UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2007
Commission file number 000-04217
ACETO CORPORATION
(Exact name of registrant as specified in its charter)
New York 11-1720520
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(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) Number)
One Hollow Lane, Lake Success, NY 11042
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(Address of principal executive offices)
(516) 627-6000
(Registrant's telephone number, including area code)
www.aceto.com
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(Registrant's website address)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the Registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer" and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
Large accelerated filer [ ] Accelerated filer [X] Non-accelerated filer [ ]
Indicate by check mark whether the Registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
The Registrant has 24,324,812 shares of common stock outstanding as of May 3,
2007.
ACETO CORPORATION AND SUBSIDIARIES
QUARTERLY REPORT FOR THE PERIOD ENDED MARCH 31, 2007
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets - March 31, 2007 (unaudited) and
June 30, 2006
Consolidated Statements of Income - Nine Months
Ended March 31, 2007 and 2006 (unaudited)
Consolidated Statements of Income - Three Months
Ended March 31, 2007 and 2006 (unaudited)
Consolidated Statements of Cash Flows - Nine Months
Ended March 31, 2007 and 2006 (unaudited)
Notes to Consolidated Financial Statements (unaudited)
Report of Independent Registered Public Accounting Firm
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About
Market Risk
Item 4. Controls and Procedures
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 6. Exhibits
Signatures
Exhibits
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
ACETO CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except per-share amounts)
March 31, June 30,
2007 2006
--------- ---------
(unaudited)
ASSETS
Current assets:
Cash in banks $ 31,774 $ 33,732
Investments 6,394 3,309
Trade receivables, less allowance for doubtful
accounts (March $386, June $416) 54,984 50,993
Other receivables 3,502 1,406
Inventory 58,815 47,259
Prepaid expenses and other current assets 1,115 1,011
Deferred income tax benefit, net 3,406 3,396
--------- ---------
Total current assets 159,990 141,106
Long-term notes receivable 474 557
Property and equipment, net 4,426 4,808
Property held for sale 4,531 4,531
Goodwill 1,812 1,755
Intangible assets, net 3,964 3,789
Deferred income tax benefit, net 5,748 7,356
Other assets 3,548 2,690
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TOTAL ASSETS $ 184,493 $ 166,592
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 33,123 $ 24,424
Accrued expenses 12,749 10,612
Note payable - related party 500 500
Deferred income tax liability 863 863
--------- ---------
Total current liabilities 47,235 36,399
Long-term liabilities 6,562 6,379
Environmental remediation liability 5,200 5,200
Deferred income tax liability 3,097 3,329
Minority interest 245 232
--------- ---------
Total liabilities 62,339 51,539
Commitments and contingencies (Note 12)
Shareholders' equity:
Common stock, $.01 par value, 40,000 shares authorized; 25,644 shares
issued; 24,323 and 24,278 shares outstanding at March 31, 2007 and
June 30, 2006, respectively 256 256
Capital in excess of par value 56,794 56,691
Retained earnings 72,647 68,464
Treasury stock, at cost, 1,321 and 1,366 shares at March 31, 2007 and June
30, 2006, respectively (12,765) (13,198)
Accumulated other comprehensive income 5,222 2,840
--------- ---------
Total shareholders' equity 122,154 115,053
--------- ---------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 184,493 $ 166,592
========= =========
See accompanying notes to consolidated financial statements and accountants'
review report.
3
ACETO CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(unaudited and in thousands, except per-share amounts)
Nine Months Ended
March 31,
2007 2006
--------- ---------
Net sales $ 226,290 $ 225,459
Cost of sales 187,961 187,890
--------- ---------
Gross profit 38,329 37,569
Selling, general and administrative expenses 28,733 29,123
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Operating income 9,596 8,446
Other (expense) income:
Interest expense (83) (76)
Interest and other income, net 36 759
--------- ---------
(47) 683
--------- ---------
Income from continuing operations before income taxes 9,549 9,129
Provision for income taxes 3,543 2,830
--------- ---------
Income from continuing operations 6,006 6,299
Loss from discontinued operations, net of income taxes (Note 3) - (27)
--------- ---------
Net income $ 6,006 $ 6,272
========= =========
Basic income per common share:
Income from continuing operations $ 0.25 $ 0.26
Loss from discontinued operations - -
--------- ---------
Net income $ 0.25 $ 0.26
Diluted income per common share:
Income from continuing operations $ 0.24 $ 0.26
Loss from discontinued operations - -
Net income $ 0.24 $ 0.26
Weighted average shares outstanding:
Basic 24,298 24,265
Diluted 24,683 24,586
See accompanying notes to consolidated financial statements and accountants'
review report.
4
ACETO CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(unaudited and in thousands, except per-share amounts)
Three Months Ended
March 31,
2007 2006
-------- --------
Net sales $ 75,879 $ 80,915
Cost of sales 63,003 67,402
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Gross profit 12,876 13,513
Selling, general and administrative expenses 9,489 9,347
-------- --------
Operating income 3,387 4,166
Other (expense) income:
Interest expense (2) (15)
Interest and other (expense) income, net (133) (91)
-------- --------
(135) (106)
-------- --------
Income from continuing operations before income taxes 3,252 4,060
Provision for income taxes 1,452 1,309
-------- --------
Income from continuing operations 1,800 2,751
Loss from discontinued operations, net of income taxes (Note 3) - -
-------- --------
Net income $ 1,800 $ 2,751
======== ========
Basic income per common share:
Income from continuing operations $ 0.07 $ 0.11
Loss from discontinued operations - -
Net income $ 0.07 $ 0.11
Diluted income per common share:
Income from continuing operations $ 0.07 $ 0.11
Loss from discontinued operations - -
Net income $ 0.07 $ 0.11
Weighted average shares outstanding:
Basic 24,318 24,237
Diluted 24,800 24,569
See accompanying notes to consolidated financial statements and accountants'
review report.
5
ACETO CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited and in thousands)
Nine Months Ended
March 31,
2007 2006
-------- --------
Operating activities:
Net income $ 6,006 $ 6,272
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization 1,298 1,083
Provision for doubtful accounts 132 94
Non-cash stock compensation 326 165
Deferred income taxes 1,495 1,957
Gain on sale of CDC product lines - (66)
Changes in assets and liabilities:
Investments (88) 53
Trade accounts receivable (3,905) (12,573)
Other receivables (2,119) 243
Inventory (10,873) 4,225
Prepaid expenses and other current assets (96) (636)
Other assets (450) (400)
Accounts payable 8,672 (1,586)
Other accrued expenses and long-term liabilities 2,185 3,794
-------- --------
Net cash provided by operating activities 2,583 2,625
-------- --------
Investing activities:
Purchases of investments (6,222) -
Maturities of investments 3,279 -
Sales of investments - 1,739
Issuance of notes receivable (75) -
Payments received on notes receivable 127 49
Purchases of intangible assets (437) -
Purchases of property and equipment, net (446) (255)
-------- --------
Net cash (used in) provided by investing activities (3,774) 1,533
-------- --------
Financing activities:
Purchases of treasury stock - (581)
Proceeds from exercise of stock options 217 190
Excess tax benefit on exercise of stock options 24 66
Payments of short-term bank loans - (109)
Payment of cash dividends (1,823) (1,816)
-------- --------
Net cash used in financing activities (1,582) (2,250)
-------- --------
Effect of exchange rate changes on cash 815 17
-------- --------
Net (decrease) increase in cash (1,958) 1,925
Cash at beginning of period 33,732 19,950
-------- --------
Cash at end of period $ 31,774 $ 21,875
======== ========
See accompanying notes to consolidated financial statements and accountants'
review report.
6
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
(1) BASIS OF PRESENTATION
The consolidated financial statements of Aceto Corporation and subsidiaries
("Aceto" or the "Company") included herein have been prepared by the Company and
reflect all adjustments (consisting solely of normal recurring adjustments)
necessary to present fairly the financial position, results of operations and
cash flows for all periods presented. Interim results are not necessarily
indicative of results which may be achieved for the full year.
The preparation of financial statements in conformity with U.S. generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenues
and expenses reported in those financial statements. These judgments can be
subjective and complex, and consequently actual results could differ from those
estimates and assumptions. The Company's most critical accounting policies
relate to revenue recognition; allowance for doubtful accounts; inventories;
goodwill and other intangible assets; environmental and other contingencies;
income taxes and stock-based compensation.
These consolidated financial statements do not include all disclosures
associated with consolidated financial statements prepared in accordance with
U.S. generally accepted accounting principles. Accordingly, these statements
should be read in conjunction with the Company's consolidated financial
statements and notes thereto contained in the Company's Form 10-K for the year
ended June 30, 2006.
Certain reclassifications have been made to the prior consolidated financial
statements to conform to the current presentation.
(2) STOCK-BASED COMPENSATION
Prior to July 1, 2005, the Company accounted for stock-based employee
compensation under the intrinsic value method as outlined in the provisions of
Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued
to Employees," and related interpretations while disclosing pro-forma net income
and net income per share as if the fair value method had been applied in
accordance with Statement of Financial Accounting Standards ("SFAS") No. 123,
"Accounting for Stock-Based Compensation." Under the intrinsic value method, no
compensation expense was recognized if the exercise price of the Company's
employee stock options equaled or exceeded the market price of the underlying
stock on the date of grant. Since the Company had issued all stock option grants
with exercise prices equal to, or greater than, the market value of the common
stock on the date of grant, through June 30, 2005 no compensation cost was
recognized in the consolidated statements of income.
Effective July 1, 2005, the Company adopted SFAS No. 123(R), "Share-Based
Payment." SFAS No. 123(R) replaces SFAS No. 123 and supersedes APB Opinion No.
25. SFAS 123(R) requires that all stock-based compensation be recognized as an
expense in the financial statements and that such costs be measured at the fair
value of the award. This statement was adopted using the modified prospective
method, which requires the Company to recognize compensation expense on a
prospective basis. SFAS 123(R) also requires that excess tax benefits related to
stock option exercises be reflected as financing cash inflows. Prior to the
adoption of SFAS 123(R), the Company presented all tax benefits related to
stock-based compensation as an operating cash inflow. The Company's policy is to
satisfy stock-based compensation awards with treasury shares.
For the nine months ended March 31, 2007, the Company granted 61 options to the
Directors and employees at exercise prices equal to the market value of the
common stock on each date of grant. These options vest over one year and will
expire ten years from the date of grant. Compensation expense of $243, as
determined using the Black-Scholes option pricing model, will be charged over
the vesting period for these options. Total compensation expense related to
stock options for the nine months ended March 31, 2007 and 2006 was $266 and
$94, respectively and $54 and $94 for the three months ended March 31, 2007 and
2006, respectively.
7
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
(3) SALE OF INSTITUTIONAL SANITARY SUPPLIES SEGMENT
During June 2005, the Company entered into an agreement to sell the majority of
the product lines formulated and marketed by CDC Products Corp. ("CDC"), which
is one of the two reporting units forming part of the former Institutional
Sanitary Supplies reportable segment. The sale of certain product lines of CDC
was completed on August 24, 2005 for $75 and a note receivable of $44 due in
April 2006, which resulted in a pre-tax gain of $66, included in operating
income in the statement of income for the nine months ended March 31, 2006.
Excluded from the sale of CDC's product lines was Anti-Clog, an EPA-registered
biocide that has a unique delivery system and is used in commercial
air-conditioning systems. As a result of management's decision to retain the
Anti-Clog product, CDC's operating results are included in continuing operations
in the consolidated statements of income and are included within the Chemicals &
Colorants reportable segment.
On September 6, 2005, the Company completed the sale of certain assets of Magnum
Research Corp. for $81, the remaining reporting unit of the former Institutional
Sanitary Supplies reportable segment, the operating results of which are
included in discontinued operations in the consolidated statements of income.
Net sales from discontinued operations for the three and nine months ended March
31, 2006 were $0 and $154, respectively. The net loss from discontinued
operations for the three and nine months ended March 31, 2006 were $0 and $27,
respectively, which includes a loss on the sale of certain assets of Magnum
Research Corp. of $22, net of income tax.
(4) SHORT-TERM INVESTMENTS
A summary of short-term investments were as follows:
March 31, 2007 June 30, 2006
------------------------ ------------------------
Fair Value Cost Basis Fair Value Cost Basis
---------- ---------- ---------- ----------
Trading Securities
------------------
Corporate equity securities $ 739 $ 152 $ 697 $ 152
Available For Sale Securities
-----------------------------
Corporate bonds 1,185 1,203 1,167 $ 1,210
Government and agency securities 4,470 4,478 1,445 $ 1,501
---------- ----------
$ 6,394 $ 3,309
========== ==========
The (losses) gains on trading securities were $(26) and $13 for the three months
ended March 31, 2007 and 2006, respectively. The gains (losses) on trading
securities for the nine months ended March 31, 2007 and 2006 were $42 and $(4),
respectively.
8
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
(5) GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill of $1,812 and $1,755 as of March 31, 2007 and June 30, 2006,
respectively, relates to the Health Sciences segment.
Intangible assets subject to amortization as of March 31, 2007 and June 30, 2006
were as follows:
Gross Carrying Accumulated Net Book
Value Amortization Value
March 31, 2007 -------------- ------------ --------
--------------
Customer relationships $2,927 $1,359 $1,568
EPA Registration 702 29 673
Patent License 838 114 724
Non-compete agreements 244 159 85
------ ------ ------
$4,711 $1,661 $3,050
====== ====== ======
June 30, 2006
-------------
Customer relationships $2,755 $ 984 $1,771
EPA registrations 265 3 262
Patent license 838 57 781
Non-compete agreements 230 115 115
Customer lists 600 600 -
------ ------ ------
$4,688 $1,759 $2,929
====== ====== ======
The estimated useful lives of customer relationships, customer lists, patent
license, EPA registrations and non-compete agreements are 7 years, 5 years, 11
years, 10 years and 5 years, respectively.
Amortization expense for intangible assets subject to amortization amounted to
$502 and $446 for the nine months ended March 31, 2007 and 2006, respectively.
The estimated aggregate amortization expense for intangible assets subject to
amortization for each of the succeeding years ended March 31 are as follows:
2008: $565; 2009: $565; 2010: $518; 2011: $520; 2012: $200 and thereafter: $682.
As of March 31, 2007 and June 30, 2006, the Company also had $914 and $860,
respectively, of intangible assets pertaining to trademarks which are not
subject to amortization.
Changes in goodwill and the gross carrying value of customer relationships,
non-compete agreements and trademarks are attributable to changes in foreign
currency exchange rates used to translate the financial statements of foreign
subsidiaries.
9
(6) ACCRUED EXPENSES
The components of accrued expenses as of March 31, 2007 and June 30, 2006 were
as follows:
March 31, June 30,
2007 2006
------- -------
Accrued compensation $ 2,945 $ 2,691
Accrued environmental remediation costs 200 200
Accrued income taxes payable 687 2,019
Other accrued expenses 8,917 5,702
------- -------
$12,749 $10,612
======= =======
(7) COMMON STOCK
On May 9, 2007, the Company's board of directors declared a semi-annual cash
dividend of $0.10 per share to be distributed on June 28, 2007 to shareholders
of record as of June 18, 2007.
On December 7, 2006, the Company's board of directors declared a regular
semi-annual cash dividend of $0.075 per share, in which $1,823 was paid on
January 12, 2007 to shareholders of record on December 22, 2006.
(8) NET INCOME PER COMMON SHARE
Basic income per common share is based on the weighted average number of common
shares outstanding during the period. Diluted income per common share includes
the dilutive effect of potential common shares outstanding. The Company's only
potential common shares outstanding are stock options, which resulted in a
dilutive effect of 482 and 332 shares for the three months ended March 31, 2007
and 2006, respectively. For the nine months ended March 31, 2007 and 2006, the
stock options which were potential common shares outstanding resulting in a
dilutive effect were 385 and 321, respectively. There were 1,211 and 1,718 stock
options outstanding as of March 31, 2007 and 2006, respectively, that were not
included in the calculation of diluted income per common share for the three
months ended March 31, 2007 and 2006, respectively, because their effect would
have been anti-dilutive.
(9) COMPREHENSIVE INCOME
Comprehensive income consists of net income and other gains and losses affecting
shareholders' equity that, under generally accepted accounting principles, are
excluded from net income.
The components of comprehensive income were as follows:
Nine months ended Three months ended
March 31, March 31,
2007 2006 2007 2006
------- ------- ------- -------
Comprehensive income:
Net income $ 6,006 $ 6,272 $ 1,800 $ 2,751
Foreign currency translation
adjustment 2,222 375 498 503
Unrealized gain (loss) on available for
sale securities 54 (33) 18 13
Change in fair value of cross
currency interest rate swaps 106 43 8 (11)
------- ------- ------- -------
Total $ 8,388 $ 6,657 $ 2,324 $ 3,256
======= ======= ======= =======
10
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
The financial statements of the Company's foreign subsidiaries are measured
using the local currency as the functional currency. Exchange gains or losses
resulting from the translation of financial statements of foreign operations are
accumulated in other comprehensive income. The currency translation adjustments
are not adjusted for income taxes as they relate to indefinite investments in
non-US subsidiaries.
(10) DEFERRED INCOME TAXES
The decrease in the deferred income tax assets of $1,598 and $1,957 during the
nine months ended March 31, 2007 and 2006, respectively, related to the
reduction of taxes payable due to the utilization of foreign net operating loss
carryforwards.
(11) RELATED PARTY TRANSACTIONS
Certain directors of the Company are affiliated with law firms that serve as
counsel to the Company on various corporate matters. During the nine months
ended March 31, 2007 and 2006, the Company incurred legal fees of $241 and $246,
respectively, for services rendered to the Company by these law firms.
(12) COMMITMENTS AND CONTINGENCIES
As of March 31, 2007, the Company had outstanding purchase obligations totaling
$68,238 to acquire certain products for resale to third party customers.
The Company and its subsidiaries are subject to various claims which have arisen
in the normal course of business. The impact of the final resolution of these
matters on the Company's results of operations in a particular reporting period
is not known. Management is of the opinion, however, that the ultimate outcome
of such matters will not have a material adverse effect upon the Company's
financial condition or liquidity.
In February 2007 and September 2006, the Company received letters from the
Pulvair Site Group, a group of potentially responsible parties ("PRP Group") who
are working with the State of Tennessee (the "State") to remediate a
contaminated property in Tennessee called the Pulvair site. The PRP Group has
alleged that one of Aceto's subsidiaries shipped hazardous substances to the
site which were released into the environment. The State had begun
administrative proceedings against the members of the PRP group and Aceto with
respect to the cleanup of the Pulvair site and the group has begun to undertake
cleanup. The PRP Group is seeking a settlement of approximately $2.1 million
from the Company for its share to remediate the site contamination. Although the
Company acknowledges that its subsidiary shipped materials to the site for
formulation over twenty years ago, the Company believes that there is no
evidence that hazardous materials sent by Aceto's subsidiary to the site have
contaminated the environment and that the Company rejected the settlement offer.
The impact of the resolution of this matter on the Company's results of
operations in a particular reporting period is not known. However, management
believes that the ultimate outcome of this matter will not have a material
adverse effect on the Company's financial condition or liquidity.
The Company has environmental remediation obligations in connection with
Arsynco, Inc. ("Arsynco"), a subsidiary formerly involved in manufacturing
chemicals, located in Carlstadt, New Jersey, which was closed in 1993 and is
currently held for sale. During fiscal 2006, based on continued monitoring of
the contamination at the site and the current proposed plan of remediation, the
Company received an estimate from an environmental consultant stating that the
costs of remediation could be between $5,400 and $6,900. As of both March 31,
2007 and June 30, 2006 a liability of $5,400 is included in the accompanying
consolidated balance sheets. In accordance with Emerging Issues Task Force
(EITF) Issue 90-8, "Capitalization of Costs to Treat Environmental
Contamination" management believes that the majority of costs incurred to
remediate the site will be capitalized in preparing the property which is
currently held for sale. An appraisal of the fair value of the property by a
third-party appraiser supports this assumption. However, these matters, if
resolved in a manner different from those assumed in current estimates, could
have a material adverse effect on the Company's financial condition, operating
results and cash flows when resolved in a future reporting period.
11
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
In March 2006, Arsynco received notice from the Environmental Protection Agency
(EPA) of its status as a potentially responsible party ("PRP") under the
Comprehensive Environmental Response, Compensation and Liability Act (CERCLA)
for a site described as the Berry's Creek Study Area. Arsynco is one of over 150
PRP's which have potential liability for the required investigation and
remediation of the site. The estimate of the potential liability is not
quantifiable for a number of reasons, including the difficulty in determining
the extent of contamination and the length of time remediation may require. In
addition, any estimate of liability must also consider the number of other PRP's
and their financial strength. Since an amount of the liability can not be
reasonably estimated at this time, no accrual is recorded for these potential
future costs. The impact of the resolution of this matter on the Company's
results of operations in a particular reporting period is not known. However,
management believes that the ultimate outcome of this matter will not have a
material adverse effect on the Company's financial condition or liquidity.
One of the Company's subsidiaries was a defendant in a legal action alleging
patent infringement. The patent in question covered a particular method of
applying one of the products in the Company's Crop Protection segment. In
September 2005, shortly before a trial was expected to begin, the parties agreed
to a settlement. Under the terms of the settlement agreement, the Company was
obligated to pay $1,375, of which $775 was paid as of March 31, 2007 and the
remaining $600 will be paid in equal installments over the next four years. As a
result of the settlement, the Company recorded an intangible asset of $838 for
the patent license, which is being amortized over its remaining life, and a
charge of $537, included in SG&A expense, for the nine months ended March 31,
2006.
A subsidiary of the Company markets certain crop protection products which are
subject to the Federal Insecticide, Fungicide and Rodenticide Act (FIFRA). FIFRA
requires that test data be provided to the Environmental Protection Agency (EPA)
to register, obtain and maintain approved labels for pesticide products. The EPA
requires that follow-on registrants of these products compensate the initial
registrant for the cost of producing the necessary test data on a basis
prescribed in the FIFRA regulations. Follow-on registrants do not themselves
generate or contract for the data. However, when FIFRA requirements mandate that
new test data be generated to enable all registrants to continue marketing a
pesticide product, often both the initial and follow-on registrants establish a
task force to jointly undertake the testing effort. The Company is presently a
member of three such task force groups and historically, our payments have been
in the range of $250 - $500 per year. The Company may be required to make
additional payments in the future.
In December 2005, the Company exited the leased space previously occupied by CDC
and Magnum Research Corp. As a result, the Company recorded a pre-tax charge of
$378, included in selling, general and administrative expenses representing the
present value of the remaining lease obligation, reduced by estimated sub-lease
rental income. In June 2006, the Company negotiated a lease termination with its
landlord for the facility. In connection with the lease termination, the
landlord and a third party entered into a long-term lease for which the Company
guaranteed the rental payments by the third party through September 30, 2009.
The aggregate rental payments of the third party that are guaranteed by the
Company are $925 and the fair value of this guarantee is deemed to be
insignificant.
Commercial letters of credit are issued by the Company in the ordinary course of
business through major domestic banks as requested by certain suppliers. The
Company had open letters of credit of approximately $680 and $1,349 as of March
31, 2007 and June 30, 2006, respectively. The terms of these letters of credit
are all less than one year. No material loss is anticipated due to
non-performance by the counterparties to these agreements.
(13) RECENT ACCOUNTING PRONOUNCEMENTS
In June 2005, the Financial Accounting Standards Board ("FASB") issued SFAS No.
154, "Accounting Changes and Error Corrections," a replacement of APB Opinion
No. 20, "Accounting Changes", and FASB SFAS No. 3, "Reporting Accounting Changes
in Interim Financial Statements." SFAS No. 154 applies to all voluntary changes
in accounting principles, and changes the requirements for accounting for and
reporting of a change in accounting principle. SFAS No. 154 requires
retrospective application to prior periods' financial statements of a voluntary
change in accounting principle unless it is impracticable. SFAS No. 154 also
requires that a change in method of depreciation, amortization, or depletion for
long-lived, non-financial assets be accounted for as a change in accounting
estimate that is affected by a change in accounting principle. SFAS No. 154 is
effective for accounting changes and corrections of errors made in fiscal years
beginning after December 15, 2005. Earlier application is
12
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
permitted for accounting changes and corrections of errors occurring in fiscal
years beginning after June 1, 2005. SFAS No. 154 does not change the transition
provisions of any existing accounting pronouncements, including those that are
in a transition phase as of the date of SFAS No. 154. Management does not
believe that adoption of SFAS No. 154 will have a material impact on the
consolidated financial position and results of operations.
In June 2006, the FASB issued FASB Interpretation ("FIN") No. 48 "Accounting for
Uncertainty in Income Taxes - an interpretation of FASB Statement 109". FIN 48
prescribes a comprehensive model for recognizing, measuring, presenting and
disclosing in the financial statements tax positions taken or expected to be
taken on a tax return. FIN 48 is effective for fiscal years beginning after
December 15, 2006. Management is currently assessing the impact of FIN 48 on the
consolidated financial position and results of operations.
In September 2006, the FASB issued SFAS No. 157, "Fair Value Measurements"
("SFAS No. 157"). SFAS No. 157 establishes a common definition for fair value to
be applied to US GAAP guidance requiring use of fair value, establishes a
framework for measuring fair value, and expands disclosure about such fair value
measurements. SFAS No. 157 is effective for fiscal years beginning after
November 15, 2007. Management is currently assessing the impact of SFAS No. 157
on the consolidated financial position and results of operations.
In September 2006, the FASB issued SFAS No. 158, "Employers' Accounting for
Defined Benefit Pension and Other Postretirement Plans" ("SFAS No. 158"). SFAS
No. 158 requires that employers recognize on a prospective basis the funded
status of their defined benefit pension and other postretirement plans on their
consolidated balance sheet and recognize as a component of other comprehensive
income, net of tax, the gains or losses and prior service costs or credits that
arise during the period but are not recognized as components of net periodic
benefit cost. SFAS No. 158 also requires additional disclosures in the notes to
financial statements. SFAS No. 158 is effective as of the end of fiscal years
ending after December 15, 2006. Management is currently assessing the impact of
SFAS No. 158 on our consolidated financial statements but does not expect that
it will have a material impact on the consolidated financial position or results
of operations.
In September 2006, the SEC staff issued Staff Accounting Bulletin ("SAB") 108
"Considering the Effects of Prior Year Misstatements when Quantifying
Misstatements in Current Year Financial Statements" (SAB 108). SAB 108 requires
that public companies utilize a "dual-approach" to assessing the quantitative
effects of financial misstatements. This dual approach includes both an income
statement focused assessment and a balance sheet focused assessment. The
guidance in SAB 108 must be applied to annual financial statements for fiscal
years ending after November 15, 2006.
In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for
Financial Assets and Financial Liabilities-Including an Amendment of FASB
Statement No. 115" (" SFAS No. 159"). SFAS No. 159 allows companies the choice
to measure many financial instruments and certain other items at fair value.
Unrealized gains and losses on items for which the fair value option has been
elected will be recognized in earnings at each subsequent reporting date. The
provisions of SFAS No. 159 will be effective for fiscal years beginning after
November 15, 2007. Management is currently evaluating the impact of SFAS No. 159
on the consolidated financial position and results of operations.
(14) SEGMENT INFORMATION
The Company's business is organized along product lines into three principal
segments: Health Sciences, Chemicals & Colorants and Crop Protection.
HEALTH SCIENCES - includes the active ingredients for generic pharmaceuticals,
vitamins, and nutritional supplements, as well as products used in preparing
pharmaceuticals, primarily by major innovative drug companies, and
biopharmaceuticals. Health Sciences also includes Aceto branded vaccines for
companion animals and finished dosage form generic drugs.
CHEMICALS & COLORANTS - includes a variety of specialty chemicals used in
plastics, resins, adhesives, coatings, food, flavor additives, fragrances,
cosmetics, metal finishing, electronics, air-conditioning systems and many other
13
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
areas. Dye and pigment intermediates are used in the color-producing industries
such as textiles, inks, paper, and coatings. Organic intermediates are used in
the production of agrochemicals.
CROP PROTECTION - includes herbicides, fungicides and insecticides that control
weed growth as well as control the spread of insects and other microorganisms
that can severely damage plant growth. Also includes a sprout inhibitor for
potatoes and an herbicide for sugar cane. The Company changed the name of this
segment from Agrochemicals to Crop Protection in 2007 to more accurately portray
the markets in which we do business.
The former Institutional Sanitary Supplies segment reported in prior years,
which included cleaning solutions, fragrances and deodorants for commercial and
industrial customers, was successfully divested from the Company's ongoing
business. During June 2005, the Company entered into an agreement to sell the
majority of the product lines formulated and marketed by CDC, which was one of
the two reporting units forming the Institutional Sanitary Supplies reportable
segment. The sale of certain product lines of CDC was completed on August 24,
2005. Excluded from the sale of CDC's product lines was Anti-Clog, an
EPA-registered biocide that has a unique delivery system and is used in
commercial air-conditioning systems, the results of which are included in the
Chemicals & Colorants segment. On September 6, 2005, the Company completed the
sale of certain assets of Magnum Research Corp., the remaining reporting unit
forming part of the former Institutional Sanitary Supplies reportable segment,
the operating results of which are included in discontinued operations in the
consolidated statements of income.
The Company's chief operating decision maker evaluates performance of the
segments based on net sales and gross profit. The Company does not allocate
assets by segment because the chief operating decision maker does not review the
assets by segment to assess the segments' performance, as the assets are managed
on an entity-wide basis.
Nine months ended March 31, 2007 and 2006
Health Chemicals & Crop Consolidated
Sciences Colorants Protection Totals
-------- --------- ---------- --------
2007
----
Net sales $124,013 $ 87,913 $ 14,364 $226,290
Gross profit 22,835 11,858 3,636 38,329
Unallocated cost of sales (1) -
---------
Net gross profit $ 38,329
========
2006
----
Net sales $127,481 $ 83,263 $ 14,715 $225,459
Gross profit 24,460 12,735 3,453 40,648
Unallocated cost of sales (1) (3,079)
---------
Net gross profit $ 37,569
=========
14
ACETO CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited and in thousands, except per-share amounts)
Three months ended March 31, 2007 and 2006:
Health Chemicals & Crop Consolidated
Sciences Colorants Protection Totals
-------- --------- ---------- --------
2007
----
Net sales $41,358 $30,528 $ 3,993 $75,879
Gross profit 7,420 4,260 1,196 12,876
Unallocated cost of sales (1) -
-------
Net gross profit $12,876
=======
2006
----
Net sales $44,724 $31,325 $ 4,866 $80,915
Gross profit 8,167 4,585 1,515 14,267
Unallocated cost of sales (1) (754)
-------
Net gross profit $13,513
=======
(1) Prior to July 2006, certain freight and storage costs were not able to be
allocated to the segments. Effective July 2006, as a result of certain system
improvements, all freight and storage costs are allocated to a particular
segment. Therefore, the unallocated portion of certain freight and storage costs
for the nine months ended March 31, 2007 have now been identified to the
segments as presented above. Total Company gross profit and margin were not
affected by this change in allocation of costs. However, the comparison of gross
profit by segment will be affected by the change in allocation of these costs.
Net sales and gross profit by location for the nine months ended March 31, 2007
and 2006 and long-lived assets by location as of March 31, 2007 and June 30,
2006 were as follows:
Net Sales Gross Profit Long-Lived Assets
--------- ------------ -----------------
Nine months ended Nine months ended As of
March 31, March 31, March 31, June 30,
2007 2006 2007 2006 2007 2006
-------- -------- -------- -------- -------- --------
United States $131,487 $140,492 $ 21,358 $ 21,596 $ 3,251 $ 3,033
Germany 50,599 42,784 11,827 9,796 3,879 4,061
Netherlands 5,964 7,760 1,166 1,350 105 179
France 12,594 11,743 1,517 1,369 74 80
Asia-Pacific 25,646 22,680 2,461 3,458 2,893 2,999
-------- -------- -------- -------- -------- --------
Total $226,290 $225,459 $ 38,329 $ 37,569 $ 10,202 $ 10,352
======== ======== ======== ======== ======== ========
15
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders
Aceto Corporation
We have reviewed the consolidated balance sheet of Aceto Corporation and
subsidiaries as of March 31, 2007, and the related consolidated statements of
income for the three-month and nine-month periods ended March 31, 2007 and 2006,
and the related consolidated statements of cash flows for the nine-month periods
ended March 31, 2007 and 2006, included in the accompanying Securities and
Exchange Commission Form 10-Q for the period ended March 31, 2007. These interim
financial statements are the responsibility of the Company's management.
We conducted our review in accordance with the standards of the Public Company
Accounting Oversight Board (United States). A review of interim financial
information consists principally of applying analytical procedures and making
inquiries of persons responsible for financial and accounting matters. It is
substantially less in scope than an audit conducted in accordance with the
standards of the Public Company Accounting Oversight Board, the objective of
which is the expression of an opinion regarding the financial statements taken
as a whole. Accordingly, we do not express such an opinion.
Based on our reviews, we are not aware of any material modifications that should
be made to the consolidated financial statements referred to above for them to
be in conformity with accounting principles generally accepted in the United
States of America.
We have previously audited, in accordance with standards of the Public Company
Accounting Oversight Board, the consolidated balance sheet of Aceto Corporation
and subsidiaries as of June 30, 2006, and the related consolidated statements of
income, shareholders' equity and comprehensive income and cash flows for the
year then ended (not presented herein); and in our report dated September 6,
2006, we expressed an unqualified opinion on those consolidated financial
statements. In our opinion, the information set forth in the accompanying
consolidated balance sheet as of June 30, 2006, is fairly stated, in all
material respects, in relation to the consolidated balance sheet from which it
has been derived.
/s/ BDO Seidman LLP
Melville, New York
May 8, 2007
16
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
CAUTIONARY STATEMENT RELATING TO THE SAFE HARBOR PROVISIONS OF THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995
This Quarterly Report on Form 10-Q and the information incorporated by reference
includes "forward-looking statements" within the meaning of section 27A of the
Securities Act of 1933, as amended and Section 21E of the Securities Exchange
Act of 1934, as amended. We intend those forward looking-statements to be
covered by the safe harbor provisions for forward-looking statements. All
statements regarding our expected financial position and operating results, our
business strategy, our financing plans and the outcome of any contingencies are
forward-looking statements. Any such forward-looking statements are based on
current expectations, estimates and projections about our industry and our
business. Words such as "anticipates," "expects," "intends," "plans,"
"believes," "seeks," "estimates," or variations of those words and similar
expressions are intended to identify such forward-looking statements.
Forward-looking statements are subject to risks and uncertainties that could
cause actual results to differ materially from those set forth or implied by any
forward-looking statements. Factors that could cause actual results to differ
materially from forward-looking statements include, but are not limited to,
unforeseen environmental liabilities, uncertain military, political and economic
conditions in the world, the mix of products sold and the profit margins
thereon, order cancellation or a reduction in orders from customers, competitive
product offerings and pricing actions, an inability to continue to license
technology needed to sell certain of our crop protection products, the
availability and pricing of key raw materials, dependence on key members of
management, risks of entering into new European markets, continued successful
integration of acquisitions, and economic and political conditions in the United
States and abroad. We undertake no obligation to update any such forward-looking
statements other than as required by law.
NOTE REGARDING DOLLAR AMOUNTS
In this quarterly report, all dollar and share amounts are expressed in
thousands, except for share prices and per-share amounts.
EXECUTIVE SUMMARY
We are reporting net sales of $226,290 for the nine months ended March 31, 2007,
which represents a slight increase over the $225,459 reported in the comparable
prior period. Gross profit for the nine months ended March 31, 2007 was $38,329
and our gross margin was 16.9% as compared to gross profit of $37,569 and gross
margin of 16.7% for the comparable prior period. Other (expense) income for the
nine months ended March 31, 2007 was ($47) which is a decrease of income of $730
as compared to the comparable prior period. The decrease can be directly
attributed to a decrease in a government subsidy paid annually in Shanghai and
larger foreign exchange losses due to the devaluation of the US dollar compared
to the Euro and Chinese Yuan. Our net income of $6,006, or $0.24 per diluted
share was $266 or 4.2% lower than the comparable prior period.
Our financial position as of March 31, 2007 remains strong, as we had cash of
$31,774, working capital of $112,755, no long-term debt, and shareholders'
equity of $122,154.
Our business is organized along product lines into three principal segments:
Health Sciences, Chemicals & Colorants and Crop Protection.
The Health Sciences segment is our largest segment in terms of both sales and
gross profits. Products that fall within this segment include active
pharmaceutical ingredients (API's), pharmaceutical intermediates, nutritionals
and biopharmaceuticals. In fiscal 2007, we entered the market for finished
dosage form generic drugs when we shipped our first Aceto branded product,
Isoflurane.
We typically partner with both customers and suppliers years in advance of a
drug coming off patent to provide the generic equivalent. We have a pipeline of
new API's poised to reach commercial levels over the coming years as the patents
on existing drugs expire, both in the United States and Europe. In addition, we
continue to explore new
17
opportunities to provide a second-source option for existing generic drugs with
approved ANDA's. The opportunities that we are looking for are to supply the
API's for the more mature generic drugs where pricing has settled down following
the dramatic decreases in price that the drug experienced after coming off
patent. As is the case in the generic industry, the entrance into the market of
other generic competition generally has a negative impact on the volume and
pricing of the affected products.
By leveraging our worldwide sourcing and regulatory capabilities, we believe we
can be an alternative, second-source low cost provider of existing API's to
generic drug companies.
The Chemicals & Colorants segment is a major supplier to the many different
industries that require outstanding performance from chemical raw materials and
additives. Products that fall within this segment include intermediates for
dyes, pigments and agrochemicals. We provide chemicals used to make plastics,
surface coatings, textiles, lubricants, flavors and fragrances. Many of Aceto's
raw materials also find their way into high tech products like high end
electronic parts (circuit boards and computer chips) and binders for specialized
rocket fuels. Aceto is currently responding to the changing needs of our
customers in the color producing industry by taking our resources and knowledge
downstream as a supplier of select organic pigments. Continued global Gross
Domestic Product growth should drive higher demand for the chemical industry,
especially in China and other emerging regions of the world. With supply growth
limited, industry supply/demand balances should remain favorable. However,
continued volatility in energy costs adds uncertainty to the profit outlook.
The Crop Protection segment sells herbicides, pesticides, and other agricultural
chemicals to customers, primarily located in the United States and Western
Europe. Our joint venture with Nufarm, which markets Butoxone(R), is expected to
increase our market share of the peanut, soybean and alfalfa herbicide markets.
In fiscal 2007, we entered into a multi-year contract with a major agricultural
chemical distributor and launched generic Asulam, an herbicide for sugar cane
and the first generic registration that Aceto has received. Our plan is to
develop over time a pipeline of additional products in a similar manner. The
Crop Protection segment was formerly reported as the Agrochemical segment with
the name change effected on December 31, 2006.
Our main business strengths are sourcing, regulatory support, quality control,
marketing and distribution. With a physical presence in ten countries, we
distribute over 1000 chemicals and pharmaceuticals used principally as raw
materials in the pharmaceutical, agricultural, color, surface coating/ink and
general chemical consuming industries. We believe that we are currently the
largest buyer of pharmaceutical and specialty chemicals for export from China,
purchasing from over 500 different manufacturers.
In this Management's Discussion and Analysis section, we explain our general
financial condition and results of operations, including the following:
o factors that affect our business
o our earnings and costs in the periods presented
o changes in earnings and costs between periods
o sources of earnings
o the impact of these factors on our overall financial condition
As you read this Management's Discussion and Analysis section, refer to the
accompanying consolidated statements of income, which present the results of our
operations for the three and nine month periods ended March 31, 2007 and 2006.
We analyze and explain the differences between periods in the specific line
items of the consolidated statements of income.
CRITICAL ACCOUNTING ESTIMATES AND POLICIES
As disclosed in our Form 10-K for the year ended June 30, 2006, the discussion
and analysis of our financial condition and results of operations is based on
our consolidated financial statements, which have been prepared in accordance
with U.S. generally accepted accounting principles. In preparing these financial
statements, we were required to make estimates and assumptions that affect the
amounts of assets, liabilities, revenues and expenses, and related disclosure of
contingent assets and liabilities. We regularly evaluate our estimates including
those related to allowances for bad debts, inventories, goodwill and intangible
assets, environmental and other contingencies, stock-
18
based compensation, and income taxes. We base our estimates on various factors,
including historical experience, advice from outside subject-matter experts, and
various assumptions that we believe to be reasonable under the circumstances,
which together form the basis for our making judgments about the carrying values
of assets and liabilities that are not readily apparent from other sources. The
actual results may differ from these estimates.
Since June 30, 2006, there have been no significant changes to the assumptions
and estimates related to those critical accounting estimates and policies.
RESULTS OF OPERATIONS
NINE MONTHS ENDED MARCH 31, 2007 COMPARED TO NINE MONTHS ENDED MARCH 31, 2006
NET SALES BY SEGMENT
Nine months ended March 31,
Comparison 2007
2007 2006 Over/(Under) 2006
---- ---- ----------------------
% of % of $ %
Segment Net Sales Total Net Sales Total Change Change
------- -------- ------- -------- ------- -------- ------
Health Sciences $124,013 54.8% $127,481 56.6% $ (3,468) (2.7)%
Chemicals & Colorants 87,913 38.9 83,263 36.9 4,650 5.6
Crop Protection 14,364 6.3 14,715 6.5 (351) (2.4)
-------- ------- -------- ------- -------- ------
Net sales $226,290 100.0% $225,459 100.0% $ 831 0.4%
======== ======= ======== ======= ======== ======
GROSS PROFIT BY SEGMENT
Nine months ended March 31,
Comparison 2007
2007 2006 Over/(Under) 2006
---- ---- ----------------------
Gross % of Gross % of $ %
SEGMENT Profit Sales Profit Sales Change Change
------- -------- ------- -------- ------- -------- ------
Health Sciences $ 22,835 18.4% $ 24,460 19.2% $ (1,625) (6.6)%
Chemicals & Colorants 11,858 13.5 12,735 15.3 (877) (6.9)
Crop Protection 3,636 25.3 3,453 23.5 183 5.3
-------- ------- -------- ------- -------- ------
Segment gross profit 38,329 16.9 40,648 18.0 (2,319) (5.7)
Freight and storage costs (1) - - (3,079) (1.3) 3,079 100.0
-------- ------- -------- ------- -------- ------
Gross profit $ 38,329 16.9% $ 37,569 16.7% $ 760 2.0%
======== ======= ======== ======= ======== ======
(1) Prior to July 2006, certain freight and storage costs were not able to be
allocated to the Company's three segments. Effective July 2006, as a result of
certain system improvements, all freight and storage costs are allocated to a
particular segment. Therefore, the unallocated portion of certain freight and
storage costs for the nine months ended March 31, 2007 have now been identified
to the segments as presented above. Total Company gross profit and margin were
not affected by this change in allocation of costs. However, the comparison of
gross profit by segment will be affected by the change in allocation of these
costs.
19
NET SALES
Net sales increased $831, or 0.4%, to $226,290 for the nine months ended March
31, 2007, compared with $225,459 for the comparable prior period. The increase
in sales can be attributed to a 5.6% sales increase in our Chemicals & Colorants
segment which was partially offset by a 2.7% decrease in our Health Science
segment and 2.4% decrease in our Crop Protection segment over the 2006
comparable period.
HEALTH SCIENCES
Net sales for the Health Sciences segment decreased by $3,468 for the nine
months ended March 31, 2007, to $124,013, which represents a 2.7% decrease from
net sales of $127,481 for the prior period. This decrease was primarily the
result of a decrease from one specific generic product of $9,798 due to its
normal selling pattern. The decrease was offset by increases in pharmaceutical
intermediate sales of $2,216 and foreign sales increases of $4,801 over the same
period last year.
CHEMICALS & COLORANTS
Net sales for the Chemicals & Colorants segment were $87,913 for the nine months
ended March 31, 2007, compared to $83,263 for the prior period. This increase of
$4,650, or 5.6%, over the prior period is primarily attributable to an increase
in the number of products being offered by our foreign subsidiaries, namely
Germany and Singapore. Sales of Chemicals & Colorants by our foreign
subsidiaries for the nine months ended March 31, 2007 increased by $5,035 over
the comparable prior year period. One customer within our color-pigment and
pigment-intermediate business, whose contract expired in fiscal 2006, purchased
$3,123 during the nine months ended March, 2006 as compared to zero in the
current period. This reduction was offset by increased sales of coatings of
$5,968.
CROP PROTECTION
Net sales for the Crop Protection segment decreased to $14,364 for the nine
months ended March 31, 2007, a decrease of $351, or 2.4%, from net sales of
$14,715 for the prior period. The overall decrease in net sales was mainly
attributable to decreases in three products of $2,972 due to the unseasonable
dry weather conditions, particularly in the southern U.S. region and the 10-20%
reduction of peanut acreage in favor of corn due to the increased demand for
ethanol. These decreases were partially offset by the launch of our Asulam
product in the first quarter of 2007 which resulted in sales of $2,802.
GROSS PROFIT
Gross profit increased by $760 to $38,329 (16.9% of net sales) for the nine
months ended March 31, 2007, as compared to $37,569 (16.7% of net sales) for the
prior period. The gross profit of each segment was negatively affected by the
direct allocation of certain freight and storage costs in the nine months ended
March 31, 2007 that had been reported as unallocated in prior years. The
Company's overall gross profit and margin were not affected but the segmental
comparisons to last year have been affected.
HEALTH SCIENCES
Health Sciences' gross profit of $22,835 for the nine months ended March 31,
2007, was $1,625 or 6.6% lower than the prior year comparable period. This
decrease in gross profit is attributable to the expected decrease in sales of
one particular product in the generics product group as described above which
resulted in a $790 decline in gross profit. The balance of the gross profit
shortfall can be mainly attributed to the direct allocation of certain freight
and storage charges not included in last year's comparable period.
CHEMICALS & COLORANTS
Gross profit for the nine months ended March 31, 2007 decreased by $877, or
6.9%, compared to the prior period. The gross margin percentage was 13.5% for
the nine months ended March 31, 2007 compared to 15.3% for the prior
20
period primarily due to the direct allocation of certain freight and storage
charges not included in last year's comparable period. The foreign subsidiaries,
primarily Germany and Singapore, contributed $259 or 10% more gross profit for
the nine months ended March 31, 2007 as compared to the prior period.
Additionally, the coating products reported an increase of $663 due to the sales
increase previously mentioned above over the same period in the prior year.
CROP PROTECTION
Gross profit for the Crop Protection segment increased to $3,636 for the nine
months ended March 31, 2007, versus $3,453 for the prior period, an increase of
$183 or 5.3%. Gross margin for the period was 25.3% compared to the prior period
gross margin of 23.5%. The primary reason for the increase in gross profit was
due to the launch of the Asulam product. The gross profit was also negatively
affected by $858 related to the sales decline in the three products discussed
earlier, which was partially offset by lower costs to maintain our EPA
registered products of $295.
UNALLOCATED FREIGHT AND STORAGE COSTS
Unallocated cost of sales were $0 for the nine months ended March 31, 2007
compared to $3,079 in the prior period. As a result of certain system
improvements, certain freight and storage costs which were not able to be
identified to a particular segment in the prior fiscal years, have now been
included within the segments. Therefore, there are no unallocated freight and
storage costs in the current period. Total Company gross profit and margin were
not affected by this allocation. This revision will affect the comparison of the
segments' gross profits, however.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses ("SG&A") decreased by $390 or 1.3%
to $28,733 for the nine months ended March 31, 2007 compared to $29,123 for the
prior period. As a percentage of sales, SG&A remained virtually consistent at
12.7% for the nine months ended March 31, 2007 compared to 12.9% for the prior
period. The decrease in SG&A relates primarily to a legal settlement charge
recorded in the prior year of $537 and lower operating expenses of $1,134
resulting from the sale of one of our subsidiaries in August 2005. These
decreases were partially offset by the increase in operating expenses of our
foreign businesses to support their increased marketing efforts of $1,001.
OPERATING INCOME
For the nine months ended March 31, 2007, operating income was $9,596 compared
to $8,446 in the prior period, an increase of $1,150 or 13.6%. This increase was
due to the overall increase in gross profit of $760 and the $390 reduction in
SG&A expenses.
OTHER (EXPENSE) INCOME
Other (expense) income was ($47) for the nine months ended March 31, 2007, which
represents a decrease of income of $730 from the prior period. This decrease is
primarily attributable to a decrease of $409 regarding a government subsidy paid
annually for doing business in a free trade zone in Shanghai, China, settlement
of an anti-dumping claim of $330 and increased realized and unrealized foreign
exchange losses of $256, offset in part by an increase in interest income of
$402 due to an increase in interest rates and higher cash balances invested
during the nine months ended March 31, 2007 compared to the comparable prior
year period.
PROVISION FOR INCOME TAXES
The effective tax rate for the nine months ended March 31, 2007 increased to
37.1% from 31.0% for the prior period. The increase in the effective tax rate
was primarily due to increased earnings in foreign tax jurisdictions with higher
tax rates, primarily Germany, and reduced earnings in foreign tax jurisdictions
with lower tax rates, primarily Shanghai.
21
DISCONTINUED OPERATIONS
In accordance with SFAS No.144, "Accounting for the Impairment or Disposal of
Long-lived Assets," the results of operations of one of the subsidiaries forming
part of the former Institutional Sanitary Supplies segment have been recorded as
discontinued operations in the accompanying consolidated statements of income.
The net loss from discontinued operations was $0 and $27 for the nine months
ended March 31, 2007 and 2006, respectively. The net loss in last year's period
included a loss on the sale of certain assets of $22, net of income taxes.
THREE MONTHS ENDED MARCH 31, 2007 COMPARED TO THREE MONTHS ENDED MARCH 31, 2006
NET SALES BY SEGMENT
Three months ended March 31,
Comparison 2007
2007 2006 Over/(Under) 2006
---- ---- ----------------------
% of % of $ %
Segment Net Sales Total Net Sales Total Change Change
------- -------- ------- -------- ------- -------- -------
Health Sciences $ 41,358 54.5% $ 44,724 55.3% $ (3,366) (7.5)%
Chemicals & Colorants 30,528 40.2 31,325 38.7 (797) (2.5)
Crop Protection 3,993 5.3 4,866 6.0 (873) (17.9)
-------- ------- -------- ------- -------- -------
Net sales $ 75,879 100.0% $ 80,915 100.0% $ (5,036) (6.2)%
======== ======= ======== ======= ======== =======
GROSS PROFIT BY SEGMENT
Three months ended March 31,
Comparison 2007
2007 2006 Over/(Under) 2006
---- ---- ----------------------
Gross % of Gross % of $ %
SEGMENT Profit Sales Profit Sales Change Change
------- -------- ------- -------- ------- -------- -------
Health Sciences $ 7,420 17.9% $ 8,167 18.3% $ (747) (9.1)%
Chemicals & Colorants 4,260 14.0 4,585 14.6 (325) (7.1)
Crop Protection 1,196 30.0 1,515 31.1 (319) (21.1)
-------- ------- -------- ------- -------- -------
Segment gross profit 12,876 17.0 14,267 17.6 (1,391) (9.7)%
Freight and storage costs (1) - - (754) (0.9) 754 (100.0)%
-------- ------- -------- ------- -------- -------
Gross profit $ 12,876 17.0% $ 13,513 16.7% $ (637) (4.7)%
======== ======= ======== ======= ======== =======
(1) Prior to July 2006, certain freight and storage costs were not able to be
allocated to the segments. Effective July 2006, as a result of certain system
improvements, all freight and storage costs are allocated to a particular
segment. Therefore, the unallocated portion of certain freight and storage costs
for the three months ended March 31, 2007 have now been identified to the
segments as presented above. Total Company gross profit and margin were not
affected by this change in allocation of costs. However, the comparison of gross
profit by segment will be affected by the change in allocation of these costs.
22
NET SALES
Net sales decreased $5,036 or 6.2%, to $75,879 for the three months ended March
31, 2007, compared with $80,915 for the comparable prior period. We reported
sales decreases in all of our segments as explained below.
HEALTH SCIENCES
Net sales for the Health Sciences segment decreased by $3,366 for the three
months ended March 31, 2007, to $41,358, which represents a 7.5% decrease from
net sales of $44,724 for the prior period. The sales decrease from the prior
period is primarily attributable to a decrease from one specific generic product
of $2,434 due to its normal selling pattern. Additionally, as domestic sales of
some of our larger older products have decreased, they have been replaced by a
higher quantity of newer products with lower sales volumes. We expect this trend
of higher quantity of newer products, with lower sales volumes compared to
historical levels to continue.
CHEMICALS & COLORANTS
Net sales for the Chemicals & Colorants segment were $30,528 for the three
months ended March 31, 2007, compared to $31,325 for the prior period. This
decrease of $797, or 2.5%, from the prior period is primarily attributable to an
overall decrease in domestic sales of $987 compared to the same quarter for the
prior period. The net decrease includes increases in the coatings business which
was offset by decreases in Ag intermediates and dye intermediate product
families.
CROP PROTECTION
Net sales for the Crop Protection segment decreased to $3,993 for the three
months ended March 31, 2007, a decrease of $873, or 17.9%, over net sales of
$4,866 for the prior year. The decrease in net sales was primarily attributable
to an insecticide used on peanuts which recorded $1,619 less sales due to
unseasonably dry weather conditions, particularly in the southern U.S. region
and the 10-20% reduction of peanut acreage in favor of corn due to the increased
demand for ethanol. The sales decrease was partially offset by sales of our
Asulam product, launched in the first quarter of 2007, which produced sales of
$1,100.
GROSS PROFIT
Gross profit decreased by $637 to $12,876 (17.0% of net sales) for the three
months ended March 31, 2007, as compared to $13,513 (16.7% of net sales) for the
prior period. The gross profit of each segment was negatively affected by the
direct allocation of certain freight and storage costs in the three months ended
March 31, 2007 that had been reported as unallocated in prior years. The
Company's overall gross profit and margin were not affected but the segmental
comparisons to last year have been affected.
HEALTH SCIENCES
Health Sciences' gross profit of $7,420 for the three months ended March 31,
2007, was $747 or 9.1% lower than the prior period. This decrease in gross
profit is directly attributable to the expected decrease in sales of one
particular product in the generic product group which was described above which
resulted in a $245 decline in gross profit. The balance of the gross profit
shortfall can be attributed to the decline in domestic sales of older larger
products and the direct allocation of certain freight and storage charges in the
current period which were not included in last year's comparable period.
CHEMICALS & COLORANTS
Gross profit for the three months ended March 31, 2007 decreased by $325, or
7.1%, from the prior period. The gross margin percentage was 14.0% for the three
months ended March 31, 2007 compared to 14.6% for the prior period. The primary
reason for the decline in gross profit and margin is due to the allocation of
certain freight and storage charges in the current period which were not
included in last year's comparable period. The foreign
23
subsidiaries contributed $313 or 26% less gross profit due to the change in
product mix for the three months ended March 31, 2007 as compared to the prior
period which was offset by increased gross profit in the color pigment, coating
and miscellaneous intermediate product families of $326 compared to the prior
year.
CROP PROTECTION
Gross profit for the Crop Protection segment decreased to $1,196 for the three
months ended March 31, 2007, versus $1,515 for the prior period, a decrease of
$319 or 21.1%. Gross margin for the period was 30.0% compared to the prior
period gross margin of 31.1%. The primary reason for the decrease in gross
profit was due to the sales decline of insecticides used on peanuts of $620
which was partially offset by gross profit from our Asulam product of $327.
UNALLOCATED FREIGHT AND STORAGE COSTS
Unallocated cost of sales were $0 for the three months ended March 31, 2007
compared to $754 in the prior period. As a result of certain system
improvements, certain freight and storage costs which were not able to be
identified to a particular segment in prior periods, have now been included
within the segments. Therefore, there are no unallocated freight and storage
costs in the current period. Total Company gross profit and margin were not
affected by this allocation. This revision will affect the comparison of the
segments' gross profits, however.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
SG&A increased $142, or 1.5%, to $9,489 for the three months ended March 31,
2007 compared to $9,347 for the prior period. As a percentage of sales, SG&A was
12.5% for the three months ended March 31, 2007 versus 11.6% for the prior
period. The increase in SG&A relates primarily to the increase in compensation
expenses due to cost of living increase over the prior year of $191 which was
partially offset by the lower operating expenses of $107 resulting from the sale
of one of our subsidiaries in August 2005.
OPERATING INCOME
For the three months ended March 31, 2007, operating income was $3,387 compared
to $4,166 in the prior period, a decrease of $779 or 18.7%. This decrease was
due to the overall decrease in gross profit of $637 and the $142 increase in
SG&A expenses.
PROVISION FOR INCOME TAXES
The effective tax rate for the three months ended March 31, 2007 was 44.6% as
compared to 32.2% for the prior period. The increase in the effective tax rate
was primarily due to estimated full year increased earnings in foreign tax
jurisdictions with higher tax rates, primarily Germany, and reduced earnings in
foreign tax jurisdictions with lower tax rates, primarily Shanghai. We expect
our effective tax rate for fiscal 2007 to be 37%.
LIQUIDITY AND CAPITAL RESOURCES
CASH FLOWS
At March 31, 2007, we had $31,774 in cash, $6,394 in short-term investments and
no short-term bank loans.
Our cash position at March 31, 2007 decreased $1,958 from the amount at June 30,
2006. Operating activities for the nine months ended March 31, 2007 provided
cash of $2,583, for this period, as compared to cash provided by operations of
$2,625 for the comparable 2006 period. The $2,583 was comprised of $6,006 in net
income and $3,251 derived from adjustments for non-cash items, offset by a net
$6,674 decrease from changes in operating assets and liabilities. The non-cash
items included $1,298 in depreciation and amortization expense and $1,495 for
provision for income taxes. Accounts receivable increased $3,905 during the nine
months ended March 31, 2007, due to increased sales during the third quarter of
2007 as compared to the fourth quarter of 2006. Inventories increased by
approximately $10,873 and accounts payable increased by $8,672 as a result of a
ramp-up in orders for products to be shipped in the fourth quarter of 2007 and
an increase in products in which we have decided to carry
24
stock. Other accrued expenses and long-term liabilities increased $2,185 during
the nine months ended March 31, 2007, due primarily to an increase in accrued
expenses related to a joint venture and an increase in accrued expenses for our
foreign subsidiaries related to increased sales and profitability overseas.
Other receivables increased $2,119 due to an increase in VAT taxes receivables
in our European subsidiaries. Operating activities for the nine months ended
March 31, 2006 provided cash of $2,625, primarily from net income of $6,272,
partially offset by a net decrease caused by changes in assets and liabilities.
Investing activities for the nine months ended March 31, 2007 used cash of
$3,774 primarily related to purchases of investments of $6,222 and purchases of
property and equipment and intangibles of $446 and $437, respectively, offset in
part by $3,279 of maturities of available for sale investments. Investing
activities for the nine months ended March 31, 2006 provided cash of $1,533
primarily related to the sale of certain short term investments.
Financing activities for the nine months ended March 31, 2007 used cash of
$1,582 primarily from the payments of dividends of $1,823. Financing activities
for the nine months ended March 31, 2006 used cash of $2,250 primarily as a
result of payments of dividends of $1,816 and treasury stock purchases of $581.
On May 9, 2007, the Company's board of directors declared a semi-annual cash
dividend of $0.10 per share to be distributed on June 28, 2007 to shareholders
of record as of June 18, 2007.
CREDIT FACILITIES
We have credit facilities with certain foreign financial institutions. These
facilities provide us with a line of credit of $19,666, of which $0 was utilized
as of March 31, 2007 leaving $19,666 of this facility unused. We are not subject
to any financial covenants under these arrangements.
We have a revolving credit facility with a domestic financial institution which
expires June 30, 2007 and provides for available credit of $10,000. At March 31,
2007, we had utilized $534 in letters of credit, leaving $9,466 of this facility
unused. Under the credit agreement, we may obtain credit through direct
borrowings and letters of credit. Our obligations under the credit agreement are
guaranteed by certain of our subsidiaries and are secured by 65% of the capital
of certain of our non-domestic subsidiaries. There is no borrowing base on the
credit agreement. Interest under the credit agreement is at LIBOR plus 1.50%.
The credit agreement contains several covenants requiring, among other things,
minimum levels of debt service and tangible net worth. We are also subject to
certain restrictive debt covenants, including covenants governing liens,
limitations on indebtedness, limitations on cash dividends, guarantees, and sale
of assets, sales of receivables, and loans and investments. We were in
compliance with all covenants at March 31, 2007.
WORKING CAPITAL OUTLOOK
Working capital was $112,755 at March 31, 2007 versus $104,707 at June 30, 2006.
The increase in working capital was attributable to various factors including
net income during the period. We continually evaluate possible acquisitions of
or investments in businesses that are complementary to our own, and such
transactions may require the use of cash. We believe that our cash, other liquid
assets, operating cash flows, borrowing capacity and access to the equity
capital markets, taken together, provide adequate resources to fund ongoing
operating expenditures and the anticipated continuation of semi-annual cash
dividends. Further, we may obtain additional credit facilities to enhance our
liquidity.
25
OFF-BALANCE SHEET ARRANGEMENTS AND COMMITMENTS AND CONTINGENCIES
We have no material financial commitments other than those under operating lease
agreements, letters of credit and unconditional purchase obligations. We have
certain contractual cash obligations and other commercial commitments which will
impact our short-term and long-term liquidity. At March 31, 2007, we had no
significant obligations for capital expenditures. At March 31, 2007, contractual
cash obligations and other commercial commitments were as follows:
Payments Due and/or
Amount of Commitment
Expiration Per Period
---------------------------------------------------------------
Less Than 1-3 4-5 After
Total 1 Year Years Years 5 Years
------- ------- ------- ------- -------
Operating leases $ 5,263 $ 1,459 $ 2,602 $ 1,128 $ 74
Commercial letters of credit
680 680 - - -
Standby letters of credit 223 223 - - -
Unconditional purchase
obligations 68,238 66,702 1,536 - -
------- ------- ------- ------- -------
Total $74,404 $69,064 $ 4,138 $ 1,128 $ 74
======= ======= ======= ======= =======
Other significant commitments and contingencies include the following:
1. Our non-qualified deferred compensation plans are intended to
provide certain executives with supplemental retirement benefits
beyond our 401(k) plan, as well as to permit additional deferral
of a portion of their compensation. All compensation deferred
under the plans is held by us in a grantor trust, which is
considered our asset. We had a liability under the plan,
included in long-term liabilities, of $3,392, and the assets
held by the grantor trust, included in other assets, amounted to
$2,867 as of March 31, 2007.
2. One of our subsidiaries markets certain crop protection products
which are subject to the Federal Insecticide, Fungicide and
Rodenticide Act ("FIFRA"). FIFRA requires that test data be
provided to the Environmental Protection Agency ("EPA") to
register, obtain and maintain approved labels for pesticide
products. The EPA requires that follow-on registrants of these
products compensate the initial registrant for the cost of
producing the necessary test data on a basis prescribed in the
FIFRA regulations. Follow-on registrants do not themselves
generate or contract for the data. However, when FIFRA
requirements mandate that new test data be generated to enable
all registrants to continue marketing a pesticide product, often
both the initial and follow-on registrants establish a task
force to jointly undertake the testing effort. We are presently
a member of three such task force groups and historically our
payments have been in the range of $250 - $500 per year. We may
be required to make additional payments in the future.
3. We are subject to pending and threatened legal proceedings that
have arisen in the normal course of business. We do not know how
the final resolution of these matters will affect our results of
operations in a particular reporting period. Our management is
of the opinion, however, that the ultimate outcome of such
matters will not have a material adverse effect upon our
financial condition or liquidity.
26
RELATED PARTY TRANSACTIONS
Two of our directors are affiliated with law firms that serve as our legal
counsel on various corporate matters. For the three months ended March 31, 2007
and 2006, we incurred legal fees of $58 and $89, respectively, for services
rendered to the Company by those law firms. The fees charged by those firms were
at rates comparable to rates obtainable from other firms for similar services.
IMPACT OF NEW ACCOUNTING PRONOUNCEMENTS
In June 2005, the Financial Accounting Standards Board ("FASB") issued SFAS No.
154, "Accounting Changes and Error Corrections," a replacement of APB Opinion
No. 20, "Accounting Changes", and FASB SFAS No. 3, "Reporting Accounting Changes
in Interim Financial Statements." SFAS No. 154 applies to all voluntary changes
in accounting principles, and changes the requirements for accounting for and
reporting of a change in accounting principle. SFAS No. 154 requires
retrospective application to prior periods' financial statements of a voluntary
change in accounting principle unless it is impracticable. SFAS No. 154 also
requires that a change in method of depreciation, amortization, or depletion for
long-lived, non-financial assets be accounted for as a change in accounting
estimate that is affected by a change in accounting principle. SFAS No. 154 is
effective for accounting changes and corrections of errors made in fiscal years
beginning after December 15, 2005. Earlier application is permitted for
accounting changes and corrections of errors occurring in fiscal years beginning
after June 1, 2005. SFAS No. 154 does not change the transition provisions of
any existing accounting pronouncements, including those that are in a transition
phase as of the date of SFAS No. 154. Management does not believe that adoption
of SFAS No. 154 will have a material impact on the consolidated financial
position and results of operations.
In June 2006, the FASB issued FASB Interpretation ("FIN") No. 48 "Accounting for
Uncertainty in Income Taxes - an interpretation of FASB Statement 109". FIN 48
prescribes a comprehensive model for recognizing, measuring, presenting and
disclosing in the financial statements tax positions taken or expected to be
taken on a tax return. FIN 48 is effective for fiscal years beginning after
December 15, 2006. Management is currently assessing the impact of FIN 48 on the
consolidated financial position and results of operations.
In September 2006, the FASB issued SFAS No. 157, "Fair Value Measurements"
("SFAS No. 157"). SFAS No. 157 establishes a common definition for fair value to
be applied to US GAAP guidance requiring use of fair value, establishes a
framework for measuring fair value, and expands disclosure about such fair value
measurements. SFAS No. 157 is effective for fiscal years beginning after
November 15, 2007. Management is currently assessing the impact of SFAS No. 157
on the consolidated financial position and results of operations.
In September 2006, the FASB issued SFAS No. 158, "Employers' Accounting for
Defined Benefit Pension and Other Postretirement Plans" ("SFAS No. 158"). SFAS
No. 158 requires that employers recognize on a prospective basis the funded
status of their defined benefit pension and other postretirement plans on their
consolidated balance sheet and recognize as a component of other comprehensive
income, net of tax, the gains or losses and prior service costs or credits that
arise during the period but are not recognized as components of net periodic
benefit cost. SFAS No. 158 also requires additional disclosures in the notes to
financial statements. SFAS No. 158 is effective as of the end of fiscal years
ending after December 15, 2006. Management is currently assessing the impact of
SFAS No. 158 on our consolidated financial statements but does not expect that
it will have a material impact on the consolidated financial position or results
of operations.
In September 2006, the SEC staff issued Staff Accounting Bulletin ("SAB") 108
"Considering the Effects of Prior Year Misstatements when Quantifying
Misstatements in Current Year Financial Statements" (SAB 108). SAB 108 requires
that public companies utilize a "dual-approach" to assessing the quantitative
effects of financial misstatements. This dual approach includes both an income
statement focused assessment and a balance sheet focused assessment. The
guidance in SAB 108 must be applied to annual financial statements for fiscal
years ending after November 15, 2006.
In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for
Financial Assets and Financial Liabilities-Including an Amendment of FASB
Statement No. 115" (" SFAS No. 159"). SFAS No. 159 allows companies the choice
to measure many financial instruments and certain other items at fair value.
Unrealized gains and losses on items for which the fair value option has been
elected will be recognized in earnings at each
27
subsequent reporting date. The provisions of SFAS No. 159 will be effective for
fiscal years beginning after November 15, 2007. Management is currently
evaluating the impact of SFAS No. 159 on the consolidated financial position and
results of operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
MARKET RISK SENSITIVE INSTRUMENTS
The market risk inherent in our market-risk-sensitive instruments and positions
is the potential loss arising from adverse changes in investment market prices,
foreign currency exchange-rates and interest rates.
INVESTMENT MARKET PRICE RISK
We had short-term investments of $6,394 at March 31, 2007. Those short-term
investments consisted of government and agency securities, corporate bonds and
corporate equity securities, and they were recorded at fair value and had
exposure to price risk. If this risk is estimated as the potential loss in fair
value resulting from a hypothetical 10% adverse change in prices quoted by stock
exchanges, the effect of that risk would be $639 as of March 31, 2007. However,
actual results may differ.
FOREIGN CURRENCY EXCHANGE RISK
In order to reduce the risk of foreign currency exchange rate fluctuations, we
hedge some of our transactions denominated in a currency other than the
functional currencies applicable to each of our various entities. The
instruments used for hedging are short-term foreign currency contracts
(futures). The changes in market value of such contracts have a high correlation
to price changes in the currency of the related hedged transactions. At March
31, 2007, we had foreign currency contracts outstanding that had a notional
amount of $20,433. The difference between the fair market value of the foreign
currency contracts and the related commitments at inception and the fair market
value of the contracts and the related commitments at March 31, 2007, was not
material.
In addition, we enter into cross currency interest rate swaps to reduce foreign
currency exposure on inter-company transactions. In May 2003 we entered into a
five-year cross currency interest rate swap transaction, for the purpose of
hedging fixed-interest-rate, foreign-currency-denominated cash flows under an
inter-company loan. Under the terms of the derivative financial instrument, U.S.
dollar fixed principal and interest payments to be received under the
inter-company loan will be swapped for Euro denominated fixed principal and
interest payments. The change in fair value of the swap from date of purchase to
March 31, 2007, was $(130). The gains or losses on the inter-company loan due to
changes in foreign currency rates will be offset by the gains or losses on the
swap in the accompanying consolidated statements of income. Since our interest
rate swap qualifies as a hedging activity, the change in its fair value,
amounting to $106 and $43 for the nine months ended March 31, 2007 and 2006,
respectively, is recorded in accumulated other comprehensive income included in
the accompanying consolidated balance sheets.
We are subject to risk from changes in foreign exchange rates for our
subsidiaries that use a foreign currency as their functional currency and are
translated into U.S. dollars. These changes result in cumulative translation
adjustments, which are included in accumulated other comprehensive income. On
March 31, 2007, we had translation exposure to various foreign currencies, with
the most significant being the Euro and the Chinese Yuan. The potential loss as
of March 31, 2007, resulting from a hypothetical 10% adverse change in quoted
foreign currency exchange rates, amounted to $5,894. However, actual results may
differ.
INTEREST RATE RISK
Due to our financing, investing and cash-management activities, we are subject
to market risk from exposure to changes in interest rates. We utilize a balanced
mix of debt maturities along with both fixed-rate and variable-rate debt to
manage our exposure to changes in interest rates. Our financial instrument
holdings at year-end were analyzed to determine their sensitivity to interest
rate changes. In this sensitivity analysis, we used the same change in interest
rate for all maturities. All other factors were held constant. If there is an
adverse change in interest rates
28
of 10%, the expected effect on net income related to our financial instruments
would be immaterial. However, there can be no assurances that interest rates
will not significantly affect our results of operations.
ITEM 4. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
Our disclosure controls and procedures (as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange
Act")) are designed to provide reasonable assurance that information required to
be disclosed in the reports that we file or submit under the Exchange Act is
recorded, processed, summarized and reported within the time periods specified
in the rules and forms of the Securities and Exchange Commission. Our disclosure
controls and procedures are also designed to ensure that information required to
be disclosed in the reports that we file or submit under the Exchange Act is
accumulated and communicated to our management, including our principal
executive and principal financial officer, to allow timely decisions regarding
required disclosure. Our chief executive officer and chief financial officer,
with assistance from other members of our management, have reviewed the
effectiveness of our disclosure controls and procedures as of March 31, 2007
and, based on their evaluation, have concluded that the disclosure controls and
procedures were effective as of such date.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
There has been no change in our internal control over financial reporting (as
defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act) that occurred
during our fiscal quarter ended March 31, 2007 that has materially affected, or
is reasonably likely to materially affect, our internal control over financial
reporting.
29
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In February 2007 and September 2006, the Company received letters from the
Pulvair Site Group, a group of potentially responsible parties ("PRP Group") who
are working with the State of Tennessee (the "State") to remediate a
contaminated property in Tennessee called the Pulvair site. The PRP Group has
alleged that one of Aceto's subsidiaries shipped hazardous substances to the
site which were released into the environment. The State had begun
administrative proceedings against the members of the PRP group and Aceto with
respect to the cleanup of the Pulvair site and the group has begun to undertake
cleanup. The PRP Group is seeking a settlement of approximately $2.1 million
from the Company for its share to remediate the site contamination. Although the
Company acknowledges that its subsidiary shipped materials to the site for
formulation over twenty years ago, the Company believes that there is no
evidence that hazardous materials sent by Aceto's subsidiary to the site have
contaminated the environment and that the Company rejected the settlement offer.
The impact of the resolution of this matter on the Company's results of
operations in a particular reporting period is not known. However, management
believes that the ultimate outcome of this matter will not have a material
adverse effect on the Company's financial condition or liquidity.
The Company and its subsidiaries are subject to various claims which have arisen
in the normal course of business. The impact of the final resolution of these
matters on the Company's results of operations in a particular reporting period
is not known. Management is of the opinion, however, that the ultimate outcome
of such matters will not have a material adverse effect upon the Company's
financial condition or liquidity.
ITEM 1A. RISK FACTORS
You should carefully consider the following risk factors and other information
included in this Quarterly Report. The risks and uncertainties described below
are not the only ones we face. Additional, risks and uncertainties not currently
known to us or that we currently deem immaterial may also impair our business
operations. If any of the following risk factors occur, our business, financial
condition, operating results and cash flows could be materially adversely
affected.
IF WE ARE UNABLE TO COMPETE EFFECTIVELY WITH OUR COMPETITORS, MANY OF WHICH HAVE
GREATER MARKET PRESENCE AND RESOURCES THAN US, OUR PROFITABILITY AND FINANCIAL
CONDITION WILL BE ADVERSELY AFFECTED.
Our financial condition and operating results are directly related to our
ability to compete in the intensely competitive worldwide chemical market. We
face intense competition from global and regional distributors of chemical
products, many of which are large chemical manufacturers as well as
distributors. Many of these companies have substantially greater resources than
us, including greater financial, marketing and distribution resources. We cannot
assure you that we will be able to compete successfully with any of these
companies. In addition, increased competition could result in price reductions,
reduced margins and loss of market share for our services, all of which would
adversely affect our business, results of operations and financial condition.
WE MAY INCUR SIGNIFICANT UNINSURED ENVIRONMENTAL AND OTHER LIABILITIES INHERENT
IN THE CHEMICAL DISTRIBUTION INDUSTRY THAT WOULD HAVE A NEGATIVE EFFECT ON OUR
FINANCIAL CONDITION.
The business of distributing chemicals is subject to regulation by numerous
federal, state, local, and foreign governmental authorities. These regulations
impose liability for loss of life, damage to property and equipment, pollution
and other environmental damage that may occur in our business. Many of these
regulations provide for substantial fines and remediation costs in the event of
chemical spills, explosions and pollution. While we believe that we are in
substantial compliance with all current laws and regulations, we can give no
assurance that we will not incur material liabilities that exceed our insurance
coverage or that such insurance will remain available on terms and at rates
acceptable to us. Additionally, if existing environmental and other regulations
are changed, or additional laws or regulations are passed, the cost of complying
with those laws may be substantial, thereby adversely affecting our financial
performance.
30
Our subsidiary, Arsynco, has environmental remediation obligations in connection
with its former manufacturing facility in Carlstadt, New Jersey. Estimates of
how much it would cost to remediate environmental contamination at this site
have increased since the facility was closed in 1993. If the actual costs are
significantly greater than estimated, it could have a material adverse effect on
our financial condition, operating results and cash flows.
In March 2006, also related to its former manufacturing facility in Carlstadt,
New Jersey, Arsynco received notice from the Environmental Protection Agency
(EPA) of its status as a potentially responsible party ("PRP") under the
Comprehensive Environmental Response, Compensation and Liability Act (CERCLA)
for a site described as the Berry's Creek Study Area. Arsynco is one of over 150
PRP's which have potential liability for the required investigation and
remediation of the site. The estimate of the potential liability is not
quantifiable for a number of reasons, including the difficulty in determining
the extent of contamination and the length of time remediation may require. In
addition, any estimate of liability must also consider the number of other
potentially responsible parties and their financial strength. Since an amount of
the liability can not be reasonably estimated at this time, no accrual is
recorded for these potential future costs. The impact of the resolution of this
matter on the Company's results of operations in a particular reporting period
is not known. However, management believes that the ultimate outcome of this
matter will not have a material adverse effect on the Company's financial
condition or liquidity.
ASSESSMENTS BY VARIOUS TAX AUTHORITIES MAY BE MATERIALLY DIFFERENT THAN THE
AMOUNTS WE HAVE PROVIDED FOR IN OUR CONSOLIDATED FINANCIAL STATEMENTS.
We are regularly audited by federal, state, and foreign tax authorities. From
time to time, these audits may result in proposed assessments. While we believe
that we have adequately provided for any such assessments, future settlements
may be materially different than we have provided for and thereby adversely
affect our earnings and cash flows.
We operate in various tax jurisdictions, and although we believe that we have
provided for income and other taxes in accordance with the relevant regulations,
if the applicable regulations were ultimately interpreted differently by a
taxing authority, we may be exposed to additional tax liabilities.
IF WE ARE UNABLE TO CONTINUE TO USE LICENSED TECHNOLOGY THAT WE RELY ON TO
CONDUCT OUR CROP PROTECTION BUSINESS, OUR PROFITABILITY AND FINANCIAL CONDITION
WILL BE ADVERSELY AFFECTED.
We cannot assure you that we will be able to continue to license the technology
that we currently rely on in order to sell certain of our crop protection
products. An inability to license this technology could prevent us from
continuing to sell the products and, in turn, materially adversely affect our
profitability and financial condition. We may also incur substantial costs in
seeking enforcement of our rights related to our licensed technologies.
OUR ACQUISITION STRATEGY IS SUBJECT TO A NUMBER OF INHERENT RISKS, INCLUDING THE
RISK THAT OUR ACQUISITIONS MAY NOT BE SUCCESSFUL.
We continually seek to expand our business through acquisitions of other
companies that complement our own and through joint ventures, licensing
agreements and other arrangements. Any decision regarding strategic alternatives
would be subject to inherent risks, and we cannot guarantee that we will be able
to identify the appropriate opportunities, successfully negotiate economically
beneficial terms, successfully integrate any acquired business, retain key
employees, or achieve the anticipated synergies or benefits of the strategic
alternative selected. Acquisitions can require significant capital resources and
divert our management's attention from our existing business. Additionally, we
may issue additional shares in connection with a strategic transaction, thereby
diluting the holdings of our existing common shareholders, incur debt or assume
liabilities, become subject to litigation, or consume cash, thereby reducing the
amount of cash available for other purposes.
ANY ACQUISITION THAT WE MAKE COULD RESULT IN A SUBSTANTIAL CHARGE TO OUR
EARNINGS.
We have previously incurred charges to our earnings in connection with
acquisitions, and may continue to experience charges to our earnings for any
acquisitions that we make, including large and immediate write-offs of acquired
assets, or impairment charges. These costs may also include substantial
severance and other closure costs
31
associated with eliminating duplicate or discontinued products, employees,
operations and facilities. These charges could have a material adverse effect on
our results of operations for particular quarterly periods and they could
possibly have an adverse impact on the market price of our common stock.
OUR REVENUE STREAM IS DIFFICULT TO PREDICT.
Our revenue stream is difficult to predict because it is primarily generated as
customers place orders and customers can change their requirements or cancel
orders. Many of our sales orders are short-term and may be cancelled at any
time. As a result, much of our revenue is not recurring from period to period,
which contributes to the variability of our results from period to period. We
believe that quarter-to-quarter comparisons of our operating results are not a
good indication of our future performance.
OUR OPERATING RESULTS MAY FLUCTUATE IN FUTURE QUARTERS, WHICH MAY ADVERSELY
AFFECT THE TRADING PRICE OF OUR COMMON STOCK.
Our operating results will fluctuate on a quarterly basis as a result of a
number of factors, including the timing of contracts, the delay or cancellation
of a contract, and changes in government regulations. Any one of these factors
could have a significant impact on our quarterly results. In some quarters, our
revenue and operating results may fall below the expectations of securities
analysts and investors, which would likely cause the trading price of our common
stock to decline.
FAILURE TO OBTAIN PRODUCTS FROM OUTSIDE MANUFACTURERS COULD ADVERSELY AFFECT OUR
ABILITY TO FULFILL SALES ORDERS TO OUR CUSTOMERS.
We rely on outside manufacturers to supply products for resale to our customers.
Manufacturing problems may occur with these and other outside sources. If such
problems occur, we cannot ensure that we will be able to deliver our products to
our customers profitably or on time.
OUR POTENTIAL LIABILITY ARISING FROM OUR COMMITMENT TO INDEMNIFY OUR DIRECTORS,
OFFICERS AND EMPLOYEES COULD ADVERSELY AFFECT OUR EARNINGS AND FINANCIAL
CONDITION.
We have committed in our bylaws to indemnify our directors, officers and
employees against the reasonable expenses incurred by these persons in
connection with an action brought against him or her in such capacity, except in
matters as to which he or she is adjudged to have breached a duty to us. The
maximum potential amount of future payments we could be required to make under
this provision is unlimited. While we have a "director and officer" insurance
policy that covers a portion of this potential exposure, we may be adversely
affected if we are required to pay damages or incur legal costs in connection
with a claim above our insurance limits.
OUR BUSINESS MAY BE ADVERSELY AFFECTED BY TERRORIST ACTIVITIES.
Our business depends on the free flow of products and services through the
channels of commerce. Instability due to military, terrorist, political and
economic actions in other countries could materially disrupt our overseas
operations and export sales. In addition, in certain countries where we
currently operate or export, intend to operate or export, or intend to expand
our operations; we could be subject to other political, military and economic
uncertainties, including labor unrest, restrictions on transfers of funds and
unexpected changes in regulatory environments.
FLUCTUATIONS IN FOREIGN CURRENCY EXCHANGE RATES MAY ADVERSELY AFFECT OUR RESULTS
OF OPERATIONS AND FINANCIAL CONDITION.
A substantial portion of our revenue is denominated in currencies other than the
U.S. dollar because certain of our foreign subsidiaries operate in their local
currencies. Our results of operations and financial condition may therefore be
adversely affected by fluctuations in the exchange rate between foreign
currencies and the U.S. dollar.
WE RELY HEAVILY ON KEY EXECUTIVES FOR OUR FINANCIAL PERFORMANCE.
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Our financial performance is highly dependent upon the efforts and abilities of
our key executives. The loss of the services of any of our key executives could
therefore have a material adverse effect upon our financial position and
operating results. None of our key executives has an employment agreement with
us and we do not maintain "key-man" insurance on any of our key executives.
VIOLATIONS OF CGMP AND OTHER GOVERNMENT REGULATIONS COULD HAVE A MATERIAL
ADVERSE AFFECT ON OUR BUSINESS, FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
All facilities and manufacturing techniques used to manufacture products for
clinical use or for commercial sale in the United States must be operated in
conformity with current Good Manufacturing Practices ("cGMP") regulations as
required by the FDA. Our facilities are subject to scheduled periodic regulatory
and customer inspections to ensure compliance with cGMP and other requirements
applicable to such products. A finding that we had materially violated these
requirements could result in one or more regulatory sanctions, loss of a
customer contract, disqualification of data for client submissions to regulatory
authorities and a mandated closing of our facilities, which in turn could have a
material adverse effect on our business, financial condition and results of
operations.
LITIGATION MAY HARM OUR BUSINESS AND OUR MANAGEMENT AND FINANCIAL RESOURCES.
Substantial, complex or extended litigation could cause us to incur large
expenditures and could distract our management. For example, lawsuits by
employees, stockholders, collaborators, distributors, customers, or end-users of
our products or services could be very costly and substantially disrupt our
business. Disputes from time to time with such companies or individuals are not
uncommon, and we cannot assure you that we will always be able to resolve such
disputes out of court or on favorable terms.
THE MARKET PRICE OF OUR STOCK COULD BE VOLATILE.
The market price of our common stock has been subject to volatility and may
continue to be volatile in the future, due to a variety of factors, including:
o quarterly fluctuations in our operating income and earnings per
share results
o technological innovations or new product introductions by us or
our competitors
o economic conditions
o disputes concerning patents or proprietary rights
o changes in earnings estimates and market growth rate projections
by market research analysts
o sales of common stock by existing security holders
o loss of key personnel
o securities class actions or other litigation
The market price for our common stock may also be affected by our ability to
meet analysts' expectations. Any failure to meet such expectations, even
slightly, could have an adverse effect on the market price of our common stock.
In addition, the stock market is subject to extreme price and volume
fluctuations. This volatility has had a significant effect on the market prices
of securities issued by many companies for reasons unrelated to the operating
performance of these companies.
INCIDENTS RELATED TO HAZARDOUS MATERIALS COULD ADVERSELY AFFECT OUR BUSINESS.
Portions of our operations require the controlled use of hazardous materials.
Although we are diligent in designing and implementing safety procedures to
comply with the standards prescribed by federal, state, and local regulations,
the risk of accidental contamination of property or injury to individuals from
these materials cannot be completely eliminated. In the event of such an
incident, we could be liable for any damages that result, which could adversely
affect our business.
THERE ARE INHERENT UNCERTAINTIES INVOLVED IN ESTIMATES, JUDGMENTS AND
ASSUMPTIONS USED IN PREPARING FINANCIAL STATEMENTS IN ACCORDANCE WITH U.S.
GENERALLY ACCEPTED ACCOUNTING PRINCIPLES. ANY CHANGES IN THE ESTIMATES,
JUDGMENTS AND ASSUMPTIONS WE USE COULD HAVE A MATERIAL ADVERSE EFFECT ON OUR
FINANCIAL POSITION AND RESULTS OF OPERATIONS.
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The consolidated financial statements included in the periodic reports we file
with the SEC are prepared in accordance with U.S. generally accepted accounting
principles ("GAAP"). Preparing financial statements in accordance with GAAP
involves making estimates, judgments and assumptions that affect reported
amounts of assets, liabilities, revenues, expenses and income. Estimates,
judgments and assumptions are inherently subject to change, and any such changes
could result in corresponding changes to the reported amounts.
FAILURE TO MAINTAIN EFFECTIVE INTERNAL CONTROLS IN ACCORDANCE WITH SECTION 404
OF THE SARBANES-OXLEY ACT COULD HAVE AN ADVERSE EFFECT ON OUR BUSINESS AND STOCK
PRICE.
Section 404 of the Sarbanes-Oxley Act requires us to evaluate annually the
effectiveness of our internal controls over financial reporting as of the end of
each fiscal year and to include a management report assessing the effectiveness
of our internal controls over financial reporting in our annual report. Section
404 also requires our independent registered public accounting firm to attest
to, and report on, management's assessment of our internal controls over
financial reporting. If we fail to maintain the adequacy of our internal
controls, we cannot assure you that we will be able to conclude in the future
that we have effective internal controls over financial reporting. If we fail to
maintain effective internal controls, we might be subject to sanctions or
investigation by regulatory authorities, such as the Securities and Exchange
Commission or NASDAQ. Any such action could adversely affect our financial
results and the market price of our common stock and may also result in delayed
filings with the Securities and Exchange Commission.
ITEM 6. EXHIBITS
The exhibits filed as part of this report are listed below.
15.1 Awareness letter from independent registered public accounting firm
31.1 Certification pursuant to Rules 13a-14(a) and 15d-14(a) under the
Securities and Exchange Act of 1934, as adopted pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
31.2 Certification pursuant to Rules 13a-14(a) and 15d-14(a) under the
Securities and Exchange Act of 1934, as adopted pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
32.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ACETO CORPORATION
DATE MAY 10, 2007 BY /s/ Leonard S. Schwartz
------------------- -------------------------------------
Leonard S. Schwartz, Chairman,
President and Chief Executive Officer
(Principal Executive Officer)
DATE MAY 10, 2007 BY /s/ Douglas Roth
------------------- -------------------------------------
Douglas Roth, Chief Financial Officer
(Principal Financial Officer)
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