Item 1 Description of Business
The Company
IVC Industries, Inc. (the "Company" or "IVC") was incorporated in the state of Delaware in 1971. The Company is engaged in the manufacturing, packaging and sale and distribution of branded and store brand (private label) vitamins and nutritional supplements. The Company's Fields of Nature(R), LiquaFil(TM), Rybutol(R) and Nature's Wonder(R) brands, as well as the Company-manufactured store brands, are sold in national and regional drug store, supermarket and mass merchandising chains. The Company's Synergy Plus(R) brand is sold primarily in health food stores, its Nature's Wonder brand is also sold through independent drug stores, and its Vitamin Specialties(R) brand is sold in the Company-owned Vitamin Specialties health food stores and mail order catalogues. The Company's products are also marketed internationally under its own brands and private brands, as well as in bulk form.
IVC markets over 600 different products, which are packaged under various labels and bottle counts. They are sold in single vitamin and in multivitamin combinations, with varying potency levels in tablets (including chewable and time released tablets), powders, two-piece hard shell capsules, as well as soft gelatin encapsulated capsules ("soft gels"). The Company has traditionally manufactured virtually all of its products except for soft gels, which it had until recently purchased from others. With the completion of its soft gel encapsulation facility, the Company is self-sufficient relative to its own soft gel needs and has begun to generate revenues from third-party sales of soft gel products. (See "Soft Gel Encapsulation Facility"). The Company considers its operations to be a single business segment.
On March 15, 1996, the Company changed its name from International Vitamin Corporation to IVC Industries, Inc.
On April 30, 1996, the Company acquired Hall Laboratories, Inc. ("Hall") in a transaction accounted for as a pooling of interests. Hall, located in Portland, Oregon, was founded in 1953, and was engaged in the manufacturing, packaging, and sale and distribution of vitamins, nutritional supplements and over-the-counter pharmaceutical products primarily through chain drug stores, supermarkets, mass merchandisers and warehouse clubs. Hall's products had been distributed throughout the United States (with a significant concentration on the West Coast) and in Canada. The majority of Hall's products were marketed under the private labels of its retail chain customers.
On June 13, 1997, the Company acquired the Vitamin Specialties brand and related distribution operations of HealthRite, Inc. for $2.8 million (including inventory). Vitamin Specialties products are distributed through a chain of 16 retail health food/vitamin stores located in Eastern Pennsylvania and Southern New Jersey, as well as through a mail order catalogue operation.
Products and Product Development
The Company offers a comprehensive assortment of vitamin, mineral and nutritional supplement products, which include vitamins C and E, beta carotene, magnesium, folic acid, calcium and potassium, as well as various herbs such as Echinacea, St. John's Wort and Saw Palmetto and various multivitamin combinations. IVC has the capacity to produce millions of tablets per day using technologically advanced high-speed manufacturing equipment. Its fully automated packaging lines are capable of packaging in excess of 200,000 bottles per shift, per day. Intergel, the Company's soft gel encapsulation division, has the capacity to produce in excess of 2 billion capsules annually and could approach 4 billion capsules annually in its existing facility with the installation of certain additional equipment.
IVC's products are marketed under its customers' store brands (private label) as well as under the Company's own brands. Store brand products are positioned as high quality, lower priced alternatives to nationally advertised brands. Branded products, including IVC's flagship brand, Fields of Nature, are targeted at consumers who desire high quality, recognizable brand names at moderate prices.
The Company introduces new products and reformulates existing products on an ongoing basis in response to consumer trends and emerging scientific evidence. Product concepts are generally developed by the Company's management, key employees and consultants. The Company also develops and formulates new products based on customers' requests and responds to changes in existing national brands by reformulating existing products and redesigning packaging. The Company's products sold under the Synergy Plus brand are free of sugar, salt and starch, and most are hypoallergenic. IVC has also obtained kosher certification for a substantial portion of the Synergy Plus line. The Company believes that its kosher certification can help it to achieve increased market share both domestically and on an international basis.
Manufacturing and Packaging
IVC owns and leases facilities located in Freehold, New Jersey, and leases facilities in Portland, Oregon. These facilities are equipped with large-volume blending, tableting and coating equipment, high-speed packaging equipment, including "cartoning", "stretch carding" and "blister carding" equipment, and testing and quality control laboratories. The Company has an additional leased facility located in British Columbia, Canada, which is presently utilized for warehousing and distribution activities relative to its Canadian operations. The Company's soft gel operations are located in a leased facility in Irvington, New Jersey. IVC presently manufactures substantially all of its products, and the Company believes that the capacity of its facilities is sufficient to meet its current business needs.
Soft Gel Encapsulation Facility
In recent years, an ever-increasing number of vitamins, herbs, over-the-counter and cosmetic products have been introduced in, or converted to, soft gels. Factors contributing to the popularity of soft gels over tablets include the fact that soft gels are more aesthetically pleasing, odor-free, and easier to swallow than tablets or hard capsules, and in certain cases provide superior absorption and stability, content uniformity and more precise dosage, and generally have longer shelf lives.
Intergel, the Company's soft gel encapsulation division, completed construction of its facility and the installation and start-up of the initial production lines during the first quarter of fiscal 1996. Production levels increased in each ensuing quarter until the first half of fiscal 1997, at which time all lines reached full-scale levels of operation.
Intergel produces soft gels in various shapes and sizes. Among the vitamin and nutritional supplement products generally sold in soft gel form are vitamin E, beta-carotene, cod liver oil, garlic oil and lecithin. With the plant at full scale levels of production, IVC is now able to internally manufacture all its own soft gel requirements, and to supply soft gels to a variety of customers, as well as to custom formulate unique soft gel products targeted towards nutritional and cosmetic applications.
The Intergel facility, which can produce in excess of 2 billion capsules annually, can accommodate additional production lines which could be installed as the demand for Intergel's products increases. The Company believes that with these additional lines, its existing facility can reach production levels approaching 4 billion capsules per year. The Company's strategic business decision to manufacture soft gel products will allow it to better control its own supply, quality and cost of such products while it pursues the opportunities of marketing soft gel products to third parties.
Intergel has been granted a license from the Food and Drug Administration ("FDA") for the production of over-the-counter (non-drug) pharmaceutical products ("OTCs"). During the past year, Intergel entered into a new multi-product development agreement with Block Drug Company, Inc., a major multinational pharmaceutical company, to jointly develop soft gel encapsulated OTC products, which are being manufactured by Intergel for this company. The first product has been approved and shipments began in the first quarter of 1998.
Intergel also has developed a nutritional product line, which has been introduced under the Company's Fields of Nature brand. The line is being marketed under the Company's new "LiquaFil" product line, and is comprised of a wide spectrum of vitamin, nutritional and herbal products, all of which are in soft gel form. The Company began initial shipments of the LiquaFil line to existing customers in the first quarter of fiscal 1998. In addition, through the LiquaFil line, the Company has been able to secure additional distribution through such customers as Eckerd Drug, American Stores, Kerr Drug and Kmart Corp. As additional soft gel products have been added to the LiquaFil line during the course of fiscal 1998, the Company began introducing these products as line extensions to both its existing and new customers who will be carrying this unique line of soft gel nutritional and herbal products.
Marketing and Distribution Strategies
Retail Chains
In contrast with nationally advertised brand manufacturers, which focus primarily on the consumer, IVC's strategy is to build relationships with national and regional drug store, supermarket and mass merchandising retail chain customers. Generally, IVC enters into supply agreements with these customers and its marketing efforts are directed at developing customized marketing programs with them. As part of these programs, IVC provides its retail customers with comprehensive sales and marketing support. Since the cost to a retailer of IVC's branded products and the retailer's private label products are generally lower than that of advertised national brand products, retail chains are usually able to commit funds to promote IVC's and their own private label products through the use of money saving coupons, individualized promotions and advertising (such as store circulars and newspaper inserts), while still realizing a higher profit margin than on advertised national brand products. Often, the product itself is retailed at a lower price than the national brands thereby delivering "better value" to consumers and providing the retailer with an important marketing tool in today's competitive retailing environment.
The Company uses the Efficient Consumer Response (ECR) recommended processes for evaluating consumer needs and applying them to the various retail trade avenues of distribution. IVC employs its own direct sales force which regularly calls on customers to obtain an understanding of each customer's competitive environment. Then, working in tandem with its sales force, IVC's marketing department and creative arts group develops customized marketing programs for customers, including new product introductions, promotional planning support, market research and packaging design.
Health Food and Independent Drug Stores
Historically, the Company has focused its health food and independent drug store marketing and promotional activities on its Synergy Plus and Nature's Wonder branded products. IVC has been successful in expanding its markets to geographic areas in proximity to those where these brand names are well known. The Company believes that this strategy of expanding its geographical penetration is an effective method to enter new markets. The Company utilizes both its own internal sales force as well as distributors to market these brands.
Direct-to-Consumer Sales
The acquisition of the Vitamin Specialties retail stores and mail order operations marked the first step in the Company's pursuit of direct-to-consumer distribution channels, which the Company has earmarked as an important element of its growth strategy. The Company believes that the integration of the Vitamin Specialties operations into its core business will allow it to capitalize on its ability to internally manufacture its products, bringing them directly to their ultimate consumers.
Export Sales
The Company has begun to capitalize on the global opportunities created by the increasing worldwide recognition of the benefits of vitamins and nutritional supplements and the perception that "American made" pharmaceutical products are the safest and highest quality products available. During the past few years, the Company has successfully developed various export markets and established relationships with distributors in North and South America, Europe, Asia and the Middle East.
Other Channels of Distribution
The Company supplies certain customers who sell products similar to IVC's, but do not manufacture these products or directly compete with IVC or its customers. The Company has also begun to manufacture and package products for certain customers who need to supplement their own capacities either on an emergency basis during peak season demands or those customers who "outsource" a portion of their needs on an ongoing basis. These strategies represent additional opportunities for IVC to increase its plant utilization rates and profitability without any significant additional capital outlays.
Industry Overview
Based on industry sources, including trade publications, the Company believes that the retail market for vitamins and nutritional supplements in the United States presently exceeds $7 billion annually, representing a compounded annual increase of 14% from the $4.4 billion in 1993. Approximately 45% of adults in the United States take some form of vitamin or nutritional supplement, up from 36% in 1993.
IVC believes that this market will continue to expand due to increasing consumer awareness of the health benefits of vitamins and nutritional supplements and the widely publicized reports of medical research findings indicating a correlation between the consumption of micro-nutrients, such as vitamin C and vitamin E (antioxidants) and reduced incidence of diseases such as heart disease, cancer and stroke. However, there have been studies relating to certain antioxidants with results, which have been contrary to certain of the favorable indications of other prior and subsequent studies. Also, as scientific research to date is preliminary, there can be no assurance of future favorable scientific results and media attention, or the absence of unfavorable or inconsistent findings.
The Company believes that the market for vitamins and other nutritional supplements will continue to grow as the nation's demographics continue to shift towards a more senior-aged population, who have a greater tendency to use vitamins on a regular basis. Industry sources indicate that approximately 55% of Americans aged 50 and over are regular vitamin users. It is anticipated that the 50 and over age group will be the fastest growing segment of the United States population as the baby boom generation continues to mature.
Private Label Industry
A major part of IVC's sales consists of store brand (private label) products. Sales of private label vitamins have grown significantly in chain drug stores and have become a key ingredient in the success of retailers. From the consumer's standpoint, store brand products offer lower-priced and equal if not better quality alternatives to nationally advertised brand name products. From the retailer's standpoint, such products allow for lower retail pricing than national brands and yet provide retailers with higher profit margins. Industry analysts predict that private label's share of the overall market should grow significantly over the next 10 years. IVC believes that it is well positioned to participate in this growth.
Source and Availability of Raw Materials
The principal raw materials used in the manufacturing process are natural and synthetic vitamins, purchased from manufacturers primarily in the United States, with certain materials imported from Japan and Europe. IVC purchases its raw materials from numerous sources. Although one of the Company's suppliers individually accounted for approximately 26% of total purchases in 1998 and 44% in 1997, the Company believes that the materials purchased from this supplier are readily available from numerous sources and that the loss of this supplier would not adversely affect its operations. No other supplier accounts for more than 10 percent of IVC's raw material purchases.
Major Customers
IVC's active customer base approaches 2,000 customers. The Company's ten largest customers accounted for 73% of sales during fiscal 1998, with one individual customer, PriceCostco, accounting for approximately 36% of sales. During 1997, the Company's ten largest customers accounted for approximately 69% of sales, with one customer, PriceCostco, accounting for 23% of sales. No other customers accounted for more than 10% of net sales. If any of IVC's major customers substantially reduce their volume of purchases from IVC, results of operations could be materially adversely affected.
Quality Control
IVC's manufacturing operations include modern quality control laboratories and testing facilities. All raw materials used in production are initially held in quarantine during which time IVC's laboratory employees assay the product against the manufacturer's certificate of analysis. Once cleared, a lot number is assigned, samples are retained and the material is processed by formulating, mixing and blending, encapsulating or compressing and where required, by coating operations. Throughout the manufacturing process, the Quality Control Group conducts "in process" testing procedures. After tablets or capsules are manufactured, laboratory employees test for weight, purity, potency, dissolution and stability. When products are ready for bottling, IVC's automated equipment counts the tablets or capsules, inserts them into bottles, applies a cap (closure) which includes a tamper-resistant inner seal, affixes a label and adds a tamper-resistant outer safety seal. All products, including soft gels that are produced by Intergel, are subject to the Company's quality control procedures.
Competition
The market for vitamins and other nutritional supplements is highly competitive in all of the Company's channels of distribution. For sales to drug store, supermarket and mass merchandising chains, IVC's Fields of Nature, LiquaFil, Rybutol and Nature's Wonder brands compete with numerous brands of larger vitamin distributors and manufacturers such as Your Life(R), Nature Made(R), Sundown(R) and Nature's Bounty(R), which are brands of Leiner Health Products Group, Inc., Pharmavite Corp., Rexall Sundown, Inc. and NBTY, Inc., respectively. These companies are also IVC's competitors for private label business. In addition, IVC competes with the more heavily advertised national brands, which are manufactured by large pharmaceutical companies. The marketplace for private label business is extremely price sensitive with service levels, quality, innovative packaging, marketing and promotional programs and uniqueness of products being the key factors influencing competitiveness.
The Company believes that there are also numerous companies competing for health food and independent drug store customers in its geographical markets. As most companies are privately held, the Company is unable to precisely assess the size of its competitors or where it stands with respect to sales volume in comparison to its competitors. The Company's Synergy Plus brand competes with brands such as Twin Labs(R), Solgar(R), Schiff(R), and Country Life(R) in health food stores while Nature's Wonder competes with brands such as Windmill(R) and Hudson(R) in independent drug stores. Although certain of these competitors are substantially larger than the Company and have greater financial resources, the Company believes that it competes favorably with the vitamin and nutritional supplement companies serving these markets because of its competitive pricing, marketing strategies, quality of products, kosher certification, special formulation of products, sales support and its full line of products. IVC also derives a competitive advantage from being one of the few vertically integrated tablet and soft gel manufacturers, thereby having the ability to manufacture and package all of its vitamin and nutritional supplement products. This affords IVC the flexibility to respond rapidly to the shifting demands of the marketplace and, consequently, enjoy the manufacturing and operating efficiencies resulting from longer production runs.
Government Regulation
The processing, formulation, packaging, labeling and advertising of the Company's products are subject to regulation by one or more federal agencies, including the FDA, the Federal Trade Commission, the Consumer Product Safety Commission, the United States Department of Agriculture and the United States Environmental Protection Agency. These activities are also regulated by various agencies of the states, localities, and countries in which IVC's products are sold. In addition, the Company manufactures and markets certain of its products in compliance with the guidelines promulgated by the United States Pharmacopoeia Convention, Inc. ("USP") and other voluntary standard organizations.
The Dietary Supplemental Health and Education Act ("DSHEA") recognizes the importance of good nutrition and the availability of safe dietary supplements in preventive health care. DSHEA amends the Federal Food, Drug and Cosmetic Act by defining dietary supplements, which include vitamins, minerals, nutritional supplements and herbs, as a new category of food, separate from conventional food. Under DSHEA, the FDA is generally prohibited from regulating such dietary supplements as food additives or drugs. It requires the FDA to regulate dietary supplements so as to guarantee consumer access to beneficial dietary supplements, allowing truthful and proven claims. Generally, dietary ingredients that were on the market before October 15, 1994 may be sold without FDA pre-approval and without notifying the FDA. However, new dietary ingredients (those not used in dietary supplements marketed before October 15, 1994) require premarket submission to the FDA of evidence of a history of their safe use, or other evidence establishing that they are reasonably expected to be safe. There can be no assurance that the FDA will accept the evidence of safety for any new dietary ingredient that the Company may decide to use, and the FDA's refusal to accept such evidence could result in regulation of such dietary ingredients as food additives, requiring the FDA pre-approval based on newly conducted, costly safety testing. Also, while DSHEA authorizes the use of statements of nutritional support in the labeling of dietary supplements, the FDA is required to be notified of such statements, and there can be no assurance that the FDA will not consider particular labeling statements used by the Company to be drug claims rather than acceptable statements of nutritional support, necessitating approval of a costly new drug application, or relabeling to delete such statements.
DSHEA also authorizes the FDA to promulgate good manufacturing practice regulations ("GMP") for dietary supplements, which would require special quality controls for the manufacture, packaging, storage and distribution of supplements. Although the final version of the GMP rules has not yet been issued, the Company has already commenced significant facility renovations that should allow the Company to comply with the new regulations, once they are enacted. DSHEA further authorizes the FDA to promulgate regulations governing the labeling of dietary supplements, including claims for supplements pursuant to recommendations made by the Presidential Commission on Dietary Supplement Labels. Such rules, which were issued on September 23, 1997, entail specific requirements relative to the labeling of the Company's dietary supplements. The rules, which are to take effect by March 1999, also require additional record keeping and claim substantiation, reformulation, or discontinuance of certain products, which could have a material expense to the Company.
The Company's products which are sold in Canada are further subject to Canadian government regulation under that country's Food and Drug Act and the regulations thereunder (the "Canadian Act"), which includes regulatory approvals of applicable products through a drug identification number ("DIN") and general proprietary number ("GP") by Health Canada. The loss of a particular DIN or GP would adversely affect the Company's ability to continue to sell the particular product to which the DIN or GP was assigned. Material non-compliance with the provisions of the Canadian Act may result in the loss of a DIN or GP or the seizure and forfeiture of the particular products which are sold in non-compliance with the Canadian Act.
In addition, the Company cannot predict whether new legislation or regulations governing the Company's activities will be enacted by legislative bodies or promulgated by agencies regulating the Company's activities, or what the effect of any such legislation or regulations on the Company's business would be.
Trademarks
IVC owns trademarks registered with the United States Patent and Trademark Office and with agencies in certain other major jurisdictions of the world for its Fields of Nature, Rybutol, Nature's Wonder, Vitamin Specialties, Pine Bros.(TM) and LiquaFil brands. Federally registered trademarks have a perpetual life, as long as they are renewed on a timely basis and used properly as trademarks, subject to the rights of third parties to seek cancellation of the marks. IVC believes that its registered and unregistered trademarks and other proprietary rights are valuable assets and believes they have significant value in the marketing of its products. IVC vigorously protects its trademarks against infringement.
Research and Development
IVC does not conduct primary research for the development of new ingredients. Instead, IVC's research efforts are focused on developing new products in response to market trends and consumer demands. IVC's staff also continually reformulates existing IVC products in response to changes in nationally advertised brand formulas in order to maintain product comparability.
IVC believes that flexibility and innovation with respect to new products are crucial factors in competing for market share in the field of nutritional supplements. By monitoring market trends and by avoiding short-lived "fad" items, the Company's marketing department is able to anticipate significant consumer demand for certain types of products. The Company's tablet formulation department and its new soft gel formulation department develop high-quality new products on an ongoing basis, capitalizing on the emerging science relative to nutritional products, as well as shifts in consumer demand. Thus, while the introduction of new products does not entail the expenditure of significant funds by the Company for scientific research and for the development of ingredients, considerable time and effort are devoted to market research activities, product formulation and packaging.
Employees
IVC employs 691 employees, of which 26 are in sales and marketing, 68 are in retail sales, 375 are in manufacturing and packaging, 76 are in quality control and regulatory compliance departments, 59 are in warehousing and 87 are in executive and administrative positions. IVC believes that it has a satisfactory relationship with its employees. IVC and its employees are not currently parties to any collective bargaining agreement.
Product Liability
The Company, like other manufacturers and distributors of products that are ingested, faces an inherent risk of exposure to product liability claims. Accordingly, the Company maintains product liability insurance coverage and requires each of its suppliers to carry product liability insurance covering the Company. While management believes that its insurance coverage is adequate, there can be no assurance that any judgment against the Company will not exceed liability coverage. A judgment significantly in excess of the amount of insurance coverage would have a material adverse effect on the Company.
Item 2
Item 2 Description of Property
The following table sets forth the Company's properties:
Approximate Leased or Location Type of Facility Square Feet Owned - -------- ---------------- ----------- -----
Freehold, NJ Manufacturing, Packaging, 160,000(1) Owned Warehousing, Distribution and Corporate Offices
Freehold, NJ Warehousing and Distribution 130,000(2) Leased
Portland, OR Manufacturing and Administration 39,000 Leased
Portland, OR Packaging and Warehousing 50,000 Leased
Irvington, NJ Manufacturing and Administration 35,000 Leased
Irvington, NJ Warehousing and Distribution 43,000(3) Leased
New Jersey and Pennsylvania 16 Retail Stores 21,000 Leased
Surrey, British Warehousing, Distribution and Columbia, Canada Administration 8,000 Leased
The Company believes that its properties will satisfy its foreseeable needs for office, manufacturing and warehouse space.
(1) The Company leases approximately 8,000 square feet of this facility to a third party.
(2) The Company subleases approximately 30,000 square feet of this facility to a third party.
(3) The Company subleases approximately 21,500 square feet of this facility to a third party.
Item 3
Item 3 Legal Proceedings
L-tryptophan
In November 1989, the Company halted sales and distribution and initiated a voluntary recall of one of its products, L-tryptophan. In December 1989, the FDA determined that there may be an unequivocal epidemiological link between the ingestion of L-tryptophan and a blood disorder known as eosinophilia myalgia syndrome and ordered a nationwide recall. The FDA has been unable to determine the exact cause of the illness and it appears it may be some time before the causative factor and the pathogenesis of the disease can be determined. To date, 38 cases have been filed against IVC, all of which have been settled, with all costs covered by the raw material supplier. The Company believes that its product liability insurance should cover any potential additional L-tryptophan related claims, subject to applicable policy limits.
Trade Dress Claims
IVC designs the packaging of certain of its branded products and its customers' private label products to communicate to consumers which national brand product is comparable to the product manufactured by the Company. Although IVC designs its packaging to avoid infringing any proprietary rights of national brand marketers, it has from time to time been subject to certain legal actions regarding infringement. The Company and its legal counsel do not believe the outcome of these matters will have a material adverse effect on its financial position or operations.
Other Actions
The Company is engaged from time to time in various other legal actions and governmental claims incident to its business. The Company believes the amount of liability, if any, from these proceedings will not have a material adverse impact on IVC's financial position or operations.
Item 4
Item 4 Submission of Matters to a Vote of Security Holders
No matter was submitted to a vote of security holders, through the solicitation of proxies or otherwise, during the fourth quarter of the fiscal year ended July 31, 1998.
PART II
Item 5
Item 5 Market For Common Equity and Related Shareholder Matters
IVC Common Stock trades on The Nasdaq SmallCap Market System under the symbol "IVCO". The table below presents the quarterly high and low sales prices for the Company's Common Stock and Warrants as reported by The Nasdaq SmallCap Market System.
Common Stock Warrants ------------ -------- High Low High Low ---- --- ---- ---
Fiscal Year 1997 First Quarter 2.88 1.69 .34 .19 Second Quarter 2.25 1.28 .50 .19 Third Quarter 2.13 1.13 .47 .19 Fourth Quarter 2.06 1.56 .44 .19
Fiscal Year 1998 First Quarter 2.47 1.56 .19 .06 Second Quarter 2.44 1.50 .13 .03 Third Quarter 2.63 1.88 .09 .03 Fourth Quarter 2.31 1.50 .09 .03
IVC has not declared and does not have any plans to pay any cash dividends on its Common Stock in the foreseeable future. The Board of Directors intends to retain future earnings to finance the growth of IVC. The payment of future cash dividends will depend on such factors as earnings levels, dividend restrictions required by lenders, anticipated capital requirements, the operating and financial conditions of IVC and other factors deemed relevant by the Board of Directors.
On April 14, 1997, the Board of Directors authorized the Company to initiate a repurchase program for up to 250,000 shares of the Company's Common Stock. As of July 31, 1998, 32,000 shares had been repurchased pursuant to this program.
As of October 12, 1998, there were approximately 118 holders of record of IVC's Common Stock and 18 holders of record of IVC's Warrants. The Company believes that there were in excess of 1,100 beneficial holders of Common Stock as of such date.
Item 6
Item 6 Selected Financial Data
The following table sets forth income statement data and balance sheet data of the Company, in thousands of dollars (except per share information), for the periods indicated.
Item 7
Item 7 Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis should be read in conjunction with the Consolidated Financial Statements and Notes to Consolidated Financial Statements contained in this report.
Results of Operations
The following table sets forth income statement data of the Company, as a percentage of net sales, for the fiscal years indicated.
Years Ended July 31, -------------------- 1998 1997 1996 ------ ------ ------ Net sales 100.0% 100.0% 100.0%
Cost of sales 76.2 74.1 74.0 ------ ------ ------
Gross profit 23.8 25.9 26.0
Selling, general and administrative expenses 20.9 21.8 21.5
Merger and integration costs -- -- 3.0 ------ ------ ------
Income from operations 2.9 4.1 1.5
Other expenses-net 1.3 1.5 .8 ------ ------ ------
Income (loss) before income taxes 1.6 2.6 .7
Income taxes provision (benefit) .6 1.4 .4 ------ ------ ------
Net income 1.0% 1.2% .3% ====== ====== ======
Year Ended July 31, 1998 Compared to the Year Ended July 31, 1997
Net Sales. Net sales for the year ended July 31, 1998 were $119.8 million, an increase of $11.3 million, or 10.4% over $108.5 million for the year ended July 31, 1997. This increase was principally attributable to the higher sales levels recorded at Intergel, the Company's soft gel encapsulation division, the inclusion of the Company's Vitamin Specialties health food store and mail order operations, which were acquired in June of 1997, the introduction of the Company's LiquaFil soft gel encapsulated vitamin and supplement product line, and increased private brand sales levels at the Company's west coast and Canadian operations. Partially offsetting these factors was the reduction in sales of a line of products to a significant customer, reflecting the termination of the supply agreement relative to the customer's store brand, during the second quarter of fiscal 1997, and the discontinuance of the Revlon product line. The Company's core business products are distributed through leading chain drug, supermarket and mass merchandising retailers. The current consolidation trend among these retailers poses opportunities, as well as challenges, for the future. The Company believes that, based on its relationships with its retail customers, it is well positioned to participate in the industry's future growth. There can be no assurance, however, that the Company's current growth rates will continue, nor what effect, if any, continued consolidation amongst the Company's retail customers will have on the Company.
Cost and Expenses. Cost of sales for the year ended July 31, 1998 was $91.3 million, an increase of $10.8 million, or 13.4% over $80.5 million for the year ended July 31, 1997. Cost of sales increased 2.1% as a percentage of net sales. These increases are attributable to the shift in sales mix toward private brand products, resulting from increased promotional activities carried out by certain of the Company's private brand customers, and the higher level of nutritional sales by the Intergel division, which have lower profit margins than the Company's core business segments. The fourth quarter 1998 gross profit was detrimentally impacted by excess manufacturing labor caused by the unexpected volume decrease in the fourth quarter, as compared to the third quarter. At July 31, 1998, the Company took a physical count of all inventories and adjusted to these counts and valuations.
The above factors were partially offset by the inclusion of the Vitamin Specialties operations for the full year, and the increase in the gross profit margins at the Portland facility attributable to new higher margin products which have been added to the line during the year.
Selling, general and administrative expenses for the year ended July 31, 1998 were $25.0 million, an increase of $1.4 million or 5.9% over $23.6 million for the year ended July 31, 1997. This increase was primarily attributable to: (i) achieving proper professional staff levels, mainly in accounting and finance, (ii) the inclusion of the Vitamin Specialties operations for the full year, (iii) increased consulting costs, primarily related to the implementation of new computer systems, and (iv) increased professional fees. In addition, distribution costs were higher as a result of the higher overall level of shipments. These were partially offset by the overall lower level of spending in selling and marketing, primarily related to the discontinuance of the Revlon product line.
Other Expenses - Net. Other expenses - net decreased by $67 for the year ended July 31, 1998. This principally represents interest expense of $2,555, offset by interest income of $209 and rental income of $220, and the gain of $683 recognized for the sale of land. Net interest expense for the year ended July 31, 1998 increased from the prior year due to higher average amounts of borrowing outstanding.
Income Taxes. See "Income Taxes" note to Consolidated Financial Statements for a reconciliation of the amount of tax computed under the statutory rates to the income tax provision.
Year Ended July 31, 1997 Compared to the Year Ended July 31, 1996
Net Sales. Net sales for the year ended July 31, 1997 were $108.5 million, an increase of $4.3 million, or 4.1% over $104.2 million for the year ended July 31, 1996. This increase was principally attributable to growth in unit sales of most of the Company's vitamin products to its core customers, the increased level of sales relative to Intergel, whose operations commenced in January 1996, new product introductions, such as the Company's new line of herbal products, continued growth in the international division and the initial sales contribution from the Vitamin Specialties operations acquired in June of 1997. Offsetting these factors was the impact of the discontinuation of the Company's Revlon line of licensed products and the reduced sales to Revco during the second half of 1997 as a result of the termination of the supply agreement during the second quarter of 1997. The Company's core business products are distributed through leading chain drug, supermarket and mass merchandising retailers. The current consolidation trend amongst these retailers poses additional opportunities, as well as challenges in the future. The Company believes that, based on its relationships with its retail customers, it is well positioned to participate in the industry's future growth. However, there can be no assurance that the Company's current growth rates will continue, nor what effect, if any, continued consolidation amongst the Company's retail customers will have on the Company.
Cost and Expenses. Cost of sales for the year ended July 31, 1997 was $80.5 million, an increase of $3.4 million, or 4.4% over $77.1 million for the year ended July 31, 1996. Cost of sales increased 0.1% as a percentage of net sales. The increase in cost of sales was limited as a result of the improvement in the overall sales mix towards higher margin products such as the Company's Fields of Nature brand and the new herbal product line, coupled with lower acquisition costs of certain raw materials attributable in part to the increased purchasing power of the Company as a result of the merger with Hall in April 1996. In addition, certain of the Company's new product introductions, such as Glucosamine and St. John's Wort, entail higher gross profit margins than the Company's overall profit margins.
The above factors were offset by the lower sales levels experienced by the Revlon line of licensed products which had significantly higher margins than the Company's overall profit margins, coupled with the changes recorded in the fourth quarter relative to the discontinuation of the Revlon line. In addition, the higher level of sales contributed by the Intergel division, which entailed lower profit margins than the Company's core business segments, also contributed to the increase in overall cost of sales during 1997. In addition, the cost of sales was impacted by the increased amortization expense attributable to the increased costs associated with securing longer term customer supply agreements. These agreements, for the most part,
extend over two or three-year periods, and the related costs are amortized over the expected lives of the agreements.
Selling, general and administrative expenses for the year ended July 31, 1997 were $23.6 million, an increase of $1.2 million or 5.4% over $22.4 million for the year ended July 31, 1996. This increase was primarily attributable to: (i) increased advertising and promotional activities, (ii) increases in sales commissions, broker fees and other selling expenses attributable to the sales growth in the Company's core operations, (iii) increased minimum royalty payments associated with the Revlon line of vitamins, (iv) increased distribution expenses attributable to higher levels of shipments associated with the Company's core operations and Intergel's sales activities, and (v) expenses relating to the initial operations of the Intergel division. The overall increase was partially offset by the savings resulting from the coordination of certain sales, marketing, distribution and general and administrative functions between the East coast and West coast operations subsequent to the Hall merger in April 1996, the reduced levels of advertising and promotion costs associated with the Revlon product line compared to 1996, during which time significant expenditures were incurred associated with the launch of the line.
Merger Costs. Merger costs decreased by $3.2 million for the year ended July 31, 1997, as there were no merger costs incurred during the year ended July 31, 1997.
Other Expenses - Net. Other expenses - net increased by $821 for the year ended July 31, 1997. This principally represents interest expense of $2,386 offset by interest income of $190 and rental income of $332. Net interest expense for the year ended July 31, 1997 increased from the prior year due to higher average amounts of borrowing outstanding.
Income Taxes. See "Income Taxes" note to Consolidated Financial Statements for a reconciliation of the amount of tax computed under the statutory rates to the income tax provision.
Liquidity and Capital Resources
The Company had working capital of $4.5 million at July 31, 1998, compared with $24.4 million at July 31, 1997, a decrease of $19.9 million. The agreement with the bank requires the Company to maintain certain financial ratios and minimum working capital. At July 31, 1998, the Company was in violation of certain of these covenants, which have been waived by the bank. The Company classified the entire balance due to the bank as a current liability. The Company's working capital needs, primarily related to inventory, increased levels of production of the Intergel division, introduction of a new product line, increased capital expenditures, costs associated with securing long-term sales contracts, as well as the acquisition of the Vitamin Specialties operations have been satisfied by cash flow generated from operations and bank borrowings.
Inventories increased by $6.2 million for the year ended July 31, 1998. This increase is mainly attributable to the higher level sales activities expected from existing customers, new product introductions and better customer service. Higher inventory levels were maintained until the implementation of the new computerized management inventory system. The Company has placed greater emphasis on reducing inventory levels to more acceptable levels. In addition, The Company also increased its inventories to support the recently acquired Vitamin Specialties retail stores and mail order catalogue operations.
The Company presently has a revolving line of credit and a term loan with its bank in the amounts of $21.5 million and $2.2 million, respectively. These agreements expire on March 31, 1999, but can be extended under certain circumstances to August 31, 1999. The notes are collateralized by substantially all of the Company's assets. In addition, the Company has a lease financing agreement with the same bank for up to $1 million for acquisitions of computer and manufacturing equipment. At July 31, 1998, $225 was available for additions.
In August of 1998, the Company entered into an additional lease financing agreement with a bank for up to $2 million for acquisitions of machinery and equipment.
The Company believes that its existing cash balance, internally generated funds from operations and available financing will provide the liquidity required to satisfy the Company's working capital needs and anticipated capital expenditures for the next fiscal year.
Year 2000 Compliance Program
The Company is in the process of addressing "Year 2000" or "Y2K" issues. These issues stem from the use by many computer systems and applications of two-digit date fields to designate a year, which may render them unable to distinguish years beginning with 20 from years beginning with 19. As a result, in the year 2000, these systems may not accurately process certain critical financial and operational information. IVC, like many other companies, is expected to incur expenses over the next few years to address this issue.
In the past year, the Company began to implement a compliance program to deal with the Y2K issue. At the same time, the Company invested in a complete replacement of its internal management information systems and is replacing its information technologies infrastructure with new enterprise servers, personal computers, local area networks and wide area networks. Y2K-compliant systems have been utilized in half of the Company's facilities since the beginning of January 1998, with the remaining facilities scheduled to be integrated by the first quarter of calendar 1999. The Company's goal is to commence the second quarter of calendar 1999 with Y2K-compliant computer systems throughout the company. The Company also is assessing whether its other systems that are not directly related to data processing contain embedded technology that may not be Y2K-compliant.
In addition to evaluating its own systems, the Company is in the process of contacting its vendors and major suppliers to seek assurance that they will be Y2K-compliant prior to the arrival of the new millennium.
The total costs associated with the Company's compliance program are not expected to be material to the Company's financial position. (The Company's new Y2K-compliant management information systems would have been installed regardless of the Y2K issue). However, satisfactory remediation of Y2K issues is dependent upon many factors, some of which are not completely within the Company's control. The Company's current estimates of the impact of the Y2K issue on its financial position do not include costs that may result from other companies' failure to become Y2K-compliant. Should the Company's internal systems or the internal systems of one or more significant vendors fail to achieve Y2K-compliance, the Company's business and its operations could be materially adversely affected.
If, based on the responses to its inquiries, the Company determines that any of its suppliers or vendors are not Y2K-compliant, the Company plans to arrange for alternative sources of supply. The Company believes that the products and services it purchases from its vendors and suppliers are available form numerous sources and that the loss of particular supplier would not adversely affect its operations. However, if the Company is unable to locate suppliers that are Y2K-compliant, there could be a material adverse affect on its operations.
Forward Looking Statements
This report, including the Description of Business and Management's Discussion and Analysis, contains certain "forward-looking statements", within the meaning of Section 27A of the Securities Act of 1933, which represent the Company's expectations or beliefs, including, but not limited to, statements concerning industry performance, the Company's operations, performance, financial condition, growth and acquisition strategies, margins and growth in sales of the Company's products. For this purpose, any statements contained in this Report that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the generality of the foregoing, words such as "may", "will", "expect", "believe", "anticipate", "intend", "could", "estimate" or "continue" or the negative or other variations thereof or comparable terminology are intended to identify forward-looking statements. These statements by their nature involve substantial risks and uncertainties, certain of which are beyond the Company's control, and actual results may differ materially depending on a variety of important factors, including beneficial or adverse trends in the domestic market for vitamins and nutritional supplements, the gain or loss of significant customers for the Company's products, the competitive environment in the vitamin and nutritional supplement industry, and the enactment or promulgation of new government legislation or regulation, as well as other risks and uncertainties that may be detailed from time to time in the Company's reports filed with the Securities and Exchange Commission.
Item 8
Item 8 Financial Statements and Supplementary Data
Independent Auditors' Reports........................................F-1
Consolidated Balance Sheets As of July 31, 1998 and 1997.....................................F-2
Consolidated Statements of Operations for the Years Ended July 31, 1998, 1997 and 1996.....................................F-3
Consolidated Statements of Cash Flows for the Years Ended July 31, 1998, 1997 and 1996.....................................F-4 to
Consolidated Statements of Changes in Shareholders' Equity for the Years Ended July 31, 1998, 1997 and 1996..........F-6
Notes to Consolidated Financial Statements...........................F-7 to
Item 9
Item 9 Changes In and Disagreements With Accountants on Accounting and Financial Disclosure
None.
PART III
Item 10
Item 10 Directors and Executive Officers of the Registrant
The Company's directors and executive officers, are as follows:
Name Age Position ---- --- -------- E. Joseph Edell 71 Chief Executive Officer and Chairman of the Board of Directors
Andrew M. Pinkowski 64 Vice Chairman of the Board of Directors
I. Alan Hirschfeld 47 Executive Vice President, Chief Financial Officer and Director
Duane Baxter 58 President, Hall Laboratories Division
Domenic N. Golato 43 Chief Accounting Officer and *Acting Chief Financial Officer
Mac Allen Culver III 56 Director
Arthur S. Edell 65 Director
Marc Z. Edell 47 Director
Dr. Mark S. Gold 49 Director
Dennis E. Groat 57 Director
David Popofsky 64 Director
* As of September 30, 1998, I. Alan Hirschfeld took a medical leave of absence. During his absence, Domenic Golato is assuming Mr. Hirschfeld's responsibilities as Chief Financial Officer.
Biographical Information
E. Joseph Edell has been Chairman of the Board of Directors and Chief Executive Officer of IVC since the Company's merger with American. Prior to that merger, E. Joseph Edell had been president of American since 1955. Mr. Edell is the brother of Arthur S. Edell.
Andrew M. Pinkowski has been Vice Chairman of the Board of Directors of IVC since the merger with Hall. He had previously been president and Chief Executive Officer of Hall since 1970. He joined Hall in 1969 as manager of marketing. Prior to joining Hall, he held various marketing positions with Boise Cascade, Sterling Drug and Universal Oil Products.
I. Alan Hirschfeld, Executive Vice President and Chief Financial Officer, has been on IVC's Board of Directors since the Company's merger with American. At the time of the merger, he had been Chief Operating Officer of American. He joined American in 1987 as Chief Financial Officer. Prior to 1987, he was a partner in Grossman, Brown, Weinberg & Lawson, Certified Public Accountants, where he was employed since 1979. Prior to that time, Mr. Hirschfeld held various positions at Coopers & Lybrand, a national public accounting and consulting firm, where he was employed for six years. Mr. Hirschfeld's wife is the daughter of E. Joseph Edell. Mr. Hirschfeld currently serves on the Board of Directors of Room Plus, Inc.
Duane Baxter has been President of the Company's Hall Division since the merger with Hall in 1996. He had previously been Vice President of Marketing and Sales for Hall from 1985 through 1996. Mr. Baxter joined Hall in 1979 as Director of Materials, left the Company in 1983 to start his own company, and returned to Hall in 1985.
Domenic N. Golato, Chief Accounting Officer, joined the Company in 1998 as Vice President Finance, Corporate Controller. From 1993 to 1998, Mr. Golato was Vice President and Chief Financial Officer of RF Power Products, Inc., a publicly traded international company in the semiconductor industry.
Mac Allen Culver III has been on IVC's Board of Directors since 1997. He had been President and Chief Operating Officer of St. Ives Laboratories, Inc., a hair and skin care company, since 1987. Prior to 1987, he was Chairman and Chief Executive Officer of Pay `N Save, Inc., President and Chief Executive Officer of Gray Drug Fair and a Senior Vice President of Payless Drugstores NW, Inc., all retail drug store chains.
Arthur S. Edell has been on IVC's Board of Directors since 1989. He was President of IVC from 1989 to 1998. The brother of E. Joseph Edell, he has over 40 years of experience in the vitamin, pharmaceutical and health food industries in all facets of production, distribution and marketing. Since 1979, Mr. Edell has owned Healthfair Vitamin Centers, Inc., a company, which operates two health food stores in New Jersey. Mr. Edell was a 50% owner of Hitex Investments, Inc., a vitamin manufacturing company, from 1974 to 1979, and was a 50% owner of American from 1955 to 1975. In March 1995, Mr. Edell was involved in a fatal automobile accident. In connection with the accident, Mr. Edell pleaded guilty to a single count of vehicular homicide and received a five year suspended sentence.
Marc Z. Edell has been on IVC's Board of Directors since 1996. He is an attorney who has been practicing law in New York and New Jersey for the past twenty years. He has been Managing Partner of Edell and Associates, a Morristown, NJ law firm, since 1995. From 1985 through 1995, Mr. Edell was a Partner with Budd Larner Gross in Short Hills, NJ. Mr. Edell is the son of E. Joseph Edell.
Dr. Mark S. Gold has been on IVC's Board of Directors since 1996. He is a Professor at the University of Florida Brain Institute. Dr. Gold is a medical researcher, author and inventor. He was previously a Resident, Chief Resident and Faculty Member at the Yale University School of Medicine, and has written over 500 scientific publications and numerous professional texts. Dr. Gold currently serves on the Board of Directors of Somerset Valley Bank.
Dennis E. Groat has been on IVC's Board of Directors since 1996. He is also a Principal of Groat and Associates, a consulting firm. He was President of Dentalogic, a dental technology business, from 1993 to 1996. From 1989 to 1993 he was President of Denar Corporation, a business specializing in precision dental instrumentation. Mr. Groat was Chief Operating Officer of Hall from 1984 to 1988. Prior to joining Hall, he held executive positions with Scherer Healthcare, Inc., R.P. Scherer Corporation and Mead Johnson Laboratories.
David Popofsky has been on IVC's Board of Directors since 1996. He is currently President of Popofsky Advertising in New York City. He has been the creative/marketing strategist responsible for the consumer launch of various leading over-the-counter products. Mr. Popofsky is also the founder of The Retail Drug Institute at Arnold Marie College of Pharmacy, served as visiting professor for ten years in their graduate school and on the Board of Overseers for many years. In addition, he served on the Graduate School faculty of Columbia University Pharmacy School.
Directors hold their offices until each annual meeting of the stockholders and thereafter until their successors have been duly elected and qualified. Executive officers are elected by the Board of Directors on an annual basis and serve at the discretion of the Board or pursuant to employment agreements.
Compliance with Section 16(a) of the Exchange Act
Section 16(a) of the Securities Exchange Act of 1934, as amended, requires the Company's executive officers and Directors to file reports of ownership with the Securities and Exchange Commission ("SEC") and with NASDAQ. The Company believes that its executive officers and Directors have complied with all applicable Section 16(a) filing requirements, except that the following persons filed, or will be filing, late: I. Alan Hirschfeld, two reports for four sale transactions; Marc Z. Edell, one report for four sale transactions; Andrew M. Pinkowski, one report for one gift; and each of the non-employee directors, one report for their receipt of stock options. This conclusion is based solely on a review of such forms furnished to the Company in accordance with SEC regulations and on representations from its executive officers and directors.
Item 11
Item 11 Executive Compensation
The following table sets forth all compensation paid or distributed during the years ended July 31, 1998, 1997 and 1996 by the Company for services rendered by (i) the Chief Executive Officer of IVC and (ii) the four most highly compensated executive officers of the Company.
SUMMARY COMPENSATION TABLE
Long-Term Compensation ------------------------ Annual Compensation Awards ------------------------------ Securities All Underlying Other Name and Salary Bonus Options Compensation Principal Position Year ($) ($) (Shares) ($)(1) - --------------------------------------------------------------------------------
E. Joseph Edell 1998 442,307 -- -- -- Chairman and 1997 500,000 -- -- -- Chief Executive Officer 1996 500,000 -- -- --
Arthur S. Edell 1998 150,384 -- -- 8,378 President 1997 170,000 -- -- 9,190 1996 170,000 -- -- 3,640
I. Alan Hirschfeld 1998 221,153 -- 1,528 Executive Vice President 1997 250,000 -- 50,000 1,528 and Chief Financial Officer 1996 250,000 50,000 -- 1,028
Andrew M. Pinkowski 1998 159,230 -- -- 500 Vice Chairman 1997 180,000 -- -- 500 1996 120,308 90,000 -- --
Duane J. Baxter 1998 144,630 78,100 12,000 1,100 President/Hall Division 1997 120,000 81,000 10,000 1,100 1996 100,000 10,873 50,036 --
(1) Represents term life insurance premiums and the value of shares granted under the 401(k) Savings Plan.
No other annual compensation, stock appreciation rights, long-term restricted stock awards, or long-term incentive plan payouts were awarded to, earned by, or paid to the named executive officers during any of the Company's last three fiscal years.
Directors
On September 10, 1996 and November 24, 1997, each of IVC's non-employee directors was granted, subject to approval of IVC's shareholders, an option to purchase 10,000 shares of IVC Common Stock as compensation for the services to the Company. IVC's shareholders approved these grants at the Annual Shareholder's Meeting held on April 16, 1998. The options granted on September 10, 1996 have an exercise price of $1.75 per share, and the options granted on November 24, 1997 have an exercise price of $2.34 per share. In addition, the Company's new Non-Employee Directors' Stock Option Plan provides for the grant as of September 1 of each year of an option to purchase 10,000 shares of IVC Common Stock to each of IVC's non-employee directors. The exercise price of such option is the fair market value of IVC Common Stock at the time the option is granted.
OPTION GRANTS IN LAST FISCAL YEAR
FISCAL YEAR-END OPTION VALUES
Number of Securities Value of Unexercised Underlying Unexercised In-the-Money Options At Fiscal Year-End Options at Fiscal Year-End(1) -------------------------- ----------------------------- Name Exercisable Unexercisable Exercisable Unexercisable ---- ----------- ------------- ----------- -------------
Arthur S. Edell 400,000 -- $ 82,000 --
I. Alan Hirschfeld 50,000 -- -- --
Duane J. Baxter 72,036 10,000 $ 4,700 --
(1) The fair market value of the Company's Common Stock on July 31, 1998 ($1.91 per share) minus the exercise price.
None of the named executive officers exercised options during the fiscal year ended July 31, 1998.
Employment Agreements
The Company entered into amendments to its employment agreements with E. Joseph Edell and I. Alan Hirschfeld as of February 1, 1998. Mr. Edell's agreement now provides for a base salary of $312,500 for the period of February 1, 1998 through January 31, 1999 and $343,750 for the period of February 1, 1999 through January 31, 2000. Mr. Hirschfeld's agreement now provides for a base salary of $156,250 for the period beginning on February 1, 1998 through January 31, 1999 and $171,875 for the period beginning on February 1, 1999 through January 31, 2000. Each agreement also now provides that on each January 31 during the executive's term of employment, he shall be entitled to performance-based bonus compensation in an amount equal to the sum of (i) the executive's base salary on such January 31 multiplied by (ii) the percentage increase, if any, in the income before income taxes of the Company for the 12-month period ended on such January 31 over the income before income taxes of the Company for the 12-month period ended the prior January 31. In addition, each agreement now provides that the Company may, in its discretion, grant the executive options to purchase shares of IVC Common Stock pursuant to the Company's 1995 Stock Option Plan. The term of each agreement ends on January 31, 2000 and is automatically extended for successive one-year periods unless
the Company or executive gives three months' notice that they elect that the term of employment shall not be further extended. In the event notice is given in accordance with the terms of the agreement, executive shall receive a severance payment equal to his base annual salary, provided that no severance payment shall be required in the event that the executive retires. The Board of Directors, at its discretion, may increase the executive's base annual salary if the term is extended. In the event the Company terminates without cause the employment of either of the executives, such executives shall receive a severance payment equal to the remaining salary due under the unexpired term of his agreement, plus one year's base salary. The agreements each contain confidentiality and non-disclosure provisions.
The Company also entered into an amendment to its employment agreement with Andrew M. Pinkowski as of February 1, 1998. Mr. Pinkowski's agreement now provides for a base salary of $112,500 for the period of February 1, 1998 through April 30, 1999. The agreement also now provides that on January 31, 1999, Mr. Pinkowski shall be entitled to performance-based bonus compensation in an amount equal to the sum of (i) his base salary on such January 31 multiplied by (ii) the percentage increase, if any, in the income before income taxes of the Company for the 12-month period ended on such January 31 over the income before income taxes of the Company for the 12-month period ended the prior January 31. In addition, the agreement now provides that the Company may, in its discretion, grant Mr. Pinkowski options to purchase shares of IVC Common Stock pursuant to the Company's 1995 Stock Option Plan. The term of the agreement ends on April 30, 1999. In the event the Company terminates his employment without cause, the Company is obligated to pay his base salary throughout the remainder of his term of employment. The agreement contains confidentiality and non-disclosure provisions. In addition, upon expiration of his term of employment, the agreement provides that he remain a consultant to the Company for a term of five years at $80,000 per annum.
The Company entered into a severance agreement with Arthur S. Edell, effective as of June 1, 1998, in which the Company and Mr. Edell agreed that his employment with IVC, including his tenure as President, terminated as a result of his resignation. Pursuant to the agreement, Mr. Edell's resignation is considered a "retirement" under IVC's stock option plans. The agreement provides for a severance payment of $85,000 per annum for a period of three years, which have been accrued as of July 31, 1998. The agreement provides for certain medical benefits and for the reimbursement of certain expenses, and contains mutual releases and confidentiality and non-disclosure provisions.
Compensation Committee Interlocks and Insider Participation
The members of the Compensation Committee for the fiscal year ended July 31, 1998 were Dr. Mark S. Gold, Dennis E. Groat (Chairman) and David Popofsky. There were no interlocks or insider participation as defined in the Securities and Exchange Commission's Regulation S-K.
Compensation Committee Report on Executive Compensation
The responsibilities of the Compensation Committee include administering the Company's 1995 Stock Option Plan and fixing the compensation, including salaries and bonuses, of all officers of the Company.
Overall Policy
The Compensation Committee believes that the Company's officers are largely responsible for the Company's success. Based on this belief, the Compensation Committee revised its compensation program for the Company's executive officers to reduce each executive's base salary and provide for bonus compensation based on the Company's performance and for the granting of stock options in order to link a portion of executive compensation to appreciation of the Company's stock price (see "Employment Agreements"). The objectives of this strategy are to attract and retain effective and highly qualified executives, to motivate executives to achieve the goals inherent in the Company's business strategy and to link executive and shareholder interest through stock options.
Base Salaries
Annual base salaries for the officers are determined by evaluating the performance of the individuals and their contributions to the performance of the Company and are based on the recommendation of E. Joseph Edell as Chief Executive Officer. Financial results, as well as non-financial measures such as the magnitude of responsibility of the position, individual experience, and the Compensation Committee's knowledge of compensation practices for comparable positions at other companies are considered.
In establishing E. Joseph Edell's annual base salary under the amendment to his employment agreement, and the new performance based bonus compensation, the Compensation Committee took into account the Company's achievements in fiscal 1996 and 1997, its assessment of Mr. Edell's individual performance, as well as base salaries and bonuses for chief executive officers at companies of comparable size and complexity, both public and private, known to members of the Compensation Committee. The Compensation Committee also took into account Mr. Edell's contribution to the Company's growth and diversity and his future anticipated contributions to the Company.
Long-Term Incentives
Under the 1995 Stock Option Plan, stock options may be granted to executives of the Company. Stock options are designed to focus the executives' attention on stock values and to align the interests of executives with those of the shareholders. Stock options are generally granted at prices equal to the fair market value at the date of grant, or 110% of such value with respect to grants to executives who own more than 10% of the Common Stock of the Company, and are not exercisable until six months after the date of the grant. The options generally remain exercisable during employment until the tenth anniversary of the date of the grant or five years with respect to grants to executives who own more than 10% of the Common Stock. This approach provides an incentive to executives to increase shareholder value over the long term since the full benefit of the options cannot be realized unless stock price appreciation occurs over a number of years.
Compensation Committee
Dr. Mark S. Gold Dennis E. Groat (Chairman) David Popofsky
PERFORMANCE GRAPH
The following performance graph is a line graph comparing the yearly change in the cumulative total shareholder return on the Company's Common Stock against the cumulative return of the Nasdaq Composite Index and the S&P Health Care - Drugs Index for each of the fiscal years ended July 31, 1994 through 1998. The Company's Common Stock was initially registered under Section 12 of the Exchange Act in February 1994.
[The following table was represented as a line graph in the printed material.]
Item 12
Item 12 Security Ownership of Certain Beneficial Owners and Management
The following table sets forth certain information regarding shares of IVC Common Stock beneficially owned by (i) each person or group, known to the Company, who beneficially owns more than 5% of IVC Common Stock, (ii) each of the Company's directors, (iii) each executive officer named in the summary compensation table in Item 11 hereto, and (iv) all officers and directors as a group as of October 12, 1998.
Name and Address of Number of Percentage Title of Class Beneficial Owner Shares of Class - -------------- ---------------- ------ --------
Common E. Joseph Edell (1) 5,357,430 31.13% c/o IVC Industries, Inc. 500 Halls Mill Road Freehold, NJ 07728
Common Andrew M. Pinkowski (2) 2,654,062 15.42% c/o IVC Industries, Inc. 3580 N.E. Broadway Portland, OR 97232
Common I. Alan Hirschfeld (3) 2,228,689 12.95% c/o IVC Industries, Inc. 500 Halls Mill Road Freehold, NJ 07728
Common Arthur S. Edell (4) 2,036,488 11.83% c/o IVC Industries, Inc. 500 Halls Mill Road Freehold, NJ 07728
Common Duane J. Baxter (5) 234,904 1.36% c/o IVC Industries, Inc. 3580 N.E. Broadway Portland, OR 97232
Common Marc Z. Edell (6) 96,800 .56% c/o Edell & Associates 1776 On the Green Morristown, NJ 07962
Common Dr. Mark S. Gold (6) 30,000 .17% c/o 2002 San Marco Boulevard Jacksonville, FL 32207
Common Dennis E. Groat (6) 30,000 .17% c/o IVC Industries, Inc. 3580 N.E. Broadway Portland, OR 97232
Name and Address of Number of Percentage Title of Class Beneficial Owner Shares of Class - -------------- ---------------- ------ --------
Common David Popofsky (6) 30,000 .17% c/o Popofsky Advertising 60 Madison Avenue New York, NY 10010
Common Mac Allen Culver III(7) 20,000 .12% 27 Pebble Beach Drive Rancho Mirage, CA 92270
Common All Executive Officers and 12,718,373 73.89% Directors as a group (10 persons)(8)
(1) Includes 1,000 shares of IVC Common Stock issuable upon exercise of warrants and 601,410 shares of IVC Common Stock owned by Beverlee Edell, the wife of E. Joseph Edell. Mr. Edell disclaims beneficial ownership of the shares owned by his wife.
(2) Includes 943,845 shares owned by his wife. Mr. Pinkowski disclaims beneficial ownership of the shares owned by his wife.
(3) Includes 50,000 shares of IVC Common Stock issuable upon exercise of stock options, 179,868 shares of IVC Common Stock owned by Susan H. Hirschfeld, the wife of I. Alan Hirschfeld, 31,194 shares of IVC Common Stock owned by Mr. Hirschfeld's minor children, and 120,000 shares owned by Two Seas Ventures, a family partnership. Mr. Hirschfeld disclaims beneficial ownership of the shares owned by his wife and children.
(4) Includes 410,000 shares of IVC Common Stock issuable upon exercise of stock options and 1,500,000 shares owned by the two Edell Family Partnerships (750,000 each).
(5) Includes 72,036 shares of IVC Common Stock issuable upon exercise of stock options.
(6) Includes 30,000 shares of IVC Common Stock issuable upon exercise of stock options.
(7) Includes 20,000 shares of IVC Common Stock issuable upon exercise of stock options.
(8) Includes 673,036 shares of IVC Common Stock issuable upon the exercise of stock options and warrants held by all executive officers and directors.
Item 13
Item 13 Certain Relationships and Related Transactions
Loans, Guarantees and Advances
Prior to fiscal 1994, Arthur S. Edell loaned the Company $250,000. The current loan balance is $80,000. This loan has no stated terms of repayment and bears interest at 6% for the fiscal years ended July 31, 1998 and 1997. The above loan was obtained on terms no less favorable to the Company than could be obtained from non-related parties.
From time to time the Company has made advances to E. Joseph Edell and I. Alan Hirschfeld. Such advances bear interest at 5% per annum. At July 31, 1998, the aggregate net advances to E. Joseph Edell and I. Alan Hirschfeld were $347,000 and $173,000, respectively. The balances due the Company at July 31, 1998 are payable by July 31, 2000.
Other Matters
The Company routinely sells its products on arm's-length terms to Healthfair Vitamin Centers, Inc., a company wholly owned by Arthur S. Edell and Ethel Edell. The Company's sales to Healthfair Vitamin Centers for the years ended July 31, 1998, 1997 and 1996 were $104,000, $169,000 and $154,000, respectively.
The Company periodically sells its products on arm's-length terms to D.N.R. Inc., a company located in Israel. A principal shareholder of D.N.R. Inc. is the brother-in-law of the President of the Company's International Division. The Company's sales to D.N.R. Inc. for the years ended July 31, 1998, 1997 and 1996 were approximately $491,000, $313,000 and $389,000, respectively.
The Company holds a contract receivable, due in January 2012, from Agora Holding Company ("Agora"), a partnership consisting of Andrew M. Pinkowski and certain previous shareholders of Hall in the amount of $850,000 and $878,000, as at July 31, 1998 and 1997, respectively. Interest income earned by the Company on this contract was $78,000, $80,000 and $85,000 for the years ended July 31, 1998, 1997 and 1996, respectively. The Company leases its manufacturing and administration facility in Portland, Oregon from Agora. Rent expense incurred by the Company for this property was $169,000, $163,000 and $161,000 for the years ended July 31, 1998, 1997 and 1996, respectively. The above sales and rentals were made on terms no less favorable to the Company than could be obtained from non-related parties.
PART IV
Item 14
Item 14 Exhibits, Financial Statement Schedules and Reports on Form 8-K
(A) Documents Included as Part of This Report
(1) Financial Statements
See "Item 8. Financial Statements and Supplementary Data"
(2) Financial Statement Schedules
Schedule II - Valuation and Qualifying Accounts (Page S-1)
All other schedules have been omitted because they are not required, are inapplicable, or the information is otherwise set forth in the Financial Statements or Notes thereto.
(3) Exhibits
Exhibit Number Description of Exhibit ------ ----------------------
3.1 Amended Certificate of Incorporation of IVC Industries, Inc. (2)
3.2 Amended and Restated By-laws of IVC Industries, Inc. (2)
4.1 Common Stock Specimen (3)
4.2 Warrant Specimen (3)
4.3 Warrant Agreement (3)
4.4 Credit Agreement, dated as of April 30, 1996, among IVC Industries, Inc., the Bank's party thereto and The Chase Manhattan Bank (National Association), as Agent (2)
4.5 Guaranty, dated as of April 30, 1996, by the Guarantor (2)
4.6 Guaranty Reimbursement Agreement, dated as of April 30, 1996, by IVC Industries, Inc., International Vitamin Overseas Sales Corp. and Hall Laboratories, Ltd., in favor of the Guarantor (2)
4.7 Letter of Credit Reimbursement Agreement, dated as of April 30, 1996, by and between IVC Industries, Inc., International Vitamin Overseas Sales Corp. and The Chase Manhattan Bank (National Association) (2)
4.8 Subordination and Intercreditor Agreement, dated as of April 30, 1996, by the Guarantor, The Chase Manhattan Bank (National Association), IVC Industries, Inc., International Vitamin Overseas Sales Corp. and Hall Laboratories, Ltd. (2)
4.9 Security Agreement, dated as of April 30, 1996, by IVC Industries, Inc., in favor of the Guarantor (2)
4.10 Security Agreement, dated as of April 30, 1996, by International Vitamin Overseas Sales Corp., in favor of the Guarantor (2)
4.11 Security Agreement, dated as of April 30, 1996, by Hall Laboratories, Ltd., in favor of the Guarantor (2)
4.12 Trademark Collateral Assignment Agreement, dated as of April 30, 1996, by IVC Industries, Inc. (2)
4.13 Guaranty and Security Agreement, dated as of May 10, 1996, by IVC Industries, Inc., in favor of the Guarantor (5)
4.14 Guaranty and Security Agreement, dated as of May 10, 1996, by International Vitamin Overseas Sales Corp., in favor of the Guarantor (5)
4.15 Guaranty and Security Agreement, dated as of May 10, 1996, by Hall Laboratories, Ltd., in favor of the Guarantor (5)
4.16 Trademark Collateral Assignment Agreement, dated as of May 10, 1996, by IVC Industries, Inc. (5)
4.17 Term Loan Agreement, dated as of May 1, 1998, among IVC Industries, Inc., the Banks party thereto, and The Chase Manhattan Bank, as Agent
4.18 Term Guaranty, dated as of May 1, 1998, by the Guarantor*
4.19 Term Guaranty, dated as of May 1, 1998, by Vitamin Specialties Corp., as Guarantor
4.20 Term Security Agreement, dated as of May 1, 1998, by Vitamin Specialties Corp., in favor of The Chase Manhattan Bank as Agent
4.21 Term Guaranty, dated as of May 1, 1998, by International Vitamin Overseas Sales Corp., as Guarantor
4.22 Term Security Agreement, dated as of May 1, 1998, by IVC Industries, Inc., International Vitamin Overseas Sales Corp., and Hall Laboratories, Ltd., in favor of The Chase Manhattan Bank as Agent
4.23 Stock Pledge Agreement, dated as of May 1, 1998, by IVC Industries, Inc. to The Chase Manhattan Bank as Pledgee
4.24 Collateral Assignment of Store Leases, dated as of May 1, 1998, by IVC Industries, Inc., in favor of The Chase Manhattan Bank as Agent
4.25 Collateral Assignment of Store Leases, dated as of May 1, 1998, by Vitamin Specialties Corp., in favor of The Chase Manhattan Bank as Agent
4.26 Term Trademark Collateral Assignment, dated as of May 1, 1998, by IVC Industries, Inc. and Vitamin Specialties Corp., to the Chase Manhattan Bank as Agent
4.27 Assignment of Leases and Rents, dated as of May 1, 1998, by IVC Industries, Inc. to The Chase Manhattan Bank as Agent
4.28 Term Intercreditor Agreement, dated as of May 1, 1998, by and between the Guarantor, the Chase Manhattan Bank as Agent, IVC Industries, Inc., International Vitamin Overseas Sales Corp., Hall Laboratories Ltd., and Vitamin Specialties Corp.*
4.29 Amendment Agreement, dated as of May 1, 1998, among IVC Industries Inc., International Vitamin Overseas Sales Corp., Hall Laboratories, Ltd., Vitamin Specialties Corp., the Banks party to the Revolving Credit Agreement, The Chase Manhattan Bank as Agent, and the Guarantor *
4.30 Revolver Guaranty, dated as of May 1, 1998, by Vitamin Specialties Corp. as Guarantor
4.31 VSC Revolver Security Agreement, dated as of May 1, 1998, by Vitamin Specialties Corp., in favor of The Chase Manhattan Bank as Agent
4.32 Security Agreement, dated as of May 1, 1998, by Vitamin Specialties Corp., in favor of the Guarantor *
4.33 Stock Purchase Warrant, dated as of May 1, 1998, by IVC Industries, Inc. *
4.34 Registration Rights Agreement, dated as of May 1, 1998, by and between IVC Industries, Inc. and the Guarantor *
10.1 Registration Rights Agreement (4)
10.2 Registration Rights Agreement, dated April 30, 1996, among IVC Industries, Inc., Andrew M. Pinkowski, Rita Pinkowski, Vicki Welsh Jones, The Amelia Welsh Jones Trust, under a Trust Agreement dated June 4, 1993, Lawrence A. Newman, Duane
Baxter, Peter W. Schreiber, John H. Dettra, Jr. And Larry Corbridge (2)
10.3 Agreement, dated as of June 2, 1998, by and between IVC Industries, Inc. and The Navesink Group
10.4 Lease Agreement between The Navesink Group and IVC Industries, Inc.
10.5 International Vitamin Corporation 1993 Stock Option Plan (3)
10.6 International Vitamin Corporation 1995 Stock Option Plan (1)
10.7 Non-Employee Directors' Stock Option Plan (6)
10.8 Amendment to Employment Agreement with E. Joseph Edell
10.9 Amendment to Employment Agreement with I. Alan Hirschfeld
10.10 Amendment to Employment Agreement with Andrew M. Pinkowski
10.11 Employment Agreement with E. Joseph Edell (4)
10.12 Employment Agreement with Arthur S. Edell (3)
10.13 Employment Agreement with Andrew M. Pinkowski (2)
10.14 Employment Agreement with I. Alan Hirschfeld (4)
10.15 Loan and Security Agreement with NatWest Bank, N.A. (4)
10.16 Severance Agreement with Arthur S. Edell
11 Earnings Per Share Computation (Page E-1)
(1) Incorporated herein by reference from the Company's Proxy Statement and Annual Report to Shareholders, dated March 5, 1996.
(2) Incorporated herein by reference from the Form 8-K filed on May 14, 1996.
(3) Incorporated herein by reference from the Registration Statement number 33-73406 filed by the Company on Form SB-2.
(4) Incorporated herein by reference from Form 10-QSB filed by the Company for the quarterly period ended April 30, 1995.
(5) Incorporated herein by reference from Amendment 2 to the Form 8-K filed on May 14, 1996, which was filed on August 9, 1996.
(6) Incorporated herein by reference from the Company's Proxy Statement for Annual Meeting of Shareholders, filed on March 26, 1998.
* Confidential Information indicated by X's has been omitted and filed separately with the Securities and Exchange Commission.
(B) Reports on Form 8-K
None.
SIGNATURES
In accordance with Sections 13 and 15 (d) of the Exchange Act, the Registrant caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
IVC INDUSTRIES, INC.
Date: October 29, 1998 By: /s/ E. Joseph Edell --------------------------- E. Joseph Edell Chairman of the Board and Chief Executive Officer
In accordance with the Exchange Act, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Signature Title Date --------- ----- ----
/s/ E. Joseph Edell Chairman of the Board of - -------------------------- Directors and Chief ----------- E. Joseph Edell Executive Officer
/s/ Andrew M. Pinkowski Vice Chairman and Director - -------------------------- ----------- Andrew M. Pinkowski
/s/ I. Alan Hirschfeld Executive Vice President, - -------------------------- Chief Financial Officer ----------- I. Alan Hirschfeld and Director
/s/ Domenic N. Golato Chief Accounting Officer and - -------------------------- Acting Chief Financial Officer ----------- Domenic N. Golato
/s/ Arthur S. Edell Director - -------------------------- ----------- Arthur S. Edell
/s/ Dennis E. Groat Director - -------------------------- ----------- Dennis E. Groat
/s/ David Popofsky Director - -------------------------- ----------- David Popofsky
/s/ Dr. Mark S. Gold Director - -------------------------- ----------- Dr. Mark S. Gold
/s/ Marc Z. Edell Director - -------------------------- ----------- Marc Z. Edell
/s/ Mac Allen Culver III Director - -------------------------- ----------- Mac Allen Culver III
INDEPENDENT AUDITORS' REPORT
Board of Directors and Shareholders IVC Industries, Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheets of IVC Industries, Inc. and Subsidiaries as of July 31, 1998 and 1997, and the related consolidated statements of operations, shareholders' equity and cash flows for each of the years ended July 31, 1998, 1997 and 1996. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also included assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed below.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of IVC Industries, Inc. and subsidiaries at July 31, 1998 and 1997, and the results of their operations and their cash flows for each of the three years in the period ended July 31, 1998 in conformity with generally accepted accounting principles.
In connection with our audits of the financial statements referred to above, we audited the financial schedule listed under Item 14. In our opinion, the financial schedule, when considered in relation to the financial statements taken as a whole, present fairly, in all material respects, the information stated therein.
As discussed in Note 17 of the financial statements, the Company was in default of certain financial covenants with respect to its loan agreements with a bank. Therefore, all debt associated with these loan agreements are classified on the balance sheet as current.
AMPER POLITZINER & MATTIA P.A.
October 28, 1998 Edison, New Jersey
IVC INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS AS AT JULY 31, 1998 AND 1997 (Dollars in Thousands, Except as Noted or Per Share Information)
See notes to consolidated financial statemets.
IVC INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996 (Dollars in Thousands, Except as Noted or Per Share Information)
See notes to consolidated financial statemets.
IVC INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996 (Dollars in Thousands, Except as Noted or Per Share Information)
See notes to consolidated financial statemets.
Non Cash Financing Activities
During the year ended July 31, 1998, the Company entered into a capital lease obligation for building in the amount of $3,451.
See notes to consolidated financial statemets.
IVC INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY For the Years Ended July 31, 1998, 1997 and 1996 (Dollars in Thousands, Except as Noted or Per Share Information)
See notes to consolidated financial statemets.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 1 - Summary of Significant Accounting Policies:
Organization
IVC Industries, Inc. ("the Company") is engaged in a single business segment - manufacturing, packaging and worldwide sales and distribution of vitamins and nutritional supplements through drug stores, supermarkets and mass merchandising chains, health food and independent drug stores, as well as sales through its own retail stores and mail order operation. Its products are distributed under the Fields of Nature, LiquaFil, Rybutol, Nature's Wonder, American Vitamin(R), Synergy Plus, Nature's Blend, Pine Bros. and Vitamin Specialties brands, as well as under the private labels of its retail chain store customers. Domestic sales approximate 96% of total sales.
Principles of Consolidation
The accompanying financial statements include the accounts of the Company and its wholly owned subsidiaries, Hall Laboratories Ltd. and Vitamin Specialties Corp. Financial data for all periods presented reflect the retroactive effects of the business combinations with Hall Laboratories, Inc. ("Hall") on April 30, 1996 accounted for as pooling of interests. The financial data also reflects the operations of Vitamin Specialties since the date of acquisition, June 13, 1997, accounted for as a purchase (see "Business Combinations"). All material intercompany transactions and balances have been eliminated.
Foreign Currency Translation
Assets and liabilities of the subsidiary operating in Canada are translated into U.S. dollars using the exchange rates in effect at the balance sheet date. Results of operations are translated using the average exchange rates prevailing throughout the period. The effects of exchange rate fluctuations on translating foreign currency assets and liabilities into U.S. dollars are included in stockholders' equity.
Use of Estimates
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Cash and Cash Equivalents
The Company considers all highly liquid debt instruments purchased with a maturity of three months or less to be cash equivalents. Cash and cash equivalents includes restricted cash of $461 and $471 in 1998 and 1997, respectively, representing deposits held by trustees in connection with payments for the current portion and interest on long-term debt.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 1 - Summary of Significant Accounting Policies - (continued):
Accounts Receivable
Accounts receivable are stated at their net values. Included in net accounts receivable is an allowance for doubtful accounts. At July 31, 1998 and 1997 the allowance for doubtful accounts was $1,108 and $831, respectively.
Fair Values of Financial Instruments
Fair values of cash and cash equivalents, accounts receivable, accounts payable, short-term borrowings and the current portion of long-term debt approximate cost due to the short period of time to maturity. Fair values of long-term debt, which have been determined based on borrowing rates currently available to the Company for loans with similar terms or maturity, approximate the carrying amounts in the consolidated financial statements.
Inventories
Inventories are stated at the lower of cost or market. The cost of the material component of inventories is determined on the LIFO (last-in, first-out) method, which is equal to the FIFO (first-in, first-out) method. The labor and overhead components of inventories are determined on the FIFO method.
Property, Plant and Equipment
Property, Plant and equipment is stated at cost, less accumulated depreciation. Depreciation is provided on accelerated and straight-line methods over the estimated useful lives of the respective assets. Maintenance and repairs are charged to expense as incurred; major renewals and betterments are capitalized. When property and equipment is sold or retired, the related cost and accumulated depreciation are removed from the accounts and any gain or loss is included in the results of operations.
Goodwill
Goodwill represents the excess of purchase price over the fair value of identifiable net assets acquired. Goodwill was amortized on a straight-line basis over 15 years. Commencing August 1, 1998 the remaining goodwill will be amortized over 10 years on a straight-line basis.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 1 - Summary of Significant Accounting Policies - (continued):
Other Assets
Other assets include trademarks, security deposits, a covenant not to compete and deferred financing costs. The covenant not to compete is being amortized over the period of expected benefit, and the deferred financing costs are being amortized over the life of the related financing agreements. Also included in other assets are the costs associated with acquiring long-term sales agreements with certain customers, which are being charged to operations over the terms of the individual agreements.
Impairment
Certain long-term assets of the Company including goodwill are reviewed at least annually as to whether their carrying value has become impaired, pursuant to guidance established in Statement of Financial Accounting Standards ("SFAS") No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets To Be Disposed Of." Management considers assets to be impaired if the carrying value exceeds the future projected cash flows from related operations (undiscounted and without interest charges). If impairment is deemed to exist, the assets will be written down to fair value or projected discounted cash flows from related operations. Management also re-evaluates the periods of amortization to determine whether subsequent events and circumstances warrant revised estimates of useful lives. As of July 31, 1998, management expects these assets to be fully recoverable.
Revenue Recognition
The Company recognizes revenue from product sales at the time of shipment, which is recorded net of estimated sales returns, discounts and allowances.
Stock-Based Compensation
FASB Statement No. 123 ("SFAS 123"), "Accounting for Stock-Based Compensation", establishes a fair value based method of accounting for stock-based compensation plans and requires additional disclosures for those companies who elect not to adopt the new method of accounting, as permitted by SFAS 123. The Company will continue to account for employee purchase rights and stock options under APB Option No. 25, "Accounting for Stock Issued to Employees". SFAS No. 123 disclosures are effective in the accompanying financial statements.
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB 25) and related interpretations provides for compensation costs to be measured as the amount by which the market price of the underlying stock exceeds the exercise price of the stock option at the date at which both the number of options granted and the exercise price are known.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 1 - Summary of Significant Accounting Policies - (continued):
Income Taxes
The Company uses the liability method of accounting for income taxes. The liability method measures deferred income taxes by applying enacted statutory rates in effect at the balance sheet date to the differences between the tax bases of assets and liabilities and their reported amounts in the financial statements. The resulting deferred tax asset or liability is adjusted to reflect changes in tax laws as they occur.
Net Income Per Share
The Company retroactively adopted SFAS No. 128, "Earnings Per Share", during the fiscal year ended July 31, 1998. SFAS No. 128 changed the computation, presentation and disclosure requirements for earnings per share. SFAS requires presentation of "basic" and "diluted" earnings per share. The adoption of SFAS No. 128 did not have a material impact on the Company's net income per share.
Net income per share on common stock is computed on the basis of the weighted average number of common and common equivalent shares outstanding during each year. It is assumed that all dilutive stock options are exercised at the beginning of each year (or at the time of issuance, if later) and that the proceeds are used to purchase shares of the Company's common stock at the average market price during the year.
Concentration of Cash Balances
Periodically, the Company maintains cash balances in excess of the $100 insured by the Federal Deposit Insurance Corporation (FDIC).
Impact of Recently Issued Accounting Standards
In March 1997, the FASB issued SFAS No. 129, "Disclosure of Information About Capital Structure." Statement 129 continues the existing requirements to disclose the pertinent rights and privileges of all securities other than ordinary common stock but expands the number of companies subject to portions of its requirements. Specifically, the Statement requires all entities to provide the capital structure disclosures previously required by Accounting Principles Board Option 15. Companies that were exempt from the provisions of Opinion 15 will now need to make those disclosures. The Company has adopted SFAS 129 for the year ending July 31, 1998.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 1 - Summary of Significant Accounting Policies - (continued):
In July 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income", which establishes standards for reporting and display of comprehensive income, its components and accumulated balances. Comprehensive income is defined to include all changes in equity except those resulting from investments by owners and distribution to owners. Among other disclosures, SFAS No. 130 requires that all items that are required to be recognized under current accounting standards as components of comprehensive income be reported in a financial statement that is displayed with the same prominence as other financial statements.
In July 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information", which supersedes SFAS No. 14, "Financial Reporting for Segments of a Business Enterprise", which establishes standards for the way that public enterprises report information about operating segments in annual financial statements and requires reporting of selected information about operating segments in interim financial statements issued to the public. It also establishes standards for disclosures regarding products and services, geographic areas and major customers. SFAS No. 131 defines operating segments as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance.
The above new standards, SFAS Nos. 130 and 131, are effective for financial statements for periods beginning after December 15, 1997 and require comparative information for earlier years to be restated. Due to the recent issuance of these standards, management has been unable to fully evaluate the impact, if any, they may have on future financial statement disclosures.
In February 1998, the FASB issued SFAS No. 132, "Employers Disclosures about Pensions and Other Postretirement Benefits". Statement No. 132 modifies the disclosure requirements for pensions and other postretirement benefits, but does not change the measurement or recognition of those plans. The Company will adopt SFAS 132 for the year ended July 31, 1999. Adoption of this statement is not anticipated to have a material effect on the Company's financial position or results of operations.
In March 1998, the American Institute of Certified Public Accountants ("AICPA") issued Statement of Position ("SOP") No. 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use". SOP No. 98-1 establishes standards for recording the costs of software for internal use. SOP No. 98-1 indicates that certain costs incurred in the development of software designated for internal use should be capitalized. All other associated costs should be expensed. The Company will adopt SOP 98-1 in the fiscal year ending July 31, 1999. Adoption of this statement is not anticipated to have a material effect on the Company's financial position or results of operations.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 1 - Summary of Significant Accounting Policies - (continued):
In April 1998, The AICPA issued SOP No. 98-5, "Reporting on the Costs of Start-Up Activities". SOP 98-5 requires the costs of start-up activities and organization costs to be expensed as incurred. It defines start-up activities as one-time activities related to opening a new facility, introducing a new product or service, conducting business in a new territory, conducting business with a new class of customer, indicating a new process in an existing facility, or commencing a new operation. The Company will adopt SOP 98-5 in the fiscal year ending July 31, 1999. Adoption of this statement is not anticipated to have a material effect on the Company's financial position or results of operations.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities". Statement No. 133 establishes accounting and reporting standards for derivative instruments and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities and measure them at fair value. Under certain circumstances, the gains or losses from derivatives may be offset against those from the items the derivatives hedge against. The Company will adopt SFAS No. 133 in the fiscal year ending July 31, 1999.
Reclassifications
Certain reclassifications have been made to conform prior year amounts to the current year presentation.
Advertising Costs
Advertising costs are expensed as incurred. Such expense for the years ended July 31, 1998, 1997 and 1996 were $4.8, $5.6 and $5.2 million, respectively.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 2 - Business Combinations:
Vitamin Specialties
On June 13, 1997, the Company acquired the assets of the Vitamin Specialties operations of HealthRite, Inc. for $2.8 million. Vitamin Specialties is engaged, among other things, in the retail sales through 16 health food/vitamin stores and by mail order of vitamins and nutritional supplements. The acquisition was accounted for as a purchase and accordingly, goodwill of $1.9 million was recorded on the books of the Company. The operations of Vitamin Specialties are included in the financial statements since the date of acquisition.
Operating results of the Vitamin Specialties operations since the date of acquisition are not considered material with regard to the fiscal year ended July 31, 1997.
Hall Laboratories, Inc.
On April 30, 1996, Hall, an Oregon corporation engaged in the manufacturing, packaging, sales and distribution of vitamins and nutritional supplements primarily on West Coast, was merged into the Company. Pursuant to the merger agreement executed in connection therewith, all of the outstanding equity shares of Hall, including Hall's Stock Appreciation Rights (SAR), were exchanged for 3,821,363 shares of the Company Common Stock. The accompanying consolidated financial statements for the periods prior to this transaction have been restated to present the combined financial position and operating results of the Company and Hall. Prior to the Hall merger, Hall had a fiscal year end of January 31 for financial reporting purposes. In the accompanying consolidated financial statements, information as it relates to Hall has been recast to conform to the Company's historical reporting periods.
Operating results of the separate entities for the periods presented below are as follows:
Nine Months Ended April 30, 1996 -------------- (unaudited) Net revenues: IVC Industries, Inc. $ 42,252 Hall Laboratories, Inc. 34,628 ------------ Combined $ 76,880 ============
Net income (loss): IVC Industries, Inc. $ (141) Hall Laboratories, Inc. 205 ------------ Combined $ 64 ============
In connection with the Hall merger, the Company recognized merger and integration costs representing transaction expenses, compensation paid to certain Hall employees who held SARs and projected costs of integrating the business operations of the Companies.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 3 - Inventories:
July 31, -------- 1998 1997 ---- ----
Finished goods $15,129 $16,697
Bulk and Work in Process 14,180 9,155
Raw materials and Packaging Components 8,080 5,333 ------- -------
Total inventory $37,389 $31,185 ======= =======
The LIFO reserves at July 31, 1998 and 1997, were $0.
Note 4 - Property, Plant and Equipment:
July 31, -------- 1998 1997 ---- ----
Land $ 1,451 $ 1,644
Buildings and improvements 6,951 7,451
Capital lease building 3,451 --
Machinery and equipment 19,262 17,717
Leasehold improvements 721 630
Furniture and fixtures 2,813 2,310 ------- ------- 34,649 29,752
Accumulated depreciation and amortization 13,883 11,753 ------- -------
Net property, plant and equipment $20,766 $17,999 ======= =======
In July 1998, the Company entered into a sales-leaseback transaction at its 569 Halls Mill Road, Freehold, NJ location. The Company realized a total gain of approximately $1,900. In the transaction, the Company sold a warehouse/distribution center and undeveloped land, and subsequently, the Company entered into a ten-year lease agreement for the warehouse/distribution center (see Note 13), which was recorded as a capitalized lease. A deferred gain of approximately $1,200 was attributed to the warehouse/distribution center and will be recognized ratably over the life of the lease agreement. The gain of $683, attributable to the undeveloped land, was recognized and is reflected in other expenses, net.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 5 - Accrued Expenses:
July 31, ------------------ 1998 1997 ---- ----
Accrued payroll and related $ 725 $ 870 Accrued interest 462 238 Income taxes payable 205 821 Accrued merger costs -- 450 Accrued brokerage 214 230 Accrued advertising 207 207 Other 1,190 832 ------- -------
Accrued Expenses $ 3,003 $ 3,648 ======= =======
Note 6 - Long-Term Debt:
Long-term debt consists of the following:
July 31, ----------------- 1998 1997 ---- ----
Notes payable to bank, under a $21.5 million revolving line of credit, due March 31, 1999 (can be extended to August 31, 1999) (See Note 17) $18,950 $21,475
Term loan payable to bank, due March 31, 1999 (can be extended to August 31, 1999) (See Note 17) 2,250 --
Bonds payable, New Jersey Economic Development Authority, interest at the floating tax-free rate (3.45% at July 31, 1998), due May 1, 2003 3,560 4,280
Bonds payable, New Jersey Economic Development Authority, interest at 6.9%, due June 30, 2007 4,250 4,625
Term note payable to bank. Paid in Full -- 1,450
Equipment financing agreement, due June 30, 2002, interest at 8.25% - 8.50% 775 869
Other 235 165 ------- -------
Total 30,020 32,864
Less current portion 22,749 1,434 ------- -------
Long-Term Debt - Less current portion $ 7,271 $31,430 ======= =======
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 6 - Long-Term Debt - (Continued):
Notes Payable to Bank
On April 30, 1996, the Company entered into a credit agreement with a bank, which expires on March 31, 1999. The agreement can be extended under certain circumstances through August 31, 1999. The Company is allowed to borrow up to $15.0 million under borrowing Facility A, and $6.5 million under borrowing Facility B, subject to certain borrowing base limitations, as defined. Borrowings under Facility A bear interest at either the bank's prime rate plus .50%, or at money market rates or applicable LIBOR rates plus 2.25% (7.92% at July 31, 1998, based on 90 day LIBOR), at the Company's option. Borrowings under Facility B bear interest at the bank's prime rate, or at money market rates or applicable LIBOR rates plus .50% (6.13% at July 31, 1998, based on 120 day LIBOR) at the Company's option. The agreement includes a commitment fee of .375% of the average daily unused portion of the overall borrowing commitment amount relative to Facility A, and .25% relative to Facility B. The amount of borrowings allowable under Facility B are subject to semi-annual adjustments based upon purchases from a vendor during the preceding twelve months. The notes are collateralized by substantially all of the Company's assets. The agreement with the bank requires the Company to maintain certain financial ratios, minimum working capital and contains various restrictions customary in such a financial arrangement, including limitations on capital expenditures and payment of cash dividends as of July 31, 1998. (See Note 17).
Term Loan Payable to Bank
On May 1, 1998, the Company entered into a term loan agreement with a bank, which expires on March 31, 1999. The agreement can be extended under certain circumstances through August 31, 1999. The Company borrowed $3.5 million under this agreement. The borrowings under this facility bear interest at the bank's prime rate, or at money market rates, or applicable LIBOR rates plus .50% (6.19% at July 31, 1998, based on 90 day LIBOR), at the Company's option. The loan is collateralized by substantially all of the Company's assets. The agreement with the bank requires prepayments of $500 on the 15th day of the last month of each calendar quarter. The Company is required to maintain certain financial ratios and tangible net worth, and the agreement contains various restrictions customary in such a financial agreement, including limitations on capital expenditures as of July 31, 1998. (See Note 17).
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 6 - Long-Term Debt - (Continued):
Bonds Payable
On October 5, 1995 the Company retired its $5.0 million term loan with a bank by utilizing the proceeds of a New Jersey Economic Development Authority tax exempt bond issue of the same amount. Interest on these bonds is payable based upon the weekly tax-free floating rate. The bonds called for interest only through May 1996. Thereafter, the bonds require aggregate annual principal payments of $720, (payable monthly), through May 2002, and a final payment of $680 in May 2003. In connection with this bond issue, the Company is required to maintain a letter of credit from a bank in an amount equal to the outstanding principal balance. The fee for this letter of credit is 1% per annum.
The bonds payable to the New Jersey Economic Development Authority of $4,250 are collateralized by the Company's real property in Freehold, New Jersey. Interest is paid semi-annually on June 1 and December 1 of each year. Annual principal payments are due December 1 of each year and vary from $100 to $525 during the term of the mortgage through June 30, 2007. The Company is required to make monthly escrow payments to a trustee for principal and interest. The Company maintains a letter of credit in an amount equal to the outstanding mortgage principal. The fee on this letter of credit is .75% per annum of the outstanding principal balance. The mortgage agreement contains certain restrictions including limitation of dividends based upon a formula.
Term Note Payable to Bank
The term note payable to bank was secured by a mortgage on the Company's warehousing and distribution facility. This loan was paid in full in July 1998 when the Company completed a sale/leaseback transaction for the warehouse and distribution facility.
Equipment Financing Agreement
The equipment financing agreement with a bank provides for up to $1.0 million for acquisitions of computer and manufacturing equipment. This agreement calls for monthly payments of principal and interest at prime rate over a five-year period. At July 31, 1998, the Company had $225 available for future equipment purchases.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 6 - Long-Term Debt - (Continued):
Other
On April 9, 1998, the Company established an operating line of credit with a Canadian bank for its Canadian subsidiary in the amount of CDN $800. The Company agreed to guaranty payment to the bank, limited to US $500 plus interest and expenses. Borrowings under the facility bear interest at the Canadian Prime Rate plus .75% per year (7.25% at July 31, 1998). The debt is collateralized by the personal property of the Canadian business. The Canadian company is required to maintain certain financial ratios, and there is a limitation on capital expenditures. As of July 31, 1998, the outstanding balance was $155.
The aggregate amount of long-term debt maturing in each of the five years subsequent to July 31, 1998 and thereafter is as follows:
1999 $ 22,749 2000 1,356 2001 1,399 2002 1,335 2003 1,207 Thereafter 1,974 --------
Total $ 30,020 ========
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 7 - Income Taxes:
The income tax provision (benefit) consisted of the following for the periods ended:
July 31, ------------------------------ 1998 1997 1996 ---- ---- ----
Current tax expense: Federal $ 356 $ 1,273 $ 839 State 63 359 134 Foreign 191 127 131 ------- ------- ------- 610 1,759 1,104 ------- ------- -------
Deferred tax expense (benefit): Federal 3 (287) (483) State 152 (34) (159) Foreign -- -- -- ------- ------- ------- 155 (321) (642) ------- ------- -------
Other -- -- (36) ------- ------- -------
Income Tax Provision $ 765 $ 1,438 $ 426 ======= ======= =======
The differences between the provision for income taxes and income taxes computed using the federal income tax rate were as follows for the periods ended:
July 31, ------------------------
1998 1997 1996 ---- ---- ----
Amount computed using statutory rate $ 650 $ 975 $ 244 State taxes provision, net of federal benefit 42 250 88 Effect of foreign income not subject to federal income tax 28 -- -- Nondeductible costs 45 213 94 ------ ------ ------
Income Tax Provision $ 765 $1,438 $ 426 ====== ====== ======
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 7 - Income Taxes - (continued):
Deferred tax attributes resulting from differences between financial accounting amounts and tax basis of assets and liabilities at July 31, 1998 and 1997 are as follows:
July 31, ------------------ 1998 1997 ---- ----
Current assets and liabilities Allowance for doubtful accounts $ 535 $ 804 Inventory valuation (IRC 263A) 671 390 Accrued expenses 204 147 Accrued merger costs -- 239 Net operating loss carryforward 17 22 Inventory valuation allowance 811 751 ------- ------- 2,238 2,353 Valuation allowance -- -- ------- ------- Net current deferred tax asset $ 2,238 $ 2,353 ======= =======
Non-current assets and liabilities Deferred gain on sale of land $ 468 $ -- Installment contract (222) (232) Property and equipment (538) (42) Other 81 87 Net operating loss carryforward -- 17 ------- ------- (211) (170) Valuation allowance -- -- ------- ------- Net non-current deferred tax (liability) $ (211) $ (170) ======= =======
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 8 - Other Expenses, Net:
July 31, --------------------------------
1998 1997 1996 ---- ---- ----
Interest expense $ 2,555 $ 2,386 $ 1,579
Rental income (220) (332) (203)
Interest income (209) (190) (227)
Gain on sale of land (683) -- --
Gain on sale of contract manufacturing division -- -- (225)
Other 129 (225) (106) ------- ------- -------
Other expenses, net $ 1,572 $ 1,639 $ 818 ======= ======= =======
Interest expense for the years ended July 31, 1998 and 1996, excludes capitalized interest of approximately $75 relating to the renovation program at the Freehold facility and approximately $231 relating to the construction of the soft gel encapsulation facility, respectively.
Note 9 - Shareholders' Equity:
In July 1995, the Board of Directors adopted the 1995 Stock Option Plan (the "1995 Option Plan") pursuant to which 1,000,000 shares of IVC common stock were reserved for issuance to key employees of the Company. The Company's shareholders approved the 1995 Option Plan at the Annual meeting on March 15, 1996. Its terms are substantially the same as those of the 1993 Stock Option Plan. In April 1998, the stockholders approved an increase in the number of shares subject to the plan to 2,000,000 shares.
In April 1998, the shareholders approved the Non-Employee Directors' Stock Option Plan, pursuant to which 500,000 shares of IVC common stock were reserved for issuance. The plan provides for grants, as of September 1 of each year, of options to purchase 10,000 shares of IVC common stock, to each of IVC's non-employee directors. The plan terminates on March 16, 2008.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 10 - Stock Option Plans:
The Company has options outstanding under three plans. Under the "1993 Option Plan", the "1995 Option Plan", and the "Non-Employee Directors' Stock Option Plan", options may be granted for 500,000, 2,000,000 and 500,000 shares, respectively. The term of each option may not exceed ten years from the date of the grant (five years for options granted to employees owning more than 10% of the Company's voting stock).
A summary of the Company's stock option activity and related information for the years ended July 31, follows:
The weighted average fair value of options granted at fair market value was $1.12, $.91 and $1.52 where the exercise price equals stock price during the fiscal years ended July 31, 1998, 1997 and 1996, respectively, and $1.05 where the exercise price exceeded the stock price during fiscal year ended July 31, 1997.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 10 - Stock Option Plans - (Continued):
The table below summarizes information relating to options outstanding and exercisable at July 31, 1998:
The fair value of options granted in the years ended July 31, 1998, 1997 and 1996 is estimated on the date the options are granted based on the Black-Scholes option-pricing model. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options, which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options.
The following weighted-average assumptions were used:
Year Ended July 31, -------- 1998 1997 1996 ---- ---- ---- Risk-free interest rate 6.3% 6.6% 6.3% Expected volatility 52.4% 54.6% 42.1% Dividend yield 0% 0% 0% Expected life 5 years 5 years 5 years
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 10 - Stock Option Plans - (Continued):
The Company accounts for the costs of stock-based compensation in accordance with Accounting Principle Board Opinion No. 25, "Accounting for Stock Issued to Employees", rather than the fair value-based method in Statement of Financial Accounting Standards No. 123 (SFAS 123), "Accounting for Stock-Based Compensation". No compensation cost has been recognized for the Company's stock option plans. Had compensation cost been determined based on the fair values of the stock options at the date of grant in accordance with SFAS 123, the Company would have recognized additional compensation expense, net of taxes, of $121, $83 and $121 for the years ended July 31, 1998, 1997 and 1996, respectively. The Company's pro-forma net income and pro-forma net income per share for the years ended July 31, 1998, 1997 and 1996 would have been as follows:
Year Ended July 31, -------- 1998 1997 1996 ---- ---- ---- Net income: ------------------------------------------------------------------- As reported $ 1,147 $ 1,346 $ 296
Pro-forma 1,026 1,263 175
Net income per share - Diluted: ------------------------------------------------------------------- As reported $ 0.07 $ 0.08 $ 0.02
Pro-forma 0.06 0.08 0.01
Since compensation expense associated with option grants is recognized over the vesting period, the initial impact of applying SFAS No. 123 on pro-forma disclosure is not representative of the potential impact on net income for future years, when the effect of the recognition of a portion of compensation expense from vesting of prior awards would be reflected.
Note 11 - Employee Benefit Plan:
Effective April 1, 1997, the Company adopted a Defined Contribution Savings Plan ("the Plan") which qualifies under Section 401 (k) of the Internal Revenue Code. Under the Plan, the Company matches the employee's contributions up to a maximum of $.5 per year. For the fiscal year ended July 31, 1998, the Company contributed $173 to the plan. For the fiscal year ended July 31, 1997, the Company contributed $117 to the plan, including fifty shares of its common stock to each employee at the Plan's inception.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 12 - Related Party Transactions:
The Company has advanced funds to certain shareholders. Interest charged is 5% per annum. The amounts due at July 31, 1998 and July 31, 1997 of $520 and $475, respectively, is payable by July 2000. Interest income earned on receivables from shareholders was approximately $42 and $29 for the years ended July 31, 1998 and 1997, respectively.
The Company has advanced funds to certain employees. Interest charged is 8%. The amounts due at July 31, 1998 and 1997 were $531 and $568, respectively. The amounts are payable by January 2000, and are collateralized by holdings in the Company. If the Company share price is below a stated amount the loan will be extended to April 2002.
Interest on a loan payable to a shareholder aggregated approximately $7 and $11 for the years ended July 31, 1998 and 1997, respectively.
The Company advanced funds and sells products to Healthfair Vitamin Centers, Inc., a company wholly owned by Arthur and Ethel Edell. Sales to this affiliate were $104, $169 and $154 for the years ended July 31, 1998, 1997 and 1996, respectively. The amount due from this affiliate including accounts receivable and advances, was $4, $4 and $6 at July 31, 1998, 1997 and 1996, respectively.
The Company sells products to D.N.R. Inc., an Israeli company of which one of its principal shareholders is the brother-in-law of the President of the Company's International Division. These sales aggregated $491, $313 and $389 for the years ended July 31, 1998, 1997 and 1996, respectively. Accounts receivable from these related parties aggregated $37, $102 and $274 at July 31, 1998, 1997 and 1996, respectively.
The Company holds a contract receivable from Agora Holding Company ("Agora"), a partnership consisting of Andrew M. Pinkowski and certain previous shareholders of Hall. The amount due from Agora was $850 and $878 at July 31, 1998 and 1997, respectively. The contract receivable requires a monthly payment of $9, which includes interest and principal through its maturity in January 2012. Interest income earned by the Company on this contract was $78, $80 and $85 for the years ended July 31, 1998, 1997 and 1996, respectively. The Company leases its manufacturing and administration facility in Portland, Oregon from Agora. Rent expense incurred by the Company for this property was $169, $163 and $161 for the years ended July 31, 1998, 1997 and 1996, respectively.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 13 - Commitments and Contingencies:
Operating Leases
The Company leases certain production and warehouse facilities, and conducts retail operations under long-term operating leases expiring in fiscal years through 2003. The leases provide that in addition to rent, the Company pay taxes, maintenance, insurance and other related expenses. Rent expense aggregated $1,305, $760 and $640 for the years ended July 31, 1998, 1997 and 1996 , respectively. Future minimum lease payments due under these leases at July 31, 1998 are as follows:
Year Ending July 31, -------- 1999 $ 1,038 2000 693 2001 608 2002 378 2003 125 --------
Total $ 2,842 ========
Capital Leases
In connection with the sale/leaseback transaction, the Company has entered into a capital lease for its warehouse and distribution facility, expiring in July 2008, with aggregate monthly payments of $5,265. The following is a schedule by years of future minimum lease payments under the capital lease, together with the present value of the net minimum lease payments as of July 31, 1998:
Year Ending July 31, -------- 1999 $ 422 2000 455 2001 488 2002 520 2003 520 Thereafter 2,860 --------
Total minimum lease payments $ 5,265 Less amount representing interest (1,814) -------- Present value of net minimum lease payments 3,451 Less current maturities (134) -------- Long-term maturities $ 3,317 ========
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 13 - Commitments and Contingencies - (Continued):
Employment Agreements:
The Company has entered into employment agreements with certain of the Company's officers. The employment agreements provide for salaries aggregating $720 and $257 in fiscal 1999 and 2000, respectively.
Some of the agreements with certain of the Company's officers are for one year and are automatically extended for successive one-year periods unless the Company or these executives give three month's notice that they elect that the term of employment shall not be further extended. In the event notice is given in accordance with the terms of the agreements, each of these executives is entitled to receive a severance payment equal to their annual salary.
Litigation:
In November 1989, the Company halted sales and distribution and initiated a voluntary recall of one of its products, L-tryptophan. In December 1989, the Food and Drug Administration (FDA) determined that there may be an unequivocal epidemiological link between the ingestion of L-tryptophan and a blood disorder known as eosinophilia myalgia syndrome and ordered a nationwide recall. The FDA has been unable to determine the exact cause of the illness and it appears it will be some time before the causative factor and the pathogenesis of the disease can be determined. To date, 38 cases have been filed against the Company, all of which have been settled, with all costs being covered by the raw material supplier. Any possible additional costs cannot be reasonably estimated. However, it is probable that the raw material supplier will continue to cover future L-tryptophan settlements. In the event that the supplier does not cover future settlements, the raw material distributor's insurance coverage, coupled with the indemnification fund established by the raw material supplier and the Company's product liability insurance should satisfy any claims, subject to applicable policy limits.
Standby Letter of Credit:
The Company has two standby letters of credit aggregating $8.7 million related to the New Jersey Economic Development Authority borrowings.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 14 - Major Customers:
The Company sells its products to geographically diverse base of customers, primarily national and regional drug stores, mass merchandiser and supermarket chains. One customer accounted for 36% of net sales in the fiscal year ended July 31, 1998. One customer also accounted for 23% of net sales for the fiscal year ended July 31, 1997.
Note 15 - Unaudited Quarterly Financial Data:
The fourth quarter 1998 gross profit was detrimentally impacted by excess manufacturing labor caused by the unexpected volume decrease in the fourth quarter, as compared to the third quarter. At the balance sheet date, the Company took a physical count of all inventories and adjusted to these counts and valuations.
IVC INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in Thousands, Except as Noted or Per Share Information)
Note 16 - Year 2000
In the past year, IVC Industries, Inc. invested in a complete replacement of its internal management information systems. The Company replaced its information technologies infrastructure with new enterprise servers, personal computers, local area networks and wide area networks.
The Company's "Year 2000" (Y2K) compliant systems have been utilized in half of its facilities since the beginning of January 1998, with the remaining facilities scheduled to be integrated during the first quarter of calendar 1999. The Company's goal is to commence the second calendar quarter of 1999 with fully compliant systems enterprise-wide.
As part of its Year 2000 - Compliance Program, the Company is contacting its vendors for assurance that they will be Y2K compliant.
Satisfactorily addressing the Year 2000 issue is dependent upon many factors, some of which are not within the Company's control. Should the Company's internal systems or the internal systems of one or more significant vendor or supplier fail to achieve Year 2000 compliance, the Company's business and its results of operations could be adversely affected.
Note 17 - Bank Debt
The agreement with the bank requires the Company to maintain certain financial ratios and minimum working capital. At July 31, 1998, the Company was in violation of certain of these covenants, which have been waived by the bank. The Company classified the balance due to the bank as a current liability.
SCHEDULE II
IVC INDUSTRIES, INC. AND SUBSIDIARIES VALUATION AND QUALIFYING ACCOUNTS FOR THE YEARS ENDED JULY 31, 1998 AND 1997 (Dollars in Thousands, Except as Noted or Per Share Information)
S-1