oracle ERP system began in 2004 and will continue into 2005. Increasing web transactions are reducing the number of calls to the customer service call center, which also results in significant cost savings. This integration is expected to further improve the online customer experience by adding additional website features such as contract pricing, financing options, coupons and product security. In 2004, Invacare continued its strategic advertising campaign in key trade publications that reach the providers of home medical equipment. The company also contributed extensively to editorial coverage in trade publications concerning the products it manufactures. Company representatives attended numerous trade shows and conferences on a national and regional basis in which Invacare products were displayed to providers, health care professionals and consumers. Invacare continues to generate greater consumer awareness of the company and its products. This was evidenced by enhancements made to its consumer-marketing program in 2004 through sponsorships of a variety of wheelchair sporting events and support of various philanthropic causes benefiting the consumers of its products. For the eleventh consecutive year, Invacare continued as a National Corporate Partner with Easter Seals, one of the most recognized charities in the United States that meets the needs of both children and adults with various types of disabilities. The company continued its sponsorships of 75 individual wheelchair athletes and teams, including several of the top-ranked male and female racers, hand cyclists, and wheelchair tennis players in the world. Invacare was the title sponsor for the ninth year in a row of the Invacare World Team Cup of Wheelchair Tennis Tournament, which took place in January in Christchurch, New Zealand. The company also continued its support of disabled veterans through its sponsorship of the 24th National Veterans Wheelchair Games, the largest annual wheelchair sports event in the world, which was held in St. Louis, Missouri. The games bring a competitive and recreational sports experience to military service veterans who use wheelchairs for their mobility needs due to spinal cord injury, neurological conditions or amputation. The year 2004 also was a Paralympic year. Team Invacare had more than 30 athletes participating in the competition who brought home more than 30 gold, silver and bronze medals at the games, which were held in September in Athens, Greece, following the Olympic Games. The company's top 10 customers accounted for approximately 14% of 2004 net sales. The loss of business of one or more of these customers or buying groups may have a significant impact on the company, although no single customer accounted for more than 5% of the company's 2004 net sales. Providers, who are part of a buying group, generally make individual purchasing decisions and are invoiced directly by the company. Europe ------ The company's European operations consist primarily of manufacturing, marketing and distribution operations in Western Europe and export sales activities through local distributors elsewhere in the world. The company has a sales force and where appropriate, distribution centers, in the United Kingdom, France, Germany, Belgium, Portugal, Spain, Italy, Denmark, Sweden, Switzerland, Norway and the Netherlands, and sells through distributors elsewhere in Europe. In markets where the company has its own sales force, product sales are typically made through dealers of medical equipment and, in certain markets, directly to government agencies. In most markets, government health care and reimbursement policies play an important role in determining the types of equipment sold and price levels for such products. I-8 PRODUCT LIABILITY COSTS ----------------------- The company's captive insurance company, Invatection Insurance Co., currently has a policy year that runs from September 1 to August 31 and insures annual policy losses of $10,000,000 per occurrence and $11,000,000 in the aggregate of the company's North American product liability exposure. The company also has additional layers of external insurance coverage insuring $100,000,000 in annual aggregate losses arising from individual claims anywhere in the world that exceed the captive insurance company policy limits. There can be no assurance that Invacare's current insurance levels will continue to be adequate or available at affordable rates. Product liability reserves are recorded for individual claims based upon historical experience, industry expertise and indications from the third-party actuary. Additional reserves, in excess of the specific individual case reserves, are provided for incurred but not reported claims based upon third-party actuarial valuations at the time such valuations are conducted. Historical claims experience and other assumptions are taken into consideration by the third-party actuary to estimate the ultimate reserves. For example, the actuarial analysis assumes that historical loss experience is an indicator of future experience, the distribution of exposures by geographic area and nature of operations for ongoing operations is expected to be very similar to historical operations with no dramatic changes and that the government indices used to trend losses and exposures are appropriate. Estimates made are adjusted on a regular basis and can be impacted by actual loss award settlements on claims. While actuarial analysis is used to help determine adequate reserves, the company accepts responsibility for the determination and recording of adequate reserves in accordance with accepted loss reserving standards and practices. PRODUCT DEVELOPMENT AND ENGINEERING ----------------------------------- Invacare is committed to continuously improving, expanding and broadening its existing product lines. In 2004, new product development continued to receive an even stronger emphasis as part of Invacare's strategy to gain market share and maintain competitive advantage. To this end, the company introduced 53 new products. The following are some of the most significant product introductions: North America ------------- The At'm Take Along Chair, Invacare's newest power wheelchair, provides consumers a light-weight and compact chair to fit in the trunk of a car and assemble easily in just 60 seconds. The consumer's caregiver can open the seat, snap it on the lightweight base, and add the battery. Assembly requires absolutely no tools. Formula(TM) Powered Seating, combines three systems: the Formula(TM) PTO Plus, the Formula(TM) Invisible Super Low(TM) Tilt, and Formula(TM) TRE to meet the rehab positioning needs of consumers from simple to complex. This all-new Formula Powered Seating package offers the best integration of powered seating upon the number-one bases with the number-one electronics in the HME industry, all from a single company, Invacare. The Zoom 220 HMV(TM), the newest entrant to the Zoom family of HMVs (Highly Maneuverable Vehicles), is compact, portable, lightweight and economical for active consumers. The Zoom line combines the power wheelchair technology of center-wheel drive with the aesthetics of traditional scooter products for indoor maneuverability and outdoor performance. The HomeFill(TM) II Patient Convenience Pack ML4, is an all-new portable oxygen supply system that is lightweight -- 3 1/2 pounds - and easy to transport for oxygen patients. The HomeFill Oxygen System offers HME providers 3-to-1 cost savings in servicing their ambulatory oxygen patients since the patient can fill cylinders themselves in their own home, which gives them freedom and independence - they no longer have to wait for cylinder deliveries. The Polaris(TM) EX(TM) with SoftX(TM) Technology and the Polaris(TM) EX(TM) Heated Humidifier have been integrated as one product rather than two separate units. The Polaris EX CPAP features Invacare's SoftX technology, which tracks the patient's breathing pattern and reduces the patient's work of breathing during exhalation, providing effortless exhalation for the patient. Web Ox is a PC-based, high-tech solution to the oxygen qualification problem facing the industry today. For a minimal quarterly fee, Web Ox allows providers to subscribe to an unlimited number of tests, allowing faster Medicare billing for oxygen patients, thus improving the provider's cash flow. A new Bariatrics Program offers a complete solutions approach for the bariatric provider and their clients, and features the full line of Invacare bariatric products. Making it easy to find the right product, the bariatric catalog employs color-coding to sort products by weight capacity. The catalog also offers cross-selling or complementary product suggestions to help educate providers, clinicians and consumers about additional product they may need, and at the same time establishes Invacare as the leading manufacturer offering bariatric solutions. I-9 Court-Side Glides(TM) for Invacare walkers are an innovative product that takes the homemade tennis ball solution for walker glide tips a step further. For years, consumers and therapists have been slashing tennis balls, sometimes injuring themselves in the process, to create makeshift walker glide tips that are durable for indoor and outdoor use and safe for flooring surfaces. Invacare has enhanced the homemade tennis ball solution to create a walker glide tip that is longer lasting, easy to install and replace. The Invacare Full Electric Low Bed is ideal for circumstances where rails are not desirable or appropriate, but injuries from falling out of bed are still a concern. It is the newest split-spring low bed available on the market today, allowing easy, one-person delivery to home or long-term care locations. The split-spring design, which Invacare pioneered, combines easy, one-person delivery with the benefits of a low bed. Asia/Pacific ------------ Dynamic Controls continued various range extensions and design improvements to products during 2004. Additionally, design work was continued on a New Generation Scooter Controller to be introduced in late 2005 and extending functionality in the "Shark" wheelchair controller, which was introduced in 2004. Europe ------ During 2004, European operations introduced less new products than in 2003, but updated a number of existing products as required by the market. Key introductions and updates in 2004 included: The Invacare(R) Dragon is a rear wheel drive power wheelchair designed and manufactured in Europe. It is a solid and cost efficient power wheelchair that provides excellent indoor and outdoor mobility in the suburban environment. It is easy to drive, and the seat can be adjusted to the physical requirements of the user. The Invacare(R) Robin is a ceiling hoist designed in Europe. It provides the most innovative way of transfer with care for nursing staff. Ensuring excellent personal contact, the two-strap design offers comfort and efficiency in a safe patient handling environment. Without the need for a spreader bar, a secure and dignified transfer can be achieved. The Invacare(R) Clematis is a manual wheelchair primarily for use in the French market. Excellent comfort, quality and elegance describe this folding chair equipped with pneumatic actuators. The seat positioning of the Clematis offers the user a real sensation of relaxation and wellbeing. The Invacare(R) Mistral3 power wheelchair is an updated folding chair with seat positioning. It replaces the Mistral and Mistral Plus. The Invacare(R) Mistral3 Junior power wheelchair is a version of the Mistral3 with a reclining rigid seat base which is width and length adjustable from 30cm to 36cm and provides ultimate comfort to children or younger teenagers whether they are installed in a shell or not. The Invacare(R) Action3 manual wheelchair, which was released in 2002 has been improved with the following; new locking pin on hanger and elevating leg-rest, folding backrest, reclining backrest with gas spring, leg-rest adaptor, angle adjustable backrest and hemi motion armrest. The Invacare(R) Action 2000 & MB2 manual wheelchairs have been improved with the following; new arm-pads - short and long and shorter brake shoe. MANUFACTURING AND SUPPLIERS --------------------------- The company's objective is to be the highest quality and lowest-cost manufacturer in its industry. The company believes that it can achieve this objective not only through improved product design, but also by taking a number of steps to lower manufacturing costs. During 2004, the company opened manufacturing locations in China at Suzhou Industrial Park and Kunshan City, both of which are near Shanghai, to manufacture components, including bases for consumer power wheelchairs. The company has plans to further utilize its Hong Kong office to increase local sourcing of components in China in order to lower costs. With these actions, Invacare expects to regain its position as one of the lowest cost producers of standard products in the industry. Of the many opportunities to reduce overall costs, the short-term emphasis will be on building the professional disciplines in the areas of sourcing, quality and logistics, with particular focus on sourcing components and finished goods for each of the business segments. I-10 North America / Asia/Pacific ---------------------------- The company has vertically integrated its manufacturing processes by fabricating, coating, plating and assembling many of the components of each product. The company designs and manufactures electronics for power wheelchairs, from insertion of components into printed circuit boards to final assembly and testing. Invacare has focused on value engineering which reduces manufacturing costs by eliminating product complexity and using common components. Value engineering has been applied to all product introductions in the last three years, including the latest generation of oxygen concentrators, electronic controls, wheelchairs, patient lifts, beds and bath safety products. The company continues to make investments in manufacturing automation. The company has initiated lean manufacturing programs to reduce manufacturing lead times, shorten production cycles, increase associate training, encourage employee involvement in decision-making and improve manufacturing quality. Associate involvement teams participate in engineering, production and processing strategies and associates have been given responsibility for their own quality assurance. The manufacturing of wheelchairs, replacement parts, patient aids and home care beds consists of a variety of metal fabricating procedures, electronics production, coating, plating and assembly operations. Manufacturing of oxygen concentrators, nebulizer compressors, and seating and positioning products consists primarily of assembly operations. The company purchases raw materials, fabricated components and services from a variety of suppliers. Where appropriate, Invacare does employ long-term contracts with its suppliers, both domestically and from the Far East. In those situations in which long-term contracts are not advantageous, the company believes that its relationships with those suppliers are satisfactory and that alternative sources of supply are readily available. Europe ------ As in other areas, manufacturing and operational issues faced in the U.S. are also present in Europe. The European manufacturing operations have streamlined, allowing for the realization of significant synergies and additional cost reductions and improved efficiencies are planned going forward. This process will continue and will now include the integration of the Domus businesses. ACQUISITIONS ------------ In 2004, Invacare acquired for cash the following six businesses at a total cost of $343,554,000: o The assets of ACS, a New York distributor of medical supplies with a focus on infusion therapy. o The assets of Decpac, an Australian company that designs and manufactures portable folding access ramps for use with wheelchairs and scooters. o Freedom Designs, Inc., a California-based company that designs and manufactures seating products and wheelchairs with a particular focus on the pediatric marketplace. o WP Domus GmbH, a European-based holding company which manufactures several complementary product lines to Invacare's product lines. o Champion Manufacturing, LLC , an Indiana company that designs and manufactures medical recliners. o The assets of Premier Designs, a California company from which Invacare acquired assets and designs for a lightweight, easily transportable power wheelchair. On September 9, 2004 the company finalized the acquisition of 100% of the shares of WP Domus GmbH, a European-based holding company that manufactures several complementary product lines to Invacare's product lines, including power add-on products, bath lifts and walking aids, from WP Domus LLC. Domus has three divisions: Alber, Aquatec and Dolomite. The acquisition allows the company to expand its product line and reach new markets. The preliminary purchase price was $227,382,000 including acquisition costs of $3,670,000, which was paid in cash, and is subject to final determination of the estimated costs of possible office closures, sales agency transfers and other consolidation efforts expected to be finalized by the end of the third quarter of 2005. The acquisition was consummated after satisfaction of certain conditions, including receipt of all requisite regulatory approvals. Invacare entered into a 100,000,000 Euro bridge loan agreement and utilized its existing revolving credit line to fund the acquisition. Invacare's reported results reflect the operating results of Domus since the date of the acquisition. Carroll Healthcare, Inc. was purchased in 2003 and as part of the purchase agreement, the company agreed to pay additional consideration based upon earnings before interest, taxes, depreciation and amortization from September 1, 2003 through August 31, 2004 calculated under Canadian generally accepted accounting principles (U.S. GAAP has been used for company reporting purposes) in accordance with the purchase agreement, with no defined maximum amount. The payment amount was finalized and paid in October 2004 at 74,667,000 Canadian Dollars, or $60,992,335 U.S. Dollars, which increased goodwill. I-11 Motion Concepts, Inc. ("Motion") also was purchased in 2003 and pursuant to the Motion purchase agreement, the Company agreed to pay contingent consideration based upon earnings before interest and taxes over the three years subsequent to the acquisition up to a maximum of approximately $16,000,000. Based upon 2004 results, no additional consideration was paid. When the contingency calculations are completed in 2005 and 2006 related to the acquisition, any additional consideration paid will increase the purchase price and reported goodwill. As a result of the company's ongoing search for opportunities, coupled with the industry trend toward consolidation, other acquisitions were evaluated in 2004. The company focuses on acquisitions intended to fulfill the following objectives: Tactical. Grow market share or extend current product lines. Strategic. Enter new market segments that complement existing businesses or utilize the company's distribution strengths. Geographic. Enable rapid entry into new foreign markets. GOVERNMENT REGULATION --------------------- The company is directly affected by government regulation and reimbursement policies in virtually every country in which it operates. Government regulations and health care policy differ from country to country and within some countries, most notably the U.S., Australia and Canada, from state to state or province to province. Changes in regulations and health care policy take place frequently and can impact the size, growth potential and profitability of products sold in each market. In the U.S., the growth of health care costs has increased at rates in excess of the rate of inflation and as a percentage of GDP for several decades. A number of efforts to control the federal deficit have impacted reimbursement levels for government sponsored health care programs and private insurance companies often imitate changes made in federal programs. Reimbursement guidelines in the home health care industry have a substantial impact on the nature and type of equipment an end user can obtain and, thus, affect the product mix, pricing and payment patterns of the company's customers who are the HME providers. The company continues its pro-active efforts to shape public policy that impacts home and community-based, non-acute health care. We are currently very active with federal legislation and regulatory policy makers. Invacare believes that these efforts give the company a competitive advantage in two ways. First, customers frequently express appreciation for our efforts on behalf of the entire industry. Second, sometimes we have the ability to anticipate and plan for changes in public policy, unlike most other HME manufacturers who must react to change after it occurs. The Safe Medical Devices Act of 1990 and Medical Device Amendments of 1976 to the Federal Food, Drug and Cosmetics Act of 1938 (the Acts) provide for regulation by the United States Food and Drug Administration (the FDA) of the manufacture and sale of medical devices. Under the Acts, medical devices are classified as Class I, Class II or Class III devices. The company principal products are designated as Class I or Class II devices. In general, Class I devices must comply with labeling and record keeping requirements and are subject to other general controls. In addition to general controls, certain Class II devices must comply with product design and manufacturing controls established by the FDA. Domestic and foreign manufacturers of medical devices distributed commercially in the U.S. are subject to periodic inspections by the FDA. Furthermore, state, local and foreign governments have adopted regulations relating to the manufacture and marketing of health care products. During the past year, the company was inspected by the FDA at multiple locations and found to be acceptable, with only minor inspectional findings needing attention. From time to time, the company may undertake voluntary recalls of its products to maintain ongoing customer relationships and to enhance its reputation for adhering to high standards of quality and safety. The company continues to strengthen its programs to better ensure compliance with applicable regulations for which the failure to comply would have a material adverse effect. Although there are a number of reimbursement related issues in most of the countries in which Invacare competes, the issues of primary importance are currently in the United States. There are two critical issues for Invacare: eligibility for reimbursement of power wheelchairs for elderly patients and the provisions of the legislation related to prescription drug coverage under Medicare. With regard to power wheelchairs, there has been a regulatory push by the Centers for Medicare and Medicaid Services (CMS) towards limiting eligibility to patients who cannot take a single step on their own. This limitation has confined many elderly patients, who could be mobile in power wheelchairs, to their beds. Invacare and the home care industry are working hard to convince CMS and the Bush administration that this change does not benefit the elderly and is leading to less active patients who could end up in costly nursing homes and hospitals, and thereby would counteract any cost savings attributable to limiting the eligibility for power wheelchairs. The Administration is scheduled to soon issue new power wheelchair eligibility criteria, which we expect to provide more predictability and improved access to this benefit. I-12 In November of 2003, Congress passed legislation related to providing prescription drug coverage for the elderly under the Medicare program. As part of funding the costs of this new program, a number of changes to Medicare home care reimbursement rules will take effect over the next few years. First, the home care provider, who is Invacare's customer, did not receive a cost-of-living adjustment in 2004 and will not receive an update in 2005 and 2006. Second, in 2005, Medicare reimbursement for oxygen, along with certain types of home care beds, wheelchairs, nebulizers and supplies, will be lowered to the median reimbursement levels in the Federal Employee Health Benefit Plans. Third, starting in 2007, Congress has authorized competitive bidding in ten of the largest metropolitan regions of the U.S. for home medical items and services. In 2009, the program would be extended to eighty of the largest metropolitan regions. Although none of these changes are beneficial to the home care industry, Invacare believes that it can still grow and thrive in this environment. The home care industry has not received any cost-of-living adjustments over the last few years and will try to respond with improved productivity to address the lack of support from Congress. In terms of the 2005 price reductions, although we do not yet know what price reduction will be applied to oxygen reimbursement, it is anticipated that the blended cut for all items will be approximately 8%. If we estimate the impact that the 2005 cuts could have on our revenue stream, they are expected to be around 1% of consolidated net sales. However, Invacare's new products (for example, the low cost oxygen delivery system of HomeFill(TM)), can help address the cuts the home care provider has to endure. We will continue to focus on developing products that help the provider improve profitability. With such products, Invacare believes that it can grow and offset the risks. Additionally, Invacare will accelerate its activities in China to make sure that we are one of the lowest cost manufacturers and distributors to the home care provider. In terms of competitive bidding, Invacare has strong positions with the likely consolidators who will probably gain share as we approach 2007 and enter the new reimbursement environment. We believe that we are well positioned to combat pricing pressures with volume gains and productivity improvements. Nevertheless, there will be ongoing uncertainty in the industry over the extent and depth of these cuts to the home care industry. Invacare is concerned that, once implemented, competitive bidding will likely generate poorer service in the home care arena as providers look to remain profitable. Likewise, it will likely lead to further consolidation of the provider base as small entrepreneurs may look to exit a less profitable business model. Invacare will keep a close watch on its extension of credit in this environment and will work with the industry to pressure Congress to reconsider its actions. We believe that home care is the least costly and most preferred environment in which an individual can recover from an operation or illness and that government actions should encourage home care rather than lead to more expensive alternatives. BACKLOG ------- The company generally manufactures most of its products to meet near-term demands by shipping from stock or by building to order based on the specialty nature of certain products. Therefore, the company does not have substantial backlog of orders of any particular product nor does it believe that backlog is a significant factor for its business. EMPLOYEES --------- As of December 31, 2004, the company had approximately 6,100 employees. FOREIGN OPERATIONS AND EXPORT SALES ----------------------------------- The company also markets its products for export to other foreign countries. The company had product sales in over 80 countries worldwide. For information relating to net sales, operating income and identifiable assets of the company's foreign operations, see Business Segments in the Notes to the Consolidated Financial Statements. AVAILABLE INFORMATION --------------------- The company files Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and any amendments thereto, as well as proxy statements and other documents with the Securities and Exchange Commission (SEC). The public may read and copy any material that the company files with the SEC at the SEC's Public Reference Room located at 450 Fifth Street, NW, Washington D.C. 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also maintains a website, www.sec.gov, that contains all reports, proxy statements and other information filed by the company with the SEC. Additionally, Invacare's filings with the SEC are available on or through the company's website, www.invacare.com, as soon as reasonably practicable after they are filed electronically with, or furnished to, the SEC. Copies of the company's filings also can be requested, free of charge, by writing to: Shareholder Relations Department, Invacare Corporation, One Invacare Way, P.O. Box 4028, Elyria, OH 44036-2125. I-13 Item 2. Properties. ------------------- The company owns or leases its warehouses, offices and manufacturing facilities and believes that these facilities are well maintained, adequately insured and suitable for their present and intended uses. Information concerning certain leased facilities of the company as of December 31, 2004 is set forth in Leases and Commitments in the Notes to the Consolidated Financial Statements of the company and in the table below:
Ownership Or Expiration Renewal North American Operations Square Feet Date of Lease Options Use ------------------------- ----------- ------------- ------- --- Alexandria, Virginia 230 September 2005 None Office Apharetta, Georgia 9,000 June 2006 None Warehouse and Offices Atlanta, Georgia 137,284 February 2008 One (3 yr.) Warehouse and Offices Atlanta, Georgia 48,000 August 2006 None Sublet Beltsville, Maryland 33,329 February 2005 One (3 yr.) Manufacturing, Offices, and Warehouse Delta, British Columbia 12,000 January 2008 One (3 yr.) Warehouse and Offices Deer Park, New York 5,100 January 2006 None Warehouse and Offices Edison, New Jersey 105,014 March 2010 None Warehouse and Offices Elyria, Ohio - Taylor Street 251,656 Own - Manufacturing and Offices - Cleveland Street 107,052 November 2007 One (3 yr.) Warehouse - One Invacare Way 50,000 Own - Headquarters - 1320 Taylor Street 30,000 January 2010 One (5 yr.) Offices - 1160 Taylor Street 4,800 Own - Warehouse and Offices Fresno, California 2,500 August 2005 - Warehouse and Offices Grand Prairie, Texas 43,754 April 2008 One (3 yr.) Warehouse and Offices Holliston, Massachusetts 57,420 August 2006 None Warehouse and Offices Kirkland, Quebec 26,196 November 2010 One (5 yr.) Manufacturing, Warehouse and Offices Jamesburg, New Jersey 83,200 November 2009 One (5 yr.) Warehouse and Offices Kunshan City, China 4,800 May 2006 One (2 yr.) Manufacturing and Offices Longmont, Colorado 2,400 December 2006 - Offices London, Ontario 103,200 Own - Manufacturing and Offices Marlboro, New Jersey 2,100 June 2005 None Office Mississauga, Ontario 81,004 January 2005 One (5 yr.) Sublet Mississauga, Ontario 26,530 November 2011 Two (5 yr.) Warehouse and Offices North Ridgeville, Ohio 152,861 Own - Manufacturing, Warehouses and Offices
I-14
Ownership Or Expiration Renewal North American Operations Square Feet Date of Lease Options Use ------------------------- ----------- ------------- ------- --- North Ridgeville, Ohio 66,724 September 2007 Two (3 yr.) Office Overland, Missouri 67,500 May 2007 Two (3 yr.) Manufacturing, Warehouses and Offices Pharr, Texas 2,672 Month to Month - Warehouse Pinellas Park, Florida 11,400 July 2005 Three (1 yr.) Manufacturing and Offices Rancho Cucamonga, California 55,890 June 2009 One (60 day) Warehouse Reynosa, Mexico 129,690 Own - Manufacturing and Offices Sacramento, California 26,900 May 2008 One (3 yr.) Manufacturing, Warehouse and Offices Sanford, Florida 117,108 Own - Manufacturing and Offices Sanford, Florida 100,000 Own - Manufacturing and Offices Scarborough, Ontario 5,428 February 2005 None Manufacturing and Offices Simi Valley, California 38,501 February 2009 Two (5 yr.) Manufacturing, Warehouse and Offices South Bend, Indiana 48,000 September 2008 Two (5 yr.) Warehouse Spicewood, Texas 6,500 Month to Month None Manufacturing and Offices Suzhou, China 5,000 May 2006 None Manufacturing and Offices Tonawanda, New York 7,515 March 2008 None Warehouse and Offices Traverse City, Michigan 15,850 April 2006 None Manufacturing and Offices Vaughan, Ontario 12,000 June 2008 None Manufacturing and Offices Asia/Pacific Operations ----------------------- Adelaide, Australia 21,668 April 2006 One (5 yr.) Manufacturing, Warehouse and Offices Adelaide, Australia 24,000 August 2007 One (5 yr.) Manufacturing, Warehouse and Offices Auckland, New Zealand 27,000 September 2008 Two (3 yr.) Manufacturing, Warehouse and Offices Birmingham, United Kingdom 15,845 July 2013 None Warehouse and Offices Christchurch, New Zealand 57,682 December 2005 Two (3 yr.) Manufacturing and Offices Hong Kong, China 600 February 2007 None Offices Hong Kong, China 600 April 2007 None Offices
I-15
Ownership Or Expiration Renewal Asia/Pacific Operations Square Feet Date of Lease Options Use ------------------------- ----------- ------------- ------- --- Melbourne, Australia 19,629 July 2006 One (2 yr.) Manufacturing, Warehouse and Offices Napier, New Zealand 4,844 March 2009 Two (3 yr.) Warehouse and Offices North Olmsted, Ohio 2,280 October 2008 None Warehouse and Offices Sydney, Australia 16,000 February 2009 Two (3 yr.) Warehouse and Offices European Operations ------------------- Albstadt-Tailfi, Germany 78,495 January 2018 Two (5 yr.) Manufacturing, Warehouse and Offices Allschwil, Switzerland 36,000 Own - Manufacturing, Warehouse and Offices Anderstorp, Sweden 47,527 Own - Manufacturing, Warehouse and Offices Bergen, Norway 1,000 May 2009 One (5 yr.) Warehouse and Offices Bridgend, Wales 131,522 Own - Manufacturing, Warehouse and Offices Brondby, Denmark 16,142 December 2005 One (1 yr.) Warehouse and Offices Dio, Sweden 107,600 Own - Manufacturing and Offices Dublin, Ireland 5,000 December 2009 Three (5 yr.) Warehouse and Offices Ede, The Netherlands 16,000 May 2009 One (5 yr.) Warehouse and Offices Fondettes, France 106,412 November 2007 None Manufacturing, Warehouse, and Offices Girona, Spain 13,600 November 2005 One (1 yr.) Warehouse and Offices Gland, Switzerland 4,306 September 2007 One (5 yr.) Offices Gland, Switzerland 1,173 September 2007 One (4 yr.) Offices Goteberg, Sweden 7,500 June 2006 One (3 yr.) Warehouse and Offices Hong, Denmark 155,541 Own - Manufacturing, Warehouse and Offices Isny, Germany 197,581 Own - Manufacturing, Warehouse and Offices Loppem, Belgium 6,000 December 2009 One (3 yr.) Warehouse and Offices Landskrona, Sweden 3,099 April 2005 One (3 yr.) Warehouse Mondsee, Austria 1,505 March 2005 Unlimited Warehouse and Offices Munchen, Germany 2,022 July 2005 None Offices
I-16
Ownership Or Expiration Renewal European Operations Square Feet Date of Lease Options Use ------------------------- ----------- ------------- ------- --- Ontario, Canada 14,394 May 2007 None Offices Oporto, Portugal 27,800 Own - Manufacturing, Warehouse and Offices Oskarshamn, Sweden 3,551 December 2005 One (1 yr.) Warehouse Oslo, Norway 30,650 September 2006 None Warehouse and Offices Porta Westfalica, Germany 134,563 October 2021 None Manufacturing, Warehouse and Offices Spanga, Sweden 3,228 June 2007 One (3 yr.) Warehouse and Offices Spanga, Sweden 16,140 Own - Warehouse and Offices Thiene, Italy 21,520 Own - Warehouse and Offices Marano, Italy 21,528 May 2005 One (6 yr.) Manufacturing Fondettes, France 106,412 November 2007 None Manufacturing, Warehouse, and Offices Trondheim, Norway 3,000 December 2007 One (3 yr.) Services and Offices Venissieux, France 1,409 October 2006 None Offices Witterswil, Switzerland 40,301 March 2015 Various (5 year) Manufacturing, Warehouse, and Offices Wurenlos, Switzerland 3,935 June 2009 One (to be determined) Offices
Item 3. Legal Proceedings. -------------------------- In the ordinary course of its business, Invacare is a defendant in a number of lawsuits, primarily product liability actions in which various plaintiffs seek damages for injuries allegedly caused by defective products. All of the product liability lawsuits have been referred to the company's insurance carriers and are being contested vigorously. Coverage territory is worldwide with the exception of those countries with respect to which, at the time the product is sold for use or at the time a claim is made, the U.S. government has suspended or prohibited diplomatic or trade relations. Management does not believe that the outcome of any of these actions will have a material adverse effect upon its business or financial condition. Item 4. Submission of Matters to a Vote of Security Holders. ------------------------------------------------------------- During the fourth quarter of 2004, no matter was submitted to a vote of our security holders. Executive Officers of the Registrant.* ------------------------------------ The following table sets forth the names of the executive officers of Invacare, each of whom serves at the pleasure of the Board of Directors, as well as certain other information.
Name Age Position ---- --- -------- A. Malachi Mixon, III 64 Chairman of the Board of Directors and Chief Executive Officer Gerald B. Blouch 58 President, Chief Operating Officer and Director Gregory C. Thompson 49 President - HME Group and Chief Financial Officer
I-17 Name Age Position ---- --- -------- Joseph B. Richey, II 68 President - Invacare Technologies, Senior Vice President - Electronics and Design Engineering and Director Louis F.J. Slangen 57 Senior Vice President - Global Market Development Joseph Usaj 53 Senior Vice President - Human Resources
A. Malachi Mixon, III has been a Director since 1979. Mr. Mixon has been Chief Executive Officer since 1979 and Chairman of the Board since 1983 and also served as President until 1996, when Gerald B. Blouch, Chief Operating Officer, was elected President. Gerald B. Blouch has been President and a Director of Invacare since November 1996. Mr. Blouch has been Chief Operating Officer since December 1994 and Chairman-Invacare International since December 1993. Previously, Mr. Blouch was President-Homecare Division from March 1994 to December 1994 and Senior Vice President-Homecare Division from September 1992 to March 1994. Mr. Blouch served as Chief Financial Officer of Invacare from May 1990 to May 1993 and Treasurer of Invacare from March 1991 to May 1993. Mr. Blouch is also a director of NeuroControl Corporation, Cleveland, Ohio, a privately held company, which develops and markets electromedical stimulation systems for stroke patients. Gregory C. Thompson was named Senior Vice President and Chief Financial Officer in November 2002. In January 2005, he was assigned the additional position of President - Home Medical Equipment Group. Before coming to Invacare, Mr. Thompson served as Senior Vice President and Chief Financial Officer of Sensormatic Electronics Corporation, a global manufacturer of electronic security products, from October 2000 to January 2002 and was Vice President and Controller from February 1997 to October 2000. Previously, Mr. Thompson was Vice President and Corporate Controller for Wang Laboratories from August 1994 to February 1997 and Assistant Corporate Controller from October 1990 to August 1994. Joseph B. Richey, II has been a Director since 1980 and in September 1992 was named President - Invacare Technologies and Senior Vice President - Electronics and Design Engineering. Previously, Mr. Richey was Senior Vice President of Product Development from July 1984 to September 1992 and Senior Vice President and General Manager of North American Operations from September 1989 to September 1992. Mr. Richey is also a director of NeuroControl Corporation, Cleveland, Ohio, a privately held company, which develops and markets electromedical stimulation systems for stroke patients. Louis F. J. Slangen was named Senior Vice President - Global Market Development in June 2004. Previously, Mr. Slangen was Senior Vice President - Sales & Marketing from December 1994 to June 2004 and from September 1989 to December 1994 was Vice President - Sales and Marketing. Mr. Slangen was previously President - Rehab Division from March 1994 to December 1994 and Vice President and General Manager - Rehab Division from September 1992 to March 1994. Joseph Usaj has been the Senior Vice President - Human Resources since May 2004. Before coming to Invacare, Mr. Usaj served as Vice President - Human Resources for Ferro Corporation, a global manufacturer of performance materials in the electronics, automotive, consumer products and pharmaceutical industries, from August 2002 to December 2003. Previously, Mr. Usaj was Vice President - Human Resources for Phillips Medical Systems from 1998 to 2002. * The description of executive officers is included pursuant to Instruction 3 to Section (b) of Item 401 of Regulation S-K. I-18 PART II Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Repurchases of Equity Securities. -------------------------------------------------------------------------------- Invacare Common Shares, without par value, trade on the New York Stock Exchange (NYSE) under the symbol IVC. Ownership of the company Class B Common Shares (which are not listed on NYSE) cannot be transferred, except, in general, to family members. Class B Common Shares may be converted into Common Shares at any time on a share-for-share basis. The approximate number of record holders of the company Common Shares and Class B Common Shares at February 24, 2005 was 4,813 and 27, respectively. The closing sale price for the Common Shares on February 24, 2005 as reported by NYSE, was $46.57. The prices set forth below do not include retail markups, markdowns or commissions. The range of high and low quarterly prices of the Common Shares in each of the two most recent fiscal years were as follows: 2004 2003 ---- ---- Quarter Ended: High Low High Low ------------- ---- --- ---- --- December 31 $52.00 $43.72 $43.74 $38.78 September 30 47.16 39.74 40.00 32.99 June 30 46.50 39.34 34.00 30.29 March 31 46.50 39.63 34.15 30.02 During 2004 and 2003, the Board of Directors declared dividends of $0.05 per Common Share and $0.045 per Class B Common Share. For information regarding limitations on the payment of dividends in the company loan and note agreements, see Long Term Debt in the Notes to the Consolidated Financial Statements. The Common Shares are entitled to receive cash dividends at a rate of at least 110% of cash dividends paid on the Class B Common Shares. Information regarding the securities authorized for issuance under equity compensation plans is incorporated by reference to the information set forth under the captions Compensation of Executive Officers and Compensation of Directors in the company's definitive Proxy Statement for the 2005 Annual Meeting of Shareholders. I-19 Item 6. Selected Financial Data
2004 2003 2002 2001* 2000 ---- ---- ---- ---- ---- (In thousands, except per share and ratio data) Earnings Net Sales $1,403,327 $1,247,176 $1,089,161 $1,053,639 $1,013,162 Net Earnings ** 75,197 71,409 64,770 35,190 59,911 Net Earnings per Share - Basic 2.41 2.31 2.10 1.15 1.99 Net Earnings per Share - Assuming Dilution 2.33 2.25 2.05 1.11 1.95 Dividends per Common Share 0.05000 0.05000 0.05000 0.05000 0.05000 Dividends per Class B Common Share 0.04545 0.04545 0.04545 0.04545 0.04545 2004 2003 2002 2001* 2000 ---- ---- ---- ---- ---- Balance Sheet Current Assets $565,151 $474,722 $398,812 $ 428,401 $432,408 Total Assets 1,628,124 1,108,213 906,703 914,537 951,855 Current Liabilities 258,141 223,488 168,226 167,453 197,387 Working Capital 307,010 251,234 230,586 260,948 235,021 Long-Term Debt 547,974 232,038 234,134 342,724 384,316 Shareholders' Equity 753,438 618,304 480,312 381,550 349,773 Other Data Research and Development Expenditures $21,638 $19,130 $17,934 $17,394 $16,231 Capital Expenditures, net of Disposals 41,400 30,129 19,718 19,486 26,268 Depreciation and Amortization 32,316 27,235 26,638 33,448 31,469 Key Ratios Return on Sales 5.4% 5.7% 5.9% 3.3% 5.9% Return on Average Assets 5.5% 7.1% 7.1% 3.8% 6.3% Return on Beginning Shareholders' Equity 12.2% 14.9% 17.0% 10.1% 18.8% Current Ratio 2.2:1 2.1:1 2.4:1 2.6:1 2.2:1 Debt-to-Equity Ratio 0.7:1 0.4:1 0.5:1 0.9:1 1.1:1
* Reflects non-recurring and unusual charge of $31,950 ($25,250 after tax or $0.80 per share assuming dilution). ** Amortization of goodwill ceased in 2002, net earnings in 2001 and 2002 include amortization expense of $8,972 and $8,899, respectively. The comparability of the Selected Financial Data provided in the above table is limited as acquisitions made, in particular, the Domus acquisition in 2004, materially impacted the company's reported results. See Acquisitions in the Notes to the Consolidated Financial Statements, which provides pro-forma results. I-20 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. -------------------------------------------------------------------------------- OUTLOOK ------- Uncertainty related to Medicare's reimbursement policies for power wheelchairs is now expected to continue throughout 2005. The new proposed criteria from CMS require public comment before implementation. The resulting ambiguity that is impacting the consumer power wheelchair market likely will not be clarified until late 2005, although CMS has recently indicated it will try and finalize the new criteria in the first half of 2005. Adding to the problems arising from the reimbursement difficulties, there will be additional confusion resulting from Medicare's plan to expand coding of the power wheelchair reimbursement system from 4 codes to 49 codes in January 2006. Despite the reimbursement pressures, the Company believes that it will have a net sales increase of between 18% and 20%, with acquisitions contributing between 11% and 13% and currency translation contributing a minimal amount. Earnings per share is expected to be between $2.75 and $2.90 in 2005, excluding the impact from the stock option accounting standard recently announced by the Financial Accounting Standards Board. Invacare believes it can still grow and thrive despite the fact that the home care industry has not received any cost-of-living adjustments over the last few years and government regulatory landscape is uncertain. The company expects that the blended cut for the items affected by recent government regulations will be around 8%, which should negatively affect consolidated net sales by around 1%. However, Invacare's new products, (for example, the low cost oxygen delivery system of HomeFill(TM)), can help address the cuts the home care provider has to endure. We will continue to focus on developing products that help the provider improve profitability. With such products, Invacare believes it can grow and offset the risks. Additionally, Invacare will accelerate its activities in China to make sure that we are one of the lowest cost manufacturers and distributors to the home care provider. RESULTS OF OPERATIONS --------------------- 2004 Versus 2003 Reclassifications. The following Management's Discussion and Analysis of Financial Condition and Results of Operations reflect certain reclassifications made to the prior years' consolidated financial statements to conform to the presentation used for the year ended December 31, 2004. Net Sales. Consolidated net sales for 2004 increased 13% for the year, to $1,403,327,000 from $1,247,176,000. Acquisitions accounted for 8 percentage points of the net sales increase while foreign currency translation contributed an additional 3 percentage points. The overall growth was primarily driven by volume increases in North America. North American Operations North American net sales, increased 12% over the prior year, with acquisitions accounting for 8% of the increase and currency translation having less than a one percentage point impact. These sales consist of Rehab (power wheelchairs, custom manual wheelchairs, personal mobility and seating and positioning), Standard (manual wheelchairs, personal care, home care beds, low air loss therapy and patient transport), Continuing Care (beds and furniture), Respiratory (oxygen concentrators, aerosol therapy, sleep, homefill and associated respiratory) and Distributed (ostomy, incontinence, diabetic, wound care and other medical supplies) products. For the year, the net sales increase was attributable to volume increases in: Respiratory products (37%), largely due to continued strong performance in the Homefill(TM) oxygen system product line; Distributed products (26%), with acquisitions contributing 15 percentage points of the improvement; and Continuing Care products (59%) with acquisitions contributing 52 percentage points of the improvement. These were partially offset by declines in Standard products (6%) as a result of reduced pricing and flat Rehab product sales. Sales of Rehab products were negatively impacted by Medicare and Medicaid related reimbursement pressures. In particular, CMS was expected to release new guidelines for power chairs in the fourth quarter of 2004, it instead circulated proposed criteria that required public comment before implementation. While the proposed criteria are favorable and are based on CMS' own medical study, the ambiguity that is impacting the power wheelchair market has resulted in significant declines in this market segment. Other products, consisting primarily of the company's Canadian and aftermarket parts businesses, had a 10% net sales increase principally as a result of volume increases. European Operations European net sales increased 20% over the prior year to $336,792,000 from $279,782,000. Acquisitions contributed 12 percentage points of the increase and foreign currency accounted for 10 percentage points of the increase. The decline in organic growth was primarily due to reduced volumes in the Nordic countries and continued reimbursement pressures in Germany. I-21 Asia/Pacific Operations Asia/Pacific net sales declined 8% from the prior year to $64,262,000 from $70,186,000. Excluding the impact of foreign exchange, net sales declined 18% for the year. The decline was primarily the result of reduced volumes of microprocessor controllers, resulting from the global slowdown in the production of power wheelchairs caused in large part by the Medicare reimbursement challenges in the United States described above. The Asia/Pacific segment transacts a substantial amount of its business with customers outside of their region in various currencies other than their functional currency, the New Zealand Dollar. As a result, changes in exchange rates particularly with the Euro and U.S. Dollar can have a significant impact on sales and cost of sales. Gross Profit. Consolidated gross profit as a percentage of net sales was 29.8% in 2004 and 30.0% in 2003. The margin decline was attributable to continued competitive pricing pressures and increased freight costs partially offset by continued cost reduction initiatives. North American gross profit as a percentage of net sales was 30.2% in 2004 versus 30.3% in 2003. The decline was primarily attributable to reduced pricing in Standard products partially offset by continued cost reduction efforts. Gross profit in Europe as a percentage of net sales declined .7 of a percentage point from the prior year. The decline is attributable to unfavorable sales mix toward lower margin products and additional costs related to new product introductions. Gross profit in Asia/Pacific as a percentage of net sales decreased by 3.5 percentage points from the prior year. The decline was due in part to increased sales of lower margin products in the company's Dynamic Controls subsidiary, reduced volumes and unfavorable foreign currency associated with normal operating transactions. Selling, General and Administrative. Consolidated selling, general and administrative expenses as a percentage of net sales were 21.2% in 2004 and 21.0% in 2003. The overall dollar increase was $35,109,000 or 13%, with acquisitions increasing selling, general and administrative costs by approximately $20,263,000 or 8% and currency translation by $9,409,000 or 4%. Selling, general and administrative expenses also increased as a result of increased distribution and commission costs related to increased volumes, continued investments in marketing and branding programs, and increased legal costs. These were partially offset by reduced bad debt expense and management bonuses as a result of reduced profitability from plan. Selling, general and administrative expenses for North American operations increased 9% or $16,562,000 compared to 2003 with acquisitions accounting for 7 percentage points of the increase. The remaining increase is primarily attributable to continued investments in marketing and branding programs, increased distribution and commission costs related to increased volume and higher legal costs. These increases were partially offset by reduced bad debt expense and management bonuses. European operations' selling, general and administrative expenses increased 26% or $17,290,000 from the prior year. European selling, general and administrative expenses increased due to acquisitions and foreign currency translation. Increases, primarily for acquisitions, were $7,791,000 or 12% and for currency translation totaled $7,305,000 or 11%. The remaining increase was primarily attributable to additional programs to re-establish sales growth. Asia/Pacific operations' selling, general and administrative expenses increased 16% or $1,257,000 with foreign currency increasing the expense by $961,000 or 12%. The remaining increase was primarily attributable to additional systems costs related to an Enterprise Resource Planning (ERP) implementation and sales and marketing costs associated with the development of the Asia market. Interest. Interest expense increased to $16,282,000 in 2004 from $11,710,000 in 2003, representing a 39% increase. This increase was attributable to increased borrowings under the Company's revolving credit facility, and to new borrowings under an interim bridge loan financing facility. The company's debt-to-equity ratio increased to 0.7:1 as of December 31, 2004 from 0.4:1 as of the end of the prior year. Interest income in 2004 was $5,186,000, which was comparable to $5,473,000 in the prior year. Since December 2000, Invacare customers primarily utilize the third-party financing arrangement with DLL, a subsidiary of Rabo Bank of the Netherlands, to provide financing. Income Taxes. The company had an effective tax rate of 31.9% in 2004 and 32.9% in 2003. The effective tax rate declined due to a change in the mix of earnings and permanent deductions. The Company's effective tax rate is lower than the federal statutory rate primarily due to tax credits and earnings abroad being taxed at rates lower than the federal statutory rate. I-22 Research and Development. The company continues to increase its research and development activities to maintain its competitive advantage. The company dedicates dollars to applied research activities to ensure that new and enhanced design concepts are available to its businesses. Research and development expenditures, which are included in costs of products sold, increased to $21,638,000 in 2004 from $19,130,000 in 2003. The expenditures, as a percentage of net sales, were 1.5% in 2004 and 1.5% in the prior year. 2003 Versus 2002 Net Sales. Consolidated net sales for 2003 increased 15% for the year, to $1,247,176,000 from $1,089,161,000, with net sales increasing in all business segments on a reported basis. Foreign currency translation accounted for 6% of the net sales increase, while acquisitions contributed an additional 3%. The overall growth was primarily driven by volume increases in North America and Asia/Pacific. North American Operations North American net sales, consisting of Rehab (power wheelchairs, custom manual wheelchairs, personal mobility and seating and positioning), Standard (manual wheelchairs, personal care, home care beds, low air loss therapy and patient transport), Continuing Care (beds and furniture), Respiratory (oxygen concentrators, aerosol therapy, sleep, homefill and associated respiratory) and Distributed (ostomy, incontinence, diabetic, wound care and other medical supplies) products increased 13% over the prior year, with currency translation having less than a one percentage point impact and acquisitions accounting for 3%. For the year, the net sales increase was attributable to increases in Respiratory products (43%), Rehab products (30%), Distributed products (11%) and Continuing Care products (20%), which were partially offset by declines in Standard products (6%). Excluding acquisitions, Rehab product net sales increased by 26% and Continuing Care product net sales declined by 4%. The net sales improvements were led by strong sales growth in oxygen concentrators, the HomeFill(TM) product line and consumer power products. Declines were primarily attributable to continued pricing pressures in Standard products and weaker sales to nursing homes through Invacare Continuing Care Group as a result of the continued uncertainty surrounding government reimbursement programs. Other products, consisting primarily of the company's Canadian and aftermarket parts businesses, had an 8% net sales increase primarily as a result of volume increases. European Operations European net sales increased 11% over the prior year to $279,782,000 from $251,443,000. Foreign currency and acquisitions contributed 16 percentage points and 3 percentage points, respectively, of the net sales increase. The organic decline of 8% was primarily due to slower than expected sales in the Nordic region and reimbursement pressures in Germany. Asia/Pacific Operations Asia/Pacific net sales increased 59% from the prior year to $70,186,000 from $44,254,000. Excluding the impact of foreign exchange, net sales increased 27% for the year. The increase was primarily the result of sales at Dynamic Controls due in part to a significant increase in sales to a non-healthcare customer. Gross Profit. Consolidated gross profit as a percentage of net sales were 30.0% in 2003 and 30.1% in 2002. Margins remained relatively flat, as the company was able to offset pricing pressures with improved manufacturing performance. North American gross profit as a percentage of net sales was 30.3% in 2003 versus 30.0% in 2002. The increase was primarily attributable to continued cost reduction efforts and improved product and customer mix. Gross profit in Europe as a percentage of net sales improved 1.0 percentage point from the prior year. The improvement is attributable to favorable sales mix towards higher margin products and cost reduction efforts. Gross profit in Asia/Pacific as a percentage of net sales decreased by 6.1 percentage points from last year. The decline was due in part to increased sales of lower margin products in the company's Dynamic Controls subsidiary and increased costs to support the growth in the business. I-23 Selling, General and Administrative. Consolidated selling, general and administrative expenses as a percentage of net sales were 21.0% in 2003 and 20.2% in 2002. The overall dollar increase was $41,719,000 or 19% with currency translation increasing selling, general and administrative costs by approximately $13,103,000 or 6% and acquisitions by $6,800,000 or 3%. Selling, general and administrative expenses also increased as a result of accruals for management bonuses as a result of improved profitability, increased distribution and commission costs related to increased volumes, continued investments in marketing and branding programs, and increased insurance costs. North American operations selling, general and administrative expenses increased 15% or $21,789,000 compared to 2002. The increase is primarily attributable to acquisitions, continued investments in marketing and branding programs, additional provisions for bad debt and increases in insurance costs. European operations selling, general and administrative expenses increased 30% or $15,721,000 from the prior year. European selling, general and administrative expenses were negatively impacted by foreign currency translation and acquisitions, which increased expenses, reported in dollars by $9,993,000 or 19% and $1,547,000 or 3%, respectively. The remaining increase was primarily attributable to additional programs to re-establish sales growth. Asia/Pacific operations' selling, general and administrative expenses increased 40% or $2,264,000 with foreign currency increasing the expense by $1,522,000 or 27%. Asia/Pacific selling, general and administrative costs grew at a slower rate than sales principally as a result of aggressive expense control. Interest. Interest expense decreased to $11,710,000 in 2003 from $15,122,000 in 2002, representing a 23% decrease. This decrease was attributable to the continued favorable interest rate environment in 2003 and to a decrease in the company's average borrowings outstanding under the company's revolving credit facility. The company's debt-to-equity ratio decreased to 0.4:1 as of December 31, 2003 from 0.5:1 as of the end of the prior year. Interest income increased in 2003 to $5,473,000 from $4,550,000 in the prior year, primarily attributable to an increase in loan origination fees received from De Lage Landen Inc. (DLL). Since December 2000, Invacare customers primarily utilize the third-party financing arrangement with DLL, a subsidiary of Rabo Bank of the Netherlands, to provide financing. Income Taxes. The company had an effective tax rate of 32.9% in both 2003 and 2002, which is lower than the United States federal statutory rate as a significant portion of the company earnings are outside of the United States and taxed at lower rates. Research and Development. The company continues to increase its research and development activities to maintain its competitive advantage. The company dedicates dollars to applied research activities to ensure that new and enhanced design concepts are available to its businesses. Research and development expenditures, which are included in costs of products sold, increased to $19,130,000 in 2003 from $17,934,000 in 2002. The expenditures, as a percentage of net sales, were 1.5% in 2003 and 1.6% in the prior year. INFLATION --------- Although the company cannot determine the precise effects of inflation, management believes that inflation does continue to have an influence on the cost of materials, salaries and benefits, utilities and outside services. The company attempts to minimize or offset the effects through increased sales volume, capital expenditure programs designed to improve productivity, alternative sourcing of material and other cost control measures. In 2004 and 2003, the company was able to offset the majority of the impact of price increases from suppliers by productivity improvements and other cost reduction activities. LIQUIDITY AND CAPITAL RESOURCES ------------------------------- The company continues to maintain an adequate liquidity position through its unused bank lines of credit (see Long-Term Debt in the Notes to Consolidated Financial Statements) and working capital management. The company maintains various bank lines of credit to finance its worldwide operations. In 2003, the company issued $100,000,000 in senior notes, which are due between 2007 and 2010. In 2001, the company completed a $325,000,000 multi-currency, long-term revolving credit agreement, which was replaced on January 14, 2005, along with a 100,000,000 Euro bridge agreement entered into in 2004, by a new $450,000,000 multi-currency, long-term revolving credit agreement. In February 2005, the new $450,000,000 multi-currency, long-term revolving credit agreement was also used to pay off the $20,000,000 senior notes at 6.60%. Additionally, the company maintains various other demand lines of credit totaling a U.S. dollar equivalent of approximately $4,229,000 as of December 31, 2004. The lines of credit along with cash generated from operations have been and will continue to be used to fund the company's domestic and foreign working capital, capital expenditures and acquisition requirements. As of December 31, 2004, the company had approximately $126,734,000 available under its various lines of credit, excluding debt covenant restrictions. I-24 The company's borrowing arrangements contain covenants with respect to, among other items, interest coverage, net worth, dividend payments, working capital, and funded debt to capitalization, as defined in the company's bank agreements and agreement with its note holders. The company is in compliance with all covenant requirements. Under the most restrictive covenant of the company's borrowing arrangements, the company has the capacity to borrow up to an additional $60,800,000 as of December 31, 2004 and up to $108,000,000, effective February 2005, pursuant to the covenants of the company's new $450,000,000 multi-currency, long-term revolving credit agreement. While there is general concern about the potential for rising interest rates, exposure to interest rate fluctuations is manageable given that a portion of the debt is at fixed rates through 2010. In addition, the ability to terminate existing swaps that exchange fixed rate debt to variable and to utilize interest rate swaps to fix a higher percentage of the company's debt coupled with free cash flow should allow Invacare to absorb the expected modest rate increases in the months ahead without any material impact on our liquidity or capital resources. As of December 31, 2004, the weighted average floating interest rate on U.S. borrowings was 3.36%. CAPITAL EXPENDITURES -------------------- There are no individually material capital expenditure commitments outstanding as of December 31, 2004. The company estimates that capital investments for 2005 could approximate up $37,000,000, compared to actual capital expenditures of $41,403,000 in 2004. The company believes that its balances of cash and cash equivalents, together with funds generated from operations and existing borrowing facilities, will be sufficient to meet its operating cash requirements and fund required capital expenditures for the foreseeable future. CASH FLOWS ---------- Cash flows provided by operating activities were $98,324,000 in 2004, compared to $116,204,000 last year. The decrease is due primarily to increases in installment receivables and inventory and a decline in accrued expenses primarily related to reduced customer rebates. These were partially offset by an increase in accounts payable. Cash flows used for investing activities were $389,022,000 in 2004, compared to $101,558,000 in 2003. The increase was primarily attributable to costs associated with acquired businesses with the Domus acquisition being the most significant. In addition, purchases of property and equipment activity in 2004 was higher compared to the prior year as the company is in the process of implementing Enterprise Resource Planning Systems in North America, Europe and Asia/Pacific. Cash flows provided by financing activities in 2004 were $307,051,000, compared to cash flows required of $13,955,000 in 2003. Financing activities for 2004 were impacted by an increase in the company's borrowings of $303,188,000 primarily related to acquisitions. In addition to acquisition activities, the effect of foreign currency translation results in amounts being shown in the Consolidated Statement of Cash Flows that are different from the changes reflected in the respective balance sheet captions. During 2004, the company generated free cash flow of $56,921,000 compared to free cash flow of $85,544,000 in 2003. The decrease was primarily attributable to additional capital expenditures made in 2004, primarily for enterprise resource planning systems as well as increases in installment receivables and inventory coupled with a decline in accrued expenses, primarily related to reduced customer rebates. Free cash flow is a non-GAAP financial measure that is comprised of net cash provided by operating activities less purchases of property and equipment. Management believes that this financial measure provides meaningful information for evaluating the overall financial performance of the Company and its ability to repay debt or make future investments (including acquisitions, etc.). The non-GAAP financial measure is reconciled to the GAAP measure as follows (in thousands): Twelve Months Ended December 31, 2004 2003 ---------------------------------------------------------------------------- Net cash provided by operating activities $98,324 $116,204 Adjusted for: Purchases of property and equipment (41,403) (30,660) ------- ------- Free Cash Flow $56,921 $85,544 ======= ======= I-25
CONTRACTUAL OBLIGATIONS ----------------------- (In thousands) Payments due by period Total Less than 1 year 1-3 years 3-5 years More than 5 years -------- ---------------- --------- --------- ----------------- Long-term debt obligations Senior Notes $234,595 $8,054 $68,065 $116,629 $41,847 Revolving credit agreements 382,755 10,647 20,648 20,648 330,812 Other notes 1,415 162 324 324 605 Operating lease obligations 37,354 15,680 14,909 5,050 1,715 Capital lease obligations 21,539 1,751 3,285 3,064 13,439 Purchase obligations (primarily computer systems 6,975 6,468 507 - - contracts) Other long-term obligations Product liability 17,045 2,595 7,263 3,227 3,960 SERP 13,371 424 1,658 1,559 9,730 Other, principally deferred compensation 16,680 339 3,068 612 12,661 -------- ------- -------- -------- --------- Total $731,729 $46,120 $119,727 $151,113 $414,769 ======== ======= ======== ======== ========
DIVIDEND POLICY --------------- It is the company's policy to pay a nominal dividend in order for its stock to be more attractive to a broader range of investors. The current annual dividend rate remains at $0.05 per Common Share and $0.045 per Class B Common Share. It is not anticipated that this will change materially as the company continues to have available significant growth opportunities through internal development and acquisitions. For 2004, dividends of $0.05 per Common Share and $0.045 per Class B Common Share were declared and paid. CRITICAL ACCOUNTING POLICIES ---------------------------- The consolidated financial statements include accounts of the company and all majority-owned subsidiaries. The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions in certain circumstances that affect amounts reported in the accompanying consolidated financial statements and related footnotes. In preparing these financial statements, management has made its best estimates and judgments of certain amounts included in the financial statements, giving due consideration to materiality. However, application of these accounting policies involves the exercise of judgment and use of assumptions as to future uncertainties and, as a result, actual results could differ from these estimates. Revenue Recognition Invacare's revenues are recognized when products are shipped to unaffiliated customers. The Securities and Exchange Commission's Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition," as updated by SAB No. 104, provides guidance on the application of generally accepted accounting principles to selected revenue recognition issues. The company has concluded that its revenue recognition policy is appropriate and in accordance with generally accepted accounting principles and SAB No. 101. Sales are only made to customers with whom the company believes collection is reasonably assured based upon a credit analysis, which may include obtaining a credit application, a signed security agreement, personal guarantee and/or a cross corporate guarantee depending on the credit history of the customer. Credit lines are established for new customers after an evaluation of their credit report and/or other relevant financial information. Existing credit lines are regularly reviewed and adjusted with consideration given to any outstanding past due amounts. The company offers discounts and rebates, which are accounted for as reductions to revenue in the period in which the sale is recognized. Discounts offered include: cash discounts for prompt payment, base and trade discounts based on contract level for specific classes of customers. Volume discounts and rebates are given based on large purchases and the achievement of certain sales volumes. Product returns are accounted for as a reduction to reported sales with estimates recorded for anticipated returns at the time of sale. The company does not sell any goods on consignment. Distributed products sold by the company are accounted for in accordance with EITF 99-19 Reporting Revenue Gross as a Principal versus Net as an Agent. The company records Distributed product sales gross as a principal since the company takes title to the products and has the risks of loss for collections, delivery and returns. I-26 Product sales that give rise to installment receivables are recorded at the time of sale when the risks and rewards of ownership are transferred. In December 2000, the company entered into an agreement with DLL, a third party financing company, to provide the majority of future lease financing to Invacare customers. As such, interest income is recognized based on the terms of the installment agreements. Installment accounts are monitored and if a customer defaults on payments, interest income is no longer recognized. All installment accounts are accounted for using the same methodology, regardless of duration of the installment agreements. Allowance for Uncollectible Accounts Receivable Accounts receivable are reduced by an allowance for amounts that may become uncollectible in the future. Substantially all of the company's receivables are due from health care, medical equipment dealers and long term care facilities located throughout the United States, Australia, Canada, New Zealand and Europe. A significant portion of products sold to dealers, both foreign and domestic, is ultimately funded through government reimbursement programs such as Medicare and Medicaid. In addition, the company has seen a significant shift in reimbursement to customers from managed care entities. As a consequence, changes in these programs can have an adverse impact on dealer liquidity and profitability. The estimated allowance for uncollectible amounts is based primarily on management's evaluation of the financial condition of the customer. In addition, as a result of the third party financing arrangement with DLL, management monitors the collection status of these contracts in accordance with the company's limited recourse obligations and provides amounts necessary for estimated losses in the allowance for doubtful accounts. Inventories and Related Allowance for Obsolete and Excess Inventory Inventories are stated at the lower of cost or market with cost principally determined for domestic manufacturing inventories by the last-in, first-out (LIFO) method and for non-domestic inventories and domestic finished products purchased for resale by the first-in, first-out (FIFO) method. Inventories have been reduced by an allowance for excess and obsolete inventories. The estimated allowance is based on management's review of inventories on hand compared to estimated future usage and sales. A provision for excess and obsolete inventory is recorded as needed based upon the discontinuation of products, redesigning of existing products, new product introductions, market changes and safety issues. Both raw materials and finished goods are reserved for on the balance sheet. In general, we review inventory turns as an indicator of obsolescence or slow moving product as well as the impact of new product introductions. Depending on the situation, the individual item may be partially or fully reserved for. No inventory that was reserved for has been sold at prices above their new cost basis. In 2004, individual items were both partially and fully written down. The company continued to increase its overseas sourcing efforts, increase its emphasis on the development and introduction of new products, and decrease the cycle time to bring new product offerings to market. These initiatives are sources of inventory obsolescence for both raw material and finished goods. Goodwill, Intangible and Other Long-Lived Assets Property, equipment, intangibles and certain other long-lived assets are amortized over their useful lives. Useful lives are based on management's estimates of the period that the assets will generate revenue. As a result of the adoption of Statement of Financial Accounting Standard (SFAS) No. 142, Goodwill and Other Intangible Assets in 2002, goodwill and intangible assets deemed to have indefinite lives are subject to annual impairment tests in accordance with the Statement. Furthermore, goodwill and other long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. The company completed the required initial analysis of goodwill as of January 1, 2002 as well the annual impairment tests in the fourth quarter of 2002, 2003 and 2004. The results of these analyses indicated no impairment of goodwill. Product Liability The company's captive insurance company, Invatection Insurance Co., currently has a policy year that runs from September 1 to August 31 and insures annual policy losses of $10,000,000 per occurrence and $11,000,000 in the aggregate of the company's North American product liability exposure. The company also has additional layers of external insurance coverage insuring $100,000,000 in annual aggregate losses arising from individual claims anywhere in the world that exceed the captive insurance company policy limits. There can be no assurance that Invacare's current insurance levels will continue to be adequate or available at affordable rates. Product liability reserves are recorded for individual claims based upon historical experience, industry expertise and indications from the third-party actuary. Additional reserves, in excess of the specific individual case reserves, are provided for incurred but not reported claims based upon third-party actuarial valuations at the time such valuations are conducted. Historical claims experience and other assumptions are taken into consideration by the third-party actuary to estimate the ultimate reserves. For example, the actuarial analysis assumes that historical loss experience is an indicator of future experience, the distribution of exposures by geographic area and nature of operations for ongoing operations is expected to be very similar to historical operations with no dramatic changes and that the government indices used to trend losses and exposures are appropriate. Estimates made are adjusted on a regular basis and can be impacted by actual loss award settlements on claims. While actuarial analysis is used to help determine adequate reserves, the company accepts responsibility for the determination and recording of adequate reserves in accordance with accepted loss reserving standards and practices. I-27 Warranty Generally, the company's products are covered by warranties against defects in material and workmanship for periods up to six years from the date of sale to the customer. Certain components carry a lifetime warranty. A provision for estimated warranty cost is recorded at the time of sale based upon actual experience. The company continuously assesses the adequacy of its product warranty accrual and makes adjustments as needed. Historical analysis is primarily used to determine the company's warranty reserves. Claims history is reviewed and provisions are adjusted as needed. However, the company does consider other events, such as a product recall, which could warrant additional warranty reserve provision. No material adjustments to warranty reserves were necessary in the current year. See Current Liabilities in the Notes to the Consolidated Financial Statements for a reconciliation of the changes in the warranty accrual. Accounting for Stock-Based Compensation The company accounts for options under its stock-based compensation plans using the intrinsic value method proscribed in Accounting Principles Board Opinion (APBO) No. 25, Accounting for Stock Issued to Employees, and related Interpretations. The majority of the options awarded have been granted at exercise prices equal to the market value of the underlying stock on the date of grant; thus, no compensation cost has been reflected in the Consolidated Statement of Earnings for these options. In addition, restricted stock awards have been granted without cost to the recipients and are being expensed on a straight-line basis over the vesting periods. If the company had applied the fair value recognition provisions of SFAS No. 123, Accounting for Stock-Based Compensation, for all stock options granted, net earnings per share assuming dilution would have been reduced by $0.14 in 2004, $0.14 in 2003 and $0.15 in 2002. In December 2002, the Financial Accounting Standards Board (FASB) issued SFAS No. 148, Accounting for Stock-Based Compensation-Transition and Disclosure. This statement provides guidance for those companies wishing to voluntarily change to the fair value based method of accounting for stock-based compensation. The statement also amends the disclosure requirements of SFAS No. 123. While Invacare continues to utilize the disclosure-only provisions of SFAS No. 123, the company has modified its disclosures to comply with the new statement. See the company's Accounting Policies and Shareholders' Equity Transactions in the Notes to the Consolidated Financial Statements. Income Taxes As part of the process of preparing our financial statements, we are required to estimate income taxes in various jurisdictions. The process requires estimating our current tax exposure, including assessing the risks associated with tax audits, as well as estimating temporary differences due to the different treatment of items for tax and accounting policies. The temporary differences are reported as deferred tax assets and or liabilities. The company also must estimate the likelihood that its deferred tax assets will be recovered from future taxable income and whether or not valuation allowances should be established. In the event that actual results differ from our estimates, the company's provision for income taxes could be materially impacted. The company does not believe that there is a substantial likelihood that materially different amounts would be reported related to its critical accounting policies. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS ----------------------------------------- In December 2004, FASB issued Statement of Financial Accounting Standards ("SFAS") No. 123 (Revised 2004), Share-Based Payment ("SFAS 123R"), which requires companies to expense stock options and other share-based payments. SFAS 123R supersedes SFAS No. 123, which permitted either expensing stock options or providing pro forma disclosure. The provisions of this Statement, which is effective July 1, 2005, apply to all awards granted, modified, cancelled or repurchased after July 1, 2005 as well as the unvested portion of prior awards. The company will adopt the standard as of the effective date and estimates that the impact to the company's reported results will be similar to the pro forma results shown in the company's Accounting Policy Note to the Consolidated Financial Statements. The American Jobs Creation Act of 2004 (the Act) was signed into law in October 2004. The Act provides for a tax deduction on qualified production activities and introduced a special one-time dividends received deduction on the repatriation of certain foreign earnings to a U.S. taxpayer, provided certain criteria are met. The FASB issued FASB Staff Position 109-1 to provide guidance on the application of SFAS No. 109, Accounting for Income Taxes, and FASB Staff Position 109-2 to provide accounting and disclosure guidance for the repatriation provision. The company is reviewing the implication of the new Act, recently released treasury guidance, and the FASB staff positions but does not intend to repatriate any foreign earnings under the Act and does not expect the Act will have a material impact on the company's financial position, results of operations or cash flows. I-28 Item 7a. Quantitative and Qualitative Disclosure about Market Risk. ------------------------------------------------------------------- The company is exposed to market risk through various financial instruments, including fixed rate and floating rate debt instruments. The company uses interest swap agreements to mitigate its exposure to interest rate fluctuations. Based on December 31, 2004 debt levels, a 1% change in interest rates would impact interest expense by approximately $5,107,000. Additionally, the company operates internationally and as a result is exposed to foreign currency fluctuations. Specifically, the exposure includes intercompany loans, and third party sales or payments. In an attempt to reduce this exposure, foreign currency forward contracts are utilized. The company does not believe that any potential loss related to these financial instruments would have a material adverse effect on the company's financial condition or results of operations. PRIVATE SECURITIES LITIGATION REFORM ACT ---------------------------------------- The statements contained in this Form 10-K constitute forward-looking statements within the meaning of the "Safe Harbor" provisions of the Private Securities Litigation Reform Act of 1995. Terms such as as "will," "should," "plan," "intend," "expect," "continue," "forecast", "believe," "anticipate" and "seek," as well as similar comments, are forward-looking in nature. Actual results and events may differ significantly from those expressed or anticipated as a result of risks and uncertainties which include, but are not limited to, the following: pricing pressures, the success of the Company's ongoing efforts to reduce costs, increasing raw material costs, the consolidations of health care customers and competitors, government reimbursement issues (including those that affect the sales of and margins on products, along with the viability of customers)both at the federal and state level, the ability to design, manufacture, distribute and achieve market acceptance of new products with higher functionality and lower costs, the effect of offering customers competitive financing terms, Invacare's ability to successfully identify, acquire and integrate strategic acquisition candidates, the difficulties in managing and operating businesses in many different foreign jurisdictions (including the recent Domus acquisition), the timely completion of facility consolidations, the vagaries of any litigation or regulatory investigations that the Company may be or become involved in at any time (including the previously-disclosed litigation with Respironics), the difficulties in acquiring and maintaining a proprietary intellectual property ownership position, the overall economic, market and industry growth conditions (including the impact that acts of terrorism may have on such growth conditions), foreign currency and interest rate risks, Invacare's ability to improve financing terms and reduce working capital, as well as the risks described from time to time in Invacare's reports as filed with the Securities and Exchange Commission. We undertake no obligation to review or update these forward-looking statements or other information contained herein. Item 8. Financial Statements and Supplementary Data ---------------------------------------------------- Reference is made to the Report of Independent Registered Public Accounting Firm, Consolidated Balance Sheet, Consolidated Statement of Earnings, Consolidated Statement of Cash Flows, Consolidated Statement of Shareholders' Equity, Notes to Consolidated Financial Statements and Financial Statement Schedule, which appear on pages FS-1 to FS-27 of this Annual Report on Form 10-K. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure. -------------------------------------------------------------------------------- None. Item 9A. Controls and Procedures. --------------------------------- (a) Evaluation of Disclosure Controls and Procedures ---------------------------------------------------- Under the supervision and with the participation of the company's management, including the Chief Executive Officer and Chief Financial Officer, we evaluated the effectiveness of the company's disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, the company's management, including the Chief Executive Officer and Chief Financial Officer, concluded that the company's disclosure controls and procedures were effective to provide reasonable assurance that we record, process, summarize and report the information we must disclose in reports that we file or submit under the Securities Exchange Act of 1934, as amended, within the time periods specified by the SEC. I-29 (b) Management's Report on Internal Control Over Financial Reporting -------------------------------------------------------------------- Management is responsible for establishing and maintaining a system of adequate internal control over financial reporting that provides reasonable assurance that assets are safeguarded and that transactions are authorized, recorded and reported properly. The system includes self-monitoring mechanisms; regular testing by the Company's internal auditors; a Code of Conduct; written policies and procedures; and a careful selection and training of employees. Actions are taken to correct deficiencies as they are identified. An effective internal control system, no matter how well designed, has inherent limitations - including the possibility of the circumvention or overriding of controls - and therefore can provide only reasonable assurance that errors and fraud that can be material to the financial statements are prevented or would be detected on a timely basis. Further, because of changes in conditions, internal control system effectiveness may vary over time. Management's assessment of the effectiveness of the company's internal control over financial reporting is based on the Internal Control -Integrated Framework published by the Committee of Sponsoring Organizations of the Treadway Commission and was limited as explained in the Scope of Management's Report, which follows this report. In management's opinion, internal control over financial reporting is effective as of December 31, 2004. The Company's independent registered public accounting firm, Ernst & Young LLP, audited management's assessment of internal control over financial reporting and, based on that audit, issued their report included in this Annual Report. Scope of Management's Report ---------------------------- Management's assessment of the effectiveness of internal control over financial reporting excludes the WP Domus GmbH acquisition, which was finalized on September 9, 2004. WP Domus GmbH represents approximately 19% of the total assets and approximately 2% of the net sales, respectively, of the consolidated financial statements as of December 31, 2004 and the year ended December 31, 2004. (c) Changes in Internal Control Over Financial Reporting -------------------------------------------------------- There have been no significant changes in the company's internal control over financial reporting that occurred during our last fiscal quarter that have materially affected, or are reasonably likely to materially affect, the company's internal control over financial reporting. PART III -------- Item 10. Directors and Executive Officers of the Registrant. ------------------------------------------------------------ We have adopted a Code of Business Conduct and Ethics that applies to all Directors, officers and employees. We also have adopted a separate Financial Code of Ethics that applies to our Chief Executive Officer (our principal executive officer) and our Chief Financial Officer (our principal financial officer and principal accounting officer). You can find both codes on our website at www.invacare.com by clicking on the link for Investor Relations. We will post any amendments to the codes, as well as any waivers that are required to be disclosed pursuant to the rules of the Securities and Exchange Commission and the New York Stock Exchange, on our website. Our Board of Directors has adopted Corporate Governance Guidelines and charters for the Audit Committee, Compensation, Management Development and Corporate Governance Committee, Nominating Committee and Investment Committee of the Board of Directors. These documents can be found on our website at www.invacare.com by clicking on the link for Investor Relations. You also can obtain printed copies of any of the materials referred to above, free of charge, by writing to: Shareholder Relations Department, Invacare Corporation, One Invacare Way, P.O. Box 4028, Elyria, OH 44036-2125. We submitted the New York Stock Exchange ('NYSE') Section 12(a) Annual CEO Certification as to our compliance with the NYSE corporate governance listing standards to the NYSE in June 2004. In addition, we have filed the certifications of our Chief Executive Officer and Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 regarding the quality of our public disclosures as exhibits to this Annual Report on Form 10-K. Information required by Item 10 as to the executive officers of the company is included in Part I of this Annual Report on Form 10-K, the other information required by Item 10 as to the directors of the company is incorporated herein by reference to the information set forth under the caption "Election of Directors" in the company's definitive Proxy Statement for the 2005 Annual Meeting of Shareholders. Item 11. Executive Compensation. -------------------------------- The information required by Item 11 is incorporated by reference to the information set forth under the captions "Compensation of Executive Officers" and "Compensation of Directors" in the company's definitive Proxy Statement for the 2005 Annual Meeting of Shareholders. I-30 Item. 12. Security Ownership of Certain Beneficial Owners and Management. ------------------------------------------------------------------------- The information required by Item 12 is incorporated by reference to the information set forth under the caption "Share Ownership of Principal Holders and Management" in the company's definitive Proxy Statement for the 2005 Annual Meeting of Shareholders. Item 13. Certain Relationships and Related Transactions. -------------------------------------------------------- The information required by Item 13 is incorporated by reference to the information set forth under the caption "Compensation Committee Interlocks and Insider Participation" in the company's definitive Proxy Statement for the 2005 Annual Meeting of Shareholders. Item 14. Principal Accounting Fees and Services. ------------------------------------------------ The information required by Item 14 is incorporated by reference to the information set forth under the caption "Independent Auditors" in the company's definitive Proxy Statement for the 2005 Annual Meeting of Shareholders. PART IV ------- Item 15. Exhibits and Financial Statement Schedules ---------------------------------------------------- (a)(1) Financial Statements -------------------- The following financial statements of the company are included in Part II, Item 8: Consolidated Statement of Earnings - years ended December 31, 2004, 2003 and 2002 Consolidated Balance Sheet - December 31, 2004 and 2003 Consolidated Statement of Cash Flows - years ended December 31, 2004, 2003, and 2002 Consolidated Statement of Shareholders' Equity - years ended December 31, 2004, 2003, and 2002 Notes to Consolidated Financial Statements (a)(2) Financial Statement Schedules ----------------------------- The following financial statement schedule of the company is included in Part II, Item 8: Schedule II - Valuation and Qualifying Accounts All other schedules have been omitted because they are not applicable or not required, or because the required information is included in the Consolidated Financial Statements or notes thereto. (a)(3) Exhibits. -------- See Exhibit Index at page number I-33 of this Report on Form 10-K. Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized as of March 11, 2005. INVACARE CORPORATION By: /S/ A. Malachi Mixon, III ------------------------------------- A. Malachi Mixon, III Chairman of the Board of Directors and Chief Executive Officer I-31 Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated as of March 11, 2005. Signature Title --------- ----- /s/ A. Malachi Mixon, III Chairman of the Board of Directors and ------------------------------ Chief Executive Officer A. Malachi Mixon, III (Principal Executive Officer) /s/ Gerald B. Blouch President, Chief Operating Officer and ------------------------------ Director Gerald B. Blouch /s/ Gregory C. Thompson Chief Financial Officer ------------------------------ (Principal Financial and Accounting Officer) Gregory C. Thompson /s/ James C. Boland Director ------------------------------ James C. Boland /s/ Michael F. Delaney Director ------------------------------ Michael F. Delaney /s/ Whitney Evans Director ------------------------------ Whitney Evans /s/ C. Martin Harris, M.D. Director ------------------------------ C. Martin Harris, M.D. /s/ Bernadine P. Healy, M.D. Director ------------------------------ Bernadine P. Healy, M.D. /s/ John R. Kasich Director ------------------------------ John R. Kasich /s/ Dan T. Moore, III Director ------------------------------ Dan T. Moore, III /s/ Joseph B. Richey, II Director ------------------------------ Joseph B. Richey, II /s/ William M. Weber Director ------------------------------ William M. Weber I-32 INVACARE CORPORATION Report on Form 10-K for the fiscal year ended December 31, 2004. Exhibit Index
Official Sequential Exhibit No Description Page No. ---------- ----------- ---------- 2.1 Sale and Purchase Agreement Regarding the Sale and Purchase of All Shares in WP Domus GmbH by (A) and among WP Domus LLC, Mr. Peter Schultz and Mr. Wilhelm Kaiser, Invacare GmbH & Co. KG and Invacare Corporation dated as of July 31, 2004 2.2 Guarantee Letter Agreement of Warburg, Pincus Ventures, L.P. and Warburg, Pincus International, (A) L.P. dated as of September 9, 2004 3(a) ** Amended and Restated Articles of Incorporation, as amended through February 2, 1996 3(b) ** Code of Regulations, as amended on May 22, 1996 4(a) Specimen Share Certificate for Common Shares, as revised (B) 4(b) Specimen Share Certificate for Class B Common Shares (B) 4(c) Rights agreement between Invacare Corporation and Rights Agent dated as of July 7, 1995 (C) 10(a) Assignment of Patent Application and License of Know-how dated January 14, 1981, and an (D) amendment thereto dated October 12, 1981, with respect to certain royalty payments to be made to the former owners of the company's home care bed subsidiary 10(b) ** 1992 Non-Employee Directors Stock Option Plan adopted in May 1992 10(c) ** Deferred Compensation Plan for Non-Employee Directors, adopted in May 1992 10(d) ** Invacare Corporation 1994 Performance Plan approved January 28, 1994 10(e) Amendment No. 3 to the Invacare Corporation 1994 Performance Plan (H)* 10(f) ** Note Purchase Agreement dated as of February 27, 1998 for $80,000,000 6.71% Series A Senior Notes Due February 27, 2008 and $20,000,000 6.60% Series B Senior Notes Due February 27, 2005 10(g) ** Amendment No. 1 to the Invacare Corporation 1994 Performance Plan approved May 28, 1998 * 10(h) Amendment No. 2 to the Invacare Corporation 1994 Performance Plan approved May 24, 2000 (E)* 10(i) Invacare Retirement Savings Plan, effective January 1, 2001 (F) 10(j) Employment Agreement entered into by and between the company and Chief Operating Officer (G)* 10(k) Amendment No. 1 to Invacare Corporation 401(K) Plus Benefit Equalization Plan (L) 10(l) Invacare Corporation 401(K) Plus Benefit Equalization Plan (As amended and restated effective (L) January 1, 2003) 10(m) Invacare Corporation Note Purchase Agreement dated as of October 1, 2003 for $50,000,000 3.97% (J) Series A Senior Notes Due October 1, 2007; $30,000,000 4.74% Series B Senior Notes Due October 1, 2009 and $20,000,000 5.05% Series C Senior Notes Due October 1, 2010
I-33
Official Sequential Exhibit No Description Page No. ---------- ----------- ---------- 10(n) First Amendment, dated as of October 1, 2003, to Note Purchase Agreement dated as of February (K) 27, 1998 for $80,000,000 6.71% Series A Senior Notes Due February 27, 2008 and $20,000,000 6.60% Series B Senior Notes Due February 27, 2005 10(o) Invacare Corporation 2003 Performance Plan (I)* 10(p) Form of Change of Control Agreement entered into by and between the company and certain of (G)* its executive officers and Schedule of all such agreements with current executive officers 10(q) Form of Indemnity Agreement entered into by and between the company and certain of its Directors (G)* and executive officers and Schedule of all such Agreements with current Directors and executive officers 10(r) Employment Agreement entered into by and between the company and Chief Financial Officer (G)* 10(s) Credit Agreement dated as of January 14, 2005 among Invacare Corporation and Certain Borrowing (M) Subsidiaries, the Banks named therein, and JPMorgan Chase Bank, N.A. as Agent, Keybank National Association as Syndication Agent, J.P. Morgan Securities, Inc. and Keybank National Association, as Co-Lead Arrangers. 10(t)** Invacare Corporation Deferred Compensation Plus Plan, effective January 1, 2005 * 10(u)** Invacare Corporation Death Benefit Only Plan, effective January 1, 2005 * 10(v)** A. Malachi Mixon, III 10b5-1 Plan, effective February 14, 2005 * 10(w)** Gerald B. Blouch 10b5-1 Plan, effective February 22, 2005 * 10(x)** Gregory C. Thompson 10b5-1 Plan, effective February 21, 2005 * 10(y) ** Supplemental Executive Retirement Plan (As amended and restated effective February 1, 2000) * 10(z)** Form of Director Stock Option Award under Invacare Corporation 1994 Performance Plan * 10(aa)** Form of Director Stock Option Award under Invacare Corporation 2003 Performance Plan * 10(ab)** Form of Director Deferred Option Award under Invacare Corporation 2003 Performance Plan * 10(ac)** Form of Restricted Stock Option Award under Invacare Corporation 2003 Performance Plan * 10(ad)** Form of Stock Option Award under Invacare Corporation 2003 Performance Plan * 10(ae)** Director Compensation Schedule * 21 Subsidiaries of the company 23 Consent of Independent Registered Public Accounting Firm 31.1 ** Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 31.2 ** Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
I-34
Official Sequential Exhibit No Description Page No. ---------- ----------- ---------- 32.1 ** Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2 ** Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
* Management contract, compensatory plan or arrangement ** Filed herein. (A) Reference is made to the appropriate Exhibit to the company report on Form 8-K, dated September 9, 2004, which Exhibit is incorporated herein by reference. (B) Reference is made to the appropriate Exhibit of the company Registration Statement on Form S-3 (Reg. No. 33-40168), effective as of April 26, 1991, which Exhibit is incorporated herein by reference. (C) Reference is made to Exhibit 1 of the company report on Form 8-A, dated July 18, 1995, which Exhibit is incorporated herein by reference. (D) Reference is made to the appropriate Exhibit of the company Form 8 Amendment No. 1 (filed on September 23, 1987) to its Registration Statement on Form 8-A (Reg. No. 0-12938, effective as of October 21, 1986), which Exhibit is incorporated herein by reference. (E) Reference is made to the appropriate Exhibit of the company report on Form S-8, dated March 30, 2001, which Exhibit is incorporated herein by reference. (F) Reference is made to Exhibit 10.1 of the company report on Form 10-Q, dated September 30, 2002, which Exhibit is incorporated herein by reference. (G) Reference is made to the appropriate Exhibit of the company report on Form 10-K for the fiscal year ended December 31, 2002, which Exhibit is incorporated herein by reference. (H) Reference is made to the appropriate Exhibit of the company report on Form 10-Q for the quarter ended March 31, 2003, which Exhibit is incorporated herein by reference. (I) Reference is made to Exhibit 4.5 of Invacare Corporation Form S-8 filed on October 17, 2003. (J) Reference is made to the appropriate Exhibit of the company report on Form 10-Q for the quarter ended September 30, 2003, which Exhibit is incorporated herein by reference. (K) Reference is made to the appropriate Exhibit of the company report on Form 10-K for the fiscal year ended December 31, 2003, which Exhibit is incorporated herein by reference. (L) Reference is made to the appropriate Exhibit of the company report on Form 10-Q for the quarter ended June 30, 2004, which Exhibit is incorporated herein by reference. (M) Reference is made to the appropriate Exhibit of the company report on Form 8-K, dated January 14, 2005, which is incorporated herein by reference. I-35 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM Shareholders and Board of Directors Invacare Corporation We have audited the accompanying consolidated balance sheets of Invacare Corporation and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of earnings, cash flows and shareholders' equity for each of the three years in the period ended December 31, 2004. Our audits also included the financial statement schedule listed in the Index at Item 15 (a)(2). These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Invacare Corporation and subsidiaries at December 31, 2004 and 2003, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2004, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Invacare Corporation's internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 4, 2005 expressed an unqualified opinion thereon. /s/ ERNST & YOUNG LLP Cleveland, Ohio March 4, 2005 FS-1 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM Shareholders and Board of Directors Invacare Corporation We have audited management's assessment, included in the accompanying Management Report on Internal Control Over Financial Reporting, that Invacare Corporation maintained effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Invacare Corporation's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management's assessment and an opinion on the effectiveness of the company's internal control over financial reporting based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management's assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. As indicated in the accompanying Management Report on Internal Control Over Financial Reporting, management's assessment of and conclusion on the effectiveness of internal control over financial reporting did not include the internal controls of WP Domus GmbH, which is included in the 2004 consolidated financial statements of Invacare Corporation and constituted 19% of total assets as of December 31, 2004 and 2% of net sales for the year then ended. Our audit of internal control over financial reporting of Invacare Corporation also did not include an evaluation of the internal control over financial reporting of WP Domus GmbH. In our opinion, management's assessment that Invacare Corporation maintained effective internal control over financial reporting as of December 31, 2004, is fairly stated, in all material respects, based on the COSO criteria. Also, in our opinion, Invacare Corporation maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on the COSO criteria. We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Invacare Corporation as of December 31, 2004 and 2003 and the related consolidated statements of earnings, cash flows and shareholders' equity for each of the three years in the period ended December 31, 2004 of Invacare Corporation and our report dated March 4, 2005 expressed an unqualified opinion thereon. /s/ ERNST & YOUNG LLP Cleveland, Ohio March 4, 2005 FS-2 CONSOLIDATED STATEMENT OF EARNINGS INVACARE CORPORATION AND SUBSIDIARIES
Years Ended December 31, 2004 2003 2002 ---- ---- ---- (In thousands, except per share data) Net sales $1,403,327 $1,247,176 $1,089,161 Cost of products sold 984,735 872,515 761,763 ------- ------- ------- Gross Profit 418,592 374,661 327,398 Selling, general and administrative expenses 297,124 262,015 220,296 Interest expense 16,282 11,710 15,122 Interest income (5,186) (5,473) (4,550) ------- ------- ------- Earnings before Income Taxes 110,372 106,409 96,530 Income taxes 35,175 35,000 31,760 ------- ------- ------- Net Earnings $75,197 $71,409 $64,770 ======= ======= ======= Net Earnings per Share - Basic $2.41 $2.31 $2.10 ======= ======= ======= Weighted Average Shares Outstanding - Basic 31,153 30,862 30,867 ======= ======= ======= Net Earnings per Share - Assuming Dilution $2.33 $2.25 $2.05 ======= ======= ======= Weighted Average Shares Outstanding - Assuming Dilution 32,347 31,729 31,664 ======= ======= =======
See notes to consolidated financial statements. FS-3 CONSOLIDATED BALANCE SHEETS INVACARE CORPORATION AND SUBSIDIARIES
December 31, December 31, 2004 2003 ------- ------- (In thousands) Assets ------ Current Assets Cash and cash equivalents $32,567 $16,074 Marketable securities 199 214 Trade receivables, net 287,950 255,534 Installment receivables, net 13,422 7,755 Inventories, net 175,883 130,979 Deferred income taxes 21,730 24,573 Other current assets 33,400 39,593 ------- ------- Total Current Assets 565,151 474,722 Other Assets 55,634 53,263 Other Intangibles 98,212 14,678 Property and Equipment, net 191,163 150,051 Goodwill 717,964 415,499 ------- ------- Total Assets $1,628,124 $1,108,213 ========== ========== Liabilities and Shareholders' Equity ------------------------------------ Current Liabilities Accounts payable $149,413 $110,178 Accrued expenses 98,850 92,032 Accrued income taxes 7,816 19,107 Current maturities of long-term debt 2,062 2,171 ------- ------- Total Current Liabilities 258,141 223,488 Long-Term Debt 547,974 232,038 Other Long-Term Obligations 68,571 34,383 Shareholders' Equity Preferred Shares (Authorized 300 shares; none outstanding) - - Common Shares (Authorized 100,000 shares; 31,209 and 30,739 issued in 2004 and 2003, respectively) - par $0.25 7,803 7,686 Class B Common Shares (Authorized 12,000 shares; 1,112, issued and outstanding) - par $0.25 278 278 Additional paid-in-capital 123,793 109,015 Retained earnings 550,753 477,113 Accumulated other comprehensive earnings 104,629 51,057 Unearned compensation on stock awards (1,557) (1,458) Treasury shares (934 and 770 shares in 2004 and 2003, respectively) (32,261) (25,387) ------- ------- Total Shareholders' Equity 753,438 618,304 ------- ------- Total Liabilities and Shareholders' Equity $1,628,124 $1,108,213 ========== ==========
See notes to consolidated financial statements. FS-4 CONSOLIDATED STATEMENT OF CASH FLOWS INVACARE CORPORATION AND SUBSIDIARIES
Years Ended December 31, 2004 2003 2002 ---- ---- ---- (In thousands) Operating Activities Net earnings $75,197 $71,409 $64,770 Adjustments to reconcile net earnings to net cash provided by operating activities: Depreciation and amortization 32,316 27,235 26,638 Provision for losses on trade and installment receivables 11,222 13,760 10,792 Provision for deferred income taxes 4,250 3,205 (3,050) Provision for other deferred liabilities 4,091 2,587 3,342 Changes in operating assets and liabilities: Trade receivables (19,978) (37,122) 19,740 Installment sales contracts, net (2,911) 6,678 11,435 Inventories (15,781) (4,607) 6,208 Other current assets (516) (3,447) (4,193) Accounts payable 19,718 13,351 2,576 Accrued expenses (11,281) 17,943 (2,534) Other long-term liabilities 1,997 5,212 (108) ------- ------- ------- Net Cash Provided by Operating Activities 98,324 116,204 135,616 Investing Activities Purchases of property and equipment (41,403) (30,660) (22,109) Proceeds from sale of property and equipment 3 531 2,391 Marketable securities - 1,130 (43) Business acquisitions, net of cash acquired (343,554) (70,555) - Increase in other investments (603) (64) (317) Increase in other long-term assets (3,133) (1,898) (1,834) Other (332) (42) 1,079 ------- ------ ------- Net Cash Required for Investing Activities (389,022) (101,558) (20,833) Financing Activities Proceeds from revolving lines of credit and long-term borrowings 844,432 474,583 254,512 Payments on revolving lines of credit and long-term borrowings (541,244) (483,725) (377,582) Proceeds from exercise of stock options 9,850 5,063 6,154 Payment of dividends (1,557) (1,531) (1,567) Purchase of treasury stock (4,430) (8,345) (1,674) ------- ------- ------- Net Cash Provided (Required) by Financing Activities 307,051 (13,955) (120,157) Effect of exchange rate changes on cash 140 2,297 1,777 ------- ------- ------- Increase (decrease) in cash and cash equivalents 16,493 2,988 (3,597) Cash and cash equivalents at beginning of year 16,074 13,086 16,683 ------- ------- ------- Cash and cash equivalents at end of year $32,567 $16,074 $13,086 ======= ======= =======
See notes to consolidated financial statements. FS-5 CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY INVACARE CORPORATION AND SUBSIDIARIES (In thousands)
Accumulated Additional Other Common Class B Paid-in- Retained Comprehensive Unearned Treasury Stock Stock Capital Earnings Earnings(Loss) Compensation Stock Total ------ ------- ---------- -------- -------------- ------------ --------- --------- January 1, 2002 Balance $7,466 $278 $87,980 $344,032 $(48,129) $(771) $(9,306) $381,550 Exercise of stock options, including tax benefit 105 9,834 (2,863) 7,076 Restricted stock awards 9 1,181 (1,190) - Restricted stock award expense 757 757 Net earnings 64,770 64,770 Foreign currency translation adjustments 28,214 28,214 Unrealized gains on cash flow hedges 1,349 1,349 Marketable securities holding loss (163) (163) ----- Total comprehensive income 94,170 Dividends (1,567) (1,567) Purchase of treasury shares (1,674) (1,674) ------------------------------------------------------------------------------------------------------------------------------------ December 31, 2002 Balance 7,580 278 98,995 407,235 (18,729) (1,204) (13,843) 480,312 Exercise of stock options, including tax benefit 99 9,130 (3,199) 6,030 Restricted stock awards 7 890 (897) - Restricted stock award expense 643 643 Net earnings 71,409 71,409 Foreign currency translation adjustments 66,185 66,185 Unrealized gains on cash flow hedges 3,506 3,506 Marketable securities holding gain 95 95 ----- Total comprehensive income 141,195 Dividends (1,531) (1,531) Purchase of treasury shares (8,345) (8,345) ------------------------------------------------------------------------------------------------------------------------------------ December 31, 2003 Balance 7,686 278 109,015 477,113 51,057 (1,458) (25,387) 618,304 Exercise of stock options, including tax benefit 112 13,872 (2,444) 11,540 Restricted stock awards 5 906 (911) - Restricted stock award expense 812 812 Net earnings 75,197 75,197 Foreign currency translation adjustments 57,903 57,903 Unrealized losses on cash flow hedges (4,322) (4,322) Marketable securities holding loss (9) (9) ----- Total comprehensive income 128,769 Dividends (1,557) (1,557) Purchase of treasury shares (4,430) (4,430) ------------------------------------------------------------------------------------------------------------------------------------ December 31, 2004 Balance $7,803 $278 $123,793 $550,753 $104,629 $(1,557) $(32,261) $753,438 ====== ==== ======== ======== ======== ======= ======= ========
See notes to consolidated financial statements. FS-6 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ACCOUNTING POLICIES Nature of Operations: Invacare Corporation and its subsidiaries ("Invacare" or the "company") is the leading home medical equipment manufacturer in the world based on its distribution channels, the breadth of its product line and net sales. The company designs, manufactures and distributes an extensive line of medical equipment for the home health care, retail and extended care markets. The company's products include standard manual wheelchairs, motorized and lightweight prescription wheelchairs, seating and positioning systems, motorized scooters, patient aids, home care beds, low air loss therapy products, respiratory products and distributed products. Principles of Consolidation: The consolidated financial statements include the accounts of the company and its majority owned subsidiaries. Certain foreign subsidiaries, represented by the European segment, are consolidated using a November 30 fiscal year end. No material subsequent events have occurred related to the European segment, which would require disclosure or adjustment to the company's financial statements. All significant intercompany transactions are eliminated. Use of Estimates: The consolidated financial statements are prepared in conformity with accounting principles generally accepted in the United States, which require management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results may differ from these estimates. Marketable Securities: Marketable securities consist of short-term investments in repurchase agreements, government and corporate securities, certificates of deposit and equity securities. Marketable securities with original maturities of less than three months are treated as cash equivalents. The company has classified its marketable securities as available for sale. The securities are carried at their fair value and net unrealized holding gains and losses, net of tax, are carried as a component of accumulated other comprehensive earnings (loss). Inventories: Inventories are stated at the lower of cost or market with cost principally determined for domestic manufacturing inventories by the last-in, first-out method and for non-domestic inventories and domestic finished products purchased for resale ($138,845,000 and $99,607,000 at December 2004 and 2003, respectively) by the first-in, first-out method. Market costs are based on the lower of replacement cost or estimated net realizable value. The value of inventory on the LIFO method is approximately equal to its current cost as of December 31, 2004 and 2003. Inventories have been reduced by an allowance for excess and obsolete inventories. The estimated allowance is based on management's review of inventories on hand compared to estimated future usage and sales. Property and Equipment: Property and equipment are stated on the basis of cost. The company principally uses the straight-line method of depreciation for financial reporting purposes based on annual rates sufficient to amortize the cost of the assets over their estimated useful lives. Accelerated methods of depreciation are used for federal income tax purposes. Expenditures for maintenance and repairs are charged to expense as incurred. Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate the carrying amount may not be recoverable. The asset would be considered impaired when the future net undiscounted cash flows generated by the asset are less than its carrying value. An impairment loss would be recognized based on the amount by which the carrying value of the asset exceeds its fair value. Goodwill and Other Intangibles: Effective January 1, 2002, Invacare adopted SFAS No. 142, Goodwill and Other Intangible Assets, and accordingly, discontinued amortization of goodwill. SFAS No. 142 changed the accounting for goodwill from an amortization approach to a non-amortization approach requiring periodic testing for impairment. For purposes of the impairment test, the fair value of each reporting unit is estimated by forecasting cash flows and discounting those cash flows using appropriate discount rates. The fair values are then compared to the carrying value of the net assets of each reporting unit. The company completed the required initial analysis as of January 1, 2002 as well as the annual impairment tests in the fourth quarter of 2002, 2003 and 2004. The results of these tests indicated no impairment of goodwill. FS-7 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) ACCOUNTING POLICIES--Continued Accrued Warranty Cost: Generally, the company's products are covered by warranties against defects in material and workmanship for periods up to six years from the date of sale to the customer. Certain components carry a lifetime warranty. A provision for estimated warranty cost is recorded at the time of sale based upon actual experience. The company continuously assesses the adequacy of its product warranty accrual and makes adjustments as needed. Historical analysis is primarily used to determine the company's warranty reserves. Claims history is reviewed and provisions are adjusted as needed. However, the company does consider other events, such as a product recall, which could warrant additional warranty reserve provision. No material adjustments to warranty reserves were necessary in the current year. See Current Liabilities in the Notes to the Consolidated Financial Statements for a reconciliation of the changes in the warranty accrual. Product Liability Cost: The company's captive insurance company, Invatection Insurance Co., currently has a policy year that runs from September 1 to August 31 and insures annual policy losses of $10,000,000 per occurrence and $11,000,000 in the aggregate of the company's North American product liability exposure. The company also has additional layers of external insurance coverage insuring $100,000,000 in annual aggregate losses arising from individual claims anywhere in the world that exceed the captive insurance company policy limits. There can be no assurance that Invacare's current insurance levels will continue to be adequate or available at affordable rates. Product liability reserves are recorded for individual claims based upon historical experience, industry expertise and indications from the third-party actuary. Additional reserves, in excess of the specific individual case reserves, are provided for incurred but not reported claims based upon third-party actuarial valuations at the time such valuations are conducted. Historical claims experience and other assumptions are taken into consideration by the third-party actuary to estimate the ultimate reserves. For example, the actuarial analysis assumes that historical loss experience is an indicator of future experience, the distribution of exposures by geographic area and nature of operations for ongoing operations is expected to be very similar to historical operations with no dramatic changes and that the government indices used to trend losses and exposures are appropriate. Estimates made are adjusted on a regular basis and can be impacted by actual loss award settlements on claims. While actuarial analysis is used to help determine adequate reserves, the company accepts responsibility for the determination and recording of adequate reserves in accordance with accepted loss reserving standards and practices. Revenue Recognition: Invacare's revenues are recognized when products are shipped to unaffiliated customers. The Securities and Exchange Commission's Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition," as updated by SAB No. 104, provides guidance on the application of generally accepted accounting principles to selected revenue recognition issues. The company has concluded that its revenue recognition policy is appropriate and in accordance with generally accepted accounting principles and SAB No. 101. Sales are only made to customers with whom the company believes collection is reasonably assured based upon a credit analysis, which may include obtaining a credit application, a signed security agreement, personal guarantee and/or a cross corporate guarantee depending on the credit history of the customer. Credit lines are established for new customers after an evaluation of their credit report and/or other relevant financial information. Existing credit lines are regularly reviewed and adjusted with consideration given to any outstanding past due amounts. The company offers discounts and rebates, which are accounted for as reductions to revenue in the period in which the sale is recognized. Discounts offered include: cash discounts for prompt payment, base and trade discounts based on contract level for specific classes of customers. Volume discounts and rebates are given based on large purchases and the achievement of certain sales volumes. Product returns are accounted for as a reduction to reported sales with estimates recorded for anticipated returns at the time of sale. The company does not sell any goods on consignment. Distributed products sold by the company are accounted for in accordance with EITF 99-19 Reporting Revenue Gross as a Principal versus Net as an Agent. The company records Distributed product sales gross as a principal since the company takes title to the products and has the risks of loss for collections, delivery and returns. FS-8 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) ACCOUNTING POLICIES--Continued Product sales that give rise to installment receivables are recorded at the time of sale when the risks and rewards of ownership are transferred. In December 2000, the company entered into an agreement with DLL, a third party financing company, to provide the majority of future lease financing to Invacare customers. As such, interest income is recognized based on the terms of the installment agreements. Installment accounts are monitored and if a customer defaults on payments, interest income is no longer recognized. All installment accounts are accounted for using the same methodology, regardless of duration of the installment agreements. Research and Development: Research and development costs are expensed as incurred and included in cost of products sold. The company's annual expenditures for product development and engineering were approximately $21,638,000, $19,130,000, and $17,934,000 for 2004, 2003, and 2002, respectively. Advertising: Advertising costs are expensed as incurred and included in selling, general and administrative expenses. The company has a co-op advertising program in which the company reimburses customers up to 50% of their costs of qualifying advertising expenditures. Invacare product, brand logos and corporate spokesperson, Arnold Palmer, must appear in all advertising. Invacare requires customers to submit proof of advertising with their claims for reimbursement. Invacare receives advertising and in return reimburses customers for a portion of their advertising costs. The company's cost of the program is included in SG&A expense on the consolidated statement of earnings at the time the liability is estimated. Reimbursement is made on an annual basis and within 3 months of submission and approval of the documentation. The company receives monthly reporting from those in the program of their qualified advertising dollars spent and accrues based upon information received. Advertising expenses amounted to $24,999,000, $22,806,000 and $20,905,000 for 2004, 2003 and 2002, respectively. Stock-Based Compensation Plans: The company accounts for options under its stock-based compensation plans using the intrinsic value method proscribed in APBO No. 25, Accounting for Stock Issued to Employees, and related Interpretations. The majority of the options awarded have been granted at exercise prices equal to the market value of the underlying stock on the date of grant, thus no compensation cost has been reflected in the consolidated statement of earnings for these options. In addition, restricted stock awards have been granted without cost to the recipients and are being expensed on a straight-line basis over the vesting periods. Invacare continues to utilize the disclosure-only provisions of SFAS No. 123, Accounting for Stock Based Compensation. If the company had applied the fair value recognition provisions of SFAS No. 123, the company's net earnings and earnings per share in 2004, 2003 and 2002 would have been reduced to the pro forma amounts indicated below (in thousands except per share data):
2004 2003 2002 ---- ---- ---- Net earnings - as reported * $75,197 $71,409 $64,770 Less: compensation expense determined based on the fair-value method for all awards granted at market value, net of related tax effects 4,226 4,529 4,504 ------- ------- ------- Net earnings - pro forma $70,971 $66,880 $60,266 ======= ======= ======= Earnings per share as reported - basic $2.41 $2.31 $2.10 Earnings per share as reported - assuming dilution $2.33 $2.25 $2.05 Pro forma earnings per share - basic $2.28 $2.17 $1.95 Pro forma earnings per share - assuming dilution $2.19 $2.11 $1.90 * Includes stock compensation expense, net of tax, on restricted awards granted without cost of: $528 $418 $492
Income Taxes: The company uses the liability method in measuring the provision for income taxes and recognizing deferred tax assets and liabilities on the balance sheet. The liability method requires that deferred income taxes reflect the tax consequences of currently enacted rates for differences between the tax and financial reporting bases of assets and liabilities. Undistributed earnings of the company's foreign subsidiaries are considered to be indefinitely reinvested and, accordingly, no provision for United States federal income taxes has been provided. FS-9 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) ACCOUNTING POLICIES--Continued Derivative Instruments: The company recognizes its derivative instruments as assets or liabilities in the consolidated balance sheet measured at fair value. A majority of the company's derivative instruments are designated and qualify as cash flow hedges. Accordingly, the effective portion of the gain or loss on the derivative instrument is reported as a component of other comprehensive income and reclassified into earnings in the same period or periods during which the hedged transaction affects earnings. The remaining gain or loss on the derivative instrument in excess of the cumulative change in the fair value of the hedged item, if any, is recognized in current earnings during the period of change. The derivatives designated as fair value hedges are perfectly effective; thus, the entire gain or loss associated with the derivative instrument directly affects the value of the debt by increasing or decreasing its carrying value. The company has entered into interest rate swap agreements that qualify as fair value hedges and effectively convert $180,000,000 of fixed-rate debt to floating-rate debt, so the company can avoid paying higher than market interest rates. The company also had interest rate swap agreements, which expired in 2004, that qualified as cash flow hedges and effectively converted $20,000,000 of its floating-rate debt to a fixed-rate basis, thus reducing the impact of interest-rate changes on future interest expense. The company recognized net gains of $4,577,000, $2,872,000 and $773,000, respectively, related to its swap agreements in 2004, 2003 and 2002, which is reflected in interest expense on the consolidated statement of earnings. To protect against decreases/increases in forecasted foreign currency cash flows resulting from inventory purchases/sales over the next year, the company utilizes cash flow hedges to hedge portions of its forecasted purchases/sales denominated in foreign currencies. The company recognized net gains in 2004, 2003 and 2002 of $6,961,000, $1,410,000 and $1,252,000, respectively on foreign currency cash flow hedges. The gains are included in cost of products sold and selling, general and administrative expenses on the consolidated statement of earnings. The company has used forward contracts that do not qualify for special hedging treatment, but do effectively limit the company's exposure to foreign currency fluctuations between the Mexican Peso and U.S. Dollar. During 2003 and 2002, the company recognized losses of $118,000 and $68,000 related to these forward contracts, which are included in costs of products sold on the consolidated statement of earnings. No Mexican Peso forward contracts were entered into in 2004. The company recognized no gain or loss related to hedge ineffectiveness or discontinued cash flow hedges. If it is later determined that a hedged forecasted transaction is unlikely to occur, any gains or losses on the forward contracts would be reclassified from other comprehensive income into earnings. The company does not expect this to occur during the next twelve months. Foreign Currency Translation: The functional currency of the company's subsidiaries outside the United States is the applicable local currency. The assets and liabilities of the company's foreign subsidiaries are translated into U.S. dollars at year-end exchange rates. Revenues and expenses are translated at weighted average exchange rates. Gains and losses resulting from translation are included in accumulated other comprehensive earnings (loss). Net Earnings Per Share: Basic earnings per share are computed based on the weighted-average number of Common Shares and Class B Common Shares outstanding during the year. Diluted earnings per share are computed based on the weighted-average number of Common Shares and Class B Common Shares outstanding plus the effects of dilutive stock options outstanding during the year. Reclassifications: Certain reclassifications have been made to the prior years' consolidated financial statements to conform to the presentation used for the year ended December 31, 2004. Recently Issued Accounting Pronouncements: In December 2004, FASB issued Statement of Financial Accounting Standards ("SFAS") No. 123 (Revised 2004), Share-Based Payment ("SFAS 123R"), which requires companies to expense stock options and other share-based payments. SFAS 123R supersedes SFAS No. 123, which permitted either expensing stock options or providing pro forma disclosure. The provisions of this Statement, which is effective July 1, 2005, apply to all awards granted, modified, cancelled or repurchased after July 1, 2005 as well as the unvested portion of prior awards. The company will adopt the standard as of the effective date and estimates that the impact to the company's reported results will be similar to the pro forma results shown in the company's Accounting Policy Note to the Consolidated Financial Statements. FS-10 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) ACCOUNTING POLICIES--Continued The American Jobs Creation Act of 2004 (the Act) was signed into law in October 2004. The Act provides, among other things, for a tax deduction on qualified domestic production activities and introduced a special one-time dividends received deduction on the repatriation of certain foreign earnings to a U.S. taxpayer, provided certain criteria are met. The FASB issued FASB Staff Positions 109-1 to provide guidance on the application of SFAS No. 109, Accounting for Income Taxes, and FASB Staff Positions 109-2 to provide accounting and disclosure guidance for the repatriation provision. The company is reviewing the implication of the new Act, recently released treasury guidance, and the FASB staff positions but does not intend to repatriate any foreign earnings under the Act and does not expect the Act will have a material impact on the company's financial position, results of operations or cash flows. RECEIVABLES Accounts receivable are reduced by an allowance for amounts that may become uncollectible in the future. Substantially all of the company's receivables are due from health care, medical equipment dealers and long term care facilities located throughout the United States, Australia, Canada, New Zealand and Europe. A significant portion of products sold to dealers, both foreign and domestic, is ultimately funded through government reimbursement programs such as Medicare and Medicaid. In addition, the company has seen a significant shift in reimbursement to customers from managed care entities. As a consequence, changes in these programs can have an adverse impact on dealer liquidity and profitability. The estimated allowance for uncollectible amounts ($9,857,000 in 2004 and $16,775,000 in 2003) is based primarily on management's evaluation of the financial condition of the customer. The decrease in the allowance for uncollectible accounts in 2004 compared to 2003 is primarily attributable to significant write-offs of accounts previously reserved for as all collection efforts were exhausted in 2004. Installment receivables as of December 31, 2004 and 2003 consist of the following (in thousands):
2004 2003 ---- ----- Current Long-Term Total Current Long-Term Total ------- ---------- ------- ------- --------- ------- Installment receivables $19,576 $1,324 $20,900 $18,930 $578 $19,508 Less: Unearned interest (435) - (435) (246) (54) (300) Allowance for doubtful accounts (5,719) - (5,719) (10,929) - (10,929) ------- ------ ------- ------ ------ ------ $13,422 $1,324 $14,746 $7,755 $524 $8,279 ======= ====== ======= ====== ===== ======
In addition, as a result of the third party financing arrangement with DLL, management monitors the collection status of these contracts in accordance with the company's limited recourse obligations and provides amounts necessary for estimated losses in the allowance for doubtful accounts. See the "Concentration of Credit Risk" footnote for a description of the financing arrangement. Long-term installment receivables are included in "Other Assets" on the consolidated balance sheet. INVENTORIES Inventories as of December 31, 2004 and 2003 consist of the following (in thousands): 2004 2003 ------ ------- Raw materials $60,548 $41,573 Work in process 16,156 18,711 Finished goods 99,179 70,695 ------ ------- $175,883 $130,979 ======= ======== PROPERTY AND EQUIPMENT Property and equipment as of December 31, 2004 and 2003 consist of the following (in thousands): 2004 2003 ------ ------- Machinery and equipment $243,335 $216,459 Land, buildings and improvements 95,041 67,364 Furniture and fixtures 27,494 20,737 Leasehold improvements 14,275 14,946 ------- ------- 380,145 319,506 Less allowance for depreciation (188,982) (169,455) ------ ------- $191,163 $150,051 ======= ======= FS-11 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) ACQUISITIONS In 2004, Invacare acquired for cash the following six businesses at a total cost of $343,554,000: o The assets of ACS, a New York distributor of medical supplies with a focus on infusion therapy. o The assets of Decpac, an Australian company that designs and manufactures portable folding access ramps for use with wheelchairs and scooters. o Freedom Designs, Inc., a California-based company that designs and manufactures seating products and wheelchairs with a particular focus on the pediatric marketplace. o WP Domus GmbH, a European-based holding company which manufactures several complementary product lines to Invacare's product lines. o Champion Manufacturing, LLC , an Indiana company that designs and manufactures medical recliners. o The assets of Premier Designs, a California company from which Invacare acquired assets and designs for a lightweight, easily transportable power wheelchair. Carroll Healthcare, Inc. was purchased in 2003 and as part of the purchase agreement, the company agreed to pay additional consideration based upon earnings before interest, taxes, depreciation and amortization from September 1, 2003 through August 31, 2004 calculated under Canadian generally accepted accounting principles (U.S. GAAP used for company reporting purposes) in accordance with the purchase agreement with no defined maximum amount. The payment amount was finalized and paid in October 2004 at 74,667,000 Canadian Dollars, $60,992,000 U.S. Dollars, which increased goodwill. Motion Concepts, Inc. ("Motion") was also purchased in 2003 and pursuant to the Motion purchase agreement, the Company agreed to pay contingent consideration based upon earnings before interest and taxes over the three years subsequent to the acquisition up to a maximum of approximately $16,000,000. Based upon 2004 results, no additional consideration was paid. When the contingency related to the acquisitions is settled, any additional consideration paid will increase the purchase price and reported goodwill. On September 9, 2004 the company finalized the acquisition of 100% of the shares of WP Domus GmbH, a European-based holding company that manufactures several complementary product lines to Invacare's product lines, including power add-on products, bath lifts and walking aids, from WP Domus LLC. Domus has three divisions: Alber, Aquatec and Dolomite. The acquisition allows the company to expand its product line and reach new markets. The preliminary purchase price was $227,382,000 including acquisition costs of $3,670,000, which was paid in cash, and is subject to final determination of the estimated costs of possible office closures, sales agency transfers and other consolidation efforts expected to be finalized by the end of the third quarter of 2005. The acquisition was consummated after satisfaction of certain conditions, including receipt of all requisite regulatory approvals. Invacare entered into a 100,000,000 Euro bridge loan agreement and utilized its existing revolving credit line to fund the acquisition. Invacare's reported results reflect the operating results of Domus since the date of the acquisition. Supplemental pro forma information is presented below as though the business combination had been completed as of the beginning of the period being reported on. The pro forma information does not necessarily reflect the results of operations that would have occurred if Domus had been a wholly owned entity of Invacare as of the beginning of the periods presented (in thousands). Years Ended December 31 2004 2003 ---------- ---------- Net sales $1,490,140 $1,363,763 Net earnings 80,410 75,859 Earnings per share - assuming dilution $2.49 $2.39 The pro forma results for 2004 included non-recurring stock option plan expense of $1,410,000. The pro forma results for 2003 included non-recurring stock option plan expense of $2,208,000 and a one-time shipment to a Japanese distributor of approximately $9,512,000. FS-12 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) ACQUISITIONS--Continued The following summarizes the estimated fair values of the assets acquired and liabilities assumed at the date of acquisition (in thousands): Trade receivables $10,845 Inventories 8,470 Other current assets 5,380 Other intangibles 68,965 Property and equipment 17,673 Goodwill 161,486 ------- Total assets acquired 272,819 Accounts payable (3,985) Accrued expenses (17,655) Long-term debt (7,771) Other long-term obligations (16,026) -------- Total liabilities assumed (45,437) -------- Net assets acquired $227,382 ======== GOODWILL The carrying amount of goodwill by operating segment is as follows (in thousands):
2004 2003 ---------------------------------------------------- ---------------------------------------------------- North North America Europe Asia/Pacific Consolidated America Europe Asia/Pacific Consolidated -------- ------ ------------ ------------ ------- ------ ------------ ------------ Balance as of January 1 $210,047 $192,508 $12,944 $415,499 $153,683 $157,325 $10,110 $321,118 Acquisitions 95,344 161,486 71 256,901 49,723 3,397 - 53,120 Foreign currency translation 7,936 36,617 1,011 45,564 6,641 31,786 2,834 41,261 -------- -------- -------- -------- -------- -------- -------- -------- Balance as of December 31 $313,327 $390,611 $14,026 $717,964 $210,047 $192,508 $12,944 $415,499 ======== ======== ======= ======== ======== ======== ======= ========
Of the $256,901,000 in goodwill recorded from acquisitions, $67,557,000 is expected to be deductible for tax purposes, of which $53,716,000 is deductible related to the acquisition of Domus. All of the company's other intangible assets have definite lives and continue to be amortized over their useful lives, except for $27,732,000 related to trademarks, which have indefinite lives. The company's intangibles consist of the following (in thousands):
December 31, 2004 December 31, 2003 ----------------- ----------------- Accumulated Accumulated Historical Cost Amortization Historical Cost Amortization --------------- ------------ --------------- ------------ Customer Lists $57,788 $2,737 $6,105 $ 936 Trademarks 27,732 - 4,268 - License agreements 6,518 5,051 6,455 4,464 Developed Technology 5,842 80 - - Patents 4,137 1,443 2,180 1,109 Other 7,348 1,842 3,406 1,227 ------- ------- ------- ------ $109,365 $11,153 $22,414 $7,736 ======= ======= ======= ======
FS-13 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) OTHER INTANGIBLES The intangibles recorded on the date of acquisition due to the Domus acquisition were as follows (in thousands): Weighted Average Fair Value Amortization Period ---------- ------------------- Customer relationships $ 42,731 13 years Trademarks - Indefinite lives 20,521 Indefinite Developed Technology 5,311 17 years Other 402 5 years --------- Total $ 68,965 13 years ========= Amortization expense related to other intangibles was $3,417,000 and $1,506,000 for 2004 and 2003, respectively. Estimated amortization expense for each of the next five years is expected to be $7,333,000 for 2005, $6,591,000 in 2006, $6,427,000 in 2007, $6,128,000 in 2008 and $5,868,000 in 2009. INVESTMENT IN AFFILIATED COMPANY In January 2003, the FASB issued Interpretation No. 46, Consolidation of Variable Interest Entities (FIN 46), which was revised in December 2003 and, which among other things, deferred the implementation date of FIN 46 until periods after March 15, 2004. This interpretation requires consolidation of an entity if the company is subject to a majority of the risk of loss from the variable interest entity's (VIE) activities or entitled to receive a majority of the entity's residual returns, or both. A company that consolidates a VIE is known as the primary beneficiary of that entity. As of December 31, 2004, the company had an investment in a development stage company, which is currently pursuing FDA approval to market a product focused on the treatment of post-stroke shoulder pain in the United States. The amount of net advances and investment recorded on the company's books is approximately $3,000,000 at December 31, 2004. Certain of the Company's officers and directors have small minority equity ownership positions in this company. Based on the provisions of FIN 46 and the company's preliminary analysis, the company does not believe that its investment is a VIE as of December 31, 2004. Subsequent to December 31, 2004, the company's board of directors approved an additional funding commitment. Accordingly, the company will be required to consolidate this investment on a prospective basis for the quarter ended March 31, 2005 as the company will be deemed the primary beneficiary of this variable interest entity. CURRENT LIABILITIES Accrued expenses as of December 31, 2004 and 2003 consist of the following (in thousands): 2004 2003 ------ ------ Accrued salaries and wages $35,280 $31,960 Accrued warranty cost 13,998 12,688 Accrued rebates 7,427 13,595 Accrued taxes other than income taxes 6,419 3,661 Accrued interest 5,274 3,998 Accrued legal and professional 4,761 2,029 Accrued freight 2,894 4,524 Accrued insurance 2,656 2,470 Accrued product liability, current portion 2,595 2,245 Other accrued items 17,546 14,862 ------ ------ $98,850 $92,032 ====== ====== Accrued rebates relate to several volume incentive programs the company offers its customers. The company accounts for these rebates as a reduction of revenue when the products are sold in accordance with the guidance in EITF 01-09: Accounting for Consideration Given by a Vendor to a Customer (Including a Reseller of the Vendor's Products). The company has experienced significant pricing pressure in the U.S. market for standard products in recent years and has partially reduced prices to our customers in the form of a volume rebate such that the rebates would typically apply only if customers increased their standard product purchases from the company. The decrease in rebates from December 31, 2003 to December 31, 2004 is attributable to the fact that rebate programs in place at December 31, 2003 targeted at Standard Products customers in the U.S. expired during 2004 and were not renewed. FS-14 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) CURRENT LIABILITIES --Continued Changes in accrued warranty costs were as follows (in thousands): 2004 2003 ------ ------ Balance as of January 1 $12,688 $11,448 Warranties provided during the period 8,665 8,557 Settlements made during the period (7,977) (8,288) Changes in liability for pre-existing warranties during the period, including expirations 622 971 ------ ------ Balance as of December 31 $13,998 $12,688 ====== ====== LONG-TERM DEBT Long-term debt as of December 31, 2004 and 2003 consist of the following (in thousands):
2004 2003 ------ ------ $80,000,000 senior notes at 6.71%, due in February 2008 $83,304 $85,462 $20,000,000 senior notes at 6.60%, due in February 2005 20,000 20,000 $50,000,000 senior notes at 3.97%, due in October 2007 50,081 50,560 $30,000,000 senior notes at 4.74%, due in October 2009 30,485 30,532 $20,000,000 senior notes at 5.05%, due in October 2010 20,433 20,386 Revolving credit agreement ($325,000,000 multi-currency), at 0.675% to 1.40% above local interbank offered rates, expires October 17, 2006 230,382 20,002 Bridge Credit Agreement 100,000 - Other notes 15,351 7,267 ------ ------ 550,036 234,209 Less current maturities (2,062) (2,171) ------ ------ $547,974 $232,038 ======== ========
The carrying values of the senior notes have been increased by the gains on the interest rate swaps accounted for as fair value hedges. On January 14, 2005, Invacare Corporation entered into a $450,000,000 multi-currency revolving credit agreement, which expires on January 14, 2010. The facility provides that Invacare, may, upon consent of its lenders, increase the amount of the facility by an additional $100,000,000. The borrowing rates under the revolving credit agreement are determined based on the ratio of debt to earnings before interest, taxes, depreciation and amortization (EBITDA) of the company as defined in the agreement, and ranges from LIBOR plus 0.35% to 0.675%. On September 1, 2004, Invacare Corporation entered into a 364-day, multi-currency bridge credit agreement with a group of commercial banks, with an expiration date of August 31, 2005 or such later date as mutually agreed upon by the company and the banks. Pursuant to the agreement, the company borrowed 100,000,000 Euros in order to provide funds for the company's general corporate purposes, including financing the Domus acquisition and expenses incurred in connection therewith. In October 2003, Invacare Corporation issued $100,000,000 in senior notes, maturing between 2007 and 2010. In 2001, the company entered into a $325,000,000 5-year, multi-currency revolving credit agreement with a group of commercial banks. The multi-currency revolving credit agreement was to expire on October 17, 2006 or such later date as mutually agreed upon by the company and the banks. In January 2005, amounts outstanding under both the $325,000,000 revolving credit agreement and the 100,000,000 Euro bridge credit agreement were paid off with the $450,000,000 multi-currency revolving credit agreement described above. In addition, the $20,000,000 senior notes at 6.60%, due in February 2005 were paid off with the new $450,000,000 facility and thus were classified as long-term as of December 31, 2004 as the company had the intent and the ability to pay-off the notes with long-term debt. Borrowings denominated in foreign currencies aggregated $179,084,000 at December 31, 2004 and $872,000 at December 31, 2003. The borrowing rates under the revolving credit agreement are determined based on the ratio of debt to EBITDA of the company as defined in the agreement and range from 0.675% to 1.40% above the various interbank offered rates. As of December 31, 2004 and 2003, the weighted average floating interest rate on U.S. borrowings was 3.36% and 2.69%, respectively. FS-15 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) LONG-TERM DEBT --Continued The revolving credit agreement, as amended, bridge credit agreement and senior notes all require the company to maintain certain conditions with respect to net worth, funded debt to capitalization, and interest coverage as defined in the agreements. Under the most restrictive covenants of the company's borrowing arrangements, the company has the capacity to borrow up to an additional $60,800,000 as of December 31, 2004 and up to $108,000,000, effective February 2005, pursuant to the covenants of the new $450,000,000 multi-currency, long-term revolving credit agreement. In October 2003, the company exchanged the fixed rates of 3.97%, 4.74% and 5.05% on the $50,000,000, $30,000,000 and $20,000,000 Senior Notes due in October 2007, October 2009 and October 2010 for variable rates based on LIBOR plus 0.01%, LIBOR plus 0.14% and LIBOR plus 0.26%, respectively. The effect of these swaps is to exchange fixed rates for the lower floating rates currently available. In December 2001, the company exchanged the fixed rate of 6.71% on $50,000,000 of the $80,000,000 in Senior Notes due in February 2008. The three agreements for $25,000,000, $15,000,000 and $10,000,000 exchanged the fixed rate for variable rates equal to LIBOR plus 1.9%, 1.71% and 1.62%, respectively. In January 2002, the company exchanged the fixed rate of 6.71% on the remaining $30,000,000 of the $80,000,000 in Senior Notes due in February 2008. The two agreements for $10,000,000 and $20,000,000 exchanged the fixed rate for variable rates equal to LIBOR plus 1.05% and 1.08%, respectively. The effect of these swaps is to exchange a fixed rate of 6.71% for the lower floating rates currently available. The aggregate minimum maturities of long-term debt for each of the next five years are as follows: $2,062,000 in 2005, $1,308,000 in 2006, $217,578,000 in 2007, $81,089,000 in 2008, and $31,108,000 in 2009. Interest paid on borrowings was $15,348,000, $9,450,000 and $13,465,000 in 2004, 2003 and 2002, respectively. Other long-term obligations as of December 31, 2004 and 2003 consist of the following (in thousands): 2004 2003 ------ ------ Supplemental Executive Retirement Plan liability $12,947 $11,048 Product liability 14,450 9,664 Deferred federal income taxes 24,833 2,337 Other, principally deferred compensation 16,341 11,334 ------ ------ Total long-term obligations $68,571 $34,383 ======= ======= LEASES AND COMMITMENTS The company leases a substantial portion of its facilities, transportation equipment, data processing equipment and certain other equipment. These leases have terms of up to 18 years and provide for renewal options. Generally, the company is required to pay taxes and normal expenses of operating the facilities and equipment. As of December 31, 2004, the company is committed under non-cancelable operating leases, which have initial or remaining terms in excess of one year and expire on various dates through 2014. Lease expenses were approximately $18,663,000 in 2004, $15,803,000 in 2003, and $12,575,000 in 2002. The amount of buildings and equipment capitalized in connection with capital leases was $16,545,000 and $7,767,000 at December 31, 2004 and 2003, respectively. At December 31, 2004 and 2003, accumulated amortization was $3,590,000 and $3,003,000, respectively. Future minimum operating and capital lease commitments as of December 31, 2004, are as follow (in thousands): Year Capital Leases Operating Leases ---- -------------- ---------------- 2005 $1,751 $15,680 2006 1,699 9,039 2007 1,586 5,870 2008 1,538 3,178 2009 1,526 1,872 Thereafter 13,439 1,715 ------- ------- Total future minimum lease payments 21,539 $37,354 ======= Amounts representing interest (8,262) Present value of minimum lease payments $13,277 ======= FS-16 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) RETIREMENT AND BENEFIT PLANS Substantially all full-time salaried and hourly domestic employees are included in the Invacare Retirement Savings Plan sponsored by the company. The company makes matching cash contributions up to 66.7% of employees' contributions up to 3% of compensation, quarterly contributions based upon 4% of qualified wages and may make discretionary contributions to the domestic plans based on an annual resolution by the Directors. The company also sponsors a non-qualified 401(k) Plus Benefit Equalization Plan covering certain employees, which provides for employee elective deferrals and company retirement deferrals so that the total retirement deferrals equal amounts that would have been contributed to the company's principal retirement plans if it were not for limitations imposed by income tax regulations. Contribution expense for the plans in 2004, 2003 and 2002 was $5,860,000, $5,619,000, and $5,444,000, respectively. The company also sponsors a non-qualified defined benefit Supplemental Executive Retirement Plan for certain key executives. The projected benefit obligation related to this unfunded plan was $30,631,000 and $27,618,000 at December 31, 2004 and 2003, respectively, of which approximately $13,371,000 and $11,517,000, at December 31, 2004 and 2003, respectively, has been accrued. Expense for the plan in 2004, 2003, and 2002 was $2,278,000, $2,108,000, and $2,147,000, respectively. In conjunction with these non-qualified plans, the company has invested in life insurance policies related to certain employees to satisfy certain of these future obligations. The current cash surrender value of the policies approximates the current benefit obligations. In addition, the projected policy benefits exceed the projected benefit obligations. SHAREHOLDERS' EQUITY TRANSACTIONS The Common Shares and the Class B Common Shares generally have identical rights, terms and conditions and vote together as a single class on most issues, except that the Class B Common Shares have ten votes per share, carry a 10% lower cash dividend rate and, in general, can only be transferred to family members. Holders of Class B Common Shares are entitled to convert their shares into Common Shares at any time on a share-for-share basis. The 2003 Performance Plan (the "2003 Plan") allows the Compensation Committee of the Board of Directors (the "Committee") to grant up to 2,000,000 Common Shares in connection with incentive stock options, non-qualified stock options, stock appreciation rights and stock awards (including the use of restricted stock). The 1994 Performance Plan (the "1994 Plan"), as amended, expired in 2004 and allowed the Compensation Committee of the Board of Directors (the "Committee") to grant up to 5,500,000 Common Shares. The Committee has the authority to determine which employees and directors will receive awards, the amount of the awards and the other terms and conditions of the awards. During 2004, the Committee granted 615,450 and 11,000 non-qualified stock options for a term of ten years at the fair market value of the company's Common Shares on the date of grant under the 2003 Plan and the 1994 Plan, respectively. There were no stock appreciation rights outstanding at December 31, 2004, 2003 or 2002. Restricted stock awards for 20,510, 28,894 and 37,289 shares were granted in years 2004, 2003 and 2002 without cost to the recipients. Under the terms of the restricted stock awards, which were initially granted in 2001, 104,213 of the shares granted vest ratably over the four years after the award date and 6,500 of the shares granted vest ratably over the 2 years after the award date. Unearned restricted stock compensation of $911,000 in 2004, $897,000 in 2003 and $1,190,000 in 2002, determined as the market value of the shares at the date of grant, is being amortized on a straight-line basis over the vesting period. Compensation expense of $812,000, $643,000 and $757,000 was recognized in 2004, 2003 and 2002, respectively, related to restricted stock awards granted since 2001. The 1994 Plan and the 2003 Plan have provisions that allow employees to exchange mature shares to pay the exercise price and surrender shares for the options to cover the minimum tax withholding obligation. Under these provisions, the company acquired approximately 53,000 treasury shares for $2,444,000 in 2004, 110,000 treasury shares for $3,199,000 in 2003 and 85,000 treasury shares for $2,863,000 in 2002. FS-17 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) SHAREHOLDERS' EQUITY TRANSACTIONS--(Continued) As of December 31, 2004, an aggregate of 10,389,393 Common Shares were reserved for conversion of Class B Common Shares, future rights (as defined below) and the exercise and future grant of options.
Weighted Weighted Weighted Average Average Average Exercise Exercise Exercise 2004 Price 2003 Price 2002 Price ---- ----- ---- ----- ---- ----- Options outstanding at January 1 4,518,890 $27.34 4,257,422 $25.23 4,201,943 $23.27 Granted 626,450 43.89 704,617 36.73 619,868 33.59 Exercised (449,374) 24.13 (340,665) 19.08 (418,432) 18.28 Canceled (57,561) 34.75 (102,484) 33.02 (145,957) 27.32 --------- ------ --------- ------ --------- ------ Options outstanding at December 31 4,638,405 $29.81 4,518,890 $27.34 4,257,422 $25.23 ========= ====== ========= ====== ========= ====== Options price range at December 31 $16.03 to $15.13 to $11.88 to $47.35 $43.37 $36.84 Options exercisable at December 31 2,963,385 2,796,100 2,347,721 Options available for grant at December 31* 1,033,858 1,670,600 296,860
* Options available for grant as of December 31, 2004 reduced by net restricted stock award activity of 108,713. The following table summarizes information about stock options outstanding at December 31, 2004: Options Outstanding Options Exercisable ------------------- ------------------- Number Weighted Average Number Outstanding Remaining Weighted Average Exercisable Weighted Average Exercise Prices At 12/31/04 Contractual Life Exercise Price At 12/31/04 Exercise Price --------------- ----------- ---------------- -------------- ----------- -------------- $16.03 - $19.50 513,873 3.8 years $18.25 513,873 $18.25 $20.06 - $24.75 1,266,484 3.9 $23.67 1,066,484 $23.72 $25.13 - $29.85 723,042 4.4 $25.30 723,042 $25.30 $30.02 - $34.54 694,753 7.4 $32.54 387,718 $32.82 $36.10 - $37.70 823,891 8.3 $37.29 272,268 $37.06 $40.07 - $47.35 616,362 9.7 $44.29 - - --------- --- ------ --------- ------ Total 4,638,405 6.0 $29.41 2,963,385 $25.57
The company utilizes the disclosure-only provisions of SFAS No. 123. Accordingly, no compensation cost has been recognized for the stock option plans, except the expense recorded related to the 110,713 restricted stock awards granted in years 2001 through 2004. The assumption regarding the stock options issued in 2004, 2003 and 2002 was that 25% of such options vested in the year following issuance. The stock options awarded during such years provided a four-year vesting period whereby options vest equally in each year. Current and prior years' pro forma disclosures may be adjusted for forfeitures of awards that will not vest because service or employment requirements have not been met. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions: 2004 2003 2002 ---- ---- ---- Expected dividend yield .63% .75% .80% Expected stock price volatility 28.8% 29.6% 31.4% Risk-free interest rate 3.67% 3.31% 3.26% Expected life (years) 5.6 5.5 5.4 The weighted-average fair value of options granted during 2004, 2003 and 2002, based upon an expected exercise year of 2010, was $13.58, $11.03 and $10.71, respectively. FS-18 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) SHAREHOLDERS' EQUITY TRANSACTIONS --Continued The plans provide that shares granted come from the company's authorized but unissued Common Shares or treasury shares. Pursuant to the plans, the Committee has established that the 2004 grants may not be exercised within one year from the date granted and options must be exercised within ten years from the date granted. The weighted-average remaining contractual life of options outstanding at December 31, 2004 is 6.0 years. On July 7, 1995, the company adopted a Rights Plan whereby each holder of a Common Share and a Class B Common Share received one purchase right (the "Rights") for each share owned. Under certain conditions, each Right may be exercised to purchase one-tenth of one Common Share at a price of $8.00 per one-tenth of a share. The Rights may only be exercised 10 days after a third party has acquired 30% or more of the company's outstanding voting power or 10 days after a third party commences a tender offer for 30% or more of the voting power (an "Acquiring Party"). In addition, if an Acquiring Party merges with the company and the company's Common Shares are not changed or exchanged, or if an Acquiring Party engages in one of a number of self-dealing transactions, each holder of a Right (other than the Acquiring Party) will have the right to receive that number of Common Shares or similar securities of the resulting entity having a market value equal to two times the exercise price of the Right. The company may redeem the Rights at a price of $0.005 per Right at any time prior to 10 days following a public announcement that an Acquiring Party has acquired beneficial ownership of 30% or more of the company's outstanding voting power, and in certain other circumstances as approved by the Board of Directors. The Rights will expire on July 7, 2005. CAPITAL STOCK Capital stock activity for 2004, 2003 and 2002 consisted of the following (in thousands of shares):
Common Stock Class B Treasury Shares Shares Shares ---------------------------------------- January 1, 2002 Balance 29,838 1,112 (249) Exercise of stock options 419 - (85) Stock awards 37 - - Repurchase of treasury shares - - (53) -------------------------------------------------------------------------------------------------------------- December 31, 2002 Balance 30,294 1,112 (387) Exercise of stock options 416 - (110) Stock awards 29 - - Repurchase of treasury shares - - (273) -------------------------------------------------------------------------------------------------------------- December 31, 2003 Balance 30,739 1,112 (770) Exercise of stock options 449 - (53) Stock awards 21 - - Repurchase of treasury shares - - (111) -------------------------------------------------------------------------------------------------------------- December 31, 2004 Balance 31,209 1,112 (934) ====== ===== =====
Stock option exercises in 2003 include deferred share activity, which increased common shares by 75,000 shares and treasury shares by 5,000 shares. FS-19 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--Continued OTHER COMPREHENSIVE EARNINGS (LOSS) The components of other comprehensive earnings (loss) are as follows (in thousands):
Unrealized Gain Unrealized Gain (Loss) on Currency (Loss) on Derivative Translation Available-for-Sale Financial Adjustments Securities Instruments Total --------------------------------------------------------------- Balance at January 1, 2002 $(47,832) $ 743 $(1,040) $(48,129) Foreign currency translation adjustments 28,214 28,214 Unrealized loss on available for sale securities (251) (251) Deferred tax benefit relating to unrealized loss on available for sale securities 88 88 Current period unrealized gain on cash flow hedges, net of reclassifications 2,074 2,074 Deferred tax expense relating to unrealized gain on derivative financial instruments (725) (725) --------------------------------------------------------------- Balance at December 31, 2002 (19,618) 580 309 (18,729) Foreign currency translation adjustments 66,185 66,185 Unrealized gain on available for sale securities 146 146 Deferred tax liability relating to unrealized gain on available for sale securities (51) (51) Current period unrealized gain on cash flow hedges, net of reclassifications 5,394 5,394 Deferred tax expense relating to unrealized gain on derivative financial instruments (1,888) (1,888) --------------------------------------------------------------- Balance at December 31, 2003 46,567 675 3,815 51,057 Foreign currency translation adjustments 57,903 57,903 Unrealized loss on available for sale securities (14) (14) Deferred tax benefit relating to unrealized loss on available for sale securities 5 5 Current period unrealized loss on cash flow hedges, net of reclassifications (6,649) (6,649) Deferred tax benefit relating to unrealized loss on derivative financial instruments 2,327 2,327 --------------------------------------------------------------- Balance at December 31, 2004 $104,470 $666 $(507) $104,629 ===============================================================
Net gains of $6,650,000 and $500,000 and a net loss of $402,000 were reclassified into earnings related to derivative instruments designated and qualifying as cash flow hedges in 2004, 2003 and 2002, respectively. INCOME TAXES Earnings before income taxes consist of the following (in thousands): 2004 2003 2002 ------- ------- ------- Domestic $57,557 $59,027 $51,512 Foreign 52,815 47,382 45,018 ------- ------- ------- $110,372 $106,409 $96,530 ======= ======= ====== FS-20 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) INCOME TAXES --Continued The company has provided for income taxes as follows (in thousands): 2004 2003 2002 ------- ------- ------- Current: Federal $14,075 $16,635 $21,415 State 2,800 3,200 2,200 Foreign 14,050 11,960 11,195 ------- ------- ------- 30,925 31,795 34,810 Deferred: Federal 2,225 1,625 (4,620) Foreign 2,025 1,580 1,570 ------- ------- ------- 4,250 3,205 (3,050) ------- ------- ------- Income Taxes $35,175 $35,000 $31,760 ======= ======= ======= A reconciliation to the effective income tax rate from the federal statutory rate follows: 2004 2003 2002 ---- ---- ---- Statutory federal income tax rate 35.0% 35.0% 35.0% State and local income taxes, net of federal income tax benefit 1.6 2.0 1.5 Tax credits (1.6) (1.4) (2.3) Foreign taxes at less than the federal statutory rate (2.1) (2.9) (2.6) Other, net (1 0) .2 1.3 ---- ---- ---- 31.9% 32.9% 32.9% ==== ==== ==== Significant components of deferred income tax assets and liabilities at December 31, 2004 and 2003 are as follows (in thousands): 2004 2003 ----- ----- Current deferred income tax assets, net: Loss carryforwards $7,620 $1,162 Bad debt 4,366 7,773 Warranty 3,157 3,094 State and local taxes 3,048 2,422 Other accrued expenses and reserves 2,219 2,118 Inventory 1,816 1,931 Litigation reserves - 2,177 Compensation and benefits 1,240 968 Product liability 292 291 Other, net (2,028) 2,637 ----- ----- $21,730 $24,573 FS-21 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) INCOME TAXES --Continued 2004 2003 ----- ----- (In thousands) Long-term deferred income tax assets (liabilities), net: Goodwill & intangibles (35,431) (3,310) Fixed assets (15,169) (11,003) Compensation and benefits 9,642 8,219 Loss carryforwards 6,429 1,001 Product liability 3,391 1,282 State and local taxes 2,400 2,400 Valuation reserve - (1,001) Other, net 3,905 75 ----- ----- $ (24,833) $ (2,337) ----- ----- Net Deferred Income Taxes $(3,103) $22,236 ====== ====== At December 31, 2004, the company had federal foreign tax loss carryforwards of approximately $47,625,000 of which $43,990,000 are non-expiring, $890,000 are expiring in 2009 and $2,745,000 are expiring in 2010. At December 31, 2004 the company also has $17,550,000 of local foreign tax loss carryforwards, which are non-expiring. The loss carryforward amounts include $43,200,000 of federal and $17,550,000 of local loss carryforwards acquired in 2004 acquisitions. The company made income tax payments of $30,180,000, $25,173,000 and $28,769,000 during the years ended December 31, 2004, 2003 and 2002, respectively. NET EARNINGS PER COMMON SHARE The following table sets forth the computation of basic and diluted net earnings per common share. 2004 2003 2002 ---- ---- ---- (In thousands except per share data) Basic Average common shares outstanding 31,153 30,862 30,867 Net earnings $75,197 $71,409 $64,770 Net earnings per common share $2.41 $2.31 $2.10 Diluted Average common shares outstanding 31,153 30,862 30,867 Stock options 1,194 867 797 ---- ---- ---- Average common shares assuming dilution 32,347 31,729 31,664 Net earnings $75,197 $71,409 $64,770 Net earnings per common share $2.33 $2.25 $2.05 At December 31, 2004 and 2003, 21,167 and 501,067 shares, respectively were excluded from the average common shares assuming dilution, as they were anti-dilutive. In 2004, the majority of the anti-dilutive shares were granted at an exercise price of $47.35, which was higher than the average fair market value price of $44.39 for 2004. In 2003, the majority of the anti-dilutive shares were granted at an exercise price of $37.70, which was higher than the average fair market value price of $35.29 for 2003. FS-22 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) CONCENTRATION OF CREDIT RISK The company manufactures and distributes durable medical equipment and supplies to the home health care, retail and extended care markets. The company performs credit evaluations of its customers' financial condition. Prior to December 2000, the company financed equipment to certain customers for periods ranging from 6 to 39 months. In December 2000, Invacare entered into an agreement with DLL, a third party financing company, to provide the majority of future lease financing to Invacare's customers. The DLL agreement provides for direct leasing between DLL and the Invacare customer. The company retains a limited recourse obligation ($50,010,000 at December 31, 2004) to DLL for events of default under the contracts (total balance outstanding of $104,447,000 at December 31, 2004). Financial Accounting Standards Board (FASB) Interpretation No. 45, Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others, requires the company to record a guarantee liability as it relates to the limited recourse obligation. As such, the company has recorded a liability for this guarantee obligation. The company monitors the collections status of these contracts and has provided amounts for estimated losses in its allowances for doubtful accounts in accordance with SFAS No. 5, Accounting for Contingencies. Credit losses are provided for in the financial statements. Substantially all of the company's receivables are due from health care, medical equipment dealers and long term care facilities located throughout the United States, Australia, Canada, New Zealand and Europe. A significant portion of products sold to dealers, both foreign and domestic, is ultimately funded through government reimbursement programs such as Medicare and Medicaid. In addition, the company has also seen a significant shift in reimbursement to customers from managed care entities. As a consequence, changes in these programs can have an adverse impact on dealer liquidity and profitability. In addition, reimbursement guidelines in the home health care industry have a substantial impact on the nature and type of equipment an end user can obtain as well as the timing of reimbursement and, thus, affect the product mix, pricing and payment patterns of the company's customers. FAIR VALUES OF FINANCIAL INSTRUMENTS The company in estimating its fair value disclosures for financial instruments used the following methods and assumptions: Cash, cash equivalents and marketable securities: The carrying amount reported in the balance sheet for cash, cash equivalents and marketable securities approximates its fair value. Installment receivables: The carrying amount reported in the balance sheet for installment receivables approximates its fair value. The majority of the portfolio contains receivables, which are due in less than one year. The interest rates associated with these receivables have not varied significantly since inception. Management believes that after consideration of the credit risk, the net book value of the installment receivables approximates market value. Long-term debt: Fair values for the company's senior notes are estimated using discounted cash flow analyses, based on the company's current incremental borrowing rate for similar borrowing arrangements. Interest Rate Swaps: The company is a party to interest rate swap agreements, which are entered into, in the normal course of business to reduce exposure to fluctuations in interest rates. The agreements are with major financial institutions, which are expected to fully perform under the terms of the agreements thereby mitigating the credit risk from the transactions. The agreements are contracts to exchange fixed rate payments for floating rate payments over the life of the agreements without the exchange of the underlying notional amounts. The notional amounts of such agreements are used to measure interest to be paid or received and do not represent the amount of exposure to credit loss. The amounts to be paid or received under the interest rate swap agreements are accrued consistent with the terms of the agreements and market interest rates. Fair value for the company's interest rate swaps are based on independent pricing models. Other investments: The company has made other investments in limited partnerships and non-marketable equity securities, which are accounted for using the cost method, adjusted for any estimated declines in value. These investments were acquired in private placements and there are no quoted market prices or stated rates of return. FS-23 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) FAIR VALUES OF FINANCIAL INSTRUMENTS --Continued The carrying amounts and fair values of the company's financial instruments at December 31, 2004 and 2003 are as follows (in thousands): 2004 2003 ---- ---- Carrying Fair Carrying Fair Value Value Value Value ------- ------ ------- ------ Cash and cash equivalents $32,567 $32,567 $16,074 $16,074 Marketable securities 199 199 214 214 Other investments 8,213 8,213 7,642 7,642 Installment receivables 14,746 14,746 8,279 8,279 Long-term debt (including current maturities) 550,036 551,431 234,209 237,584 Interest rate swaps 4,302 4,302 6,615 6,615 Forward contracts (780) (780) 6,196 6,196 Forward Contracts: The company operates internationally and as a result is exposed to foreign currency fluctuations. Specifically, the exposure includes intercompany loans and third party sales or payments. In an attempt to reduce this exposure, foreign currency forward contracts are utilized and accounted for as hedging instruments. The forward contracts are entered into to hedge the following currencies: USD, NZD, CAD, EUR, SEK, DKK and AUD. The company does not use derivative financial instruments for speculative purposes. The gains and losses that result from the majority of the forward contracts are deferred and recognized when the offsetting gains and losses for the identified transactions are recognized. The company recognized gains of $6,961,000 in 2004, $1,292,000 in 2003, and $1,184,000 in 2002, which were recognized in cost of products sold and selling, general and administrative expenses. BUSINESS SEGMENTS The company operates in three primary business segments based on geographical area: North America, Europe and Asia/Pacific. The three reportable segments represent operating groups, which offer products to different geographic regions. The North America segment sells each of five primary product lines, which includes: standard, rehab, distributed, respiratory, and continuing care products. Europe and Asia/Pacific sell the same product lines with the exception of distributed products. Each business segment sells to the home health care, retail and extended care markets. The company evaluates performance and allocates resources based on profit or loss from operations before income taxes for each reportable segment. The accounting policies of each segment are the same as those described in the summary of significant accounting policies for the company's consolidated financial statements. Intersegment sales and transfers are based on the costs to manufacture plus a reasonable profit element. Therefore, intercompany profit or loss on intersegment sales and transfers is not considered in evaluating segment performance. Intersegment revenue for reportable segments are $83,135,000, $74,835,000 and $61,178,000 for the years ended December 31, 2004, 2003 and 2002, respectively. FS-24 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) BUSINESS SEGMENTS--Continued The information by segment is as follows (in thousands): 2004 2003 2002 ---------------------------------------------------------------------------- Revenues from external customers North America $1,002,273 $897,208 $793,464 Europe 336,792 279,782 251,443 Asia/Pacific 64,262 70,186 44,254 --------- --------- --------- Consolidated $1,403,327 $1,247,176 $1,089,161 ========= ========= ========= Depreciation and amortization North America $20,644 $18,551 $19,232 Europe 8,687 6,315 5,699 Asia/Pacific 2,911 2,261 1,623 All Other (1) 74 108 84 --------- --------- --------- Consolidated $32,316 $27,235 $26,638 ========= ========= ========= Net interest expense (income) North America $8,940 $7,780 $11,910 Europe 4,924 4,220 5,256 Asia/Pacific (664) (602) (282) All Other (1) (2,104) (5,161) (6,312) --------- --------- --------- Consolidated $11,096 $6,237 $10,572 ========= ========= ========= Earnings (loss) before income taxes North America $95,883 $88,299 $76,548 Europe 18,705 19,132 19,020 Asia/Pacific 1,430 5,997 5,740 All Other (1) (5,646) (7,019) (4,778) --------- --------- --------- Consolidated $110,372 $106,409 $96,530 ========= ========= ========= Assets North America $778,820 $616,352 $510,135 Europe 710,510 348,063 295,085 Asia/Pacific 69,685 56,403 41,185 All Other (1) 69,109 87,395 60,298 --------- --------- --------- Consolidated $1,628,124 $1,108,213 $906,703 ========= ========= ========= Long-lived assets North America $428,308 $307,736 $252,624 Europe 548,843 236,591 194,212 Asia/Pacific 31,797 24,492 15,831 All Other (1) 53,905 64,672 45,224 --------- --------- --------- Consolidated $1,062,853 $633,491 $507,891 ========= ========= ========= Expenditures for assets North America $14,897 $12,513 $11,172 Europe 20,064 11,933 7,956 Asia/Pacific 6,441 6,203 2,381 All Other (1) 1 11 600 --------- --------- --------- Consolidated $41,403 $30,660 $22,109 ========= ========= ========= (1) Consists of the domestic export unit, un-allocated corporate selling, general and administrative costs, the Invacare captive insurance unit and inter-company profits, which do not meet the quantitative criteria for determining reportable segments. FS-25 INVACARE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued) BUSINESS SEGMENTS--Continued Net sales by product, are as follows (in thousands): North America 2004 2003 2002 ------------- --------- -------- -------- Standard $257,668 $274,959 $282,627 Rehab 280,339 273,063 211,096 Distributed 205,130 162,645 146,573 Respiratory 161,247 118,115 82,528 Continuing Care 76,578 48,321 40,452 Other 21,311 20,105 30,188 --------- -------- -------- $1,002,273 $897,208 $793,464 ========= ======== ======== Europe 2004 2003 2002 ------ --------- -------- -------- Standard $200,064 $142,777 $130,617 Rehab 128,316 129,167 113,162 Respiratory 8,412 7,838 7,664 --------- -------- -------- $336,792 $279,782 $251,443 ========= ======== ======== Asia/Pacific 2004 2003 2002 ------------ --------- -------- -------- Rehab $34,273 $46,832 $32,752 Respiratory 8,162 6,584 4,207 Standard 7,721 6,427 4,680 Other 14,106 10,343 2,615 --------- -------- -------- $64,262 $70,186 $44,254 ========= ======== ======== Total Consolidated $1,403,327 $1,247,176 $1,089,161 ========= ========= ========= No single customer accounted for more than 5% of the company's sales. INTERIM FINANCIAL INFORMATION (UNAUDITED)
QUARTER ENDED ------------- (In thousands, except per share data) 2004 March 31, June 30, September 30, December 31, ---- --------- --------- --------- --------- Net sales $321,343 $339,288 $349,507 $393,189 Gross profit 93,379 102,124 106,076 117,013 Earnings before income taxes 21,041 26,698 32,614 30,019 Net earnings 14,201 18,023 22,529 20,444 Net earnings per share - basic .46 .58 .72 .65 Net earnings per share - assuming dilution .44 .56 .70 .63 2003 March 31, June 30, September 30, December 31, ---- --------- --------- --------- --------- Net sales $276,673 $300,114 $327,366 $343,023 Gross profit 80,451 87,834 98,452 107,924 Earnings before income taxes 18,267 23,022 29,812 35,308 Net earnings 12,257 15,447 20,007 23,698 Net earnings per share - basic .40 .50 .65 .76 Net earnings per share - assuming dilution .39 .49 .63 .74
FS-26 INVACARE CORPORATION AND SUBSIDIARIES SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
(In thousands) COL A. COL B. COL C. COL D. ------ ------ ------ ------ Balance Charged To Balance At Beginning Cost And Deductions At End Of Period Expenses Describe Of Period Year Ended December 31, 2004 ------------ -------- ---------- --------- ---------------------------- Deducted from asset accounts - Allowance for doubtful accounts $27,704 $11,222 $(23,350)(A) $15,576 Inventory obsolescence reserve 8,715 2,609 (1,792)(B) 9,532 Investments and related notes 29,540 - - 29,540 receivable Accrued warranty cost 12,688 9,287 (7,977)(B) 13,998 Accrued product liability 11,909 8,202 (3,066)(C) 17,045 Year Ended December 31, 2003 ---------------------------- Deducted from asset accounts - Allowance for doubtful accounts $32,732 $13,760 $(18,788)(A) $27,704 Inventory obsolescence reserve 5,337 6,623 (3,245)(B) 8,715 Investments and related notes 29,000 540 - 29,540 receivable Accrued warranty cost 11,448 9,528 (8,288)(B) 12,688 Accrued product liability 8,272 8,058 (4,421)(C) 11,909 Year Ended December 31, 2002 ---------------------------- Deducted from asset accounts - Allowance for doubtful accounts $28,797 $10,792 $(6,857)(A) $32,732 Inventory obsolescence reserve 5,463 2,137 (2,263)(B) 5,337 Investments and related notes 29,000 - - 29,000 receivable Accrued warranty cost 7,607 11,695 (7,854)(B) 11,448 Accrued product liability 5,816 5,086 (2,630)(C) 8,272
Note (A) - Uncollectible accounts written off, net of recoveries. Note (B) - Amounts written off or payments incurred. Note (C) - Loss and loss adjustment. FS-27 Exhibit 21 Invacare Corporation Subsidiaries --------------------------------- 1. 2030604 Ontario, Inc., an Ontario corporation and wholly owned subsidiary. 2. 3080359 Nova Scotia Company, a Nova Scotia corporation and wholly owned subsidiary. 3. 6123449 Canada, Inc., a Canadian corporation and wholly owned subsidiary. 4. Adaptive Switch Laboratories, Inc., a Texas corporation and wholly owned subsidiary. 5. Alber GmbH, Wurenlos, a Swiss corporation and wholly owned subsidiary. 6. Aquatec GmbH, Isny, a German limited liability company. 7. Carroll Healthcare (USA) Inc., a Nevada corporation and wholly owned subsidiary. 8. Carroll Healthcare Inc. (Chile) Limitada, a Chilean corporation and wholly owned subsidiary. 9. Carroll Healthcare, Inc., an Ontario corporation and wholly owned subsidiary. 10. Champion Manufacturing Inc., a Delaware corporation. 11. Dolomite AB, Gislaved, a Swedish corporation and wholly owned subsidiary. 12. Dolomite Holding AB, Gislaved, a Swedish corporation and wholly owned subsidiary. 13. Dynamic Controls, a New Zealand corporation and wholly owned subsidiary. 14. Dynamic Europe Limited, a U.K. corporation and wholly owned subsidiary. 15. EC-Hong AS, a Danish corporation and wholly owned subsidiary. 16. Freedom Designs, Inc., a California corporation and wholly owned subsidiary 17. Garden City Medical Inc., a Delaware corporation and wholly owned subsidiary. 18. Groas A/S, a Norwegian corporation and wholly owned subsidiary. 19. Healthtech, Inc., a Missouri corporation and wholly owned subsidiary. 20. Invacare AB, a Swedish corporation and wholly owned subsidiary. 21. Invacare AG, a Swiss corporation and wholly owned subsidiary. 22. Invacare AS, a Danish corporation and wholly owned subsidiary. 23. Invacare AS, a Norwegian corporation and wholly owned subsidiary. 24. Invacare Australia Pty Limited, an Australian corporation and wholly owned subsidiary. 25. Invacare Bencraft, a U.K. corporation and wholly owned subsidiary. 26. Invacare BV, a Netherlands corporation and wholly owned subsidiary. 27. Invacare Canada Holdings, Inc., a Canadian corporation and wholly owned subsidiary. I-36 Invacare Corporation Subsidiaries --------------------------------- 28. Invacare Canada Inc., an Ontario corporation and wholly owned subsidiary. 29. Invacare Canadian Holdings, Inc., a Delaware corporation and wholly owned subsidiary. 30. Invacare Credit Corporation, an Ohio corporation and wholly owned subsidiary. 31. Invacare Deutschland GmbH, a German corporation and wholly owned subsidiary. 32. Invacare Florida Corporation, a Delaware corporation and wholly owned subsidiary. 33. Invacare Germany Holding GmbH, a German corporation and wholly owned subsidiary 34. Invacare GmbH and Co. KG, a German corporation and wholly owned subsidiary. 35. Invacare Holding AB, a Swedish corporation and wholly owned subsidiary. 36. Invacare Holding BV, a Netherlands corporation and wholly owned subsidiary. 37. Invacare Holding Two AB, a Swedish corporation and wholly owned subsidiary. 38. Invacare Holdings AS, a Norwegian corporation and wholly owned subsidiary. 39. Invacare Holdings CV, a Netherlands wholly owned partnership subsidiary. 40. Invacare Holdings LLC, an Ohio limited liability corporation and wholly owned subsidiary. 41. Invacare Holdings New Zealand, a New Zealand corporation and wholly owned subsidiary. 42. Invacare Holdings Two BV, a Netherlands corporation and wholly owned subsidiary. 43. Invacare International Corporation, an Ohio corporation and wholly owned subsidiary. 44. Invacare International SARL, a Swiss corporation and wholly owned subsidiary. 45. Invacare Ltd., a U.K. corporation and wholly owned subsidiary. 46. Invacare Mauritius Holdings, a Republic of Mauritius Company and wholly owned subsidiary. 47. Invacare MeccSan SrL, an Italian corporation and wholly owned subsidiary. 48. Invacare Medical Equipment (Kunshan) Company, Ltd., a Chinese company and wholly owned subsidiary. 49. Invacare Medical Equipment (Suzhou) Company, Ltd., a Chinese company and wholly owned subsidiary. 50. Invacare New Zealand, a New Zealand corporation and wholly owned subsidiary. 51. Invacare NV, a Belgium corporation and wholly owned subsidiary. 52. Invacare Poirier SAS, a French corporation and wholly owned subsidiary. 53. Invacare Rea AB, a Swedish corporation and wholly owned subsidiary. 54. Invacare Supply Group, Inc. (formerly Suburban Ostomy Supply Company, Inc.), a Massachusetts corporation and wholly owned subsidiary. 55. Invacare Trading Company, Inc., a United States Territory of the Virgin Islands corporation and wholly owned subsidiary. I-37 Invacare Corporation Subsidiaries --------------------------------- 56. Invacare Verwaltungs GmbH, a German corporation and wholly owned subsidiary. 57. Invacare(Portugual) - Sociedade Industrial e Comercial de Ortopedia., Lda., a Portugal company and wholly owned subsidiary. 58. Invacare, S.A., a Spanish corporation and wholly owned subsidiary. 59. Invamex S.A. de R.L. de C.V., a Mexican corporation and wholly owned subsidiary. 60. Invatection Insurance Company, a Vermont corporation and wholly owned subsidiary. 61. Medbloc, Inc., a Delaware corporation and wholly owned subsidiary. 62. Mobilite Building Corporation, a Florida corporation and wholly owned subsidiary. 63. Mobitec Mobilitatshilfen Ges.m.b.H., Tiefgraben, an Austrian corporation and wholly owned subsidiary. 64. Mobitec Rehab AG, Wurenlos, a Swiss corporation and wholly owned subsidiary. 65. Mobitec S.a.r.l., Venissieux, A French corporation and wholly owned subsidiary. 66. Motion Concepts, L.P., an Ontario wholly owned partnership. 67. Perpetual Motion Enterprises Inc., an Ontario corporation and wholly owned subsidiary. 68. Pro-Med Australia Pty. Limited., an Australian corporation and wholly owned subsidiary. 69. Pro-Med Equipment Pty. Limited, an Australian corporation and wholly owned subsidiary. 70. Roller Chair Pty. Limited, an Australian corporation and wholly owned subsidiary. 71. Samarite B.V., a Netherlands corporation and wholly owned subsidiary. 72. Scandinavian Mobility GmbH, a German corporation and wholly owned subsidiary. 73. Scandinavian Mobility International AS, a Danish corporation and wholly owned subsidiary. 74. Sci Des Hautes Roches, a French partnership and wholly owned subsidiary. 75. Silcraft Corporation, a Michigan corporation and wholly owned subsidiary. 76. The Aftermarket Group, Inc., a Delaware corporation and wholly owned subsidiary. 77. Ulrich Alber GmbH, Albstadt, a German limited liability company. 78. WP Domus GmbH, a German corporation and wholly owned subsidiary. 79. WP Gesundheits Verwaltungs GmbH, a German limited liability company . -------------------------------------------------------------------------------- Note, "Wholly owned subsidiary" refers to indirect, as well as direct, wholly owned subsidiaries. I-38 Exhibit 23 CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM We consent to the incorporation by reference in the Registration Statements (Forms S-8, No. 33-45993 dated February 24, 1992, No. 33-87052 dated December 5, 1994, No. 33-57978 dated March 30, 2001 and No. 333-109794 dated October 17, 2003) pertaining to the Invacare Corporation stock option plans of our reports dated March 4, 2005, with respect to the consolidated financial statements and schedule of Invacare Corporation and subsidiaries, Invacare Corporation management's assessment of the effectiveness of internal control over financial reporting, and the effectiveness of internal control over financial reporting of Invacare Corporation, included in this Annual Report (Form 10-K) for the year ended December 31, 2004. /S/ ERNST & YOUNG LLP Cleveland, Ohio March 4, 2005 I-39