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 Quarter Ended September 30, 2003 Commission File Number 0-16093 CONMED CORPORATION (Exact name of the registrant as specified in its charter) New York 16-0977505 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 525 French Road, Utica, New York 13502 (Address of principal executive offices) (Zip Code) (315) 797-8375 (Registrant's telephone number, including area code) 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 an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes |X| No |_| The number of shares outstanding of registrant's common stock, as of October 30, 2003 is 29,049,234 shares.
CONMED CORPORATION TABLE OF CONTENTS FORM 10-Q PART I FINANCIAL INFORMATION Item Number Page Item 1. Financial Statements - Consolidated Condensed Statements of Income 1 - Consolidated Condensed Balance Sheets 2 - Consolidated Condensed Statements of Cash Flows 3 - Notes to Consolidated Condensed Financial Statements 4 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 11 Item 3. Quantitative and Qualitative Disclosures About Market Risk 20 Item 4. Controls and Procedures 20 PART II OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K 21 Signatures 22
Item 1. CONMED CORPORATION CONSOLIDATED CONDENSED STATEMENTS OF INCOME (in thousands except per share amounts) (unaudited) <TABLE> <CAPTION> Three Months Ended Nine Months Ended September 30, September 30, -------------------- -------------------- 2002 2003 2002 2003 -------- -------- -------- -------- <S> <C> <C> <C> <C> Net sales ........................... $113,332 $120,747 $337,806 $363,321 Cost of sales ....................... 54,429 57,516 160,244 173,303 -------- -------- -------- -------- Gross profit ........................ 58,903 63,231 177,562 190,018 Selling and administrative .......... 34,562 38,596 104,171 115,094 Research and development ............ 4,253 4,487 12,155 12,568 Write-off of purchased in-process research and development assets ... -- -- -- 7,900 Other expense ....................... 1,475 1,153 1,475 4,883 -------- -------- -------- -------- 40,290 44,236 117,801 140,445 -------- -------- -------- -------- Income from operations .............. 18,613 18,995 59,761 49,573 Interest expense .................... 5,765 3,829 18,748 15,228 -------- -------- -------- -------- Income before income taxes .......... 12,848 15,166 41,013 34,345 Provision for income taxes .......... 4,625 5,460 14,764 15,208 -------- -------- -------- -------- Net income .......................... $ 8,223 $ 9,706 $ 26,249 $ 19,137 ======== ======== ======== ======== Per share data: Net income Basic ........................... $ .29 $ .34 $ .98 $ .66 Diluted ......................... .28 .33 .96 .66 Weighted average common shares Basic ........................... 28,613 28,941 26,870 28,909 Diluted ......................... 29,043 29,391 27,470 29,190 </TABLE> See notes to consolidated condensed financial statements. 1
CONMED CORPORATION CONSOLIDATED CONDENSED BALANCE SHEETS (in thousands except share amounts) (unaudited) <TABLE> <CAPTION> December 31, September.30, 2002 2003 --------- --------- <S> <C> <C> ASSETS Current assets: Cash and cash equivalents .......................... $ 5,626 $ 11,122 Accounts receivable, net ........................... 58,093 61,206 Inventories ........................................ 120,443 127,583 Deferred income taxes .............................. 6,304 5,829 Prepaid expenses and other current assets .......... 3,200 3,430 --------- --------- Total current assets ............................. 193,666 209,170 --------- --------- Property, plant and equipment, net ................... 95,608 96,717 Goodwill ............................................. 262,394 292,152 Other intangible assets, net ......................... 180,271 192,330 Other assets ......................................... 10,201 11,117 --------- --------- Total assets ..................................... $ 742,140 $ 801,486 ========= ========= LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Current portion of long-term debt .................. $ 2,631 $ 4,067 Accounts payable ................................... 22,074 20,296 Accrued compensation ............................... 10,463 7,954 Income taxes payable ............................... 5,885 8,142 Accrued interest ................................... 3,794 1,604 Other current liabilities .......................... 13,127 15,051 --------- --------- Total current liabilities ........................ 57,974 57,114 --------- --------- Long-term debt ....................................... 254,756 276,883 Deferred income taxes ................................ 28,446 42,212 Other long-term liabilities .......................... 14,025 12,644 --------- --------- Total liabilities ................................ 355,201 388,853 --------- --------- Shareholders' equity: Preferred stock, par value $.01 per share; authorized 500,000 shares; none outstanding ...... -- -- Common stock, par value $.01 per share; 100,000,000 shares authorized; 28,808,105 and 28,997,488 shares issued and outstanding in 2002 and 2003, respectively .................... 288 291 Paid-in capital .................................... 231,832 235,144 Retained earnings .................................. 162,391 181,528 Accumulated other comprehensive loss ............... (7,153) (3,911) Less 37,500 shares of common stock in treasury, at cost .......................................... (419) (419) --------- --------- Total shareholders' equity ....................... 386,939 412,633 --------- --------- Total liabilities and shareholders equity ....... $ 742,140 $ 801,486 ========= ========= </TABLE> See notes to consolidated condensed financial statements. 2
CONMED CORPORATION CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS Nine Months Ended September 30, 2002 and 2003 (in thousands) (unaudited) <TABLE> <CAPTION> 2002 2003 --------- --------- <S> <C> <C> Cash flows from operating activities: Net income ............................................... $ 26,249 $ 19,137 --------- --------- Adjustments to reconcile net income to net cash provided by operations: Depreciation ....................................... 6,731 7,717 Amortization ....................................... 9,843 10,516 Deferred income taxes .............................. 7,973 8,302 Pension settlement charge .......................... -- 2,839 Write-off of deferred financing fees ............... 1,475 2,181 Write-off of purchased in-process research and development assets ............................. -- 7,900 Increase (decrease) in cash flows from changes in assets and liabilities: Accounts receivable ...................... (2,588) (2,162) Increase (decrease) in sale of accounts receivable .................... (2,000) 2,000 Inventories .............................. (14,006) (8,588) Accounts payable ......................... 4,808 (3,129) Income taxes payable ..................... 883 2,642 Accrued compensation ..................... (2,081) (2,879) Accrued interest ......................... (3,796) (2,190) Other assets/liabilities, net ............ (4,961) (5,625) --------- --------- 2,281 19,524 --------- --------- Net cash provided by operating activities .......... 28,530 38,661 --------- --------- Cash flows from investing activities: Payments related to business acquisitions, net of cash acquired ............................... (2,359) (52,307) Purchases of property, plant, and equipment ............ (10,561) (6,291) --------- --------- Net cash used by investing activities .............. (12,920) (58,598) --------- --------- Cash flows from financing activities: Net proceeds from issuance of common stock ............... 66,123 -- Net proceeds from exercise of stock options .............. 3,669 1,255 Repurchase of warrant on common stock .................... (2,000) -- Payments on debt ......................................... (183,097) (136,437) Proceeds of debt ......................................... 101,000 160,000 Payments related to issuance of debt ..................... (1,513) (1,300) --------- --------- Net cash provided (used) by financing activities ... (15,818) 23,518 --------- --------- Effect of exchange rate changes on cash and cash equivalents ........................... 1,319 1,915 --------- --------- Net increase in cash and cash equivalents .................. 1,111 5,496 Cash and cash equivalents at beginning of period ........... 1,402 5,626 --------- --------- Cash and cash equivalents at end of period ................. $ 2,513 $ 11,122 ========= ========= </TABLE> See notes to consolidated condensed financial statements. 3
CONMED CORPORATION NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (in thousands except share amounts) Note 1 - Organization and operations The consolidated condensed financial statements include the accounts of CONMED Corporation and its subsidiaries ("CONMED", the "Company", "we" or "us"). All intercompany accounts and transactions have been eliminated. CONMED Corporation is a medical technology company specializing in instruments, implants and video equipment for arthroscopic sports medicine, and powered surgical instruments, such as drills and saws, for orthopedic, ENT, neuro-surgery and other surgical specialties. We are a leading developer, manufacturer and supplier of RF electrosurgery systems used routinely to cut and cauterize tissue in nearly all types of surgical procedures worldwide, endoscopy products such as trocars, clip appliers, scissors and surgical staplers and a full line of ECG electrodes for heart monitoring and other patient care products. We also offer integrated operating room systems and intensive care unit service managers. Our products are used in a variety of clinical settings, such as operating rooms, surgery centers, physicians' offices and critical care areas of hospitals. Our business is organized, managed and internally reported as a single segment, since our product offerings have similar economic, operating and other related characteristics. Stock-based Compensation We account for our stock-based compensation plans under the provisions of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees". No compensation expense has been recognized in the accompanying financial statements relative to our stock option plans. Pro forma information regarding net income and earnings per share is required by Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" , as amended, and has been determined as if we had accounted for our employee stock options under the fair value method described in that statement. For purposes of the pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period. The Company's pro forma information follows: Three months ended Nine months ended September 30, September 30, ----------------- ------------------- 2002 2003 2002 2003 ------ ------ ------- ------- Net income - as reported .......... $8,223 $9,706 $26,249 $19,137 ------ ------ ------- ------- Pro forma stock-based employee compensation expense, net of related income tax effect ....... (559) (586) (1,583) (1,689) ------ ------ ------- ------- Net income - pro forma ............ $7,664 $9,120 $24,666 $17,448 ====== ====== ======= ======= EPS - as reported: Basic ........................... $ .29 $ .34 $ .98 $ .66 Diluted ......................... .28 .33 .96 .66 EPS - pro forma: Basic ........................... $ .27 $ .32 $ .92 $ .60 Diluted ......................... .26 .31 .90 .60 4
Note 2 - Interim financial information The statements for the three and nine months ended September 30, 2002 and 2003 are unaudited; in our opinion such unaudited statements include all adjustments (which comprise only normal recurring accruals) necessary for a fair presentation of the results for such periods. The results of operations for the three and nine months ended September 30, 2003 are not necessarily indicative of the results of operations to be expected for any other quarter nor for the year ending December 31, 2003. The consolidated condensed financial statements and notes thereto should be read in conjunction with the financial statements and notes for the year ended December 31, 2002 included in our Annual Report to the Securities and Exchange Commission on Form 10-K. Note 3 - Other comprehensive income (loss) Comprehensive income (loss) consists of the following: Three months ended Nine months ended September 30, September 30, 2002 2003 2002 2003 ------- ------- ------- ------- Net income ...................... $ 8,223 $ 9,706 $26,249 $19,137 ------- ------- ------- ------- Other comprehensive income: Foreign currency translation adjustment ...... (139) 208 1,338 2,396 Cash flow hedging (net of income taxes) ....... 221 191 659 846 ------- ------- ------- ------- Comprehensive income .......... $ 8,305 $10,105 $28,246 $22,379 ======= ======= ======= ======= Accumulated other comprehensive income (loss) consists of the following: <TABLE> <CAPTION> Accumulated Minimum Cumulative Cash Other Pension Translation Flow Comprehensive Liability Adjustments Hedges Income (loss) --------- ----------- ------ ------------- <S> <C> <C> <C> <C> Balance, December 31, 2002 ........... $(5,086) $(1,159) $(908) $(7,153) Foreign currency translation adjustments .................... -- 2,396 -- 2,396 Cash flow hedging (net of income taxes) .................. -- -- 846 846 ------- ------- ----- ------- Balance, September 30, 2003 .......... $(5,086) $ 1,237 $ (62) $(3,911) ======= ======= ===== ======= </TABLE> Note 4 - Inventories The components of inventory are as follows: December 31, September 30, 2002 2003 ------------ ------------- Raw materials .................................... $ 44,701 $ 39,905 Work-in-process .................................. 12,869 14,898 Finished goods ................................... 62,873 72,780 -------- -------- Total ...................................... $120,443 $127,583 ======== ======== 5
Note 5 - Earnings per share Basic earnings per share (EPS) is computed based on the weighted average number of common shares outstanding for the period. Diluted EPS gives effect to all dilutive potential shares outstanding (i.e., options and warrants) during the period. The following is a reconciliation of the weighted average shares used in the calculation of basic and diluted EPS (in thousands): Three months ended Nine months ended September 30, September 30, ------------------ ----------------- 2002 2003 2002 2003 ------ ------ ------ ------ Shares used in the calculation of Basic EPS(weighted average shares outstanding) .................. 28,613 28,941 26,870 28,909 Effect of dilutive potential securities ........................... 430 450 600 281 ------ ------ ------ ------ Shares used in the calculation of Diluted EPS ....................... 29,043 29,391 27,470 29,190 ====== ====== ====== ====== The shares used in the calculation of diluted EPS exclude warrants and options to purchase shares where the exercise price was greater than the average market price of common shares for the period. Such shares aggregated approximately 1.2 million for the three months ended September 30, 2002, and .6 million for the nine months ended September 30, 2002. Such shares aggregated approximately .9 million for the three months ended September 30, 2003 and 1.5 million for the nine months ended September 30, 2003. Note 6 - Business acquisitions As more fully described in our report on Form 10-Q/A for the quarter ended March 31, 2003, we acquired the stock of Bionx Implants, Inc. on March 10, 2003 for $47.0 million in cash (the "Bionx acquisition"). Bionx develops and manufactures self-reinforced resorbable polymer implants for use in a variety of orthopedic applications. In connection with the Bionx acquisition, during the quarter-ended March 31, 2003, we wrote-off $7.9 million in purchased in-process research and development assets. No benefit for income taxes was recorded on the write-off of purchased in-process research and development assets as these costs are not deductible for income tax purposes. Pro forma statements of income for the three and nine months ended September 30, 2003, assuming the Bionx acquisition occurred as of January 1, 2002 are presented below. The proforma net income and earnings per share for each period presented exclude the $7.9 million write-off of purchased in-process research and development assets. Three months ended Nine months ended September 30, September 30, -------------------- -------------------- 2002 2003 2002 2003 -------- -------- -------- -------- Net sales ...................... $117,633 $120,747 $351,434 $367,003 Net income ..................... $ 7,558 $ 9,706 $ 24,806 $ 26,473 Basic ........................ $ .26 $ .34 $ .92 $ .92 Diluted ...................... .26 .33 .90 .91 During the three and nine months ended September 30, 2003, we incurred approximately $.4 million and $3.7 million, respectively, in other acquisition expenses related primarily 6
to the December 31, 2002 acquisition of CORE Dynamics, Inc. (the "CORE acquisition") and the Bionx acquisition of which $.4 million and $3.0 million, respectively, have been recorded in other expense in the three and nine months ended September 30, 2003, and $.7 million has been recorded to cost of sales in the nine months ended September 30, 2003. Those expenses recorded to other expense consist of various acquisition integration costs to wind down CORE operations in Jacksonville, Florida and Bionx operations in Blue Bell, Pennsylvania. Those expenses recorded to cost of sales consist of the step-up to fair value related to the sale of inventory acquired as a result of the CORE and Bionx acquisitions as well as certain training and transition-related costs related to the transfer of CORE's manufacturing operations. On June 30, 2003, we acquired an electrosurgery business for $2.9 million in cash. Goodwill recognized in the transaction amounted to $2.4 million and is expected to be fully deductible for income tax purposes. Note 7 - Other expense Other expense (income) consists of the following: Three months ended Nine months ended September 30, September 30, ------------------ ----------------- 2002 2003 2002 2003 ------ ------ ------ ------- Gain on settlement of a contractual dispute, net of legal costs ...... $ -- $ -- $ -- $(9,000) Pension settlement costs ............. -- 758 -- 2,839 Acquisition-related costs ............ -- 395 -- 2,966 Loss on early extinguishments of debt .......................... 1,475 -- 1,475 8,078 ------ ------ ------ ------- Other expense ................ $1,475 $1,153 $1,475 $ 4,883 ====== ====== ====== ======= On March 10, 2003, we entered into an agreement with Bristol-Myers Squibb Company ("BMS") and Zimmer, Inc., ("Zimmer") to settle a contractual dispute related to the 1997 sale by BMS and its then subsidiary, Zimmer, of Linvatec Corporation to CONMED Corporation. As a result of the agreement, BMS paid us $9.5 million in cash, which was recorded in the quarter ended March 31, 2003, as a gain on settlement of a contractual dispute, net of $.5 million in legal costs. During the quarter ended June 30, 2003, we announced a plan to restructure our orthopedic sales force by increasing our domestic sales force from 180 to 230 sales representatives. The increase is part of our integration plan for the Bionx acquisition discussed in Note 6 to the consolidated condensed financial statements. As part of the orthopedic sales force restructuring, we converted 90 direct employee sales representatives into nine independent sales agent groups. As a result of this restructuring, we now have 18 exclusive orthopedic sales agent groups managing 230 orthopedic sales representatives. As a result of the termination of the 90 direct employee sales representatives, we incurred costs of $.8 million and $2.8 million, respectively, in the three and nine months ended September 30, 2003, related to settlement losses of pension obligations, pursuant to Statement of Financial Accounting Standards No. 88 , "Employers' Accounting for Settlements and Curtailments of Defined Benefit Pension Plans and for Termination Benefits". During the three and nine months ended September 30, 2003, we incurred $.4 million and $3.7 million, respectively, in costs related primarily to the CORE acquisition and the Bionx acquisition of which $.4 million and $3.0 million, respectively, has been recorded in other expense as discussed in Note 6 to the consolidated condensed financial statements. 7
During the six months ended June 30, 2003 we purchased all $130.0 million of our 9% senior subordinated notes (the "Notes") and recorded expense of $8.1 million in premium and unamortized deferred financing costs to other expense related to these purchases. We financed the purchases through amendment of our $200.0 million senior credit agreement which expanded the existing term loan facility under the senior credit agreement by $160.0 million to $360.0 million (the "expanded term loan facility"). The proceeds of the expanded term loan facility were used to reduce borrowings outstanding on the revolving credit facility, to fund the purchase of the outstanding Notes and related accrued interest, and fund payment of the 4.5% call premium on the Notes. Proceeds of the expanded term loan facility were also used to fund payment of bank and legal fees associated with amending the senior credit agreement. In connection with the purchase of the Notes, we wrote off $5.8 million in 4.5% call premium and $2.3 million in unamortized deferred financing costs to other expense in the nine months ended September 30, 2003. During the quarter ended September 30, 2002, we entered into our $200 million senior credit agreement. Deferred financing fees of $1.5 million related to the previously existing credit agreement were written off as an extraordinary charge in 2002 but have been reclassified to other expense as a result of our adoption of Statement of Financial Accounting Standards No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections", in 2003. Note 8- Goodwill and other intangible assets The changes in the net carrying amount of goodwill for the nine months ended September 30, 2003 are as follows: Balance as of January 1, 2003 ...................................... $262,394 Goodwill acquired .................................................. 29,360 Foreign currency translation ....................................... 398 -------- Balance as of September 30, 2003 ................................... $292,152 ======== Other intangible assets consist of the following: <TABLE> <CAPTION> December 31, 2002 September 30, 2003 -------------------------- ------------------------- Gross Gross Carrying Accumulated Carrying Accumulated Amortized intangible assets: Amount Amortization Amount Amortization --------- ------------ --------- ------------ <S> <C> <C> <C> <C> Customer relationships ................. $ 96,712 $ (12,725) $ 105,712 $(14,752) Patents and other intangible assets .... 23,674 (13,534) 30,098 (15,672) Unamortized intangible assets: Trademarks and tradenames .............. 86,144 -- 86,944 -- --------- --------- --------- -------- $ 206,530 $ (26,259) $ 222,754 $(30,424) ========= ========= ========= ======== </TABLE> Other intangible assets primarily represent allocations of purchase price to identifiable intangible assets of acquired businesses. The weighted average amortization period for intangible assets which are amortized is 22 years. Customer relationships are being amortized over 38 years. Patents and other intangible assets are being amortized over a weighted average life of 9 years. The trademarks and tradenames intangible asset has been determined to have an indefinite life and therefore is not amortized. 8
Amortization expense related to intangible assets which are subject to amortization totaled $1,561 and $4,165 in the three and nine months ended September 30, 2003, respectively, and $1,397 and $4,171 in the three and nine months ended September 30, 2002, respectively, and is included in selling and administrative expense on the consolidated condensed statement of income. The estimated amortization expense for the year ending December 31, 2003 and for each of the five succeeding years is as follows: 2003 $5,744 2004 5,953 2005 5,058 2006 4,484 2007 4,184 2008 3,888 In accordance with Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets," ("SFAS 142"), goodwill and intangible assets deemed to have indefinite lives are not amortized, but are subject to annual impairment testing. The identification and measurement of goodwill impairment involves the estimation of the fair value of our business. The estimates of fair value are based on the best information available as of the date of the assessment, which primarily incorporate management assumptions about expected future cash flows and contemplate other valuation techniques. Future cash flows can be affected by changes in industry or market conditions or the rate and extent to which anticipated synergies or cost savings are realized with newly acquired entities. Intangible assets with a finite life are amortized over the estimated useful life of the asset. Intangible assets which continue to be subject to amortization are also evaluated on an annual basis to determine whether events and circumstances warrant a revision to the remaining period of amortization. An intangible asset is determined to be impaired when estimate future cash flows indicate the carrying amount of the asset may not be recoverable. We intend to perform impairment testing of our goodwill and intangible assets during the fourth quarter of 2003. Although no goodwill or other intangible asset impairment has been recorded to date, there can be no assurances that future impairment will not occur. Note 9 -- Guarantees We provide service and warranty policies on certain of our products at the time of sale. Liability under service and warranty policies is based upon a review of historical warranty and service claim experience. Adjustments are made to accruals as claim data and historical experience warrant. The changes in the carrying amount of service and product warranties for the nine months ended September 30, 2003 are as follows: Balance as of January 1, 2003 ...................................... $ 3,213 Provision for warranties ........................................... 3,272 Claims made ........................................................ (3,005) ------- Balance as of September 30, 2003 ................................... $ 3,480 ======= Note 10 - New Accounting Pronouncements In January 2003, FIN No. 46, "Consolidation of Variable Interest Entities" was issued. The interpretation provides guidance on consolidating variable interest entities and applies immediately to variable interests created after January 31, 2003. The guidelines of the interpretation are applicable for us in the fourth quarter 2003 financial statements for variable interest entities created before February 1, 2003. The interpretation requires variable interest entities to be consolidated if the equity investment at risk is not sufficient to permit an entity to finance its activities without support from other parties or the equity investors lack certain specified 9
characteristics. Adoption of this pronouncement has not had and is not expected to have any material impact on our financial condition or results of operations during 2003. In April 2003, SFAS No. 149 "Amendment of Statement 133 on Derivative Instruments and Hedging Activities" was issued. SFAS No. 149 amends and clarifies financial accounting and reporting for derivative instruments embedded in other contracts and for hedging activities under SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities". SFAS No. 149 became applicable for us in our third quarter 2003. Adoption of this pronouncement has not had any material impact on our financial condition or results of operations during 2003. In May 2003, SFAS No. 150 "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity" was issued. SFAS No. 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability, many of which were previously classified as equity. SFAS No. 150 became applicable for us in our third quarter 2003. Adoption of this pronouncement has not had any material impact on our financial condition or results of operations during 2003. In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections," which updates, clarifies, and simplifies certain existing accounting pronouncements beginning at various dates in 2002 and 2003. This Statement rescinds SFAS 4 and SFAS 64, which required net gains or losses from the extinguishment of debt to be classified as an extraordinary item in the income statement. These gains and losses will now be classified as extraordinary only if they meet the criteria for such classification as outlined in Accounting Principles Board ("APB") Opinion 30, which allows for extraordinary treatment if the item is material and both unusual and infrequent in nature. We adopted this pronouncement during 2003. As a result we have reclassified the extraordinary loss recognized in the third quarter of 2002 related to the refinancing of debt to ordinary income in this Form 10-Q. In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities," which addresses financial accounting and reporting for costs associated with exit or disposal activities. This Statement supersedes Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit and Activity (including Certain Costs Incurred in a Restructuring)." The provisions of this Statement are effective for exit or disposal activities that are initiated after December 31, 2002, with early application encouraged. This pronouncement has not had an impact on our financial condition or results of operations during 2003. In November 2002, FASB Interpretation ("FIN") No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others" was issued. The interpretation provides guidance on the guarantor's accounting and disclosure requirements for guarantees, including indirect guarantees of indebtedness of others. We have adopted the disclosure requirements of the interpretation as of December 31, 2002. The accounting guidelines are applicable to guarantees issued after December 31, 2002 and require that we record a liability for the fair value of such guarantees in the balance sheet. FIN 45 has not had any material accounting impact on our financial condition or results of operations. 10
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Forward-Looking Statements Made in this Form 10-Q In this Form 10-Q, we make forward-looking statements about our financial condition, results of operations and business. Forward-looking statements are statements made by us concerning events that may or may not occur in the future. These statements may be made directly in this document or may be "incorporated by reference" from other documents. You can find many of these statements by looking for words like "believes," "expects," "anticipates," "estimates" or similar expressions. Forward-Looking Statements are not Guarantees of Future Performance Forward-looking statements involve known and unknown risks, uncertainties and other factors, including those that may cause our actual results, performance or achievements, or industry results, to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Such factors include those identified under "Risk Factors" in our Annual Report on Form 10-K for the year-ended December 31, 2002 and the following, among others: o general economic and business conditions; o cyclical customer purchasing patterns due to budgetary and other constraints; o changes in customer preferences; o competition; o changes in technology; o our ability to manufacture product consistently and in a timely manner, especially those products involving delicate or complex manufacturing processes; o the introduction and acceptance of new products, including our PowerPro(R) battery-powered instrument product line; o the success of our distribution arrangement with DePuy Orthopaedics; o the integration of any acquisition, including the Bionx acquisition; o changes in business strategy; o the possibility that United States or foreign regulatory and/or administrative agencies might initiate enforcement actions against us or our distributors; o our indebtedness; o quality of our management and business abilities and the judgment of our personnel; o the risk of litigation, especially patent litigation as well as the cost associated with patent and other litigation; o changes in regulatory requirements; and o the availability, terms and deployment of capital. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" below and "Business" in our Annual Report on Form 10-K for the year-ended December 31, 2002 for a further discussion of these factors. You are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. We do not undertake any obligation to publicly release any revisions to these forward-looking statements to reflect events or circumstances after the date of this Form 10-Q or to reflect the occurrence of unanticipated events. 11
Critical Accounting Estimates Preparation of our financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. Note 1 to the consolidated financial statements in our Annual Report on Form 10K for the year-ended December 31, 2002 describes the significant accounting policies used in preparation of the consolidated financial statements. The most significant areas involving management judgments and estimates are described below and are considered by management to be critical to understanding the financial condition and results of operations of CONMED Corporation. Revenue Recognition We recognize revenue upon shipment of product and passage of title to our customers. Factors considered in our revenue recognition policy are as follows: o Sales to customers are evidenced by firm purchase orders. Title and the risks and rewards of ownership are transferred to the customer when product is shipped. o Payment by the customer is due under fixed payment terms. Even when the sale is to a distributor, payment to us is not contractually or implicitly delayed until the product is resold by the distributor. o We place certain of our capital equipment with customers in return for commitments to purchase disposable products over time periods generally ranging from one to three years. In these circumstances, no revenue is recognized upon capital shipment and we recognize revenue upon the disposable product shipment. The cost of the equipment is amortized over the terms of the commitment agreements. o Product returns are only accepted at the discretion of the Company and in keeping with our "Returned Goods Policy". Product returns have not been significant historically. We accrue for sales returns, rebates and allowances based upon analysis of historical data. o The terms of the Company's sales to customers do not involve any obligations for the Company to perform future services. Limited warranties are generally provided for capital equipment sales and provisions for warranty are provided at the time of product shipment. o Amounts billed to customers related to shipping and handling are included in net sales. Shipping and handling costs are included in selling and administrative expense. o We sell to a diversified base of customers around the world and, therefore, believe there is no material concentration of credit risk. o We assess the risk of loss on accounts receivable and adjust the allowance for doubtful accounts based on this risk assessment. Historically, losses on accounts receivable have not been material. Management believes the allowance for doubtful accounts of $1.6 million at September 30, 2003 is adequate to provide for any probable losses from accounts receivable. 12
Business Acquisitions We completed acquisitions in 2003 with purchase prices totaling approximately $50.0 million and have a history of growth through acquisitions. The assets and liabilities of acquired businesses are recorded under the purchase method at their estimated fair values at the dates of acquisition. Goodwill represents costs in excess of fair values assigned to the underlying net assets of acquired businesses. Other intangible assets primarily represent allocations of purchase price to identifiable intangible assets of acquired businesses. We have accumulated goodwill of $292.2 million and other intangible assets of $192.3 million at September 30, 2003. In accordance with Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets," ("SFAS 142"), goodwill and intangible assets deemed to have indefinite lives are not amortized, but are subject to annual impairment testing. The identification and measurement of goodwill impairment involves the estimation of the fair value of our business. The estimates of fair value are based on the best information available as of the date of the assessment, which primarily incorporate management assumptions about expected future cash flows and contemplate other valuation techniques. Future cash flows can be affected by changes in industry or market conditions or the rate and extent to which anticipated synergies or cost savings are realized with newly acquired entities. Intangible assets with a finite life are amortized over the estimated useful life of the asset. Intangible assets which continue to be subject to amortization are also evaluated on an annual basis to determine whether events and circumstances warrant a revision to the remaining period of amortization. An intangible asset is determined to be impaired when estimated future cash flows indicate the carrying amount of the asset may not be recoverable. Although no goodwill or other intangible asset impairment has been recorded to date, there can be no assurances that future impairment will not occur. In connection with the Bionx acquisition, significant estimates were made in the valuation of the purchased in-process research and development assets. With the assistance of a third-party valuation, $7.9 million of the purchase price was determined to represent the estimated fair value of projects that, as of the acquisition date had not reached technological feasibility and had no alternative future use. Accordingly, this amount of purchased in-process research and development assets was written-off in accordance with FASB Interpretation No. 4, "Applicability of FASB Statement No. 2 to Business Combinations Accounted for by the Purchase Method". The purchased in-process research and development value relates to next generation sports medicine and orthopedic products, which have been or are expected to be released between the second quarter of 2003 and fourth quarter of 2004. The acquired projects include enhancements and upgrades to existing device technology, introduction of new device functionality and the development of new materials technology for sports medicine and orthopedic applications. The value of the in-process research and development was calculated using a discounted cash flow analysis of the anticipated net cash flow stream associated with the in-process technology of the related product sales. The estimated net cash flows were discounted using a discount rate of 22%, which was based on the weighted-average cost of capital for publicly-traded companies within the medical device industry and adjusted for the stage of completion of each of the in-process research and development projects. The risk and return considerations surrounding the stage of completion were based on costs, man-hours and complexity of the work completed versus to be completed and other risks associated with achieving technological feasibility. In total, these projects were approximately 40% complete as of the acquisition date. The total budgeted costs for the projects were approximately $5.5 million and the remaining costs to complete these projects were approximately $3.3 million as of the acquisition date. The major risks and uncertainties associated with the timely and successful completion of these projects consist of the ability to confirm the safety and efficacy of the technologies and products based on the data from clinical trials and obtaining the necessary regulatory approvals. In addition, no assurance can be given that the underlying assumptions used to forecast the cash flows or the timely and successful 13
completion of such projects will materialize, as estimated. For these reasons, among others, actual results may vary significantly from the estimated results. Pension Plans We sponsor defined benefit pension plans for the Company and its subsidiaries. Major assumptions used in the accounting for these plans include the discount rate, expected return on plan assets and rate of increase in employee compensation levels. Assumptions are determined based on Company data and appropriate market indicators, and are evaluated each year as of the plans' measurement date. A change in any of these assumptions would have an effect on net periodic pension costs reported in the consolidated financial statements. Lower market interest rates and plan asset returns have resulted in declines in pension plan asset performance and funded status and higher pension expense. The discount rate used in determining pension expense in 2003 is 6.75%. Income Taxes The recorded future tax benefit arising from net deductible temporary differences and tax carryforwards is approximately $11.0 million at September 30, 2003. Management believes that our earnings during the periods when the temporary differences become deductible will be sufficient to realize the related future income tax benefits. In assessing the need for a valuation allowance, we estimate future taxable income, considering the feasibility of ongoing tax planning strategies and the realizability of tax loss carryforwards. Valuation allowances related to deferred tax assets can be impacted by changes to tax laws, changes to statutory tax rates and future taxable income levels. In the event we were to determine that we would not be able to realize all or a portion of our deferred tax assets in the future, we would reduce such amounts through a charge to income in the period that such determination was made. Results of Operations Three months ended September 30, 2003 compared to three months ended September 30, 2002 The following table presents, as a percentage of net sales, certain categories included in our unaudited consolidated statements of income for the periods indicated: Three Months Ended September 30, 2002 2003 ------ ------ (unaudited) Net sales .............................................. 100.0% 100.0% Cost of sales .......................................... 48.0 47.6 ------ ------ Gross profit ...................................... 52.0 52.4 Selling and administrative ............................. 30.5 32.0 Research and development ............................... 3.8 3.7 Other expense .......................................... 1.3 1.0 ------ ------ Income from operations ............................ 16.4 15.7 Interest expense ....................................... 5.0 3.2 ------ ------ Income before income taxes ........................ 11.4 12.5 Provision for income taxes ............................. 4.1 4.5 ------ ------ Net income ........................................ 7.3% 8.0% ====== ====== 14
Sales for the quarter ended September 30, 2003 were $120.7 million, an increase of 6.5% compared to sales of $113.3 million in the same quarter a year ago. Favorable changes in foreign currency exchange rates accounted for 1.8% of our sales growth. o Sales in our orthopedic businesses increased 3.5% to $71.5 million from $69.1 million in the same quarter last year. o Arthroscopy sales, which represented 59.0% of total third quarter 2003 orthopedic revenues, grew 9.3% to $42.2 million from $38.6 million in the same quarter last year, as a result of the Bionx acquisition (Note 6 to the consolidated condensed financial statements). o Powered surgical instrument sales, which represented 41.0% of total third quarter orthopedic revenues, decreased 3.9% to $29.3 million from $30.5 million in the same quarter last year. Sales in the same quarter a year ago included a $3.0 million initial stocking order to DePuy Orthopaedics in conjunction with a co-marketing agreement for the PowerPro(R) battery powered instrument product line. o Patient care sales for the three months ended September 30, 2003 were $17.1 million, a decrease of 5.5% when compared to $18.1 million in the same quarter last year on lower sales of ECG products to distributors. o Electrosurgery sales for the three months ended September 30, 2003 were $20.6 million, an increase of 21.2% when compared to $17.0 million in the same quarter last year, as we gained sales as a result of our newly-introduced System 5000(R) electrosurgical generator. o Sales of endoscopy products increased 20.9% to $11.0 million in the three months ended September 30, 2003 from $9.1 million in the same quarter last year, as a result of the CORE acquisition (See Note 6 to the consolidated condensed financial statements). o Sales of integrated operating room systems were $.5 million in the third quarter of 2003. This business is the result of our fourth quarter 2002 acquisitions of ValMed Corporation and Nortrex Medical Corporation. Cost of sales increased to $57.5 million in the third quarter 2003 as compared to $54.4 million in the same quarter last year, primarily as a result of the increased sales volumes described above while gross margin percentage improved to 52.4% in the third quarter of 2003, as compared to 52.0% in the third quarter of 2002. Selling and administrative expense increased to $38.6 million in the third quarter of 2003 as compared to $34.6 million in the third quarter of 2002. As a percentage of sales, selling and administrative expense totaled 32.0% in the third quarter of 2003, compared to 30.5% in the third quarter of 2002. During the second quarter we announced a plan to restructure our orthopedic sales force by increasing our domestic sales force from 180 to 230 sales representatives. The increase is part of our integration plan for the Bionx acquisition. As part of the orthopedic sales force restructuring, we converted 90 direct employee sales representatives into nine independent sales agent groups. As a result of this restructuring, we will have 18 exclusive orthopedic sales agent groups managing 230 orthopedic sales representatives. The increase in selling and administrative expense as a percentage of sales is a result of higher costs associated with this sales force expansion which is intended to result in improved sales growth in our orthopedic product lines. Research and development expense increased to $4.5 million in the third quarter of 2003 as compared to $4.3 million in the third quarter of 2002. As a percentage of sales, research and development expense was 3.7% in the current quarter, consistent with the 3.8% experienced in the same quarter a year ago. 15
As discussed in Note 7 to the consolidated condensed financial statements, other expense in the third quarter 2003 is comprised of pension settlement costs of $.8 million and acquisition-related costs of $.4 million. In the third quarter 2002, we entered into our present senior credit agreement. As a result, $1.5 million in unamortized deferred financing fees related to the previously existing credit agreement were written-off and are included in other expense. Interest expense in the third quarter of 2003 was $3.8 million compared to $5.8 million in the third quarter of 2002. The decrease in interest expense is primarily a result of lower weighted average interest rates on our borrowings, which have declined to 4.15% at September 30, 2003 as compared to 6.53% at September 30, 2002, offsetting an increase in borrowings at September 30, 2003 compared to September 30, 2002 of approximately $27.2 million, related to the Bionx acquisition. The decrease in weighted average interest rates on our borrowings is primarily due to our redemption in the second quarter 2003 of our $130 million in 9% senior subordinated notes through borrowings under our senior credit agreement at LIBOR plus 2.75% or 3.89% at September 30, 2003 as discussed in Note 7 to the consolidated condensed financial statements. Provision for income taxes has been recorded at an effective rate of 36% for the third quarter 2003 and 2002. A reconciliation of the United States statutory income tax rate to our effective tax rate is included in Note 7 to the Company's financial statements for the year ended December 31, 2002 included in our Annual Report to the Securities and Exchange Commission on Form 10-K. Results of Operations Nine months ended September 30, 2003 compared to nine months ended September 30, 2002 The following table presents, as a percentage of net sales, certain categories included in our unaudited consolidated statements of income for the periods indicated: Nine Months Ended September 30, 2002 2003 ------ ------ (unaudited) Net sales .............................................. 100.0% 100.0% Cost of sales .......................................... 47.4 47.7 ------ ------ Gross profit ...................................... 52.6 52.3 Selling and administrative ............................. 30.8 31.7 Research and development ............................... 3.6 3.5 In-process R & D write-off ............................. -- 2.2 Other expense .......................................... .4 1.3 ------ ------ Income from operations ............................ 17.8 13.6 Interest expense ....................................... 5.5 4.2 ------ ------ Income before income taxes ........................ 12.3 9.4 Provision for income taxes ............................. 4.5 4.1 ------ ------ Net income ........................................ 7.8% 5.3% ====== ====== Sales for the nine months ended September 30, 2003 were $363.3 million, an increase of 7.5% compared to sales of $337.8 million in the same period a year ago. Favorable changes in foreign currency exchange rates accounted for 2.2% of our sales growth. o Sales in our orthopedic businesses increased 5.5% to $218.3 million from $207.0 million in the same period last year. o Arthroscopy sales, which represented 59.0% of first nine months of 2003 orthopedic revenues, grew 5.9% to $128.3 million from $121.1 million in the same period last 16
year, as a result of the Bionx acquisition (Note 6 to the consolidated condensed financial statements). o Powered surgical instrument sales, which represented 41.0% of first nine months of 2003 orthopedic revenues, increased 4.8% to $90.0 million from $85.9 million in the same period last year on higher sales of our newly-introduced PowerPro(R) battery powered instrument product line. o Patient care sales for the nine months ended September 30, 2003 were $52.1 million, compared to $52.5 million in the same period last year as decreases in sales of our ECG and suction instrument product lines offset increases in sales of automatic defibrillator pads and other patient care products. o Electrosurgery sales for the nine months ended September 30, 2003 were $56.3 million, compared to $50.8 million in the same period last year as we gained sales as a result of our newly-introduced System 5000(R) electrosurgical generator compared with the same period last year. o Sales of endoscopy products increased 22.2% to $33.6 million in the nine months ended September 30, 2003 from $27.5 million in the same period last year, as a result of the CORE acquisition (Note 6 to the consolidated condensed financial statements). o Sales of integrated operating room systems were $2.9 million in the nine months ended September 30, 2003. This business is the result of our fourth quarter 2002 acquisitions of ValMed Corporation and Nortrex Medical Corporation. Cost of sales increased to $173.3 million in the first nine months of 2003 as compared to $160.2 million in the same period a year ago, primarily as a result of the increased sales volumes described above while gross margin percentage was 52.3% in the nine months of 2003, compared with the 52.6% experienced in the nine months of 2002. Included in cost of sales during the nine months ended September 30, 2003 were approximately $.7 million in acquisition-related costs. Selling and administrative expense increased to $115.1 million in the first nine months of 2003 as compared to $104.2 million in the same period a year ago. As a percentage of sales, selling and administrative expense totaled 31.7% in the first nine months of 2003 compared to 30.8% in the first nine months of 2002. The increase in selling and administrative expense as a percentage of sales is due to increased marketing costs associated with recently launched product lines including the integrated operating room systems product lines, PowerPro(R), and new electrosurgical generators, as well as higher costs associated with the orthopedic sales force expansion discussed above which is expected to result in improved sales growth in our orthopedic product lines. Research and development expense amounted to $12.6 million in the first nine months of 2003 as compared to $12.2 million in the first nine months of 2002. As a percentage of sales, research and development expense was 3.5% in the first nine months of 2003, consistent with the 3.6% in the same period a year ago. As discussed in Note 6 to the consolidated condensed financial statements, we wrote off purchased in-process research and development assets in connection with the Bionx acquisition of $7.9 million in the first quarter of 2003. As discussed in Note 7 to the consolidated condensed financial statements, other expense is comprised of a net gain on settlement of a contractual dispute of $9.0 million, pension settlement costs of $2.8 million, acquisition related costs of $3.0 million and the loss of $8.1 million on the early extinguishment of subordinated debt. In the third quarter 2002, we entered into our present senior credit agreement. As a result, $1.5 million in unamortized deferred financing fees related to the previously existing credit 17
agreement were written-off and are included in other expense in the nine months ended September 30, 2002. Interest expense in the first nine months of 2003 was $15.2 million compared to $18.7 million in the first nine months of 2002. The decrease in interest expense is primarily a result of lower weighted average interest rates on our borrowings, which have declined to 4.19% at September 30, 2003 as compared to 6.53% at September 30, 2002, offsetting an increase in borrowings at September 30, 2003 compared to September 30, 2002 of approximately $27.2 million, related to the Bionx acquisition. The decrease in weighted average interest rates on our borrowings is primarily due to our redemption in the second quarter 2003 of our $130 million in 9% senior subordinated notes through borrowings under our senior credit agreement at LIBOR plus 2.75% or 3.89% at September 30, 2003 as discussed in Note 7 to the consolidated condensed financial statements. Provision for income taxes has been recorded at an effective rate of 44% for the first nine months of 2003 and 36% for the nine months of 2002. The effective rate of 44% for the nine months of 2003 is substantially higher than the 36% which we have experienced historically as a result of the non-deductibility for income tax purposes of the $7.9 million in-process research and development write-off recorded in the third quarter 2003 in conjunction with the Bionx acquisition. A reconciliation of the United States statutory income tax rate of 35% to our historical effective tax rate of 36% (excluding the effect of the in-process research and development write-off) is included in Note 7 to the Company's financial statements for the year ended December 31, 2002 included in our Annual Report to the Securities and Exchange Commission on Form 10-K. Liquidity and Capital Resources Cash generated from our operations, including sales of accounts receivable and borrowings under our revolving credit facility, provide the working capital for our operations, debt service under our senior credit agreement and the funding of our capital expenditures. In addition, we have used term borrowings, including: o borrowings under our senior credit agreement; o Senior Subordinated Notes issued to refinance borrowings under our senior credit agreement, in the case of the acquisition of Linvatec Corporation in 1997; o borrowings under separate loan facilities, in the case of real property acquisitions, to finance our acquisitions. Our senior credit agreement consists of a $260 million term loan and a $100 million revolving credit facility of which $258.9 million was outstanding on the term loan facility at September 30, 2003. There were no borrowings outstanding at September 30, 2003 on the revolving credit facility. The $260 million term loan facility extends for approximately 6 years, with scheduled principal payments of $2.6 million annually through December 2007 increasing to $70.8 million in 2008 and the remaining balance outstanding due in December 2009. We may be required, under certain circumstances, to make additional principal payments based on excess cash flow as defined in the senior credit agreement. Borrowings, if any, on the revolving credit facility are due and payable on August 28, 2007, the revolving credit facility termination date. Interest rates on the new term facility are LIBOR plus 2.75% or 3.89% at September 30, 2003. Interest rates on the revolving credit facility are LIBOR plus 2.50%. Our senior credit agreement is collateralized by substantially all of our personal property and assets, except for our accounts receivable and related rights which have been sold in connection with our accounts receivable sales agreement. The senior credit agreement contains covenants and restrictions which, among other things, require maintenance of certain working capital levels and financial ratios, prohibit dividend payments and restrict the incurrence of certain indebtedness and other activities, including acquisitions and dispositions. The senior credit agreement contains a material adverse effect clause that could limit our ability to access additional funding 18
under our senior credit agreement should a material adverse change in our business occur. We are also required, under certain circumstances, to make mandatory prepayments from net cash proceeds from any issue of equity and asset sales. We used term loans to purchase the property in Largo, Florida utilized by our Linvatec subsidiary. The term loans consist of a Class A note bearing interest at 7.50%, a Class C note bearing interest at 8.25% and a seller-financed note bearing interest at 6.50%. The principal balances outstanding on the Class A note, Class C note and seller-financed note aggregate $10.2 million, $7.4 million and $3.8 million, respectively, at September 30, 2003. These loans are secured by our Largo, Florida property. We have an accounts receivable sales agreement pursuant to which we and certain of our subsidiaries sell on an ongoing basis certain accounts receivable to CONMED Receivables Corporation, a wholly-owned special-purpose subsidiary of CONMED Corporation. CRC may in turn sell up to an aggregate $50.0 million undivided percentage ownership interest in such receivables to a commercial paper conduit (the "conduit purchaser"). As of December 31, 2002 and September 30, 2003, the undivided percentage ownership interest in receivables sold by CRC to the conduit purchaser aggregated $37.0 million and $39.0 million, respectively, which has been accounted for as a sale and reflected in the balance sheet as a reduction in accounts receivable. We entered into an amended and restated accounts receivable sales agreement as of October 23, 2003, under substantially the same terms and conditions as the previous agreement except that the conduit purchaser has been replaced by a bank. Our net working capital position was $152.1 million at September 30, 2003. Net cash provided by operations increased to $38.7 million in the nine months ended September 30, 2003 compared to $28.5 million for the same period a year ago. Net cash provided by operations in the nine months of 2003 was positively impacted by depreciation, amortization, deferred income taxes, non-cash pension settlement charges, the non-cash write-off of the remaining unamortized deferred financing fees related to the extinguishment of our 9% senior subordinated notes, the non-cash write-off of purchased in-process research and development assets, increased sales of accounts receivable and an increase in income taxes payable. Net cash provided by operations in the nine months of 2003 was negatively impacted by the increase in working capital as a result of the Bionx acquisition (discussed in Note 6 to the consolidated condensed financial statements), increases in accounts receivable and inventory as a result of growth in our business, and decreases in accounts payable, accrued compensation and interest and changes in other assets/liabilities, primarily related to the timing of the payment of liabilities. Capital expenditures in the nine months ended September 30, 2003 were $6.3 million compared to $10.6 million in the same period a year ago. The decrease in capital expenditures compared to the same period a year ago is a result of the completion of several large capital projects. Capital expenditures representing the ongoing capital investment requirements of our business are expected to continue at the rate of approximately $9.0 to $12.0 million annually. Net cash used by investing activities in the nine months ended September 30, 2003 also included $52.3 million in payments related to business acquisitions, net of cash acquired, of which $47.3 million related to the Bionx acquisition and the remainder related to the CORE acquisition and the acquisition of an electrosurgery business as discussed in Note 6 to the consolidated condensed financial statements. Financing activities in the nine months ended September 30, 2003 consist primarily of $160.0 million in borrowings under the senior credit agreement and the retirement of $130.0 million in 9.0% senior subordinated notes (discussed in Note 7 to the consolidated condensed financial statements). The remaining borrowings under the expanded term loan facility were used to reduce borrowings outstanding on the revolving credit facility as a result of the Bionx acquisition (discussed in Note 6 to the consolidated condensed financial statements) and to fund payment of bank and legal fees associated with amending the senior credit agreement. Based on the interest rates in 19
effect at September 30, 2003, annual savings in interest costs as a result of this debt restructuring are estimated at approximately $6.0 million. Management believes that cash generated from operations, including accounts receivable sales, our current cash resources and funds available under our amended senior credit agreement will provide sufficient liquidity to ensure continued working capital for operations, debt service and funding of capital expenditures in the foreseeable future. Contractual Obligations There were no capital lease obligations or unconditional purchase obligations as of September 30, 2003. The following table summarizes our contractual obligations related to operating leases and long-term debt as of September 30, 2003: <TABLE> <CAPTION> (Amounts in thousands) 2003 2004 2005 2006 2007 Thereafter ------ ------ ------ ------ ------ ---------- <S> <C> <C> <C> <C> <C> <C> Long-term debt ........ $1,306 $4,149 $4,336 $4,538 $4,759 $261,862 Operating lease obligations ......... 446 1,589 1,310 1,238 1,259 3,173 ------ ------ ------ ------ ------ -------- Total contractual cash obligations .... $1,752 $5,738 $5,646 $5,776 $6,018 $265,035 ====== ====== ====== ====== ====== ======== </TABLE> Item 3. Quantitative and Qualitative Disclosures About Market Risk There has been no significant change in our exposures to market risk during the three and nine months ended September 30, 2003. For a detailed discussion of market risk, see our Annual Report on Form 10K for the year-ended December 31, 2002, Part II, Item 7A, Quantitative and Qualitative Disclosures About Market Risk. Item 4. Controls and Procedures An evaluation of the effectiveness of the design and operation of the Company's disclosure controls and procedures was carried out under the supervision and with the participation of the Company's management, including the Chairman and Chief Executive Officer and the Vice President - Finance and Chief Financial Officer ("the Certifying Officers") as of September 30, 2003. Based on that evaluation, the Certifying Officers concluded that the Company's disclosure controls and procedures are effective to bring to the attention of the Company's management the relevant information necessary to permit an assessment of the need to disclose material developments and risks pertaining to the Company's business in its periodic filings with the Securities and Exchange Commission. There was no change to the Company's internal control over financial reporting during the quarter ended September 30, 2003 that materially affected, or is reasonable likely to materially affect, the Company's internal control over financial reporting. 20
Item 6. Exhibits and Reports on Form 8-K List of Exhibits Exhibit No. Description of Exhibit ----------- ---------------------- 10.1 Amended and Restated Receivables Purchase Agreement, dated October 23, 2003, among CONMED Receivables Corporation, CONMED Corporation and Fleet National Bank. 10.2 Amendment No. 1 dated October 23, 2003 to the Purchase and Sale Agreement dated November 1, 2001 among CONMED Corporation, et al and CONMED Receivables Corporation. 31.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 31.2 Certification pursuant to 18 U.S.C. Section 1350, 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 Reports on Form 8-K On October 29, 2003, the Company filed a Report on Form 8-K furnishing as Exhibit 99.1 under Item 12, an October 24, 2003 press release announcing third quarter and first nine months of 2003 results. 21
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. CONMED CORPORATION (Registrant) Date: November 10, 2003 /s/ Robert D. Shallish, Jr. ------------------------------------ Robert D. Shallish, Jr. Vice President - Finance (Principal Financial Officer) 22
Exhibit Index <TABLE> <CAPTION> Sequential Page Exhibit Number - ------- --------------- <S> <C> <C> 10.1 Amended and Restated Receivables Purchase Agreement, dated October 23, 2003, among CONMED Receivables Corporation, CONMED Corporation, and Fleet (included in EDGAR National Bank. filing only) 10.2 Amendment No. 1 dated October 23, 2003 to the Purchase and Sale Agreement dated November 1, 2001 (included in EDGAR among CONMED Corporation, et al and CONMED filing only) Receivables Corporation 31.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the E-1 Sarbanes-Oxley Act of 2002. 31.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the E-2 Sarbanes-Oxley Act of 2002. 32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the E-3 Sarbanes-Oxley Act of 2002. </TABLE> 23