-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, UPgwCMQAwQNVMiu4GZWAkuvkm89nwhzes6E2C3vLqQzCub67AawUt/WDQDrJy3MZ tIRQkWl3hC403czvOoDA3w== 0000893220-07-003729.txt : 20071114 0000893220-07-003729.hdr.sgml : 20071114 20071114155215 ACCESSION NUMBER: 0000893220-07-003729 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 20070930 FILED AS OF DATE: 20071114 DATE AS OF CHANGE: 20071114 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ESCALON MEDICAL CORP CENTRAL INDEX KEY: 0000862668 STANDARD INDUSTRIAL CLASSIFICATION: ELECTROMEDICAL & ELECTROTHERAPEUTIC APPARATUS [3845] IRS NUMBER: 330272839 STATE OF INCORPORATION: PA FISCAL YEAR END: 0630 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-20127 FILM NUMBER: 071244544 BUSINESS ADDRESS: STREET 1: 565 E. SWEDESFORD ROAD STREET 2: SUITE 200 CITY: WAYNE STATE: PA ZIP: 19087 BUSINESS PHONE: 6106886830 MAIL ADDRESS: STREET 1: 565 E. SWEDESFORD ROAD STREET 2: SUITE 200 CITY: WAYNE STATE: PA ZIP: 19087 FORMER COMPANY: FORMER CONFORMED NAME: INTELLIGENT SURGICAL LASERS INC DATE OF NAME CHANGE: 19930328 10-Q 1 w42611e10vq.txt FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 ---------- FORM 10-Q ---------- Mark One [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2007 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: 0-20127 ---------- ESCALON MEDICAL CORP. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) PENNSYLVANIA 33-0272839 (STATE OR OTHER JURISDICTION OF (IRS EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
565 EAST SWEDESFORD ROAD, SUITE 200 WAYNE, PA 19087 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
(610) 688-6830 (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) N/A FORMER NAME, FORMER ADDRESS AND FORMER FISCAL YEAR, IF CHANGED SINCE LAST REPORT Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [X] Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X] Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: 6,389,315 shares of common stock, $0.001 par value, outstanding as of November 6, 2007. ESCALON MEDICAL CORP. FORM 10-Q QUARTERLY REPORT TABLE OF CONTENTS Part I. Financial Information Item 1. Condensed Consolidated Financial Statements (Unaudited) Condensed Consolidated Balance Sheets as of September 30, 2007 (Unaudited) and June 30, 2007 2 Condensed Consolidated Statements of Income for the three- month periods ended September 30, 2007 and 2006 (Unaudited) 3 Condensed Consolidated Statements of Cash Flows for the three- month periods ended September 30, 2007 and 2006 (Unaudited) 4 Condensed Consolidated Statement of Shareholders' Equity for the three-month period ended September 30, 2007 (Unaudited) 5 Condensed Consolidated Statement of Other Comprehensive Income (Loss) for the three-month periods ended September 30, 2007 and 2006 (Unaudited) 6 Notes to the Condensed Consolidated Financial Statements 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 12 Item 3. Quantitive and Qualitative Disclosures about Market Risk 22 Item 4. Controls and Procedures 23 Part II. Other Information Item 1. Legal Proceedings 23 Item 1A Risk Factors 24 Item 6. Exhibits 24 1 PART I. FINANCIAL STATEMENTS ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS ESCALON MEDICAL CORP. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, JUNE 30, 2007 2007 ------------- ------------ (UNAUDITED) ASSETS Current assets: Cash and cash equivalents $ 7,628,173 $ 8,879,462 Accounts receivable, net 4,516,354 4,653,073 Inventory, net 7,472,252 7,761,370 Other current assets 273,847 469,107 ------------ ------------ TOTAL CURRENT ASSETS 19,890,626 21,763,012 ------------ ------------ Furniture and equipment, net 899,122 873,191 Goodwill 21,072,260 21,072,260 Trademarks and trade names, net 620,106 620,106 Patents, net 199,297 216,228 Covenant not to compete and customer list, net 302,698 326,860 Other assets 275,008 145,556 ------------ ------------ TOTAL ASSETS $ 43,259,117 $ 45,017,213 ============ ============ LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Current portion of long-term debt $ 94,657 $ 150,200 Accounts payable 1,584,495 1,626,274 Accrued expenses 1,891,654 2,748,133 ------------ ------------ TOTAL CURRENT LIABILITIES 3,570,805 4,524,607 Accrued post-retirement benefits 1,087,000 1,087,000 ------------ ------------ TOTAL LIABILITIES 4,657,805 5,611,607 ------------ ------------ Shareholders equity: Preferred stock, $0.001 par value; 2,000,000 shares authorized; no shares issued Common stock, $0.001 par value; 35,000,000 share authorized; 6,389,315 and 6,386,857 shares issued and outstanding at September 30, 2007 and June 30, 2006, respectively 6,390 6,387 Common stock warrants 1,601,346 1,601,346 Additional paid-in capital 66,065,419 66,045,050 Retained earnings (29,036,615) (28,207,824) Accumulated other comprehensive (loss) (35,228) (39,353) ------------ ------------ TOTAL SHAREHOLDERS' EQUITY 38,601,312 39,405,606 ------------ ------------ TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 43,259,117 $ 45,017,213 ============ ============
See notes to condensed consolidated financial statements 2 ESCALON MEDICAL CORP. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
THREE MONTHS ENDED SEPTEMBER 30, ----------------------- 2007 2006 ---------- ---------- NET REVENUES: Product revenue $6,833,350 $6,543,586 Other revenue $ 59,921 624,574 ---------- ---------- REVENUES, NET 6,893,271 7,168,160 ---------- ---------- COSTS AND EXPENSES: Cost of goods sold $3,922,586 3,630,380 Research and development $ 923,361 713,605 Marketing, general and administrative $2,939,908 3,555,900 ---------- ---------- TOTAL COSTS AND EXPENSES 7,785,855 7,899,885 ---------- ---------- LOSS FROM OPERATIONS (892,584) (731,725) ---------- ---------- OTHER (EXPENSE) AND INCOME: Equity in Ocular Telehealth Management, LLC (34,111) (18,543) Interest income 101,697 45,436 Interest expense (3,793) (9,285) ---------- ---------- TOTAL OTHER INCOME 63,793 17,608 ---------- ---------- NET (LOSS) BEFORE TAXES (828,791) (714,117) ---------- ---------- Provision for income taxes 0 0 ---------- ---------- NET (LOSS) $ (828,791) $ (714,117) ========== ========== BASIC NET (LOSS) PER SHARE $ (0.13) $ (0.11) ========== ========== DILUTED NET (LOSS) PER SHARE $ (0.13) $ (0.11) ========== ========== WEIGHTED AVERAGE SHARES - BASIC 6,388,086 6,344,657 ========== ========== WEIGHTED AVERAGE SHARES - DILUTED 6,388,086 6,344,657 ========== ==========
See notes to condensed consolidated financial statements 3 ESCALON MEDICAL CORP. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
THREE MONTHS ENDED SEPTEMBER 30, ------------------------- 2007 2006 ----------- ----------- CASH FLOWS FROM OPERATING ACTIVITIES: Net (loss) $ (828,791) $ (714,117) Adjustments to reconcile net (loss) to net cash (used in) operating activities: Depreciation and amortization 145,083 135,279 Compensation expense related to stock options 12,934 0 Loss on Ocular Telehealth Management, LLC 34,111 18,543 Change in operating assets and liabilities: Accounts receivable, net 136,719 (237,802) Inventory, net 289,118 (553,845) Other current and long-term assets 65,808 (181,490) Accounts payable, accrued and other liabilities (898,259) 251,364 ----------- ----------- NET CASH (USED IN) OPERATING ACTIVITIES (1,043,277) (1,282,068) ----------- ----------- CASH FLOWS FROM INVESTING ACTIVITIES: Investment in Ocular Telehealth Management, LLC (18,000) -- Purchase of fixed assets (129,921) (36,966) ----------- ----------- NET CASH (USED IN) INVESTING ACTIVITIES (147,921) (36,966) ----------- ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Principal payments on term loans (55,543) (59,669) Issuance of common stock - stock options 7,438 0 Income Tax Benefit from exercise of stock options 0 98,412 ----------- ----------- NET CASH (USED IN)/PROVIDED BY FINANCING ACTIVITIES (48,105) 38,743 ----------- ----------- Effect of exchange rate changes on cash and cash equivalents (11,986) 49,621 ----------- ----------- NET (DECREASE) IN CASH AND CASH EQUIVALENTS (1,251,289) (1,230,670) ----------- ----------- Cash and cash equivalents, beginning of period 8,879,462 3,379,710 ----------- ----------- Cash and cash equivalents, end of period $ 7,628,173 $ 2,149,040 =========== =========== SUPPLEMENTAL SCHEDULE OF CASH FLOW INFORMATION: Interest paid $ 3,793 $ 7,939 =========== =========== Income taxes paid $ 0 $ 0 =========== =========== Increase in unrealized appreciation on available for sale securities $ 0 $ 8,910 =========== ===========
See notes to condensed consolidated financial statements 4 ESCALON MEDICAL CORP. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2007 (UNAUDITED)
ACCUMULATED COMMON STOCK COMMON ADDITIONAL OTHER TOTAL ------------------ STOCK PAID-IN ACCUMULATED COMPREHENSIVE SHAREHOLDERS' SHARES AMOUNT WARRANTS CAPITAL DEFICIT INCOME (LOSS) EQUITY --------- ------ ---------- ------------ ------------ ------------- ------------- BALANCE AT JUNE 30, 2007 6,386,857 $6,387 $1,601,346 $ 66,045,050 $(28,207,824) $(39,353) $39,405,606 Net (loss) 0 0 0 (828,791) 0 (828,791) Exercise of stock options of stock options 2,458 3 7,435 7,438 Compensation expense 0 0 12,934 0 0 12,934 Foreign currency translation 0 0 0 0 4,125 4,125 --------- ------ ---------- ------------ ------------ -------- ----------- BALANCE AT SEPTEMBER 30, 2007 6,389,315 $6,390 $1,601,346 $ 66,065,419 $(29,036,615) $(35,228) $38,601,312 ========= ====== ========== ============ ============ ======== ===========
See notes to condensed consolidated financial statements 5 ESCALON MEDICAL CORP. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENT OF OTHER COMPREHENSIVE INCOME (LOSS (UNAUDITED)
THREE MONTHS ENDED SEPTEMBER 30, --------------------- 2007 2006 --------- --------- Net (loss) $(828,791) $(714,117) Change in unrealized gains on available for sale securities 0 8,910 Foreign currency translation 4,125 126,234 --------- --------- COMPREHENSIVE (LOSS) $(824,666) $(578,973) ========= =========
See notes to condensed consolidated financial statements 6 ESCALON MEDICAL CORP. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. BASIS OF PRESENTATION Escalon Medical Corp. ("Escalon" or the "Company") is a Pennsylvania corporation initially incorporated in California in 1987, and reincorporated in Pennsylvania in November 2001. Within this document, the "Company" collectively shall mean Escalon and its wholly owned subsidiaries: Sonomed, Inc. ("Sonomed"), Escalon Vascular Access, Inc. ("Vascular"), Escalon Digital Vision, Inc. ("EMI"), Escalon Holdings, Inc. ("EHI"), Escalon IP Holdings, Inc., Escalon Vascular IP Holdings, Inc., Sonomed IP Holdings, Inc., Drew Scientific Holdings, Inc., and Drew Scientific Group, Plc ("Drew") and its subsidiaries. All inter-company accounts and transactions have been eliminated. The Company operates in the healthcare market, specializing in the development, manufacture, marketing and distribution of medical devices and pharmaceuticals in the areas of ophthalmology, diabetes, hematology and vascular access. The Company and its products are subject to regulation and inspection by the United States Food and Drug Administration (the "FDA") and other regulatory authorities. The FDA requires extensive testing of new products prior to sale and has jurisdiction over the safety, efficacy and manufacture of products, as well as product labeling and marketing. The accompanying condensed consolidated financial statements are unaudited and are presented pursuant to the rules and regulations of the Securities and Exchange Commission (the "SEC"). Accordingly, these consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto contained in the Company's 2007 Annual Report on Form 10-K under the Securities Exchange Act of 1934 (the "Exchange Act"). In the opinion of management, the accompanying consolidated financial statements reflect all adjustments (which are of a normal recurring nature) necessary for a fair presentation of the financial position, results of operations and cash flows for the interim periods presented. The results of operations are not necessarily indicative of the results that may be expected for the full year. 2. STOCK-BASED COMPENSATION In December 2004, the FASB issued SFAS No.123R ("SFAS No.123R") (revised 2004), "Share-Based Payments." SFAS No. 123R is a revision of SFAS No. 123 and supersedes ABP Opinion No. 25, which requires the Company to expense share-based payments, including employee stock options. With limited exceptions, the amount of compensation costs will be measured based on the grant date fair value of the equity or liability instrument issued. Compensation cost will be recognized over the period that the optionee provides service in exchange for the award. Prior to fiscal 2007 the Company was a small business issuer as defined in Item 10 of Regulation S-B. As a result, the Company was required to adopt this standard in its fiscal year beginning July 1, 2006. The adoption of this standard for the expensing of stock options is expected to reduce pretax earnings in future periods. The impact of adoption of SFAS No. 123R cannot be predicted at this time because it will depend upon the level of share-based payments made in the future and the model the Company elects to utilize. As of September 30, 2007 and 2006, there was $114,118 and $0 of total unrecognized compensation cost related to non-vested share-based compensation arrangements under the 2004 Equity Incentive Plan. There was no unrecognized compensation cost on September 30, 2006 because the Company accelerated the vesting of all of its outstanding options effective June 30, 2006, and no stock options were issued during the three-month period ended September 30, 2006. The cost is expected to be recognized over a weighted average period of four years. 7 Cash received from share option exercises under stock-based payment plans for the three months ended September 30, 2007 and 2006 was $7,435 and $0, respectively. The Company did not realize any tax effect, which would be a reduction in its tax rate, on options due to the full valuation allowances established on its deferred tax assets. The Company measures compensation expense for its non-employee stock-based compensation under the Financial Accounting Standards Board (FASB) Emerging Issues Task Force (EITF) Issue No. 96-18, "Accounting for Equity Instruments that are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Service." The fair value of the option issued is used to measure the transaction, as this is more reliable than the fair value of the services received. Fair value is measured as the value of the Company's common stock on the date that the commitment for performance by the counterparty has been reached or the counterparty's performance is complete. The fair value of the equity instrument is charged directly to compensation expense and additional paid-in capital. 3. EARNINGS PER SHARE The Company follows Financial Accounting Standards Board Statement No. 128, "Earnings Per Share," in presenting basic and diluted earnings per share. The following table sets forth the computation of basic and diluted earnings per share:
THREE MONTHS ENDED SEPTEMBER 30, ----------------------- 2007 2006 ---------- ---------- NUMERATOR: Numerator for basic and diluted earnings per share NET (LOSS) $ (828,791) $ (714,117) ---------- ---------- DENOMINATOR: Denominator for basic earnings per share - weighted average shares 6,388,086 6,344,657 Effect of dilutive securities: Stock options and warrants 0 0 DENOMINATOR FOR DILUTED EARNINGS PER SHARE - WEIGHTED AVERAGE AND ---------- ---------- ASSUMED CONVERSION 6,388,086 6,344,657 ---------- ---------- BASIC (LOSS) EARNINGS PER SHARE $ (0.13) $ (0.11) ========== ========== DILUTED (LOSS) EARNINGS PER SHARE $ (0.13) $ (0.11) ========== ==========
The impact of dilutive securities were omitted from the earnings per share calculation in 2007 and 2006 as they would reduce the loss per share (and thus were anti-dilutive). 8 4. LEGAL PROCEEDINGS INSTITUTE OF CHILD HEALTH Drew entered into a license agreement with the Institute of Child Health ("ICH") on May 10, 1993 to use ICH's intellectual property to manufacture, lease, sell, use and sublicense certain products and all related consumables used therein in the testing of blood and fluids. Under the license agreement Drew was obligated to pay royalties to ICH on the products and consumables. On January 23, 2006, the Company received a letter from ICH alleging that Drew had failed to remit certain monies due under the license agreement and has sought an accounting to determine such amount due. The parties agreed to settle this matter in October 2007 for $23,304. OTHER LEGAL PROCEEDINGS The Company, from time to time is involved in various legal proceedings and disputes that arise in the normal course of business. These matters have included intellectual property disputes, contract disputes, employment disputes, and other matters. The Company does not believe that the resolution of any of these matters has had or is likely to have a material adverse impact on the Company's business, financial condition or results of operations. 9 5. SEGMENTAL INFORMATION During the three-month periods ended September 30, 2007 and 2006, the Company's operations were classified into five principal reportable business units that provide different products or services. Separate management of each unit is required because each business unit is subject to different marketing, production and technology strategies. SEGMENTAL STATEMENTS OF OPERATIONS (IN THOUSANDS)-THREE MONTHS ENDED SEPTEMBER 30, 2007 AND 2006
MEDICAL/TREK/ DREW SONOMED VASCULAR EHI EMI TOTAL ---------------- ---------------- -------------- -------------- -------------- ---------------- 2007 2006 2007 2006 2007 2006 2007 2006 2007 2006 2007 2006 ------- ------- ------- ------- ------ ------ ------ ------ ------ ------ ------- ------- REVENUES, NET: Product revenue $ 3,035 $ 2,785 $ 2,233 $ 2,293 $ 804 $ 817 $ 383 $ 365 $ 377 $ 283 $ 6,832 $ 6,543 Other revenue 60 70 0 0 0 0 0 555 0 0 60 625 ------- ------- ------- ------- ------ ------ ------ ------ ------ ------ ------- ------- TOTAL REVENUE, NET 3,095 2,855 2,233 2,293 804 817 383 920 377 283 6,892 7,168 ------- ------- ------- ------- ------ ------ ------ ------ ------ ------ ------- ------- COSTS AND EXPENSES: Cost of goods sold 1,902 1,759 1,257 1,187 283 313 254 254 227 118 3,923 3,631 Research & Development 604 458 164 77 85 22 (2) 89 72 68 923 714 Marketing, General & Admin 1,004 1,383 812 807 408 530 559 755 157 80 2,940 3,555 ------- ------- ------- ------- ------ ------ ------ ------ ------ ------ ------- ------- TOTAL COSTS AND EXPENSES 3,509 3,600 2,233 2,071 776 865 811 1,098 456 266 7,785 7,900 ------- ------- ------- ------- ------ ------ ------ ------ ------ ------ ------- ------- (LOSS) INCOME FROM OPERATIONS (414) (745) 0 222 28 (48) (428) (178) (79) 17 (893) (732) ------- ------- ------- ------- ------ ------ ------ ------ ------ ------ ------- ------- OTHER (EXPENSE) AND INCOME: Gain on sale of available for sale securities 0 0 0 0 0 0 0 0 0 0 0 Equity in OTM 0 0 0 0 0 0 (34) (19) 0 (34) (19) Interest income 0 0 0 0 0 0 102 45 0 102 45 Interest expense (3) (8) 0 0 0 0 0 0 0 (3) (8) ------- ------- ------- ------- ------ ------ ------ ------ ------ ------ ------- ------- TOTAL OTHER (EXPENSE) INCOME (3) (8) 0 0 0 0 68 26 0 0 65 18 ------- ------- ------- ------- ------ ------ ------ ------ ------ ------ ------- ------- (LOSS) INCOME BEFORE TAXES (417) (753) 0 222 28 (48) (360) (152) (79) 17 (828) (714) ------- ------- ------- ------- ------ ------ ------ ------ ------ ------ ------- ------- Income taxes 0 0 0 0 0 0 0 0 0 0 0 0 ------- ------- ------- ------- ------ ------ ------ ------ ------ ------ ------- ------- NET (LOSS) INCOME $ (417) $ (753) $ 0 $ 222 $ 28 $ (48) $ (360) $ (152) $ (79) $ 17 $ (828) $ (714) ======= ======= ======= ======= ====== ====== ====== ====== ====== ====== ======= ======= Depreciation and amortization $ 68 $ 86 $ 0 $ 6 $ 0 $ 25 $ 0 $ 18 $ 24 $ 68 $ 159 Assets $17,037 $17,404 $13,892 $13,784 $1,889 $2,101 $8,647 $3,092 $1,795 $1,843 $43,260 $38,224 Expenditures for long-lived assets $ 53 $ 35 $ 0 $ 0 $ 1 $ 1 $ 0 $ 9 $ 0 $ 54 $ 45
6. RELATED-PARTY TRANSACTIONS The Company and a member of the Company's Board of Directors are founding and equal members of Ocular Telehealth Management ("OTM"). OTM is a diagnostic telemedicine company providing remote examination, diagnosis and management of disorders affecting the human eye. OTM's initial focus is on the diagnosis of diabetic retinopathy by creating access and providing annual dilated retinal examinations for the diabetic population. Through September 30, 2007, the Company has invested $306,000 in OTM, including $18,000 invested during the three-month period ended September 30, 2007. As of September 30, 2007, Escalon owned 37.7% of OTM. The Company provides administrative support functions to OTM. From inception through September 30, 2007, OTM had revenue of approximately $28,100 and incurred expenses of approximately $431,000. Two relatives of a senior executive officer have provided legal services as either an employee or a consultant to the Company. Richard DePiano, Jr. (son of the Chief Executive Officer ("CEO")) is Chief Operating Officer and General Counsel to the Company, Mr. DePiano's salary plus bonus for the three-month periods ended September 30, 2007 and 2006 were $31,364 and $30,900, respectively. Caryn Lindsey (daughter-in-law of the CEO) acted as a consultant and employee for the Company in 2006. For 10 the three-month periods ended September 30, 2007 and 2006 Ms. Lindsey received consulting fees and salary of $0 and $16,250, respectively. 7. RECENTLY ISSUED ACCOUNTING STANDARDS In July 2006, the Financial Accounting Standards Board ("FASB"), issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109 ("FIN 48"). FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise's financial statements. This Interpretation prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in the tax return. The Company adopted the provisions of FIN 48 on July 31, 2007. As of the date of adoption, the 2003-2006 tax years remain subject to examination by major tax jurisdictions. As a result of the implementation of FIN 48, the Company recognized no material adjustments in the liability for unrecognized income tax benefits and, at the adoption date of July 1, 2007, the Company had no unrecognized tax benefits that would affect its effective tax rate if recognized. At September 30, 2007, the Company also had no unrecognized tax benefits. If uncertain tax positions had been recorded, the Company would have recognized interest and penalties related to uncertain tax positions in income tax expense. As of September 30, 2007, no accrued interest related to uncertain tax positions has been recorded. In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements ("SFAS No. 157"). SFAS No. 157 establishes a framework for measuring fair value and expands the disclosures on fair value measurements. SFAS No. 157 is effective for fiscal years beginning after November 15, 2007. The Company is currently evaluating the impact of the adoption of SFAS No. 157 on its consolidated financial statements. However, it does not expect the effect to be significant. In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities Including an amendment of FASB Statement No. 115 ("SFAS No. 159"). SFAS No. 159 permits a company to choose to measure many financial instruments and other items at fair value that are not currently required to be measured at fair value. The objective is to improve financial reporting by providing a company with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. SFAS No. 159 will be effective for fiscal years that begin after November 15, 2007. The Company is currently evaluating the impact of the adoption of SFAS No. 159 on its consolidated financial statements. However, the Company does not expect the effect to be significant. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD LOOKING STATEMENTS Certain statements contained in, or incorporated by reference in, this report are forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, which provide current expectations or forecasts of future events. Such statements can be identified by the use of terminology such as "anticipate," "believe," "could," "estimate," "expect," "forecast," "intend," "may," "plan," "possible," "project," "should," "will," and similar words or expressions. The Company's forward-looking statements include certain information relating to general business strategy, growth strategies, financial results, liquidity, product development, the introduction of new products, the potential markets and uses for the Company's products, the Company's regulatory filings with the FDA, acquisitions, the development of joint venture opportunities, intellectual property and patent protection and infringement, the loss of revenue due to the expiration on termination of certain agreements, the effect of competition on the structure of the markets in which the Company competes and defending the Company in litigation matters. The reader must carefully consider forward-looking statements and understand that such statements involve a variety of risks and uncertainties, known and unknown, and may be affected by assumptions that fail to materialize as anticipated. Consequently, no forward-looking statement can be guaranteed, and actual results may vary materially. It is not possible to foresee or identify all factors 11 affecting the Company's forward-looking statements, and the reader therefore should not consider the list of such factors contained in its periodic report on Form 10-K for the year ended June 30, 2007 to be an exhaustive statement of all risks, uncertainties or potentially inaccurate assumptions. EXECUTIVE OVERVIEW - THREE-MONTH PERIOD ENDED SEPTEMBER 30, 2007 The following highlights are discussed in further detail within this report. The reader is encouraged to read this report in its entirety to gain a more complete understanding of factors impacting the Company's performance and financial condition. - Product revenue increased approximately 4% during the three-month period ended September 30, 2007 as compared to the same period last fiscal year. Revenue at Sonomed and Vascular decreased 3% and 2%, respectively, during the three-month period ended September 30, 2007 when compared to the same period last fiscal year. These decreases were offset by strong sales in the Company's Drew, Medical/Trek and EMI business units. Sales at Drew, Medical/Trek and EMI increased approximately 9%, 5% and 33%, respectively, during the three-month period ended September 30, 2007 compared to the same period last fiscal year. - Other revenue decreased approximately $565,000 or 90% during the three-month period ended September 30, 2007 as compared to the same period last fiscal year. The decrease is attributable to decreased royalties received from the IntraLase License Agreement as a result of the settlement agreement between the Company and IntraLase dated February 27, 2007. Under the settlement agreement, IntraLase made a lump sum payment to the Company of $9,600,000 in exchange for which all pending litigation between the parties was dismissed, the parties exchanged general releases, the company's ownership of all patents and intellectual property formerly licensed to IntraLase from the Company was obtained by IntraLase, and the license agreement has terminated. In addition, the payment from IntraLase satisfies all outstanding past, current and future royalties owed or alleged to be owed by IntraLase to the Company. - Cost of goods sold as a percentage of product revenue increased to approximately 57% of revenues during the three-month period ended September 30, 2007, as compared to approximately 55% of product revenue for the same period last fiscal year. Gross margins in the Drew business unit have historically been lower than those in the Company's other business units. The aggregate cost of goods sold as a percentage of product revenue of the Sonomed, Vascular and Medical/Trek and EMI business units during the three-month period ended September 30, 2007 was approximately 53% in the current period as compared to 51% in the same period last fiscal year. - Operating expenses decreased approximately 17% during the three-month period ended September 30, 2007 as compared to the same period in the prior fiscal year. During the three-month period ended September 30, 2007, the Company realized the full affect of the cost reduction plan implemented in the prior fiscal year. In addition, the prior period included higher than usual legal costs related to the then ongoing Intralase litigation. COMPANY OVERVIEW The following discussion should be read in conjunction with interim condensed consolidated financial statements and the notes thereto, which are set forth elsewhere in this report. The Company operates in the healthcare market specializing in the development, manufacture, marketing and distribution of medical devices and pharmaceuticals in the areas of ophthalmology, diabetes, hematology and vascular access. The Company and its products are subject to regulation and inspection by the FDA. The FDA requires extensive testing of new products prior to sale and has jurisdiction over the safety, efficacy and manufacture of products, as well as product labeling and marketing. The Company's Internet address is www.escalonmed.com. 12 In February 1996, the Company acquired substantially all of the assets and certain liabilities of Escalon Ophthalmics, Inc. ("EOI"), a developer and distributor of ophthalmic surgical products. Prior to this acquisition, the Company devoted substantially all of its resources to the research and development of ultra-fast laser systems designed for the treatment of ophthalmic disorders. As a result of the EOI acquisition, the Company changed its market focus and ceased developing laser technology. In October 1997, the Company licensed its intellectual laser property to IntraLase, in return for an equity interest and future royalties on sales of products. IntraLase undertook responsibility for funding and developing the laser technology through to commercialization. IntraLase began selling products related to the laser technology during fiscal 2002 and announced its initial public offering of its common stock in October 2004. To further diversify its product portfolio, in January 1999, the Company's Vascular subsidiary acquired the vascular access product line from Endologix, formerly Radiance Medical Systems, Inc. Vascular's products use Doppler technology to aid medical personnel in locating arteries and veins in difficult circumstances. Currently, this product line is concentrated in the cardiac catheterization market. In January 2000, the Company purchased Sonomed, a privately held manufacturer of ophthalmic ultrasound diagnostic equipment. On July 23, 2004, the Company acquired 67% of the outstanding ordinary shares of Drew, a United Kingdom company, pursuant to the Company's exchange offer for all of the outstanding ordinary shares of Drew, and acquired all of the Drew shares during fiscal 2006. Drew is a diagnostics company specializing in the design, manufacture and distribution of instruments for blood cell counting and blood analysis. Drew is focused on providing instrumentation and consumables for the physician office and veterinary office laboratories. Drew also supplies the reagent and other consumable materials needed to operate the instruments. CRITICAL ACCOUNTING POLICIES The preparation of financial statements requires management to make estimates and assumptions that impact amounts reported therein. The financial statements are prepared in conformity with accounting principles generally accepted in the United States of America, and, as such, include amounts based on informed estimates and judgments of management. For example, estimates are used in determining valuation allowances for deferred income taxes, uncollectible receivables, obsolete inventory, sales returns and rebates and purchased intangible assets. Actual results achieved in the future could differ from current estimates. The Company used what it believes are reasonable assumptions and, where applicable, established valuation techniques in making its estimates. REVENUE RECOGNITION The Company recognizes revenue from the sale of its products at the time of shipment, when title and risk of loss transfer. The Company provides products to its distributors at agreed wholesale prices and to the balance of its customers at set retail prices. Distributors can receive discounts for accepting high volume shipments. The discounts are reflected immediately in the net invoice price, which is the basis for revenue recognition. No further material discounts are given. The Company's considerations for recognizing revenue upon shipment of product to a distributor are based on the following: - Persuasive evidence that an arrangement (purchase order and sales invoice) exists between a willing buyer (distributor) and the Company that outlines the terms of the sale (company information, quantity of goods, purchase price and payment terms). The buyer (distributor) does not have an immediate right of return. - Shipping terms are ex-factory shipping point. At this point the buyer (distributor) takes title to the goods and is responsible for all risks and rewards of ownership, including insuring the goods as necessary. 13 - The Company's price to the buyer (distributor) is fixed and determinable as specifically outlined on the sales invoice. The sales arrangement does not have customer cancellation or termination clauses. - The buyer (distributor) places a purchase order with the Company; the terms of the sale are cash, COD or credit. Customer credit is determined based on the Company's policies and procedures related to the buyer's (distributor's) creditworthiness. Based on this determination, the Company believes that collectibility is reasonably assured. The Company assesses collectibility based on creditworthiness of the customer and past transaction history. The Company performs ongoing credit evaluations of its customers and does not require collateral from its customers. For many of the Company's international customers, the Company requires an irrevocable letter of credit to be issued by the customer before the purchase order is accepted. VALUATION OF INTANGIBLE ASSETS The Company annually evaluates for impairment its intangible assets and goodwill in accordance with SFAS 142, "Goodwill and Other Intangible Assets," or whenever events or changes in circumstances indicate that the carrying value may not be recoverable. These intangible assets include goodwill, trademarks and trade names. Factors the Company considers important that could trigger an impairment review include significant under-performance relative to historical or projected future operating results or significant negative industry or economic trends. If these criteria indicate that the value of the intangible asset may be impaired, an evaluation of the recoverability of the net carrying value of the asset is made. If this evaluation indicates that the intangible asset is not recoverable, the net carrying value of the related intangible asset will be reduced to fair value. Any such impairment charge could be significant and could have a material adverse impact on the Company's financial statements if and when an impairment charge is recorded. No impairment losses were recorded for goodwill, trademarks and trade names during any of the periods presented based on these evaluations. (LOSS) PER SHARE The Company computes net (loss) per share under the provisions of SFAS No. 128, Earnings per Share (SFAS 128), and Staff Accounting Bulletin, No. 98 (SAB 98). Under the provisions of SFAS 128 and SAB 98, basic and diluted net (loss) per share is computed by dividing the net (loss) for the period by the weighted average number of shares of common stock outstanding during the period. The calculation of diluted net (loss) per share excludes potential common shares if the effect is anti-dilutive. Basic earnings per share are computed by dividing net (loss) by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share are determined in the same manner as basic earnings per share, except that the number of shares is increased by assuming exercise of dilutive stock options and warrants using the treasury stock method. TAXES Estimates of taxable income of the various legal entities and jurisdictions are used in the tax rate calculation. Management uses judgment in estimating what the Company's income will be for the year. Since judgment is involved, there is a risk that the tax rate may significantly increase or decrease in any period. In determining (loss) for financial statement purposes, management must make certain estimates and judgments. These estimates and judgments occur in the calculation of certain tax liabilities and in the determination of the recoverability of certain of the deferred tax assets, which arise from temporary differences between the tax and financial statement recognition of revenue and expense. SFAS 109 also requires that the deferred tax assets be reduced by a valuation allowance, if based on the available evidence, it is more likely than not that all or some portion of the recorded deferred tax assets will not be realized in future periods. 14 In evaluating the Company's ability to recover the Company's deferred tax assets, management considers all available positive and negative evidence including the Company's past operating results, the existence of cumulative losses and near-term forecasts of future taxable income that is consistent with the plans and estimates management is using to manage the underlying businesses. Through September 30, 2007, the Company has recorded a full valuation allowance against the Company's net operating losses due to the uncertainty of their realization as a result of the Company's earnings history, the number of years the Company's net operating losses and tax credits can be carried forward, the existence of taxable temporary differences and near-term earnings expectations. The amount of the valuation allowance could decrease if facts and circumstances change that materially increase taxable income prior to the expiration of the loss carry forwards. Any reduction would reduce (increase) the income tax expense (benefit) in the period such determination is made by the Company. THREE-MONTH PERIODS ENDED SEPTEMBER 30, 2007 AND 2006 The following table shows consolidated product revenue by business unit as well as identifying trends in business unit product revenues for the three-month periods ended September 30, 2007 and 2006. Table amounts are in thousands:
THREE-MONTH PERIOD ENDED SEPTEMBER 30, -------------------------- 2007 2006 % CHANGE ------ ------ -------- PRODUCT REVENUE: Drew $3,036 $2,786 9% Sonomed 2,233 2,293 -3% Vascular 804 817 -2% Medical/Trek 383 365 5% EMI 377 283 33% ------ ------ --- TOTAL $6,833 $6,544 4% ====== ====== ===
Consolidated product revenue increased approximately $289,000, or 4%, to $6,833,000 during the three-month period ended September 30, 2007 as compared to the same period last fiscal year. In the Drew business unit, product revenue increased $250,000, or 9%, as compared to the same period last fiscal year. The increase is primarily due to the introduction of the new FDA Trilogy instrument and increased reagent revenues generated from Drew's United Kingdom facility. Drew anticipates that its new D3 instrument will be ready for sale in the second quarter of fiscal 2008. Product revenue decreased $60,000, or 3%, at the Sonomed business unit as compared to the same period last fiscal year. The decrease in product revenue was primarily caused by an increase in sales discounts during the period as a result of a large increase in sales to the more price sensitive international market combined with a decrease in overall domestic sales of the Company's new Vumax II ultrasound systems and by a decrease in domestic sales and in demand for the Company's pachymeter product. Product revenue decreased $13,000, or 2%, to $804,000 in the Vascular business unit during the three-month period ended September 30, 2007 as compared to the same period last fiscal year. The decrease in product revenue in the Vascular business unit was primarily caused by a decrease in direct sales to end users by the Company's domestic sales team. Overall sales have remained flat as the existing Vascular product line has matured. Vascular anticipates introducing a combination ultrasound/doppler guided vascular access product during the second half of fiscal 2008. 15 In the Medical/Trek business unit, product revenue increased $18,000, or 5%, to $383,000 during the three-month period ended September 30, 2007 as compared to the same period last fiscal year. The increase in Medical/Trek product revenue is attributed to an increase in the sale of Medical/Trek's mature product line of Ispan Intraocular gases and fiber optic light sources. Product revenue increased $94,000, or 33%, in the EMI business unit when compared to the same period last year. This increase is due to the sale of digital imaging systems from the January 2006 acquisition of MRP. The following table presents consolidated other revenues by reportable business unit for the three-month periods ended September 30, 2007 and 2006. Table amounts are in thousands:
THREE-MONTH PERIOD ENDED SEPTEMBER 30, ------------------------ 2007 2006 %CHANGE ---- ---- ------- OTHER REVENUE: Drew $60 $ 70 -14% Sonomed 0 0 0% Vascular 0 0 0% Medical/Trek 0 555 -100% EMI 0 0 0% --- ---- ---- TOTAL $60 $625 -90% === ==== ====
Other revenue decreased by approximately $565,000, or 90%, to $60,000 during the three-month period ended September 30, 2007 as compared to the same period last fiscal year. The decrease is primarily due to the settlement reached with IntraLase on February 27, 2007. Under the settlement agreement, IntraLase made a lump sum payment to Escalon of $9,600,000 in exchange for which all pending litigation between parties was dismissed, the parties exchanged general releases, the Company transferred to IntraLase its ownership of patents and intellectual property formerly licensed to IntraLase by the Company and the License Agreement was terminated. In addition, the payment from IntraLase satisfied all outstanding past, current and future royalties owed or alleged to be owed by IntraLase to the Company. As such, $0 was received in the current period as compared to $555,000 in the same period last year. Royalties from Bio-Rad related to an OEM agreement between Bio-Rad and Drew decreased by approximately $10,000 to $60,000 due to lower sales of Drew's products in covered areas. While this agreement terminated as of May 15, 2006, the parties have continued to operate under the terms of the expired agreement pending negotiation of a potential extension and/or revision. The following table presents consolidated cost of goods sold by reportable business unit and as a percentage of related unit product revenues for the three-month periods ended September 30, 2007 and 2006. Table amounts are in thousands: 16
THREE-MONTH PERIOD ENDED SEPTEMBER 30, --------------------------- 2007 % 2006 % ------ --- ------ --- COST OF GOODS SOLD: Drew $1,902 63% $1,758 63% Sonomed 1,257 56% 1,187 52% Vascular 283 35% 313 38% Medical/Trek 254 66% 254 70% EMI 227 60% 118 42% ------ --- ------ --- TOTAL $3,923 57% $3,630 55% ====== === ====== ===
Consolidated cost of goods sold totaled approximately $3,923,000, or 57% of product revenue, for the three-month period ended September 30, 2007 as compared to $3,630,000, or 56% of product revenue, for the same period last fiscal year. Cost of goods sold in the Drew business unit totaled $1,902,000, or 63% of product revenue, for the three-month period ended September 30, 2007 as compared to $1,758,000, or 63% of product revenue, for the same period last fiscal year. The increase in the cost of goods sold of 8% corresponds to a like increase in sales of 9%. Drew's instrument and OEM sales historically have lower margins than the sales of reagents and controls, which are used to operate the instruments. Cost of goods sold in the Sonomed business unit totaled $1,257,000, or 56% of product revenue, for the three-month period ended September 30, 2007 as compared to $1,187,000, or 52% of product revenue, for the same period last fiscal year. The primary reason for the increase in cost of goods sold as a percentage of product revenue was a large increase in lower margin international sales combined with an overall decrease in unit sales in the higher margin domestic market on the Vumax II's as compared to the same period last year. Cost of goods sold in the Vascular business unit totaled $283,000, or 35% of product revenue, for the three-month period ended September 30, 2007 as compared to $313,000, or 38% of product revenue, for the same period last fiscal year. The Company experienced lower overtime and higher production efficiencies in the current period as compared to the prior period. Cost of goods sold in the Medical/Trek business unit totaled $254,000, or 66% of product revenue, during the three-month period ended September 30, 2007 as compared to $254,000, or 70% of product revenue, during the same period last fiscal year. Fluctuations in Medical/Trek cost of goods sold primarily emanates from product mix. The following table presents consolidated marketing, general and administrative expenses as well as identifying trends in business unit marketing, general and administrative expenses for the three-month periods ended September 30, 2007 and 2006. Table amounts are in thousands: 17
THREE-MONTH PERIOD ENDED SEPTEMBER 30, -------------------------- 2007 2006 % CHANGE ------ ------ -------- MARKETING, GENERAL AND ADMINISTRATIVE: Drew $1,004 $1,384 -27% Sonomed 812 807 1% Vascular 408 530 -23% Medical/Trek 559 755 -26% EMI 157 80 96% ------ ------ --- TOTAL $2,940 $3,556 -17% ====== ====== ===
Consolidated marketing, general and administrative expenses decreased $616,000, or 17%, to $2,940,000 during the three-month period ended September 30, 2007 as compared to the same period last fiscal year. Marketing, general good and administrative expenses in the Drew business unit decreased $380,000 or 27%, to $1,004,000 as compared to the same period last fiscal year. The reduction is primarily related to the Company realizing the full affect of the cost reduction plan implemented in the prior fiscal year. Marketing, general and administrative expenses in the Sonomed business unit remained relatively constant increasing $5,000, or 1%, to $812,000 as compared to the same period last fiscal year. Marketing, general and administrative expenses in the Vascular business unit decreased $122,000, or 23%, to $408,000 as compared to the same period last fiscal year. The decrease is related primarily to a decrease of salaries, commissions and health insurance related to a decrease in headcount, a decrease in consulting fees for recruitment and a decrease in meeting/exhibit and marketing sample expenses due to less participation in shows and exhibits during the three month period ended September 30, 2007. Marketing, general and administrative expenses in the Medical/Trek business unit decreased $196,000, or 26%, to $559,000 as compared to the same period last fiscal year. The decrease is related to the high level of legal fees incurred during the prior fiscal period related to the then on going litigation with Intralase. Marketing, general and administrative expenses in the EMI business unit increased $77,000, or 96%, to $157,000 as compared to the same period last fiscal year. The increase is primarily related to marketing efforts related to increasing the sales of digital imaging systems acquired from the MRP acquisition by 33% over the prior period. The following table presents consolidated research and development expenses as well as identifying trends in business unit research and development expenses for the three-month periods ended September 30, 2007 and 2006. Table amounts are in thousands: 18
THREE MONTH PERIOD ENDED SEPTEMBER 30, ------------------------ 2007 2006 % CHANGE ---- ---- -------- RESEARCH AND DEVELOPMENT: Drew $604 $458 32% Sonomed 164 77 113% Vascular 85 22 286% Medical/Trek (2) 89 -102% EMI 72 68 6% ---- ---- ---- TOTAL $923 $714 29% ==== ==== ====
Consolidated research and development expenses increased $209,000, or 29%, to $923,000 during the three-month period ended September 30, 2007 as compared to the same period last fiscal year. Research and development expenses were primarily expenses associated with the planned introduction of new and or enhanced products in the Drew, Sonomed and Vascular business units. Research and development expenses in the Drew business unit increased $146,000, or 32%, to $604,000 as compared to the same period last fiscal year. The increase is primarily due to additional salaries and benefits and consulting fees associated with the development of several new hematology and diabetic instruments. Research and development expenses in the Sonomed business unit increased $87,000, or 113%, to $164,000 as compared to the same period last fiscal year. The increase is primarily due to additional salaries and benefits and consulting fees associated with upgrading and enhancing of existing products and continued research into new products. Research and development expenses in the Vascular business unit increased $63,000, or 286%, to $85,000 as compared to the same period last fiscal year. The increase is primarily due to additional prototype expenses associated with the VascuViewTM, a new visual ultrasound device, which Vascular hopes to introduce in the second half of the current fiscal year. Research and development expenses in the Medical/Trek business unit decreased $91,000 to ($2,000) as compared to the same period last fiscal year. The decrease is primarily due to decreased salaries related to the full realization of the cost reduction initiatives implemented in the prior year. Research and development expenses in the EMI business unit increased $4,000, or 6%, to $72,000 as compared to the same period last fiscal year. The increase is related to the continued upgrading of our digital imaging product offering. The Company recognized a loss of $34,000 and $19,000 related to its investment in OTM during the three-month periods ended September 30, 2007 and 2006, respectively. Commencing July 1, 2006, the Company began recognizing all of the losses of OTM in its consolidated financial statements. OTM is an early stage privately held company. Prior to July 1, 2006, the share of OTM's loss recognized by the Company was in direct proportion to the Company's ownership equity in OTM. OTM began operations during the three-month period ended September 30, 2004. (See Note 6 of the notes to the condensed consolidated financial statements.) Interest income was $102,000 and $45,000 for the three-month periods ended September 30, 2007 and 2006, respectively. The increase was due to a combination of higher effective yields on investments and higher investable balances. 19 Interest expense was $4,000 and $9,000 for the three-month periods ended September 30, 2007 and 2006, respectively. The decrease reflects the reduction in outstanding debt balance as of September 30, 2007 as compared to the prior period. LIQUIDITY AND CAPITAL RESOURCES Changes in overall liquidity and capital resources from continuing operations during the three-month period ended September 30, 2007 are reflected in the following table (in thousands):
SEPTEMBER 30, JUNE 30, 2007 2007 ------------- --------- CURRENT RATIO: Current assets $ 19,891 $ 21,763 Less: Current liabilities 3,571 4,525 --------- --------- WORKING CAPITAL $ 16,320 $ 17,238 ========= ========= CURRENT RATIO 5.6 TO 1 4.8 TO 1 ========= ========= DEBT TO TOTAL CAPITAL RATIO: Notes payable and current maturities $ 95 $ 150 Long-term debt 1,087 1,087 --------- --------- Total debt $ 1,182 $ 1,237 --------- --------- Total equity 38,601 39,406 --------- --------- TOTAL CAPITAL $ 39,783 $ 33,100 ========= ========= TOTAL DEBT TO TOTAL CAPITAL 3.0% 3.7% --------- ---------
WORKING CAPITAL POSITION Working capital decreased approximately $918,000 as of September 30, 2007, and the current ratio decreased to 5.6 to 1 from 4.8 to 1 when compared to June 30, 2007. The decrease in working capital was caused primarily by the loss from operations of approximately $829,000 and cash used to fund fixed asset additions of approximately $130,000. CASH USED IN OPERATING ACTIVITIES During the three-month periods ended September 30, 2007 and 2006, the Company used approximately $1,043,000 and $1,282,000 of cash for operating activities. The net decrease in cash used for operating activities of approximately $239,000 for the three-month period ended September 30, 2007 as compared to the same period in the prior fiscal year is due primarily to the following factors: For the period ended September 30, 2007 the Company had a net loss of $829,000 and experienced net cash out flow from a decrease in accounts payable of $898,000. These cash out flows were partially offset by decreases in accounts receivable, inventory, other current and long-term assets and non-cash expenditures on depreciation and amortization of approximately $137,000, $289,000, $66,000 and $145,000, respectively. In the prior fiscal period the cash used in operating activities of $1,282,000 was related to net loss in the prior year of $714,000 and increases in accounts receivable and inventory of 20 approximately $$238,000 and $554,000, respectively. These cash out flows were partially offset by an increase in accounts payable of $251,000. CASH FLOWS USED IN INVESTING AND FINANCING ACTIVITIES Cash flows used in investing activities of $148,000 is related to fixed asset purchases during the three-month period ended September 30, 2007. The decrease in cash flows from investing activities from the prior fiscal period was $37,000. The change relates primarily to increased fixed asset purchases. Cash flows used in financing activities were approximately $48,000 during the three-month period ended September 30, 2007. During the period, the Company made scheduled long-term debt repayments of approximately $56,000 and had cash in-flow from the issuance of common stock options of approximately $7,000. The increase in cash flows from financing activities from the prior fiscal period was approximately $39,000, due to net cash out-flows of approximately $60,000 for scheduled long-term debt repayments and receiving an income tax benefit of $98,000 by amending its fiscal 2006 state tax returns to deduct the exercise of stock options during fiscal 2006. DEBT HISTORY At the time of the acquisition of Drew by the Company, Drew had two lines of credit aggregating approximately $2,700,000, one of which was with a domestic financial institution, and one with a United Kingdom financial institution. At the time of the acquisition, outstanding draws on the lines aggregated approximately $1,643,000. The lines were paid off and terminated during the quarter ended December 31, 2004. Drew has a long-term debt facility through the Texas Mezzanine Fund. The Texas Mezzanine Fund debt provides for interest at fixed rate of 8% per annum until July 1, 2006. The interest rate was then adjusted to the prime rate plus 4% per annum. Each June 1, the rate will be adjusted to the prime rate plus 4% per annum. The debt has a minimum interest rate of 8% per annum to a maximum interest rate of 18% per annum. The interest rate on the Texas Mezzanine Fund was 10.25% per annum and 8% per annum as of September 30, 2007 and June 30, 2007, respectively. Drew is required to pay the Texas Mezzanine Fund 1% of fiscal year revenues over $11,500,000 as defined in a revenue participation agreement. The note is due in June 2008 and is secured by certain assets of Drew. The outstanding balance as of September 30, 2007 was approximately $95,000. The Symbiotics, Inc. term debt, which originated from the acquisition of a product line from Symbiotics, Inc., was payable in monthly principal installments of $8,333 plus interest at a fixed rate of 5.00% per annum. The Symbiotics, Inc. term debt was paid off during the period ended September 30, 2007. OFF-BALANCE SHEET ARRANGEMENTS AND CONTRACTUAL OBLIGATIONS The Company was not a party to any off-balance sheet arrangements during the three-month periods ended September 30, 2007 and 2006. 21 The following table presents the Company's contractual obligations as of September 30, 2007 (interest is not included in the table as it is immaterial):
LESS THAN TOTAL 1 YEAR 1-3 YEARS 4-5 YEARS ---------- --------- ---------- --------- Long-term debt $ 94,657 $ 94,657 -- -- Operating lease agreements $2,746,090 $657,452 $1,378,755 $709,883 TOTAL $2,840,747 $752,109 $1,378,755 $709,883
FORWARD-LOOKING STATEMENT ABOUT SIGNIFICANT ITEMS LIKELY TO IMPACT LIQUIDITY On July 23, 2004, the Company acquired approximately 67% of the outstanding ordinary shares of Drew, pursuant to the Company's exchange offer for all of the outstanding ordinary shares of Drew, and acquired all of the remaining Drew shares during fiscal 2006. Drew does not have a history of producing positive operating cash flows and, as a result, at the time of acquisition, was operating under financial constraints and was under-capitalized. As Drew is integrated into the Company, management will be working to reverse the situation, while at the same time seeking to strengthen Drew's market position. As of September 30, 2006, the Company has loaned approximately $16,725,000 to Drew. The funds have been primarily used to procure components to build up inventory to support the manufacturing process, to pay off accounts payable and debt of Drew, to fund new product development and underwrite operating losses incurred since acquisition. The Company anticipates that further working capital will likely be required by Drew. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK INTEREST RATE RISK The table below provides information about the Company's financial instruments consisting of both variable and fixed interest rate debt obligations. For debt obligations, the table represents principal cash flows and related interest rates by expected maturity dates. Interest rates as of September 30, 2007 were variable at prime plus 4%, currently 10.25% per annum, on the Texas Mezzanine Fund debt.
2008 -------------- Texas Mezzanine Fund Note $ 94,657 Interest rate Prime Plus 4% ------------- TOTAL $ 94,657 =============
EXCHANGE RATE RISK Prior to the acquisition of Drew, the price of all product sold overseas was denominated in United States Dollars, and consequently the Company incurred no exchange rate risk on revenue. However, a portion of Drew's product revenue is denominated in United Kingdom Pounds and Euros. During the three-month periods ended September 30, 2007 and 2006, Drew recorded approximately $884,000 and $325,000 respectively, of revenue denominated in United Kingdom Pounds and Euros, respectively. 22 Drew incurs a portion of its expenses denominated in United Kingdom Pounds. During the three-month periods ended September 30, 2007 and 2006, Drew incurred approximately $911,000 and $1,265,000, respectively, of expense denominated in United Kingdom Pounds. The Company's Sonomed and Vascular business units incur an immaterial portion of their marketing expenses in the European market, the majority of which are transacted in Euros.
THREE MONTHS ENDED --------------------------------------- TOTAL FOREIGN SALES SEPTEMBER 30, 2007 SEPTEMBER 30, 2006 - ------------------- ------------------ ------------------ DREW UK 884,000 325,000
THREE MONTHS ENDED --------------------------------------- EXPENSES SEPTEMBER 30, 2007 SEPTEMBER 30, 2006 - -------- ------------------ ------------------ DREW UK 911,000 1.265,000
The Company experiences fluctuations, beneficial or adverse, in the valuation of currencies in which the Company transacts its business, namely the United States Dollar, the United Kingdom Pound and the Euro. ITEM 4. CONTROLS AND PROCEDURES (A) EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES The Company's management, with the participation of the Company's Chief Executive Officer and Principal Financial and Accounting Officer, have established disclosure controls and procedures to ensure that material information relating to the Company, including its consolidated subsidiaries, is made known to the officers who certify the Company's financial reports and to other members of senior management and the Board of Directors. Based on their evaluation of the effectiveness of the Company's disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act), as of September 30, 2007 the Chief Executive Officer and Principal Financial and Accounting Officer of the Company have concluded that such disclosure controls and procedures are effective to ensure that the information required to be disclosed by the Company in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and that information required to be disclosed in the reports that the Company files or submits under the Exchange Act is accumulated and communicated to the Company's management, including its Chief Executive Officer and Principal Financial and Accounting Officer, to allow timely decisions regarding required disclosure. (B) INTERNAL CONTROL OVER FINANCIAL REPORTING There have not been any changes in the Company's internal control over financial reporting (as such term is defined in Rule 13a-15(f) under the Exchange Act, during the first fiscal quarter ended September 30, 2007 that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS 23 See note 5 of the notes to the condensed consolidated financial statements for further information regarding the Company's legal proceedings. ITEM 1A. RISK FACTORS There are no material changes from the risks previously disclosed in the Company's Annual Report on Form 10-K for the period ended June 30, 2007. ITEM 6. EXHIBITS 31.1 Certificate of Chief Executive Officer under Rule 13a-14(a). 31.2 Certificate of Principal Financial and Accounting Officer under Rule 13a-14(a). 32.1 Certificate of Chief Executive Officer under Section 1350 of Title 18 of the United States Code. 32.2 Certificate of Principal Financial and Accounting Officer under Section 1350 of Title 18 of the United States Code. 24 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ESCALON MEDICAL CORP. (Registrant) Date: November 14, 2007 By: /s/ Richard J. DePiano ------------------------------------ Richard J. DePiano Chairman and Chief Executive Officer Date: November 14, 2007 By: /s/ Robert O'Connor ------------------------------------ Robert O'Connor Chief Financial Officer 25 EX-31.1 2 w42611exv31w1.txt CERTIFICATE OF CEO UNDER RULE 13A-14(A) EXHIBIT 31.1 CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO SECTION 302 OF SARBANES-OXLEY ACT OF 2002 I, Richard J. DePiano, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Escalon Medical Corp.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a. Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b. Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c. Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a. All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b. Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: November 14, 2007 /s/ Richard J. DePiano - ------------------------------------- Richard J. Depiano President and Chief Executive Officer 26 EX-31.2 3 w42611exv31w2.txt CERTIFICATE OF PRINCIPAL FINANCIAL & ACCOUNTING OFFICER UNDER RULE 13A-14(A) EXHIBIT 31.2 CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO SECTION 302 OF SARBANES-OXLEY ACT OF 2002 I, Robert O'Connor, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Escalon Medical Corp.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a. Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b. Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c. Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a. All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b. Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: November 14, 2007 /s/ Robert O'Connor - ------------------------------------- Robert O'Connor Chief Financial Officer 27 EX-32.1 4 w42611exv32w1.txt CERTIFICATE OF CEO UNDER SECTION 1350 EXHIBIT 32.1 CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 I, Richard J. DePiano, Chief Executive Officer of Escalon Medical Corp., certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) the Quarterly Report of Escalon Medical Corp. on Form 10-Q for the quarterly period ended September 30, 2007 (the "Report") fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 (15 U.S.C. 78m or 780(d)); and (2) the information contained in the Report fairly presents in all material respects the financial condition and results of operations of Escalon Medical Corp. Date: November 14, 2007 /s/ Richard J. DePiano ---------------------------------------- Richard J. DePiano President and Chief Executive Officer 28 EX-32.2 5 w42611exv32w2.txt CERTIFICATE OF PRINICIPAL FINANCIAL & ACCOUNTING OFFICER UNDER SECTION 1350 EXHIBIT 32.2 CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 I, Robert O'Connor, Chief Financial Officer of Escalon Medical Corp., certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) the Quarterly Report of Escalon Medical Corp. on Form 10-Q for the quarterly period ended September 30, 2007 (the "Report") fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 (15 U.S.C. 78m or 780(d)); and (2) the information contained in the Report fairly presents in all material respects the financial condition and results of operations of Escalon Medical Corp. Date: November 14, 2007 /s/ Robert O'Connor ---------------------------------------- Robert O'Connor Chief Financial Officer 29 -----END PRIVACY-ENHANCED MESSAGE-----