ITEM 1. BUSINESS
(a) GENERAL DEVELOPMENT OF BUSINESS
Modern Controls, Inc., a Minnesota corporation (the "Company"), was incorporated in February 1966. Since its incorporation, the Company has been engaged in the design, manufacture and marketing of precision measurement and process sensing and control instruments and systems. The Company currently has three major product groups which service various niche markets: (i) Permeation Products; (ii) Weighing Products; and (iii) Packaging Products.
The Permeation Products group consists of (i) products that test packages and packaging materials for permeation of gases and water vapor; and (ii) instruments that measure the thickness of thin films and coatings in laboratories and on-line during production. Also included within this product group are services provided by the Company for testing packages and packaging materials. The Weighing Products group consists of instruments for pharmaceutical capsule and tablet weighing and sorting. The Packaging Products group consists of (i) instruments that detect leaks and test the seal strength in packages; and (ii) analyzers which measure oxygen and carbon dioxide content of the headspace in both flexible and rigid packages.
The Company has its principal executive offices at 7500 Boone Avenue North, Minneapolis, Minnesota 55428 and its telephone number is (612) 493-6370.
(b) FINANCIAL INFORMATION ABOUT INDUSTRY SEGMENTS
The Company operates in a single industry segment: the design, manufacture and marketing of precision testing instrumentation and advanced process sensing and control equipment.
(c) NARRATIVE DESCRIPTION OF BUSINESS
PERMEATION PRODUCTS
The Permeation Products group consists of (i) products that test packages and packaging materials for permeation of gases and water vapor and (ii) instruments that measure the thickness of thin films and coatings in laboratories and on-line during production.
The various permeation measurement instruments included within the Permeation Products group and manufactured by the Company measure the rate at which oxygen, carbon dioxide and water vapor permeate packages and packaging materials. The principal market for the permeation measurement instruments consists of manufacturers of packaging materials, including manufacturers of papers, plastics and coatings, and the users of such packaging materials in the food, beverage, pharmaceutical and chemical industries.
The gauging products, included within the Permeation Products group, use capacitance technology to measure the thickness of thin films and coatings. These gauges measure all types of non-metallic materials, with very repeatable gauge readings at thickness resolutions up to one millionth of an inch. Software packages allow the display of each material's profile and provide analysis of the related data. The principal market for the gauging portion of this product group is made up of manufacturers of plastic films.
The Permeation Products line consists of the following products: (i) oxygen permeability test systems (seven models); (ii) water vapor permeability test systems (four models); (iii) carbon dioxide permeability test systems (two models); (iv) flavor, aroma and odor permeability test systems (two models); (v) gauges designed for laboratory use (one model); (vi) on-line gauges used for measuring cast film thicknesses (one model); and (vii) on-line gauging instruments used to measure blown film thicknesses and control related blown film production processes (two models).
The gas permeability test systems (i, iii and iv above) measure the ability of packages, films and bottles or other containers to resist oxygen, carbon dioxide and/or other gas permeation. The water vapor permeability instruments (ii above) measure water vapor permeation through films and packages and inform food processors, container companies and basic film suppliers as to the ability of certain packaging to retain or block out water. The gauging products (v, vi and vii above) measure the thickness of films.
The Company also provides certain laboratory testing services utilizing the Company's products. These services are primarily in the area of testing film and package permeation. Users of these services are primarily those companies with insufficient volume to warrant purchasing the Company's products or others not familiar with such equipment. Other users include companies that have purchased the Company's products but have a need for additional capacity.
Permeation Products accounted for approximately 73%, 71% and 71% and of the Company's total sales during the fiscal years ended December 31, 1996, 1995 and 1994, respectively.
WEIGHING PRODUCTS
The weighing instruments manufactured by the Company are: (i) a high-speed capsule weighing and sorting device (VERICAP(R)); (ii) a high-speed tablet weighing and sorting device (VERITAB(R)); and (iii) an automatic balance. These products are marketed primarily to the pharmaceutical industry, both domestically and in foreign countries.
The VERICAP(R) is designed to detect deviations in the weight of filled gelatin capsules and to reject capsules outside an acceptable range at rates of up to 2,000 capsules per minute. The VERICAP(R) 2500 can be integrated into a production line to weigh capsules as they are produced. This device also records and analyzes the data relating to accepted capsules during the processing.
The VERITAB(R)is designed to detect deviations in the weight of tablets and to reject tablets outside an acceptable range at rates of up to 800 tablets per minute. Data related to accepted tablets is recorded and analyzed.
The Company also manufactures and markets a small, highly accurate automatic balance for weighing capsules and tablets.
Weighing products accounted for approximately 15%, 17% and 14% of the Company's total sales during the fiscal years ended December 31, 1996, 1995 and 1994, respectively.
PACKAGING PRODUCTS
The various packaging products manufactured by the Company include leak detection instruments and head space analyzers. The two leak detection instruments detect leaks in pouches, blister packs and a wide range of other packages. The principal market for these products include packagers of food, pharmaceuticals and sterile medical supplies. The first of the two leak detection instruments is a non-destructive leak detector that senses small amounts of carbon dioxide escaping from a package. The carbon dioxide may be present in the headspace of the package or forced inside the package by carbon dioxide pressurization. The second instrument detects leaks and checks for seal integrity by applying and measuring pressure within the packages.
The headspace analyzers sold by the Company analyze the amount of oxygen or carbon dioxide present in the headspace of flexible and rigid food packages. Some models also measure the oxygen content in flushing gases used in modified or controlled atmosphere packaging. The Company sells and manufactures six different headspace analyzer models, two that measure oxygen, two that measure carbon dioxide and two that measure both oxygen and carbon dioxide.
Packaging products accounted for less than 15% of the Company's total sales during the fiscal years ended December 31, 1996, 1995 and 1994, respectively.
COMPETITION
The Company experiences competition in both foreign and domestic markets from one or more competitors with respect to all of its products. Some of the Company's competitors have greater assets and resources than the Company and some are smaller than the Company. The principal competitive factors are price, product performance and capability, and distribution. The Company believes that its products either exceed or are equal in performance and capability to those of its competitors. Price comparability varies by product. Several of the Company's larger competitors may have stronger marketing organizations.
MANUFACTURING AND SUPPLIES
Most of the parts and materials used in the manufacture of the Company's products are standardized and are purchased from various manufacturers or distributors and assembled at the Company. Multiple sources of supply are available for these items, and the Company has experienced no significant shortages or delays from its suppliers. Components designed by the Company are produced by others in accordance with the Company's specifications. A limited number of components for the Company's products are available from single suppliers. The loss of any single supplier could have a material adverse effect on the Company until the Company either arranges for another supplier or makes appropriate design changes.
BACKLOG
The Company had a total backlog of approximately $3,148,000 as of December 31, 1996 for all of its products as compared to approximately $3,461,000 and $2,029,000 as of December 31, 1995 and 1994, respectively. The Company anticipates filling all of the current backlog in 1997.
PATENTS AND LICENSES
Generally, the Company believes that the protection afforded by patent rights is important to its business and it will continue to seek patent protection for its technology and products. The Company has required certain employees and consultants to assign to the Company all inventions which are conceived and developed during their employment, except to the extent prohibited by applicable law. The Company owns two U.S. patents and one foreign patent relating to its VERICAP product, three U.S. patents and three foreign patents relating to the VERITAB product, one U.S. patent and two foreign patents relating to headspace analyzers and nine U.S. patents and five foreign patents relating to its film thickness test systems. In addition, the Company owns twelve U.S. patents and eight foreign patents relating to its permeability test systems. These patents will expire during the period from 1999 through 2015.
Even though the Company has obtained the patents mentioned above, there can be no guarantee that these patents will keep competitors from producing substantially similar products. Although it can offer no assurance, the Company believes its products do not infringe on patents owned by any other persons. Any determination that a material component of the Company's products infringes upon the rights of others could have a material adverse effect upon the Company. In the event that the Company's products may be covered in whole or in part by patents owned by others, the Company may find it desirable to obtain licenses with respect to such patents. The Company has a license, under a U.S. patent, to manufacture products relating to a multiple gas permeability test system. Pursuant to this license, the Company must pay royalties of 4-1/2 percent of the net selling price of any product covered by such patent until such time as the patent expires. The patent and the license are scheduled to expire on August 14, 2001.
The Company also owns or has applied for certain trademarks which protect and identify its products, including the trademark MOCON(R), which the Company has designated as a house trademark under which all its products are sold, and the trademarks and servicemarks VERICAP(R), OX-TRAN(R), PERMATRAN-W(R), PROFILER(R), COULOX(R), HERSCH(R), VERITAB(R), AROMATRAN(R), SKYE(R), PAC CHECK 200(R) and TRANSORPTION(SM). The Company's trademarks have a life, subject to periodic maintenance, of 10 to 20 years, which may be extended.
RESEARCH AND DEVELOPMENT
The Company incurred expenses of approximately $1,216,000, $1,060,000 and $898,000 during the fiscal years ended December 31, 1996, 1995 and 1994, respectively, for research and development of its products. Research and development costs were 8.2% of sales for the fiscal year ended December 31, 1996 and were 8.3% and 8.5%, respectively, for the preceding two fiscal years. For the foreseeable future, the Company expects to allocate, on an annual basis, approximately 8% of sales to research and development.
WORKING CAPITAL PRACTICES
The Company maintains inventory levels in its three product groups consistent with projected sales. The Company's standard domestic payment terms are net 30 days. International sales are transacted pursuant to letters of credit in some cases. The Company generally warrants its products for one year from the date of shipment. There have been few instances when the Company was required to accept the return of merchandise which failed to comply with the Company's warranty.
FOREIGN AND DOMESTIC MARKETING
The Company markets its products in the United States and Canada through a direct sales force of 15 persons. The Company's foreign markets are served by a network of 32 independent representatives in Africa, Asia, Australia, Europe, Mexico, South America and certain Pacific Rim countries. To the Company's knowledge, no independent sales representative of the Company sells a material amount of products manufactured by the Company's competitors. The sales representative for the Company in Europe is licensed to sell headspace analyzers and leak detectors similar to those sold by the Company. The Company, however, is not licensed to sell these products in Europe.
The Company's wholly owned subsidiary, MoCon FSC, Inc., a Barbados corporation ("FSC"), carries out all the foreign distribution of the Company's products. The Company acts as the selling agent of FSC.
The Company makes all foreign sales in U.S. dollars and consequently does not hedge against exchange rate fluctuations. Nonetheless, should the value of the dollar rise relative to other currencies, the Company's sales abroad would be negatively impacted. Additionally, the Company can give no assurances that foreign tariff, trade or tax policies or foreign economic conditions will not negatively effect sales and earnings of the Company in the future.
For information concerning the Company's export sales by geographic area, see Note 9 of the Notes to Consolidated Financial Statements contained on page 20 of the Company's 1996 Annual Report. Although no single customer accounts for 10% or more of the Company's consolidated revenues and the Company does not believe that the loss of any single customer would have a material adverse effect on the Company, two of the Company's independent representatives accounted for approximately 16% and 12%, respectively, of the Company's sales in fiscal 1996. For additional information concerning sales by such independent representatives, see Note 9 of the Notes to Consolidated Financial Statements contained on page 20 of the Company's 1996 Annual Report. The Company's business is not seasonal in nature.
EMPLOYEES
The Company currently has 80 full-time employees, including 33 in manufacturing, 12 in research and development and 35 in general administration and marketing. None of the Company's employees are represented by a labor union, and the Company considers its employee relations to be satisfactory.
ITEM 2.
ITEM 2. PROPERTIES
The Company's executive offices and operations are located at 7500 Boone Avenue North, Minneapolis, Minnesota. The portion of the building occupied by the Company contains approximately 47,000 square feet, of which approximately 35,000 square feet (approximately 74%) is currently being utilized. Management believes that the Company's manufacturing facilities are generally adequate for its operations and such facilities are maintained in a good state of repair. The current lease expires June 30, 2000.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
There are no material pending legal, governmental, administrative or other proceedings to which the Company is a party or of which any of its property is the subject.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders during the fourth quarter of 1996.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The information under the caption "Market for Company's Common Stock and Related Stockholder Matters" on page 20 of the Company's 1996 Annual Report is incorporated herein by reference. The Company has not sold any securities during the fiscal year ending December 31, 1996 that were not registered under the Securities Act of 1933, as amended.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The financial information under the caption "Selected Financial Data" on page 1 of the Company's 1996 Annual Report is incorporated herein by reference.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The information under the caption "Management's Discussion and Analysis of Results of Operations and Financial Condition" on pages 10 to 11 of the Company's 1996 Annual Report is incorporated herein by reference.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Company's Financial Statements and Independent Auditors' Report thereon on pages 12 to 20 of the Company's 1996 Annual Report are incorporated herein by reference, as is the unaudited information set forth under the caption "Selected Quarterly Financial Data" on page 1 of the Company's 1996 Annual Report.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
(a) DIRECTORS OF THE COMPANY
The information under the captions "Election of Directors -- Information About Nominees" and "Election of Directors -- Other Information About Nominees" in the Company's 1997 Proxy Statement is incorporated herein by reference.
(b) EXECUTIVE OFFICERS OF THE COMPANY
The executive officers of the Company, their ages, the year first elected or appointed as an executive officer and the offices held, as of February 20, 1997, are as follows:
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(1) All executive officers have been employed in the capacity set forth for at least five years unless otherwise indicated.
(2) Daniel W. Mayer is the son of William N. Mayer, Chairman of the Board and Chief Executive Officer of the Company.
(3) W.N. Mayer has been the Chairman of the Board, Chief Executive Officer and President of the Company for over five years. Effective January 30, 1995, Mr. W.N. Mayer resigned as President of the Company.
(4) Robert L. Demorest is the son of Howard L. Demorest, the retired Chairman of the Board, Chief Executive Officer and Treasurer of the Company.
(5) Mr. Demorest was elected President of the Company on January 30, 1995. Prior to that time, Mr. Demorest was the Executive Vice President -- Sales & Marketing and Secretary.
(6) Mr. Ronald A. Meyer was elected Secretary of the Company on January 30, 1995. Prior to that time, Mr. Meyer served as Assistant Secretary.
(7) Mr. Daniel W. Mayer was elected Executive Vice President on January 30, 1995. Prior to that time, Mr. Mayer served as the Vice President -- Product Development.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information under the captions "Election of Directors -- Director Compensation" and "Executive Compensation and Other Benefits" in the Company's 1997 Proxy Statement is incorporated herein by reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information under the caption "Principal Shareholders and Beneficial Ownership of Management" in the Company's 1997 Proxy Statement is incorporated herein by reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information under the caption "Election of Directors -- Other Information About Nominees" in the Company's 1997 Proxy Statement is incorporated herein by reference.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) (1) Financial Statements:
The following Consolidated Financial Statements of the Company are incorporated herein by reference from the pages indicated in the Company's 1996 Annual Report:
Independent Auditors' Report -- page 20.
Consolidated Balance Sheets -- December 31, 1996 and 1995 -- page 13.
Consolidated Statements of Income -- Years Ended December 31, 1996, 1995 and 1994 -- page 12.
Consolidated Statements of Cash Flows -- Years Ended December 31, 1996, 1995 and 1994 -- page 14.
Notes to Consolidated Financial Statements -- pages 15 to 20.
(2) Financial Statement Schedules:
The following financial statement schedule is included herein and should be read in conjunction with the financial statements referred to above:
Independent Auditors' Report on Financial Statement Schedule
Financial Statement Schedule:
II - Valuation and Qualifying Accounts
All other schedules are omitted as the required information is inapplicable or the information is presented in the financial statements or related notes.
INDEPENDENT AUDITORS' REPORT ON FINANCIAL STATEMENT SCHEDULE
The Board of Directors and Stockholders Modern Controls, Inc.:
Under date of February 14, 1997, we reported on the consolidated balance sheets of Modern Controls, Inc. and subsidiary as of December 31, 1996 and 1995, and the related consolidated statements of income, and cash flows for each of the years in the three-year period ended December 31, 1996, as contained in the 1996 annual report to stockholders. These consolidated financial statements and our report thereon are incorporated by reference in the annual report on Form 10-K for the year 1996. In connection with our audits of the aforementioned consolidated financial statements, we also have audited the related financial statement schedule as included in Item 14(a)2. This financial statement schedule is the responsibility of the Company's management. Our responsibility is to express an opinion on this financial statement schedule based on our audits.
In our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth herein.
/s/ KPMG PEAT MARWICK LLP
Minneapolis, Minnesota February 14, 1997
SCHEDULE II
(3) Exhibits
The exhibits to this Report are listed in the Exhibit Index.
A copy of any of the exhibits listed or referred to above will be furnished at a reasonable cost to any person who was a shareholder of the Company as of March 21, 1997, upon receipt from any such person of a written request for any such exhibit. Such request should be sent to Modern Controls, Inc., 7500 Boone Avenue North, Minneapolis, Minnesota 55428; Attn.: Shareholder Information.
The following is a list of each management contract or compensatory plan or arrangement required to be filed as an exhibit to this Annual Report on Form 10-K pursuant to Item 14(c):
A. Employee Stock Option Plan, as amended (filed herewith).
B. 1982 Restated Incentive Stock Option Plan (incorporated by reference to the Company's Registration Statement on Form S-8 (File No. 33-27730)).
C. 1990 Non-Employee Director Stock Option Plan (incorporated by reference to the Company's Registration Statement on Form S-8 (File No. 33-42255)).
D. 1992 Stock Option Plan (incorporated by reference to the Company's Registration Statement on Form S-8 (File No. 33-49752)).
E. Compensation Committee resolutions setting forth the Incentive Compensation Plan for fiscal 1994, 1995 and 1996 (incorporated by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1993 (File No. 0-9273)).
F. Compensation Committee resolutions setting forth the Incentive Compensation Plan for fiscal 1997, 1998 and 1999 (filed herewith).
G. Paired Profit Sharing Plan effective July 1, 1996 (filed herewith).
H. Confidentiality Agreement, dated June 3, 1983, between the Company and William N. Mayer (incorporated by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1988 (File No. 0-9273)).
(b) Reports on Form 8-K
No reports on Form 8-K were filed during the fourth quarter of the fiscal year ended December 31, 1996.
SIGNATURES
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.
Date: March 21, 1997 MODERN CONTROLS, INC.
By: /s/ William N. Mayer ------------------------------------------- William N. Mayer, Chief Executive Officer (principal executive officer)
By: /s/ Ronald A. Meyer ------------------------------------------- Ronald A. Meyer, Vice President -- Finance & Administration, Treasurer and Secretary (principal financial and accounting officer)
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 and on March 21, 1997.
Signature and Title -------------------
/s/ William N. Mayer ------------------------------------------- William N. Mayer, Chairman of the Board
/s/ Robert L. Demorest ------------------------------------------- Robert L. Demorest, President and Director
------------------------------------------- Howard L. Demorest, Director
/s/ Paul L. Sjoquist ------------------------------------------- Paul L. Sjoquist, Director
/s/ Dean B. Chenoweth ------------------------------------------- Dean B. Chenoweth, Director
/s/ J. Leonard Frame ------------------------------------------- J. Leonard Frame, Director
------------------------------------------- Wallace W. Lindemann, Director
/s/ Richard A. Proulx ------------------------------------------- Richard A. Proulx, Director
MODERN CONTROLS, INC.
Exhibit Index to Annual Report On Form 10-K For Fiscal Year Ended December 31, 1996
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(1) Incorporated by reference to the Company's Annual Report on Form 10-K for the fiscal year ended January 31, 1984 (File No. 0-9273).
(2) Incorporated by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1987 (File No. 0-9273).
(3) Incorporated by reference to the Company's Registration Statement on Form S-8 (File No. 33-42255).
(4) Incorporated by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1988 (File No. 0-9273).
(5) Incorporated by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1994 (File No. 0-9273).
(6) Incorporated by reference to the Company's Registration Statement on Form S-8 (File No. 33-42255).
(7) Incorporated by reference to the Company's Registration Statement on Form S-8 (File No. 33-49752).
(8) Incorporated by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1993 (File No. 0-9273).
(9) Filed herewith.